Foreign aid and private investment in developing economies

Abstract

The effect of aid on private-sector investment has long been a matter of debate. Many economists have taken the position that aid stimulates private investment in LDCs by filling macroeconomic savings or foreign-exchange gaps. Others have countered that aid has a negative effect on private investment because it is often wasted or counterproductive, generates dutch-disease effects, and enables the central government to compete resources away from the private sector. This paper empirically evaluates the association between aid and private investment using annual panel data from 36 developing countries over the period 1977 to 1991. The results clearly show that countries which receive larger aid allocations experience lower subsequent levels of private investment.

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