Is Foreign Aid Beneficial for Sub-Saharan Africa? A Panel Data Analysis

Abstract

Significant ambiguity surrounds the magnitude and sign of the effect of foreign aid on economic growth. Foreign aid can potentially augment scarce domestic capital to spur growth but foreign aid can also remove positive incentive to build wealth, stalling growth. This paper characterizes the effect of foreign aid on the growth of Sub-Saharan African countries after correcting endogeneity problems that plague the estimation. Foreign aid is found to be growth promoting given good governance and using fixed effects in a static panel framework. Data from twenty-one Sub-Saharan African countries spanning 1995-2003 was used in the estimation. The finding of a significant foreign aid-growth relationship is pertinent because it suggests that increased aid to Sub Saharan Africa is one way to achieve the UN’s Millennium goals. By lobbying for increased foreign aid, advocates are prescribing a necessary albeit insufficient medicine for Sub Saharan Africa’s economic problems.

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