Does Foreign Aid Reduce Poverty?

Abstract

This paper examines the effect of foreign aid on poverty. The impact of aid on poverty is assessed using dynamic panel estimation techniques, which enable us to control for time-invariant country-specific effects and endogeneity of aid. The results suggest that aid has a significant poverty-reducing effect even after controlling for average income. Specifically, foreign aid is associated with a decline in poverty as measured by the poverty rate, poverty gap index and squared poverty gap index. We also find that the composition of aid mattersmultilateral aid and grants do better in reducing poverty than bilateral aid and loans.1 Poverty-efficient allocation of aid is an allocation rule for which the marginal impact of an additional million dollars in aid is equalised across aid-receiving countries (Collier and Dollar, 2002). 7 The highest-aid recipient in our sample was Mozambique in 1993. During the sample years 1981-2004, Mozambique had an average poverty rate of 41.6 per cent, an aid-to-GNI ratio of 28.7 per cent and a GDP per capita of $450.1 in 2005 PPP. The highest poverty rate in our sample corresponds to Uganda in year 1993. Over the reference period, 1981-2004, Uganda had an average poverty rate of 86.4 per cent, an aid-to-GNI ratio of 11.8 per cent and a GDP per capita of $634.5 in 2005 PPP. 8 The basic specification for poverty analysis from Datt and Ravallion (1992) is P t ¼ P Z=μ t ; L t ð Þ , where P t is the poverty measure, Z is the poverty line, μ t is the mean income and L t is the Lorenz curve. Therefore, changes in poverty are decomposed into growth and redistribution components. 9 Because of the persistent nature of poverty, past levels of poverty explain a great deal of the present and future levels. 962 E. Alvi and A. Senbeta

Aid Effectiveness for Poverty Reduction: Lessons from Cross‑country Analyses, with a Special Focus on Vulnerable Countries

“…Any estimate of the impact of aid on poverty through the 13 This contrasts with the recent work of Alvi and Senbeta (2011) who examine directly the effect of foreign aid on poverty. This paper assesses whether aid directly impacts poverty after controlling for income, income distribution and other covariates that are relevant to the determination of poverty.…”

“…Besides its effect on poverty through the rate of growth, aid may have either a direct impact on poverty for a given level of income growth (Alvi and Senbeta, 2011) or an impact on the income elasticity of poverty.…”

Social Spending and Aggregate Welfare in Developing and Transition Economies

“…The countries also exhibit substantial variation in the size of government social spending, in per cent of GDP. 8 The pairwise correlation coe¢ cients (Table D in Appendix A) reveal that GDP per capita, social spending, trade openness, bureaucratic quality, and democracy are signi…-cantly positively correlated with IHDI, whereas IHDI is negatively correlated with terms of trade and age dependency ratio, albeit weakly so with the former. The positive correlation between IHDI and social spending may suggest that an increase in government spending on the social sectors leads to a higher level of aggregate welfare.…”

The Causal Links between Aid and Government Expenditures

“…1 Recently, the methodology and robustness of many of the best known aid effectiveness studies has been criticized (see, for example, Tarp 2006;Roodman 2007;Arndt et al 2010). The most recent and methodologically stronger studies find a positive effect of aid on growth and poverty reduction (see Arndt et al 2010Arndt et al , 2011Alvi and Senbeta 2012;Juselius et al 2013;Mekasha and Tarp 2013). Through what channels this impact is achieved is less clear (Arndt et al, 2011;Bourguignon and Sundberg, 2007).…”