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Foreign aid as foreign policy tool.

• Clair Apodaca Clair Apodaca Department of Political Science, Virginia Tech
• https://doi.org/10.1093/acrefore/9780190228637.013.332
• Published online: 26 April 2017

The majority of countries around the world are engaged in the foreign aid process, as donors, recipients, or, oftentimes, both. States use foreign aid as a means of pursuing foreign policy objectives. Aid can be withdrawn to create economic hardship or to destabilize an unfriendly or ideologically antagonistic regime. Or, conversely, aid can be provided to bolster and reward a friendly or compliant regime.

Although foreign aid serves several purposes, and not least among them the wish to increase human welfare, the primary reason for aid allocations or aid restrictions is to pursue foreign policy goals. Strategic and commercial interests of donor countries are the driving force behind many aid programs. Not only do target countries respond to the granting of bilateral and multilateral aid as an incentive, but also the threat of aid termination serves as an effective deterrent. Both the granting and the denial of foreign assistance can be a valuable mechanism designed to modify a recipient state’s behavior.

Donors decide which countries will receive aid, the amount of aid provided, the time frame in which aid is given, and the channel of aid delivery. The donor’s intentions and the recipient’s level of governance determine the type or sector of foreign aid. States can choose between bilateral or multilateral methods of disbursing foreign assistance in order to pursue their interests. Although bilateral disbursements allow the donor state to have complete control over the aid donation, the use of multilateral forums has its advantages. Multilateral aid is cheaper, it disperses accountability, and it is often viewed as less politically biased.

Foreign aid, once the exclusive foreign policy instrument of rich powerful states, is now being provided by middle-income countries, too. The motivation for foreign aid allocations by nontraditional donors parallels the motives of traditional Development Assistance Committee (DAC) donors. A main difference between traditional and nontraditional aid donors is that nontraditional aid donors generally do not place conditionalities on their loans.

The issue of fungibility can obstruct the donor government’s purpose behind the allocation of foreign aid. If the preferences of the recipient government are different from those of the donor, the recipient can often divert the aid and use it for other purposes. A recipient government may reallocate its budget after it determines how much aid it is slated to receive. The recipient government will redirect its resources to areas it deems a priority that cannot be funded externally, for example the military or prestige projects.

• foreign aid
• foreign policy
• nontraditional donor
• multilateral trust fund
• fungibility

Introduction

Foreign policy can be defined as a country’s behavior with regard to other states in the international arena, driven by its need to achieve its goals. Although the country’s goals can be economic or ideological, or to solve international problems, security concerns have always dominated the foreign policy agenda. States have several tools they can use to further their foreign policy. Chief among these options are diplomacy, cooperation and association agreements, trade, economic sanctions, military force, and the use of foreign aid. Foreign aid, then, is one of a number of tools that policymakers can use to further their foreign policy goals. Foreign aid also allows the donor state access and influence in the domestic and foreign affairs of other states (Apodaca, 2006 ). Tarnoff and Lawson ( 2016 ) report that U.S. leaders and policymakers view foreign assistance as an “essential instrument of U.S. foreign policy” which has “increasingly been associated with national security policy” (p. 1). Foreign aid is an expedient tool for the diplomat. It helps governments achieve mutual cooperation on a wide range of issues.

The objective of foreign policy is to influence foreign governments and shape international affairs to suit the state. Generally speaking, states have two overarching goals in their dealings with other states in the international system: to maintain and protect the status quo or to change the status quo (Palmer & Morgan, 2006 ). As a tool of foreign policy, foreign aid is provided to a recipient country as either a reward for some behavior or as an inducement to change behavior. The provision of foreign aid is the carrot that influences the recipient’s policy choices or other behaviors. The termination of aid, the stick, can also be used to alter a recipient country’s behavior. Indeed, all foreign aid comes with strings attached, 1 a fact U.S. foreign policy specialists recognize: “Foreign aid is a particularly flexible tool—it can act as both carrot and stick, and is a means of influencing events, solving specific problems, and projecting U.S. values” (Tarnoff & Lawson, 2016 , p. 1). Decisions on how, where, and when to allocate foreign aid is made by political leaders in the donor country. They base these decisions on the government’s perceived national interests, broadly defined. Consequently, foreign aid is used as a means of pursuing foreign policy objectives.

Foreign aid can also be used to complement to military intervention. A study by Kisangani and Pickering ( 2015 ) found that donor-state military interventions have a significant effect on that state’s foreign-aid allocations. During and after an intervention, foreign aid to the target state increases significantly. Foreign aid is a tool used to supplement the use of military force to ensure that foreign policy goals are met and, once met, secured. Foreign aid “demonstrates the benign intentions of the intervention (toward the target populace, if not the target government), and that the military action was undertaken to further ideals shared within the broader international community” (Kisangani & Pickering, 2015 , p. 219). The goals of encouraging good governance and democracy, fostering human rights standards, or alleviating poverty in the target state cannot be achieved with military might alone. They often require the provision of foreign aid.

Academic researchers have studied foreign aid since the establishment of aid giving. Researchers are perplexed as to why and under what circumstances the leaders of one state would provide valuable resources to another state. The continued and increased flow of foreign aid to underdeveloped states is all the more puzzling since because studies have shown that the official reason for aid allocation, economic development, has proven elusive. Is the problem of aid ineffectiveness a result of donor’s motives? Is it due to the channels of aid disbursement? Or perhaps it is about the fungibility of aid itself. The following sections cover several aspects of the relationship between foreign aid and foreign policy, beginning with a general discussion of what political leaders and researchers include as foreign and followed by discussions of the allocation of foreign aid, channels of foreign aid disbursement. an inquiry into who provides foreign aid and why, and, finally, a consideration of the issues related to the fungibility of foreign aid.

What Is Foreign Aid?

The Development Assistance Committee (DAC) of the Organisation for Economic Co-operation and Development (OECD) defines foreign aid as resource flows provided by official agencies with the intent to promote economic development. The resources must be given on concessional terms with at least a 25% grant element (OECD, website). The resources can be economic in nature, such as financial contributions, but can also include technical assistance and commodities (such as food aid or agricultural equipment). The costs of humanitarian aid within peacekeeping operations can also be considered foreign assistance. Several states include the gift or sale at concessional rates of military equipment as foreign aid, but the OECD specifically states that official development assistance (ODA) should not include military aid or antiterrorism activities. ODA includes the following sectors of aid allocation as classified and defined by the OECD website ( https://data.oecd.org/development.htm ):

Social Infrastructure and Services, including funding for education, health, and the promotion of civil society. In 2014 , 39.4% of all sector aid was allocated to social infrastructure.

Economic Infrastructure, which funds projects for transportation, energy, communications, and banking and financial services development, 23.4% of aid went to economic infrastructure in 2014 .

Production Sectors, which include funding for agriculture, forestry and fishing, industry, mining and construction. In 2014 , 9.1% of ODA went to the production sectors.

General Budget Support funds, which are contributions to government budgets and support for macroeconomic reforms. Only 1.5% of aid was apportioned to unearmarked 2 contributions, allowing governments to use these funds as they see fit since aid is not tied to a specific project or program.

Humanitarian Assistance, which encompasses emergency response, reconstruction and disaster prevention, and constitutes 10.8% of ODA. Humanitarian Assistance funds are donated to assist in man-made or natural disasters.

Multisector Support funding, which is geared to projects which straddle several sectors but basically include the environment and biodiversity. Multisector support is a recent category of aid and accounted for 10.2% of ODA in 2014 .

Action Relating to Debt, which includes debt swaps, debt forgiveness, and debt relief. A mere 0.43% of ODA is directed to issues of debt relief.

The remainder is unspecified aid. The data on sector aid are taken from the OECD International Development Statistics online CRS Aid Activities dataset ( https://stats.oecd.org/Index.aspx?DataSetCode=CRS1 ).

While aid aimed at economic infrastructure is usually targeted at countries with good governance and mature economic institutions, countries that lack such capacities usually receive aid in the form of social-sector assistance. Social-sector aid allows donors to target the welfare of the people, generally channeling aid through NGOs or multilateral organizations in ways that avoid bad policies of or corruption in recipient governments. Government involvement in education and health is less mandatory than government involvement in trade policy because substitutes for government institutions and procedures may be found in civil society or provided by NGOs and multilateral aid organizations (Bermeo, 2007 ). Typically, as disasters (manmade or natural) overwhelm a government’s ability to respond, foreign aid is directed toward sectors (normally humanitarian assistance) that require less government intervention. Aid directed at general budget funds, meanwhile, is given with the implicit understanding that governments can use these funds as they see fit. Donors become less reliant on good government policies as they move away from economic infrastructure and general budget support to production sector funding, to humanitarian assistance and the social infrastructure sector (Bermeo, 2016 ). Similarly, Akramov ( 2012 ) finds that aid directed at the production sector can be effective at promoting growth even in bad policy environments. Economic infrastructure aid, however, is effective only in countries with medium to high governance ratings. Years of research indicate that the recipient state’s internal capacity to absorb aid matters quite a bit in the donor’s decision on how aid should be allocated. Donors vary the sectorial composition of their aid in response to perceived governmental quality. Countries that are well-governed receive greater shares of their ODA in the budget, economic, and production sectors.

The Many Motives for Foreign Aid

Official governmental rhetoric declares that development and poverty reduction are principal reasons for granting foreign assistance. Foreign aid is given to a recipient country to facilitate economic development, alleviate poverty, and improve human welfare. Aid contributes to global security by tackling threats to human security, such as human rights violations, disease, population growth, environmental degradation, peacemaking, and the growing gap between the rich and the poor. Poverty and extreme inequalities are often causes of social instability and civil unrest, which, in turn, can produce flows of refugees and acts of terrorism. Thus, aid helps build a safer, more peaceful, and more secure world. Foreign aid is provided to many countries but is concentrated in countries reflecting the priorities of the international community and individual donor states. Lumsdaine ( 1993 ), for example, found that humanitarian concerns and moral values were a primary motivation in the allocation of multilateral foreign aid.

Lancaster ( 2007 ) argues that the provision of foreign aid has developed into an international norm. Rich countries provide assistance to poor countries to better the human condition. States are subject to the norms of behavior established by the international community. The allocation of foreign aid has become an accepted and expected standard of behavior among developed states, a standard that is now being recognized among a greater number of middle-income states. Most developed states have established foreign aid agencies, instituted foreign aid mandates, processes and procedures, and joined the DAC. Donor states provide foreign aid to alleviate poverty and foster development in the neediest underdeveloped countries. Lancaster admits, however, that given the number of potential recipients and the ever-expanding need (due to disasters, poverty, or economic crises), donors can also use their aid as incentives or as payments for approved behaviors, or to signal a desire to expand political relationships between donors and recipients.

Consequently, researchers have determined that foreign aid is often provided for interests other than developmental or humanitarian reasons. Bigsten, Platteau, and Tengstan ( 2011 ) estimated that if the European Union countries were to choose to optimize the distribution of foreign aid for the sole motive of reducing poverty, they would need to reallocate $19 billion of the $27 billion of EU aid—that is, over 70% of EU foreign aid—directing it to only the 20 poorest countries. Bigsten et al. ( 2011 ) determined that “the reallocation would lead to a modest increase of poverty among the donor darlings and a large decline in poverty in the orphan countries” (p. 11). However, the EU countries do not wish to optimize their foreign aid because they have economic and political purposes other than poverty reduction when they allocate aid.

Foreign aid is used predominantly to promote geostrategic interests, for the right to build and maintain foreign bases, to strengthen alliances, or to keep allied regimes in power. Foreign aid is also used to maintain friendly relations with foreign governments. Foreign aid facilitates cooperation, and it builds strong alliances. First, foreign aid can be used to maintain nations as allies. By economically or militarily supporting a friendly foreign government, the donor state can prevent the recipient state from falling into the enemy’s camp or from falling to domestic rebels. Second, foreign assistance may be granted in an attempt to gain foreign allies. And third, foreign aid can be used to win the hearts and minds of a population. For example, foreign assistance is viewed as an important instrument in the prevention of terrorist attacks by reducing the appeal of terrorist ideology. There is a general belief that foreign aid could reduce the likelihood of terrorist attacks by averting the causes of terrorism—namely, hopelessness and resentment as the result of extreme poverty, illiteracy, and hunger. Foreign aid would also be used to reduce poverty and inequality in the recipient state, thought to be a source of terrorist activity (Bush, 2002 ). Helping the poor increase their standard of living would also ensure that they would not fall prey to the ideological underpinnings of fundamentalists. Bush believed that “hope was an answer to terror” and that providing people with a positive future would lessen their desire to embrace a radical Islamic ideology. 3

Del Biondo ( 2014 ) concludes that the EU has moved closer to the United States in that its foreign assistance is more explicitly focused on security matters. Providing aid for antiterrorist programs, along with economic growth and development, as well as poverty reduction schemes in developing countries, safeguards European security. The United Kingdom’s Department for International Development ( 2001 ) claims that “many of the problems which affect us, such as war and conflict, international crime, refugees, the trade in illegal drugs and the spread of diseases like HIV and AIDS, are caused or made worse by poverty in developing countries. Getting rid of poverty will make for a better world for everybody.” Poverty and underdevelopment are also the underlying causes of the spread of disease, unwanted migration flows, and human rights violations. Thus, foreign aid is always in the service of foreign policy.

Geopolitical motives for foreign aid allocation have evolved over time and, in turn, affected the levels and direction of aid flows. During the Cold War, foreign aid was a tool Western states used to contain the spread of communism and to keep the power of the Soviet Union in check. In the post-9/11 era, foreign assistance is viewed as an important instrument in preventing terrorist attacks. Security concerns have, and will continue to have, a significant influence on the allocation of aid. Giving aid for geopolitically motivations aid is not an efficient use of aid, however, if purpose of the aid is poverty alleviation in the recipient country. But foreign aid can be successfully used to buy strategic concessions, such as the building of military bases or consolidating military alliances from the recipient government. Foreign aid can be a large component of foreign capital flows for many low-income countries, thus increasing their dependence on donor governments.

Foreign aid can also be used to further the economic interests of the donor state. For instance, it can be used to open foreign markets to multinational corporations headquartered in donor countries, to subsidize the donor’s domestic firms, or to provide employment for the donor’s domestic workers. Recipient countries that provide a favorable climate for foreign investment and trade receive more assistance. Data on the level and distribution of foreign aid reveals that it is mostly directed toward emerging or middle-income economies (those that are recipients of FDI and trade) at the expense of the poorest ones (Bertoli, Cornia, & Manaresi, 2008 ; Dreher, Nunnenkamp, & Thiele, 2011 ). Also, the giving of aid can secure access to vital raw materials (oil, minerals, etc.).

The commercial motive of foreign aid can be seen in the practice of tying aid. Tied aid is when a country binds its aid to the procurement of goods and services from the donor country. Tying aid occurs when, for example, a donor requires that aid recipients purchase the equipment, arms, materials, supplies, parts and services, or other commodities made in the donor country or from the donor’s corporations; use contractors or consultants from the donor country; or that the equipment be shipped via ships or airplanes flagged in the donor country. The intent is to increase market opportunities for the donor’s business interests. Tying aid is a common practice among donor nations. Radelet ( 2006 ) reports that, historically, the United States has tied approximately 75% of its aid, while Greece has tied 70%, and Canada and Austria have tied about 40% of their foreign assistance. In contrast, Norway, Ireland, and the United Kingdom do not tie their aid. Riddell ( 2014 ) reports that, overall, as much as 50% of ODA is tied in some fashion and that the tying of aid reduces its value by 15%–30%. Tying aid can reduce the value of the aid because it prevents the recipient country from buying the best-quality commodities at the lowest prices.

Colonial powers, historically, grant more aid to former colonies (Round & Odedokun, 2004 ). France, Portugal, Spain, and the United Kingdom are substantial donors of foreign assistance to their former colonies. Alesina and Dollar ( 2000 ) have concluded that “an inefficient, economically closed, mismanaged nondemocratic former colony politically friendly to its former colonizer receives more foreign aid than another country with similar levels of poverty, a superior policy stance but without a past as a colony” (p. 33). Aid by ex-colonial powers can help continue or regenerate colonial spheres of influence and reinforce political alliances. The aid provided by France is often cited as an example of a former colonial power wishing to maintain the special relationship with its ex-colonies. Aid provided by the French is used to fund educational training in the French language and culture.

Aid can be given to prevent or offset the effects of global negative externalities that can potentially affect the developed countries (such as infectious diseases, environmental contamination, or debt default). For example, donors will lend more money to countries in debt simply to keep recipient countries from falling into arrears (Birdsall, Claessens, & Diwan, 2003 ) or to provide humanitarian aid to accommodate refugees. Continuing to provide foreign aid to highly indebted countries can be used to reduce the risk that they will default, which could threaten the donor’s economy. And providing aid to countries neighboring a conflict or disaster can stem the flow of refugees seeking asylum in the West.

Foreign aid can also be provided to increase a country’s prestige. Van der Veen’s ( 2011 ) research explains that the Dutch were determined to set a new international level on aid giving in order to project an image of good global citizen, while the Norwegians focused on matching or surpassing other Western nations in the allocation of foreign assistance. States adopt an identity and role in the international community, and some states choose to be viewed as generous global citizens.

If aid were solely motivated by foreign policy objectives and donor self-interest, then how the recipient uses the aid and the importance of the quality of governance in the recipient country should not matter. However, Kilby and Dreher ( 2010 ) show that in practice, states use foreign aid to achieve many overlapping foreign policy goals, including fighting terrorist threats, supporting strategically important countries, fostering relations with countries that maintain large bilateral trade or capital flows, and the championing humanitarian goals of reducing poverty, encouraging democracy, enhancing gender status, and improving human welfare.

Channels of Foreign Aid: Bilateral versus Multilateral versus Trust Funds

When pursuing foreign policy, including foreign aid policy, states can choose between bilateral or multilateral actions. Bilateral aid is resources that flow directly from one country to another. Bilateral aid can be delivered through the public sector, NGOs, or public-private partnerships with the recipient country. Those who advocate the use of foreign aid as a geopolitical foreign policy tool prefer bilateral foreign aid because of the strategic objectives to be gained. With bilateral aid, the donor retains control over the funds and determines who will be favored with aid and under what conditions. Most foreign aid is overseen, and frequently managed, by the donor (Riddell, 2014 ). Donors do not like to give up control of their aid 4 by channeling it through a multilateral agency, unless, of course, they have significant influence over the decision-making operations of the agency. The receipt of bilateral foreign assistance leaves the recipient obligated to the donor.

Aid that is channeled through intergovernmental organizations such as the World Bank or regional development banks; the International Monetary Fund; UN agencies, most notably the United Nation Development Programme; and the OECD is known as multilateral aid. The aid becomes the development asset of the multilateral institution, which it then disperses based on the multilateral institution’s own decision-making process. The donor state cannot earmark or predetermine the aid’s use. Multilateral aid can only be delivered through the multilateral organization. Headey ( 2008 ) suggests that donors tend to channel their anti-poverty, development motivated assistance through multilateral institutions and use their bilateral aid to pursue geopolitical objectives.

The use of multilateral trust funds, or what is often referred to as “multi-bi” assistance, “allow[s] donor governments to cooperate with like-minded donors only, target their aid to specific countries, and development objectives while using the financial and, by and large, the implementation infrastructure of the multilateral organization which hosts them” (Eichenauer & Knack, 2016 , p. 2). Earmarking allows the donor and likeminded countries greater influence in the allocation of multilateral aid decisions by targeting priority issues or economically and politically important countries. In this way, donors can circumvent the multilateral development banks’ allocation of aid based on country performance, institutional capacity, and need. The ability to use the multilateral institutions while maintaining control of their foreign aid is a widespread donor strategy. Reinsberg, Michaelowa, and Eichenauer ( 2015 ) reported that multi-bi aid accounts for 60% of all multilateral aid, and in 2013 , the World Bank was managing over 900 trust fund accounts. The Afghanistan Reconstruction Trust Fund is one of the largest country-specific trust funds. The World Bank benefits from not only the additional fees it collects from donor countries (typically 2% to 5% of the trust fund), but the administration of the multilateral trust funds also allows the bank to increase its staff. The World Bank “holds, invests, and disburses funds,” thereby increasing its power and influence. The Bank’s management of the trust funds “underwrite[s] the Bank’s leadership in responding to international crises” (Independent Evaluation Group, 2011 , p. 9).

Why would states give up control over aid allocation policy by funding multilateral aid programs? Research has established that there are several advantages to using multilateral organizations to manage foreign aid.

Multilateralism is cheaper . Multilateralism is, in the opinion of Thompson and Verdier ( 2014 ), the solution to transaction costs, that is, the costs of negotiating (and renegotiating), monitoring and enforcing an agreement.

Burden sharing . There are 28 donor members of the OECD-DAC and another 29 non-DAC donors. This means that the costs and responsibilities for resolving global issues of poverty or disease eradication are not the burden of one country but based on the ability to pay. Kwon ( 1998 ) explains: “Those who would benefit most from a collective good and have the greatest resources to provide it will bear a disproportionate share of the costs, while “smaller” members of the group will bear a burden that is less than their share of the benefits and resources, behaving as free (or cheap) riders” (p. 39). Small donations can be combined with donations from other countries, amplifying their significance and providing help to recipient countries.

Deniability to the donor state’s own population . Using a multilateral aid agency allows the donor a certain degree of plausible deniability for the resultant outcomes thereby reducing the risk of criticism if the lending fails. Foreign aid does not have strong public support in most countries. But donor governments realize that aid is an important tool of foreign policy. Donors can fund but still distance themselves from politically controversial programs that may upset their domestic constituencies. Providing bilateral aid might not be politically astute if either the donor or the recipient citizenry objects to the funding. In 2013 , North Korea, Iran, and Cuba received a substantial amount of multilateral official development assistance, over $100 million each. Funding these countries, no matter the level of need, would be politically controversial in the United States. But as a major donor to the OECD, the World Bank, and the International Monetary Fund (IMF), the United States is indeed helping to fund programs in unpopular regimes. Donors may direct their aid through multilateral venues when conditions in the recipient country are politically sensitive or fragile, dangerous for staff members, or if the donor simply wants to diffuse accountability.

Multilateral aid is politically neutral and more needs-driven . There is also a perception that multilateralism guarantees uniform treatment and, consequently, is more legitimate and more fair based on need and not politics. This is a particularly important point if the donor’s citizenry believes that bilateral aid is too political and that multilateral aid is more altruistic. Multilateral agencies do hold a degree of autonomy with respect to state control. Thus, it is believed that multilateral aid is less politicized and based more on need and institutional capacity. Bilateral aid, on the other hand, is often controlled by vested interests that direct aid for strategic and political ends (Nunnenkamp & Thiele, 2006 ). However, there is some evidence that multilaterals are not impartial either and can also be easily captured for political and economic gain. A study by Kaja and Werker ( 2010 ) found that membership on the executive board of the World Bank’s International Bank for Reconstruction and Development (IBRD) resulted in approximately double the IBRD funding compared to countries that were not on the board. Favoritism rather than poverty reduction controlled IBRD lending. Similar research has shown that IBRD loans are heavily influenced by a recipient government’s temporary seat on the UN Security Council (Dreher, Sturm, & Vreeland, 2009 ; Kuziemko & Werker, 2006 ). However, Kaja and Werker ( 2010 ) also found that membership on International Development Association (IDA) board had no influence on IDA’s lending decisions. 5

Who Provides Foreign Aid?

Traditional foreign aid donors.

The first and most successful contemporary foreign aid initiative was the European Recovery Program (ERP), popularly known as the Marshall Plan. In 1947 , secretary of state George Marshall announced a United States proposal to rebuild Europe in the aftermath of World War II. World War II had completely destroyed the European economy and infrastructure, and a summer drought and exceptionally frigid winter in 1946–47 killed livestock and ruined crop production. The combination of the man-made disaster of war and the natural disasters of drought and blizzards, resulted in widespread starvation, wretched poverty, unemployment, and housing shortages in Europe. Although the Marshall Plan was motivated by humanitarian concern for the suffering of the European population, the plan also satisfied the strategic self-interests of U.S. foreign policy. United States leadership feared that with the destruction of the European economy and the growing misery of the European people, communism would gain a stronghold. The Marshall Plan proved to be very good for America’s economy, benefiting business, manufacturing, and agricultural interests by increasing U.S. exports and providing jobs to U.S. workers. Over the years, foreign aid has become an indispensable tool of U.S. foreign policy.

In Europe, the provision of foreign aid began with the independence of Europe’s colonies in Africa and Asia. Foreign aid flows to countries where EU donors have historically strong trade relations, investment interests, and colonial ties. Lancaster ( 2007 ) concluded that aid to former colonies has been based on the ex-colonies’ economic need, the desire to preserve the donor’s influence in those countries, and as a means of disengaging while keeping their reputations more or less intact. Aid was also seen as a means to prevent a massive return of settlers and emigrants. Maintaining secure export markets in former colonies is also an important motivation for European foreign assistance. Although these motives remain, the Library of Congress’s ( 2015 ) comparative analysis of foreign aid reports that

the major objective of the foreign aid policy of the EU is the reduction and the eventual elimination of poverty. In pursuing its foreign aid policy, the EU aims to promote human rights, gender equality, democracy, the rule of law, access to justice and civil society, the rights of the child and indigenous people, protection of the environment, and the fight against HIV/AIDS. (p. 10)

Yet issues of security, colonial history, and economic-energy interests redirect the EU’s foreign aid from solely humanitarian need to self-interested practicalities.

Foreign aid priorities vary widely among the individual states.

Lancaster ( 2007 ) states that Japan’s generous aid policy is the result of its reparation payments and its need to secure much-needed raw materials. Japan also used foreign assistance to increase its international reputation and status. Under Article 9 of the Japanese Constitution, Japan was prohibited from maintaining a military (other than for self-defense) and was unable, until recently, to participate in international humanitarian operations. Thus, Japan relied on providing foreign aid to project its power and influence onto the international arena.

During the Cold War, Soviet foreign aid was given to build influence in nonaligned countries and maintain a sphere of influence with poor communist countries (particularly North Korea, North Vietnam, Cuba). In addition, the Soviet Union provided considerable amounts of foreign aid to African states to foster close relations and to secure access to raw materials. After the fall of communism, the Russian Federation became a recipient of foreign assistance. However, in the 21st century , Russia is a “re-emerging donor” of foreign aid ( Guardian , 2011 ). Russian foreign assistance reflects its historical Soviet roots for foreign aid allocations. The largest recipients of Russian aid in 2012 were the Kyrgyz Republic, Tajikistan, Serbia, Mongolia, Cuba, Nicaragua, North Korea, and Syria (OECD, QWIDS, online). Russia’s sectorial focus is on health and food security (Hynes & Trzeciak-Duval, 2015 ).

Growth of Foreign Aid Donors

The highly developed countries in North America, Western Europe, Japan, New Zealand, and Australia, as well as the middle-income countries of China, India, South Korea, Brazil and the oil-rich countries of the Middle East have established foreign aid programs. The importance of foreign aid as a foreign policy tool is substantiated by the fact that foreign aid recipients are also foreign aid donors. In addition to the 28 DAC donors, 6 the OECD identifies 29 non-DAC donors that provide significant amounts of aid annually. Researchers have only recently recognized the importance of nontraditional aid donors in the study of aid as a tool of foreign policy.

More recently developing countries, oftentimes foreign aid recipients themselves, have become foreign aid donors. The motivations for middle-income country foreign aid provisions largely mirror those of traditional donors. Foreign aid by middle-income countries is used to further foreign policy goals, to increase regional power, to advance national interests, and to strengthen commercial ties. Nontraditional (non-DAC) donors have learned that foreign aid can be a useful tool to win allies, garner support in international forums, and advance foreign policy objectives.

Nontraditional donors, it is claimed, have a better understanding of recipient needs and of programs that work (Dreher et al., 2011 ). Accordingly, based on this experience, non-DAC donors are less willing to provide general budget support, aid that allows discretionary use, or outright grants rather than subsidized loans (Davies, 2010 ). As with the DAC donors, much of non-DAC aid is tied (recipients are obligated to purchase goods and services from the donor country). Contrary to the criticism that DAC donors make recipient needs secondary to political, strategic, or commercial interests, it appears that DAC donors are more needs-oriented than non-DAC donors (Dreher et al., 2011 ; Fuchs & Vadlamannati, 2012 ). An empirical study by Dreher et al. ( 2011 ) found that non-DAC donors place less importance on recipient needs than do traditional DAC donors.

The belief that non-DAC donors respond to recipient need is belied by a study by Fuchs and Vadlamannati ( 2012 ). These researchers report that India provides foreign assistance to countries with a higher GDP per capita than India itself, thus underscoring the notion that foreign policy goals rather than human needs motivate the foreign aid allocations of India. Woods ( 2008 ) reports that energy security, increased trade, and new economic partnerships are the primary motivations for most non-DAC donors. Research by Fuchs and Vadlamannati ( 2012 ) confirms that assistance from non-DAC donors is even more self-interested than aid from DAC donors. Given that resources are more dear in poor countries, non-DAC donors require a “return” on the foreign aid investment.

A primary difference between DAC and non-DAC donors, however, is the willingness to provide aid “without Western lectures about governance and human rights” ( Economist , 2010 ). Thus, foreign aid between southern donors and recipients is provided based on mutual benefit, non-interference and respect for sovereignty so that aid is not contingent on human rights protection, the promotion of democracy, or the reduction of corruption (Mawdsley, 2012 ), highly valued conditionalities 7 that traditional donors place on their foreign aid. Funding by nontraditional donors allows countries to reject the conditionality-laden loans of the IMF, the World Bank, and bilateral Western donors (Pehnelt, 2007 ).

China has become one of the major foreign aid donors. 8 China provides aid to countries that accepted it as the legitimate government of the Chinese people. Dreher and Fuchs ( 2011 ) confirm that political concerns drive China’s foreign aid allocations, but no more so than other major donors. China’s aid is free of democratic, good governance, and human rights considerations. China foreign aid is directed towards infrastructure development requiring 50% of the construction contracts to be awarded to Chinese contractors and 50% of the materials to be procured by Chinese business (Kjøllesdal & Welle-Strand, 2010 ).

Many non-DAC Donors provide aid, not only in an attempt to legitimize themselves as regional leaders, but also to assist trade and investment deals. In 2014 , Brazil, China, India, Russia, and South Africa, BRICS Group members, created two new international financial institutions, the New Development Bank (NDB), and the Contingency Reserve Arrangement (CRA). The BRICS set aside $50 billion in initial capital for infrastructure and sustainable development for low-income countries through the NDB, while the CRA had $100 billion in funds for countries in balance of payment difficulties due to short-term liquidity problems (Desai & Vreeland, 2014 ). Mwase ( 2011 ) suggests that BRICS donors allocate foreign aid to countries with weak institutions and poor governance because the World Bank and IMF deny aid to countries they determine to be too risky to finance. Countries who are ineligible for World Bank and IMF loans thus have a source of income provided by BRICS. BRICS have cultivated potential partners and allies from among those World Bank or IMF ineligible countries.

Also in 2014 , China, along with 21 Asia–Pacific nations, established the Asian Infrastructure Investment Bank (AIIB)—with China providing 50% of the initial capital—and the Silk Road Infrastructure Fund (SRIF)—where China is providing $40 billion in startup funds—to help fund infrastructure projects in Central and South Asia (Carsten & Blanchard, 2014 ). China, as a founding member of and the largest contributor to the newly established institutions, plays a significant role in all the new banks’ decisions. Thus, these new funding institutions strengthen China’s political and economic relations with other developing countries. Although the stated purpose of the newly created multilateral, yet regionally focused, development finance institutions (the NDB, CRA, AIIB, and the SRIF) is to complement, not challenge, the established assistance programs, scholars believe that the primary purpose of the banks is to solidify China’s role as regional leader while allowing it to extend its influence among developing countries and providing it with greater access to raw materials (Dixon, 2015 ).

Arab governments have long been major donors of foreign assistance. A report by Rouis ( 2010 ) found that Arab donors, principally Saudi Arabia, Kuwait, and the United Arab Emirates, allocate 1.5% of their gross national income to foreign aid, more than twice the United Nations target of 0.7%. Although Villanger ( 2007 ) reports that Arab aid is used to promote Islam, build Arab solidarity, and is focused on predominantly Muslim countries, Rouis ( 2010 ) acknowledges that Arab aid now extends to a greater number of countries:

At present, Arab ODA covers a wide range of countries, and especially poor countries in sub- Saharan Africa such as Mali, Mauritania, Senegal, Somalia, and Sudan; and in Asia such as Cambodia, Bangladesh, Nepal, Pakistan, Sri Lanka, Tajikistan, and Vietnam. (p. 2)

Like Western donors, Arab donors are strategically motivated in the allocation of foreign aid. Arab donors, however, do not place conditionalities of good governance, democracy, or human rights standards on their aid. But they do closely monitor the projects they fund to prevent corruption (Villanger, 2007 ). The sectorial focus of Arab aid is productive infrastructure.

Two other significant aid donors are also aid recipients: India and Brazil. OECD International Development Statistics ( http://stats.oecd.org/qwids/ ) report that, between the years 2005 and 2009 , Brazil received over $1.47 billion in official development assistance from all donors. Yet the Library of Congress ( 2015 ) writes that Brazil provided $1.8 billion in foreign aid between those same years. The OECD estimates that India furnished $539 million in foreign assistance in 2009 and 2010 and received over $5.3 billion in foreign assistance during that same time period. The Library of Congress also reports that whereas South Africa has “robust and fast-growing foreign aid programs” (p. 222), it still received over $1 billion in 2014 alone. Each of these countries tries to use its aid to influence the policies of the recipient country.

Does Foreign Aid Work as a Foreign Policy Tool? The Issue of Fungibility

Aid fungibility occurs when the recipient uses the aid for purposes other than what the donor intended or when donor aid substitutes for government funding (McGillivray & Morrissey, 2004 ). Fungibility occurs when the recipient government decreases its contribution to a project or program as a result of external funding. If a donor allocates foreign aid to build a hospital, the recipient government can redirect the funds it had intended to use to build that hospital to other projects. Foreign aid, then, frees up government revenue for spending in other sectors, such as the military, nonproductive government consumption for prestige projects, or tax reductions for the wealthy. Collier and Hoeffler ( 2007 ) reported that around 40% of African military spending is financed by OECD aid because of aid fungibility. This does not include outright military aid or aid that is provided to the government for general budget funds. Donors that are concerned about the recipient using the aid for purposes it was not provided for can choose to fund project aid (that is, specific investment loans for funding sanitation infrastructure or building a clinic, for example) 9 over programmatic aid (budgetary support funds, e.g.; Herring & Esman, 2001 ). Morrison ( 2012 ) notes that “there is little doubt that project-based aid is meant to reduce the discretion of recipient countries in terms of how to spend the money” (p. 60). In corrupt, poorly governed, or fragile states, donors will bypass recipient state institutions and disperse their aid through nonstate development partners, reducing the ability of central governments to divert funds (Dietrich, 2013 ). However, Briggs ( 2014 ) suggests that donors may use the fungibility of aid to accomplish foreign policy objectives; for example, if the donor’s citizens would not approve of their government’s support of an authoritarian regime, the donor could “turn a blind eye to fungibility if they wished to support a recipient leader” (p. 195). Indeed, Licht ( 2010 ) shows that donors were more likely to allocate aid to incumbent leaders if they faced an elevated risk of losing power.

For example, the United States’ bilateral economic assistance includes the category of Economic Support Funds (ESF). ESF funding, although officially listed as economic aid, is generally recognized as military assistance since it is used to financially support those countries considered politically and strategically important to the United States’ security interests. The US executive branch favors ESF since, as economic aid, it avoids the public debate and congressional challenges associated with the granting of military aid to authoritarian countries or those that abuse human rights (Ruttan, 1996 ). The ESF program is financial assistance for budget support that allows recipient countries to use their own resources to build up their defense infrastructures. It also includes the sale or grant of U.S. military arms and equipment. According to Tarnoff and Lawson ( 2016 ), 56% of ESF funding went to Egypt, the West Bank, Jordan, Afghanistan, and Pakistan in 2015 .

Conclusions: A Future for Foreign Aid?

In spite of the trillions of dollars provided by foreign aid donors over the past 70 years, global economic inequality persists and countries remain underdeveloped, both economically and politically. Yet though the level of aid transfers varies from year to year, depending on budgetary crises and global need, foreign aid is not going away. An early scholar of foreign aid, speaking about U.S. foreign assistance, wrote over 50 years ago, “Foreign aid as a political instrument of U.S. policy is here to stay because of its usefulness and flexibility” (Montgomery, 1962 , p. 9). These words are just as true in the 21st century . Foreign aid is a tool of foreign policy, not solely an instrument for the economic development of poor countries. However, scholars, such as Diamond ( 2008 ), believe that poverty reduction, the institution of good governance, and the growth of democracy in developing states are in the national interests of donor states. Funding foreign aid with conditionalities can be used to enhance national security, further economic and political interests, and ultimately empower the citizenry of poor countries. However, with the growth of nontraditional donors and their resistance to imposing the conditionalities of democracy and human rights on their lending, foreign aid may be further reduced to the crass, self-interested motivations of commercial or political interests. Given the differences over the motivations for providing foreign aid, it is hardly surprising that questions of whether aid has a future need to be asked and answered.

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1. The recipient of humanitarian and emergency aid is obligated to disburse the donor’s aid in an unbiased, neutral manner. “Humanitarian assistance,” in the words of Duffield et al. ( 2001 ), “has always been a highly political activity” (p. 269). Humanitarian aid has been used to alter conflicts and transform regimes, thus it reflects the foreign policy preferences of donors.

2. Earmarking is when the donor designates its assistance to be used for a particular purpose. The recipient can use foreign aid that is not earmarked for any purpose it desires.

3. The administration’s sentiment was reiterated by James Wolfensohn, the World Bank president (1995–2005), on February 16, 2004, in a speech at the conference “Making Globalization Work for All.”

4. The donor’s desire for oversight and management is not necessarily an unreasonable requirement. Foreign aid is most efficient in democratic countries with good governance, respect for the rule of law, a vibrant private sector, and strong institutions with a competent regulatory system. However, countries in the most need of aid are also the countries short on these same characteristics. Poor countries are often typified as corrupt, lacking accountability, or anocratic or authoritarian governments.

5. The Bank has two major lending agencies. The International Bank for Reconstruction and Development (IBRD) is a branch of the Bank that lends money at market rates to middle-income and creditworthy low-income countries that display principles of good governance but have only sporadic access to private market capital. The International Development Association (IDA) provides loans (credits) and grants to the poorest countries at concessional rates. IDA loans provide money for poverty reduction and human development projects such as primary education, health services, and water and sanitation facilities.

6. The EU as an organization is the 29th DAC member.

7. Conditionalities refer to donors’ demands that the recipient undertake specific structural or systemic level changes, such as adopting economic liberalization policies or demanding more-democratic political procedures. Conditionalities encourage aid recipients to act in accord with the donor’s ideological preferences.

8. China began its foreign aid programs in 1950 with funds provided to North Korea. Later, in 1956, China extended its aid to non-Communist countries. Since that time, China’s aid programs have expanded in size and scope.

9. A reliance on project assistance will not completely solve the problem of fungibility since recipient governments can still skew the projects towards higher income groups.

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Influence and support for foreign aid: Evidence from the United States and China

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When do members of the public support outgoing foreign aid? Existing research often focuses on individual and sociotropic sources of support based on economic, ideological, and emotional considerations. This article examines a potentially under-appreciated source of attitudes toward outgoing aid: foreign policy influence for one’s country. I argue that observers can make intuitive associations between different types of aid and different influence outcomes, and that the prospect of influence will generally increase support for outgoing aid. To test these claims, I conduct parallel survey experiments in the two largest donor and lender countries, the United States and China. I find that an aid project’s mode of delivery and degree of visibility affect its perceived value for influence-seeking, and that respondents understand and generally support the use of aid for influence. While direct aid to governments does not appear to increase support, project visibility does, and support is particularly high for visible aid provided directly to host country governments. The findings contribute to existing international relations and political economy research on aid and public opinion, international influence, and Chinese development finance.

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The power of the “weak” and international organizations

The impact of public opinion on voting and policymaking

Does Political Trust Matter? A Meta-analysis on the Consequences of Trust

Data availability.

Replication data and code are available on the website of the Review of International Organizations .

See https://trumpwhitehouse.archives.gov/presidential-actions/executive-order-rebranding-united-states- foreign-assistance-advance-american-influence/ .

Milner ( 2006 ) shows that concern about domestic public opinion is an important reason why governments opt to contribute substantial multilateral aid even though doing so relinquishes control relative to providing aid bilaterally. Others argue that public opinion toward aid only sometimes affects actual aid allocation (e.g. Otter , 2003 .

Though, governments with relatively strong domestic support bases for aid giving, such as the U.K., may be able to protect aid budgets during economic downturns (Paxton & Knack, 2012 ).

As a recent example, in 2018 Japan’s Ministry of Foreign Affairs began a domestic promotional campaign featuring an “ODA-man” anime character to bolster popular support for its overseas development assistance amid rising domestic demographic and economic pressures (Lindgren, 2020 ).

Public foreign policy preferences are shaped by political ideology, partisanship, as well as a host of individual-level attributes. Attitudes are also mediated by framing by the media and cue taking from elites (Zaller, 1992 ; Baum & Potter, 2008 ; Berinsky, 2009 ; Baum & Groeling, 2009 ).

Relatedly, constituents may support aid to the extent it increases their own economic welfare or reflects humanitarian values they support (Milner & Tingley, 2011 ; Heinrich, 2013 ).

Such perceptions may depend on respondents’ education levels (Hainmueller & Hiscox, 2006 , 2010 ), in-group and out-group dynamics (Mansfield & Mutz, 2009 ), information on and comprehension of policies (Bearce & Tuxhorn, 2017 ), and other individual characteristics such as gender (Mansfield et al., 2015 ).

A diverse set of economic, political, and security interests motivate donor governments’ provision of development finance (e.g. Maizels and Nissanke , 1984 ; Meernik et al. , 1998 ; Burnside and Dollar , 2000 ; Katada , 2001 ; Milner and Tingley , 2010 ).

Soft power is usually defined as governments’ ability to advance their interests via attraction rather than coercion (Nye Jr, 2004 ). Favorable foreign public opinion is a common measure in international relations for soft power (e.g., Nye Jr , 2004 ; Goldsmith and Horiuchi , 2012 ; Rose , 2016 ).

Not doing so can be costly. For instance, popular anti-American sentiment abroad serves as a symbolic resource for mobilizers in other countries to affect policy change locally and internationally (Schatz, 2021 ).

Earlier studies consider how project-specific features, such as sector (e.g. economic or military) and financing type (e.g. grant or loan), affect the strategic utility of projects for both donors and recipients (e.g. Poe and Meernik , 1995 ; Dube and Naidu , 2015 ; Bermeo , 2016 ; Dreher et al. , 2018 ). Several other studies examine how variation in donor identity produces different popular reactions (Findley et al., 2017a , b ; Cha, 2020 ; Blair & Roessler, 2021 ).

Some exceptions exist. For instance, Dietrich et al. ( 2019 ) examine different levels of project branding, and Milner et al. ( 2016 ) investigate attitudinal effects caused by different project funder identities.

A sizeable literature in political science conceptualizes influence. One classic definition is “a relation among actors in which one actor induces other actors to act in some way they would not otherwise act” (Dahl , 1973 , 40). This literature suggests that states’ ability to translate raw power into political influence takes on various forms (Lukes, 1974 ; Nye Jr, 2004 ; Gaventa, 1982 ; Barnett & Duvall, 2005 ).

Combinations of non-governmental actors such as NGOs, INGOs, and commercial contractors implement a growing share of development finance projects (Dietrich, 2013 ).

High-visibility projects, in addition to their conspicuous physical presence relative to low-visibility projects, also tend to receive more publicity, particularly around key milestones such as a project’s announcement, commencement, or completion ceremonies (e.g. Menga , 2015 ).

National leaders similarly often possess political incentives to pursue domestically-financed infrastructure and other visible development projects (Mani & Mukand, 2007 ; Harding, 2015 ; Lei & Zhou, 2022 ).

Alternatively, opportunistic opposition politicians can exploit negative sentiment toward visible aid projects (or their proponents) for domestic political gain (O’Brien-Udry, 2020 ).

See https://stats.oecd.org/ .

The surveys and embedded experiments were not pre-registered. All outcome questions included in the surveys are discussed in the manuscript and reported in Appendix  2 . The online appendix is available on the Review of International Organizations’ webpage.

Lucid was acquired by the Cint Group. See https://www.cint.com/blog/lucid-and-the-trade-desk-power- advertisers-brand-impact .

It was placed in the fifth of six short question blocks prior to treatment. This follows suggestions to place attention checks shortly before treatment since attentiveness can vary while taking a survey (Kane et al., 2023 ). It asked respondents “To verify that you are paying attention, please select the ‘somewhat disagree’ response option.”

In the power analysis, the minimum effect of interest was .5, the standard deviation was 1.5, and the significance level was .01, inputs that were informed by other recent experimental studies I have conducted in order to achieve 80% power. Power was calculated for direct tests of differences in means between treatment groups. This analysis suggested that each treatment group should include about 211 respondents.

In Appendix  3 , Figures  5 , 6 , 7 , 8 , and 9 plot treatment group balance for a set of pre-treatment covariates. Tables  2 and 3 further examine balance across treatment groups for the American and Chinese samples.

Moreover, as reflected in Appendix  5 (for example, Tables  9 , 10 , 11 , and 12 ), neither age nor other covariates for which the samples are unrepresentative appear strongly associated with perceptions of aid’s influence functions or outcomes. In the American sample, age is negatively associated with perceptions of influence functions while it is positively associated with them in the China sample. The results for other covariates–such as gender, education, and income–are generally not significant.

See https://foreignassistance.gov/ .

https://www.foreignassistance.gov/cd/kenya/2017/disbursements/0. Disbursement data is not publicly available for Chinese development finance.

The survey administered online to Chinese respondents initially used a seven-point scale to measure the same questions, and the results herein are transformed to five-point scale in order to make apples-to-apples comparisons about effect magnitudes. The substantive results are unchanged when using the original scale.

Base covariates include respondent age, gender, level of education (whether one has a college degree), income (based on an 11- and 14-tiered scale of income ranges for the US and China, respectively), and political ideology (US only; coded as 1 if a respondent identifies as conservative along a seven-point numerical spectrum). In addition to the covariates included in these regressions, the surveys also captured additional pre-treatment factors such as measures of nationalism, support for democracy, and foreign policy ideology. Including these covariates does not change the results.

Again, results here are presented in terms of raw five-point scales.

As this study examines multiple outcomes to probe potential mechanisms, I also compute Bonferroni-corrected p-values for each hypothesis test. The significance of the main results holds and the differences in means remain statistically significant at more stringent thresholds (e.g. .01).

Though it is also unclear the extent to which American respondents were familiar with bypass aid prior to the survey treatment.

These questions also serve as implicit post-treatment manipulation checks. For example, respondents treated with a visible project should report higher level of agreement that the project will be highly visible.

Non-governmental actors such as international NGOs also prioritize project visibility among donor and host country audiences to attract financing and improve their public reputation (Phillips, 2019 ).

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Acknowledgements

This work was supported by the Seed Fund for Basic Research for New Staff (“Understanding China’s High-Profile International Development Projects”) within the University of Hong Kong’s University Research Committee. The Harvard Digital Lab for the Social Sciences (DLABSS) supported the project’s early development. The author thanks the editor and three anonymous reviewers, Tyler Jost, Azusa Katagiri, Boram Lee, Dov Levin, Ryan Powers, and Kevin Troy for helpful comments on earlier versions.

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Strange, A. Influence and support for foreign aid: Evidence from the United States and China. Rev Int Organ (2023). https://doi.org/10.1007/s11558-023-09520-5

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Making Progress on Foreign Aid

Foreign aid is one of the most important policy tools that rich countries use for helping poor countries to improve population well-being and facilitate economic and institutional development. The empirical evidence on its benefits is mixed and has generated much controversy. This paper presents descriptive statistics which show that foreign aid to very poor countries accounts for very little of total global aid; reviews the evidence that foreign aid is often determined by the objectives of donor countries rather than the needs of recipient countries; argues that the evidence on the impact of aggregate foreign aid is hindered by problems of measurement and identification, which are partly due to the heterogenous nature of aid; and discusses recent studies using natural and randomized experiments to examine narrowed definitions of aid on more disaggregated outcomes.

Forthcoming in the Annual Review of Economics Doi:10.1146/annurev-economics-080614-115553. I thank Nathan Nunn for comments and Jaya Wen for excellent research assistance. The views expressed herein are those of the author and do not necessarily reflect the views of the National Bureau of Economic Research.

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102 Foreign Aid Essay Topic Ideas & Examples

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Foreign aid is a crucial aspect of international relations and development, providing assistance to countries in need to help them overcome challenges and improve their overall well-being. Writing an essay on foreign aid can be a great way to delve deeper into this complex and important topic. To help you get started, here are 102 foreign aid essay topic ideas and examples to inspire your writing:

• The impact of foreign aid on poverty reduction in developing countries
• The effectiveness of foreign aid in promoting economic growth
• The role of foreign aid in promoting gender equality and women's empowerment
• The ethics of foreign aid: should wealthy countries be obligated to provide assistance to poorer nations?
• The challenges of delivering foreign aid in conflict-affected regions
• The impact of foreign aid on health outcomes in developing countries
• The environmental implications of foreign aid: promoting sustainable development
• The role of foreign aid in addressing food insecurity and hunger
• The impact of foreign aid on education outcomes in developing countries
• The politics of foreign aid: how donor countries use aid to advance their own interests
• The role of non-governmental organizations in delivering foreign aid
• The impact of foreign aid on democracy and governance in recipient countries
• The role of multilateral organizations like the United Nations in coordinating foreign aid efforts
• The impact of foreign aid on refugee populations and displaced persons
• The effectiveness of humanitarian aid in responding to natural disasters and emergencies
• The impact of foreign aid on peacebuilding and conflict resolution efforts
• The role of private sector partnerships in delivering foreign aid
• The impact of foreign aid on infrastructure development in developing countries
• The challenges of ensuring transparency and accountability in foreign aid programs
• The impact of foreign aid on agricultural development and food security
• The role of technology and innovation in improving the delivery of foreign aid
• The impact of foreign aid on human rights and social justice in recipient countries
• The role of diaspora communities in supporting foreign aid efforts
• The impact of foreign aid on public health systems and disease prevention
• The challenges of coordinating foreign aid efforts in complex humanitarian crises
• The impact of foreign aid on economic inequality and social mobility
• The role of philanthropy in supplementing foreign aid efforts
• The impact of foreign aid on environmental sustainability and climate change adaptation
• The challenges of ensuring cultural sensitivity in foreign aid programs
• The impact of foreign aid on promoting peace and stability in conflict-affected regions
• The role of education and capacity-building in enhancing the impact of foreign aid
• The impact of foreign aid on social cohesion and community development
• The challenges of ensuring long-term sustainability in foreign aid programs
• The impact of foreign aid on promoting entrepreneurship and economic opportunities
• The role of diaspora remittances in supplementing foreign aid efforts
• The impact of foreign aid on promoting human rights and social justice
• The challenges of delivering foreign aid in remote and hard-to-reach regions
• The impact of foreign aid on promoting cultural exchange and understanding
• The role of volunteerism and service trips in supporting foreign aid efforts
• The impact of foreign aid on promoting gender equality and women's empowerment
• The challenges of ensuring accountability and transparency in foreign aid programs
• The impact of foreign aid on promoting sustainable development and environmental conservation
• The role of technology and innovation in enhancing the effectiveness of foreign aid
• The impact of foreign aid on promoting entrepreneurship and economic development
• The impact of foreign aid on promoting education and literacy in developing countries
• The role of private sector partnerships in supporting foreign aid efforts
• The impact of foreign aid on promoting health and well-being in recipient countries
• The role of multilateral organizations in coordinating foreign aid efforts
• The impact of foreign aid on promoting economic growth and development
• The impact of foreign aid on promoting health and

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Literature Review about the Relationship between Foreign Aid and Economic Growth

October 2022 A review of select studies finds that foreign aid can have a positive impact on economic growth, but it is worth reflecting on the factors that explain why this finding is not stated in more conclusive terms.

In Fiscal Year 2022, the Department of State and USAID disbursed approximately 11 billion USD in foreign assistance programs with the primary intent of increasing economic growth. With the aim of proving accountability to the American taxpayer, incompliance with the Evidence Act and guided by a Learning Agenda, the Department of State is assessing the impacts of these disbursements. The literature review featured here is a key step in that assessment. The 140-page literature review covers 30 studies, with an emphasis on attempts to estimate the economic impact of foreign aid on recipient communities. Other topics covered include the impact of foreign aid on corruption and conflict.

The literature review captures important takeaways, including: 

• Scholars have long debated the impacts of foreign aid. Even as these debates continue, there is evidence that foreign aid can have a positive impact on economic growth. 
• The most impactful aid agencies in the world are transparent and limit overhead costs, while providing the kind of assistance that recipients need most. 
• Historically, foreign aid has been allocated to countries irrespective of their levels of corruption. Still, even within countries burdened by corruption, foreign aid can have a positive impact.   

Recommendations

Success in foreign aid is about impact and not about the amount of funds transferred.

Detecting the economic impacts of foreign aid poses methodological challenges.

Be patient. There’s no consensus as to the years it takes for foreign aid to achieve impact.

Anecdotes about foreign aid should be supported by systematic evidence.

Evaluate evidence critically; no one study can capture the full truth about foreign aid.

Research Questions

• What does the empirical research from the past twenty years conclude regarding the impacts of foreign aid on economic growth and other development outcomes, such as corruption, conflict, and even health?
• What are the factors that obscure our understanding about the impacts of foreign aid?
• What are best practices in the provision of foreign aid?
• How do other countries and aid agencies practice foreign aid?
• What questions relating to foreign aid have academic researchers not yet fully answered?

The President’s Emergency Plan for AIDS Relief (PEPFAR) provides aid by supporting the systems and capabilities countries need to deliver effective, efficient, and sustainable health care, including for HIV/AIDS, even in times of great public health adversity.

Approach, Methods, & Data

The literature review analyzes a total of 30 studies. The selected studies meet at least one of three criteria:

• Subject matter experts have highlighted the study;  
• The study is a recent publication that promises to inform the field of research; and  
• The study is relevant to priorities held by the Department of State.  

As a result of applying this selection criteria, four of the studies covered by the literature review may be thought of as classics. These are studies that were published between 2000 and 2005 and have a high citation count. To balance these with more recent publications, nine of the studies included were published in or after 2016.

The included studies can also be described as follows: there are 28 peer reviewed journal articles, a working paper, and a policy paper. Fifteen studies focus on the impact of foreign aid on economic growth, while the remaining 15 explore interconnected topics, such as the impact of foreign aid on corruption, conflict, and public health. For each selected study, the literature review provides a synopsis, contextual information, methodological details, and crystalized takeaways. 

Detailed Findings

Has the allocation of wealthy countries’ funds with the purpose of promoting economic development in lower income countries had reliably positive effects? Because of methodological challenges, this key question eludes a simple answer.

One challenge is donors often direct aid to countries with poor growth records. This critical factor in deciding foreign aid recipients may inherently hinder the desired outcome of economic growth.

Other methodological challenges include insufficient data, disagreement about the time needed for foreign aid to achieve impact, and unresolved debates about what factors mediate the effects aid can have on recipient communities. This explains why all studies on foreign aid should be reviewed critically, and why no one study should be approached in isolation.

Among the 30 studies covered by the literature review, 15 of them speak directly to the question of whether foreign aid has had a significant and positive impact on the economies of recipient countries. Of these studies, 11 conclude that foreign aid has had a positive impact on economic growth. The other four studies either question the evidence in favor of the aid-leads-to-growth argument, or they hold an ambivalent position on the issue.

Therefore, there is evidence that foreign aid can have a positive impact on economic growth. There are also ways to increase the probability that foreign aid will prove impactful. These methods include reducing the ratio of overhead costs relative to aid disbursements and directing aid where the policy choices and quality of the institutions provide some assurance that the resources will be used responsibly.

It is debated whether aid can positively impact countries facing various instabilities. There is some research showing that foreign aid can promote peace. In countries with armed conflict, for instance, much of the aid money is seemingly allocated to target unemployment – following the assumption that employed people are less likely to engage in violence.

In contrast, based on data from Afghanistan, Iraq, and the Philippines, some researchers do not find evidence that lower levels of unemployment are associated with less insurgent violence. Therefore, it is worth keeping in mind that the truth is always approximated and that there is value in knowing where the uncertainty lies.

All told, the goal of this literature review is not to provide a definitive answer to the question about foreign aid and its impact on economic growth. Instead, the goal is to bridge the gap between academics and practitioners who are asking the same questions and who are similarly invested in wielding foreign aid as an instrument for good.  

In response to the destructive earthquakes in Turkiye and Syria, the U.S. will provide 85 billion dollars in lifesaving assistance. This image shows U.S. military members distributing humanitarian aid.

Impact by the Numbers

• 10 studies originally planned for inclusion in the literature review
• 30 studies covered by the literature review
• 50% of studies included in the literature review that focus squarely on the connection between foreign aid and economic growth
• 3 steps in the peer review process – each study summary included in the literature review was edited by three individuals that were not the author of the summary

Learning Summary

The literature review was designed as a meaningful learning opportunity to both expand and fine-tune the use of evidence in decision-making. The two activity leads were the Office of Foreign Assistance – Policy Directorate (F/P) and the Bureau of Energy Resources (ENR). The Bureau of Budget & Planning (BP), the Bureau for Development, Democracy, and Innovation (DDI) at USAID, the Bureau of Economic & Business Affairs (EB), Consular Affairs (CA), the Foreign Service Institute (FSI), and the Office of Foreign Assistance – Planning, Performance, and Systems (F/PPS) served as key contributors.

Those involved in the learning opportunity immersed themselves in the relevant academic literature and, together, concluded there is evidence that foreign aid can have a positive impact on economic growth. The group also identified some of the methodological limitations that weaken such a conclusion. One of the key methodological challenges is that foreign aid is often directed to low-income countries. This makes it difficult to clearly identify the economic impacts of aid. Another challenge to causal identification is the fact that there is little to no consensus as to how many years it takes for foreign aid to achieve impact. Therefore, the call is to continue to critically evaluate any new research about the impacts of foreign aid. The learning continues!

U.S. Department of State

The lessons of 1989: freedom and our future.

89 Foreign Aid Essay Topic Ideas & Examples

🏆 best foreign aid topic ideas & essay examples, 📑 interesting topics to write about foreign aid, 🔎 good essay topics on foreign aid, ❓ questions about foreign aid.

• Foreign Aid and Economic Growth in Developing States The paper under analysis covers the topic of the relationship between foreign aid and economic growth in developing countries. There is a raging debate on the real effect of foreign aid on developing countries, and […]
• Foreign Aid Impact on Bosnia In addition to the rehabilitation of schools, buildings within the Ministry of Education were also reconstructed. The financial aid has enabled reconstruction of various economic sectors such as education, health and infrastructure.
• Positive and Negative Implications of Foreign Aid Foreign aid of any kind is offered for the benefit of the receiving country but the donor country may equally benefit indirectly or directly in the event that it wishes to attain any of the […]
• Foreign Aid: Detrimental or Beneficial? In the past, Egypt and Israel, due to their location in the Middle East and cordial relationships with the west, have been the major beneficiaries of foreign aid.
• War and Peace Effects on Foreign Aid in Kenya President Uhuru Kenyatta of Kenya and his leadership has ensured that foreign aid is allocated to various programs that will ensure peace prevails in the country.
• Liberia’s War, Peace, and Foreign Aid According to the data provided by the World Bank Group, Liberia has been receiving FA since before the 1980s, and its amount has had the tendency to increase with some of the years breaking this […]
• War and Peace Effects on Foreign Aid in Sudan Also, at the end of the war, it was decided to allocate a considerable amount of money to Sudan by the European Commission for the reconstruction of the country after its crisis.
• Effects of War and Peace on Foreign Aid Recently, the leadership of Kenya discovered that a number of organizations operating in Kenya have been using foreign aid to support the operations of the Al-Shabaab terror group.
• War and Peace Effects on Foreign Aid in Madagascar The lack of systems to ensure that the citizens are the real beneficiaries of foreign aid continues to hamper the ability of Madagascar to sustain its peace process.
• War and Peace Effects on Foreign Aid in the Dominican Republic During instances of civil unrest and peace, donors have attempted to link the foreign aid provided to the Dominican Republic to increased protection of human rights, the establishment of democratic ideals and institutions, cessation of […]
• Foreign Aid in Africa: Countries Experiences Learning Despite the fact that most of the aid given to African countries is meant to help the people who are not able to access their basic needs, most of the money ends up in the […]
• The UN Foreign Aid for Lebanon Analysis Speaking about the wars and conflicts which had a great impact on the country, it is possible to admit the role of foreign countries and United Nations in the attempts to make the compromise and […]
• Impact of Foreign Aid on Sub Saharan Africa This occurs due to lack of transparency on the side of sub Saharan African countries on the purpose of the foreign aid leading to cynicisms.
• War and Peace Effects on Foreign Aid in Bangladesh Despite the fact that the effects of foreign aid are admittedly vast in Bangladesh, claiming that the provision of financial support to the state that suffers a military and a political conflict is the ultimate […]
• Importance of Foreign Aid in Poverty Reducing Foreign aid is one of the methods used by wealthy nations to help reduce poverty in the least developed countries. Such countries as the US and Canada have provided financial aid to a number of […]
• Human Development. Role of Agriculture. Importance of Technology and Foreign Aid in Mozambique The access to wage labor, which enhances the state of agriculture and the whole country, depends on the people’s education. The rapid development of the agriculture is connected with foreign investments and earnings, as they […]
• Why Foreign Aid Doesn’t Work As an effect, the reason as to why Foreign aid has failed is because its main objective has been ignored, and it is not being assessed in light of industrialization and advancement in agricultural.
• United States Foreign Aid in Perspective The American foreign aid is one of the instruments used to extend American dominance in the world. Consequently, the fall of the USSR reduced the American funding in the third world.
• Foreign Aid and African Exporters: Help or Harm
• Foreign Aid and Economic Growth in Cameroon: Evidence From Cointegration Tests
• America Must Provide Foreign Aid to Poor Countries
• Donor Strategy Under the Fungibility of Foreign Aid
• Assessing Foreign Aid’s Long-Run Contribution to Growth and Development
• Australia’s Foreign Aid Dilemma: Humanitarian Aspirations Confront Democratic Legitimacy
• Making Foreign Aid More Efficient in Putting Into Place the Development Fundamentals
• How Important Is Aid Effectiveness to People for Choosing Countries to Support
• Linking Blockchain Technology and the Governance of Foreign Aid
• Reasons Why Britain Should Not Give Foreign Aid
• Bureaucratic Incentives, Path Dependence, and Foreign Aid: Irrigation in the Philippines
• Cambodia’s Patient Zero: The Political Economy of Foreign Aid and Avian Influenza
• Canada Should Change Policies on Peacekeeping, Foreign Aid, and Free Trade
• Foreign Aid and Aid Policy Effectiveness on Economic Growth of Ghana
• Capital Mobility, Foreign Aid, and Openness: Evidence From Sub-Saharan Africa
• China’s and Japan’s Foreign Aid Policies Vis-à-Vis Lusophone Africa
• Collusion Among Interest Groups: Foreign Aid and Rent-Dissipation
• Coming Into Money: The Impact of Foreign Aid on Leader Survival
• Company Interests and Foreign Aid Policy: Playing Donors Out Against Each Other
• Japan’s Foreign Aid Sanctions Policy After the End of the Cold War
• Donors and Domestic Politics: Political Influences on Foreign Aid Effort
• Comparing Taiwan’s Foreign Aid to Japan, South Korea, and DAC
• Competition for Export Markets and the Allocation of Foreign Aid
• Conditional Linkages Between Iron Ore Exports, Foreign Aid, and Terrorism
• Linking Corruption, Foreign Aid, and Welfare to the Poor
• Relations Between Decentralization and Foreign Aid Effectiveness
• Foreign Aid and Conditions Precedent: Political and Bureaucratic Dimensions
• Deterring Emigration With Foreign Aid: Overview of Evidence From Low-Income Countries
• Development Strategies and Foreign Aid Policies for Low-Income Countries
• Foreign Aid and Its Environmental Implication in India
• Diamonds, Foreign Aid, and Uncertain Prospects for Post-conflict Reconstruction in Sierra Leone
• Donor Preferences and Recipient Fiscal Behavior: Simultaneous Analysis of Foreign Aid
• Economic Development and the Effectiveness of Foreign Aid: A Historical Perspective
• Effective Foreign Aid, Economic Integration and Subsidiarity: Lessons From Europe
• Foreign Aid and Domestic Savings: The Crowding Out Effect
• Ethnicity, Foreign Aid, and Economic Growth in Sub-Saharan Africa: Kenya Case
• Explaining the Nepalese Trade Deficit: Foreign Aid or Stagnant Agriculture
• Federal Budget Cuts for Domestic Programs and Foreign Aid
• Financing Growth: Foreign Aid vs. Foreign Loans
• Foreign Aid Agreements With North Korea: Proposal to the United Nations
• Are Debt Repayment Incentives Undermined by Foreign Aid?
• What Are the Advantages of Foreign Aid?
• Does Foreign Aid Work or Does It Only Help the Rich Country?
• Has Foreign Aid Been Effective in the Water Supply and Sanitation Sector?
• Why Do Countries Depend on Foreign Aid?
• Does Foreign Aid Help Donor Countries More Than the Recipients?
• What Are the Types and Purposes of Foreign Aid?
• How Significant and Effective Has Foreign Aid to Indonesia Been?
• Are Democratizing Countries ‘Rewarded’ With Higher Levels of Foreign Aid?
• What Is the Difference Between Foreign Aid and Foreign Direct Investment?
• Are Foreign Aid and Remittance Inflows a Hedge Against Food Price Shocks in Developing Countries?
• Does Foreign Aid Accelerate Economic Growth?
• What Are the Pros of Foreign Aid in the US?
• Can Foreign Aid Create an Incentive for Good Governance?
• Does Foreign Aid Cause the Adoption of Harmful Economic Policies?
• Can Foreign Aid Dampen the Threat of Terrorism to International Trade?
• How Does Foreign Aid Affect the Economy?
• What Are the Potential Benefits of Foreign Aid to Developing Countries?
• Can Foreign Aid Motivate Institutional Reform?
• Does Foreign Aid Increase Foreign Direct Investment?
• Why Was It Important for the United States to Get Foreign Aid During the Revolution?
• Can Foreign Aid Reduce Income Inequality and Poverty?
• Why Does the United States Use Foreign Aid?
• How Important Was Foreign Aid in Henry VII’s Seizure of the English Throne?
• Does Foreign Aid Promote Economic Growth in Sudan?
• Who Is the Largest Provider of Foreign Aid?
• Has the Foreign Aid Carried on the Best Course of Action in the Sub-Saharan Region?
• Which Country Has the Best Foreign Financial Aid?
• Does Foreign Aid Reduce Energy and Carbon Intensities of Developing Economies?
• Why Can Corrupt Governments Receive More Foreign Aid?
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• v.8(9); 2022 Sep

Is too much foreign aid a curse or blessing to developing countries?

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Data will be made available on request.

The aim of the study was to examine the relationship between amount of aid received and economic growth of developing nations and the role of quality of institutions and economic freedom in shaping the relationship between the two. To this effect, a panel data from 2006 – 2019 was gathered from 48 developing countries and an innovative dynamic panel threshold regression was used for estimation. Accordingly, it is found in this study that the relationship between aid and economic growth is nonlinear and U shaped, which shows the presence of threshold value of aid amounting 7.03% of GNI. The results further reveal that aid stimulates economic growth when the sampled developing countries attain a minimum institutional quality threshold of -0.320. As regards to the role of economic freedom, it is found that the overall economic freedom index of 53.481 should be attained to avoid undesirable effect of aid on economic growth. Therefore, the author recommends that donors should advance sufficient amount of aid to developing countries if they are really committed to support their economy. Recipient developing countries should improve up on the existing institutional setup and improve economic freedom indicators in order to get the best out of aid.

Aid; Economic growth; Dynamic panel threshold; Institutional quality; Economic freedom.

1. Introduction

The economic growth theory by Harrod (1939) and Domar (1946) is among the notable neoclassical growth theories. The theory contends that national saving fuels economic growth via bolstering accumulation of capital and, thus, developing countries should save so as to grow economically. Nonetheless, it is true that a number of factors hinder significant mobilization of saving domestically and, therefore, meager investments which eventually slowdown economic growth rate. In addition, developing nations are confronted with foreign exchange shortfall, which creates problem of financing international trade ( Chenery and Strout, 1966 ).

The implication of these theoretical arguments is that capital obtained overseas through stimulates economic growth of developing nations via filling the two gaps ( Yiew and Lau, 2018 ). On contrary to this, however, there are also theoretical arguments that are pessimistic regarding the role of aid in economic growth of developing nations. According to Burnside and Dollar (2000) , foreign aid contributes to economic growth only under good institutional environment. Foreign aid could also turn out to be harmful than beneficial to the economy as it erodes balance of payment ( Liew et al., 2012 ). Instead of stimulating investment, Gong and Zou (2001) argue that foreign aid would increase consumption of leisure hours, reducing labor supply.

The aid-growth nexus is debatable not only theoretically, but also empirically. Even though some studies have established positive effect of aid on economic growth ( Aboubacar et al., 2015 ; Lee and Alemu, 2015 ; Moolio and Kong, 2016 ; Kitessa, 2018 ), others find negative ( Appiah-Konadu et al., 2013 ; Aghoutane and Karim, 2017 ; Sothan, 2018 ; Edward and Tumwebaze, 2020 ; Yahyaoui and Bouchoucha, 2020 ), and some others find insignificant ( Tang and Bundhoo, 2017 ; Kirikkaleli et al., 2021 ) aid-growth relationship. The empirical inconclusive findings concerning the relationship between foreign aid and economic growth created skepticism among researchers across the globe. Based on the idea that linear models are incapable of capturing the true relationship between the variables, some studies employed nonlinear specification to examine the tipping point of aid ( Gyimah-brempong et al., 2012 ; Fashina et al., 2018 ; Yiew and Lau, 2018 ). On the other hand, some other studies investigated the role of economic and political environment of the recipient countries in influencing the foreign aid economic growth relationship ( Hussen and Lee, 2012 ; Tang and Bundhoo, 2017 ; Adusei, 2020 ).

Even so, the controversy has not been resolved yet. Among those studies with nonlinear specification, even though the hypothesized nonlinear relationship between the variables is confirmed in some studies, the results obtained are conflicting. As regards to the role of absorptive capacity in terms of quality of institutions and macroeconomic policies, some studies concluded that they matters in foreign aid – growth relationship ( Yahyaoui and Bouchoucha, 2020 ) while some other failed to confirm this ( Adusei, 2020 ). Therefore, the nature of the relationship between foreign aid and economic growth on the one hand and the role of conditions in the recipient countries for effectiveness of aid on the other is still a living debate.

This article seeks to (i) examine the nature of relationship (test of nonlinearity) between foreign aid and economic growth. (ii) Examine whether or not quality of institutions and economic freedom shape the relationship between aid and economic growth. (iii) If they do so, whether certain threshold does exist below and above which the impact of foreign aid on economic growth varies. By studying the nature of relationship between foreign aid and economic growth and the role of institutional quality, there is no way for the current study to be unique, for similar studies have been conducted so far though with inconclusive results. However, contribution of the current study to the body of literature on aid lies in its attempt to examine the role of economic freedom in the aid – growth relationship. And, employment of recently developed panel threshold regression model developed by Seo and Shin (2016) to identify the threshold values of quality of institutions and economic freedom. The remainder of the article proceeds as follows. Review of empirical literature is given in section 2 . Section 3 provides methodology adopted by the study. Section 4 presents results obtained by the study with their discussion. Concluding remarks and recommendations are given section 5 .

2. Literature review

The link between foreign aid and economic growth has been studied from different theoretical, empirical, and methodological approaches. However, consensus is yet to be reached regarding the direction of the relationship (positive versus negative) and the nature of relationship (linear versus nonlinear). Since theoretical foundation of the nexus between aid and economic growth is mentioned in the introduction section, the review of available empirical literatures on the subject is given in Table 1 .

Table 1

Literature review

Note: PS is political stability, Ins is institutional quality, SSA is sub Saharan Africa, “_” & “+” indicate negative and positive effect respectively.

3. Methodology

This article examines the nexus of aid and economic growth; and, the role of institutional quality and economic freedom in the relationship between them. For this purpose, 48 developing countries given in Table 2 were selected and the necessary data was collected from available databases like World Development Indicators (WDI), World Economic Outlook (WOE), Worldwide Governance Indicators (WGI), Heritage Foundation, and United Nations development program (UNDP) over the period covering 2006–2019. The sample of countries considered in this study is made up of low income and lower middle-income countries according to the World Bank (WB) country classification. Obviously, these countries are not the only developing countries of the world. Developing countries not included in this study are excluded purely because of unavailability of data. The study period (2006–2019) is decided in an attempt to obtain strongly balanced panel data set as panel threshold regression cannot be implemented with unbalanced. Variables of the study were selected on the basis of theory of economic growth. These are: real GDP per capita (the dependent variable), institutional quality index, economic freedom index, aid, population growth, inflation, government expenditure, investment, financial development and schooling.

Table 2

List of sampled nations.

Table 3 provides description of the variables adopted by the study. In this study, aid is represented by official development assistance and expressed in its share of GNI and sourced from WDI. Consumer price index has been adopted by various contemporary empirical growth studies to measure cost of living (see Asongu et al., 2018 ; Bekere and Bersisa, 2018 ; Ruiz, 2018 ; Hayat, 2019 ; Osei and Kim, 2020 ; Krasniqi and Demukaj, 2021 ). However, GDP deflator is preferred in this study due to its ability to capture prices of wider goods and services. While some recent studies show inflation is harmful to the economy only after some threshold level ( López-Villavicencio and Mignon, 2011 ; Kremer et al., 2013 ), there is consensus among different schools of economic thought that high growth rate of inflation is unfavorable at all ( Thanh, 2015 ). The data is obtained from WDI. Government expenditure is expressed in percent of GDP and collected from WOE. The same proxy for the variable was used by Hayat (2019) ; Jain et al. (2021) . Government expenditure is an important economic variable to stimulate the economy during deficiency of demand in Keynesian economics. Government expenditure directed towards development enhances growth ( Wahab, 2011 ). Total investment as percentage of GDP is considered in this study as another important control variable and sourced from WEO. Investment plays a pivotal role in the neoclassical growth theories and often considered as an indispensable source of growth. Feeny (2005) and Alshammary et al. (2020) used the same proxy variable in their study. Mean years of schooling is used to proxy human capital ( Law and Singh, 2014 ; Chattopadhyay et al., 2021 ), which is obtained from UNDP. While the annual population growth rate is collected from WDI, financial development is provided by global financial development database.

Table 3

Descriptive statistics.

In order to examine if the effect of aid on economic growth hinges on the level of institutional quality, the study relies on the six variables designed by world governance indicators (WGI) of the World Bank. The six variables are namely control of corruption, political stability and absence of violence, regulatory quality, and government effectiveness, rule of law and voice and accountability. The variables are scaled from – 2.5 (indicates weak quality of institutions) to +2.5 (indicates strong quality of institutions). For the purpose of the current study, the average of the six indicators is used because there is no variation in relative importance attached to each indicator. In the study by Yahyaoui and Bouchoucha (2020) , it is found that aid performs better under better institutional quality while institutional quality does not play significant role in shaping the link between aid and economic growth in the paper by Adusei (2020) .

In the same vein, economic freedom is represented in this study by index of different indicators and gathered from the heritage foundation. It measures the extent of governments' control over domestic economy and graded on scale of 0–100. The higher the scale the more liberal the economy and vise versa. According to Burnside and Dollar (2000) , aid promotes economy if given to countries with good economic policy environments. However, the study by Vasquez (1998) and Powell and Ryan (2011) fails to confirm this as improvement in economic freedom index is not rewarded with more aid. Some western donors like World Bank and the International Monetary Fund (IMF) prefers to support more free economies. If huge amount of aid stimulates recipient's economy and if huge amount of aid is more likely to flow to ward countries with better economic freedom, it can be said economic freedom do matter in the relationship between aid and economic growth.

3.2. Empirical model

This study relies on panel threshold regression developed by Seo and Shin (2016) to achieve its objectives. Panel threshold regression (PTR for short) was first proposed by Hansen (1999) . It is a great innovation in the field as linear models are becoming incapable of detecting the relationship between various economic variables accurately. PTR is a widely used method in research areas like inflation ( Kremer et al., 2013 ; Thanh, 2015 ; Khan and Hanif, 2020 ), financial development ( Law et al., 2018 ), foreign direct investment ( Osei and Kim, 2020 ), public debt ( Alshammary et al., 2020 ), mobile penetration ( Asongu et al., 2018 ), etc.

The method of Hansen (1999) , though notable contribution in the field, is static in nature and cannot capture dynamics. Some scholars have tried to extend the method of Hansen (1999) by introducing its dynamic version ( Caner and Hansen, 2004 ; Dang et al., 2012 ; Ramírez-Rondán, 2015 ; Kremer et al., 2013 ). Even though all of these models move one-step beyond Hansen's model, they are still defective since they impose too restrictive requirement of exogeneity of either the predictors or the threshold variable or even both ( Seo and Shin, 2016 ). Seo and Shin (2016) developed a model that relaxes the restriction imposed on properties of predictors and threshold variables and allow them to be endogenous. The proposed estimator is implemented by the method of Arellano and Bond (1991) . Therefore, the current study employs modified versions of the original equation developed by Seo and Shin (2016) as given in Eqs. 1 a, 1 b, and 1 c. According to this panel threshold model, the threshold effect is identified using the nonparametric i. i.d. bootstrapping proposed by Seo and Shin (2016) . The null hypothesis of no threshold will be rejected if the bootstrap probability value is less than the conventional critical values (1%, 5%, and 10%).

Where y i t is the logarithm of per capita real GDP, X ′ i t is a K 1 × 1 is vector of covariates that vary with time and it includes lag of aid, aid represents amount of aid received, ins i t is institutional quality, freed i t , is economic freedom, 1 { ∗ } is an indicator function, q i t is the threshold variable, δ is the threshold parameter, φ 1 and φ 2 are respectively coefficients of the lower and upper regime, μ i is country fixed effect and ε i t is random error, t = 1,…, T indexes time and i = 1,…,N indexes country.

4. Result and discussion

4.1. descriptive statistics and correlation analysis.

The result of descriptive analysis is exhibited in table. As depicted in the table, the log of GDP per capita is 7.275 on average with standard deviation of 0.719, which is an indication of low variability in the data series. Over the study period, the net aid inflow to the sampled developing countries amounts to 4.97 percent of GNI on average. Since there is a big gap between the minimum and maximum values of the series, the data points constituting the series have high variability. The highest value of 24.734 is observed for Haiti in 2010 while the lowest value of -0.288 is observed for Sri Lanka in 2018. Standard deviation of financial development (29.877) which shows that high variability in the spread of data characterizes the variable. As reported in the table, the mean value of institutional quality index is -0.581 with lower standard deviation of 0.399, indicating poor institutional quality. Among the sampled countries, the lowest institutional quality (−1.75) is recorded in Myanmar in 2009 while the highest (0.572) is in Cape Verde in 2010 while the mean value for the whole of the sampled countries is 55.284, which, according to the heritage foundation's country classification, would classify the sample countries as “mostly unfree”.

The result of correlation analysis is reported in Table 4 . It is indicated in the table that the independent variables other than inflation, population growth, aid, and square of aid have positive correlation with economic growth. Coefficient of correlation between economic growth and aid (−0.61) shows strong and negative correlation between the variables, indicating that they move in opposite direction. However, though still negative, the correlation between aid and economic growth becomes moderate as shown by coefficient of correlation of -0.47 between square of aid and economic growth.

Table 4

Matrix of correlations.

4.2. The relationship between aid and economic growth

The current study has examined the relationship between aid and economic growth using the method of Seo and Shin (2016) . As indicated in Table 5 , the result reveals that the relationship between aid and economic growth is nonlinear because the bootstrap p-value based on 1000 replication is significant at 1% critical value indicating that there is a threshold effect of aid. As reported in the upper part of the table, the estimated threshold level of aid is 7.03, such that about 74% of the observations fall below the threshold level.

Table 5

Threshold estimate of foreign aid.

Note: ∗, ∗∗, ∗∗∗ indicates significance of the estimated coefficients at 10%, 5%, and 1%. Figures in the parenthesis are t-values. The reported coefficients of covariates are those in the lower regime.

In the middle part of the table, the impact of aid on economic growth is given. Accordingly.

φ 1 ˆ and φ 2 ˆ represents the coefficient of aid below and above the threshold level respectively. Below the threshold level, the impact of aid on economic growth is negative while it turns out positive above it. Specifically, a 1-percentage point increase in aid to GNI ratio decreases economic growth by 1.4% for any amount of aid no more than 7.03 percent of GNI and increases economic growth by 1.3% for aid to GNI ratio exceeding 7.03. Thus, aid is nonlinearly related to growth taking U – shape, which means that the impact of aid on economic growth is favorable if and only if it is above certain threshold level. In other words, too much aid to developing nations benefits, not harm their economy. Similar result was obtained by Gyimah-Brempong et al. (2012) and Yiew and Lau (2018) . Furthermore, the threshold estimate recorded in this study is closer to the minimum 6.6 percent documented by Gyimah-Brempong et al. (2012) . On the other hand, the result obtained in this study is in stark contrast with what was found by Ali and Isse (2005) ; Fiodendji and Evlo (2013) . These authors found inverted U shape relationship between aid and economic growth. The finding also differs from what was recorded by the study conducted by Khan and Ahmeed (2007) . The authors concluded that foreign aid is not blessing both at aggregated and disaggregated level from their linear model specification.

Certain amounts of aid received by recipient countries will be added to their capital stock, and hence, bolster investment activities. When viewed from this angle, aid will stimulate economic growth ( Yiew and Lau, 2018 ; Ovaska, 2003 ). This provides theoretical base for the observed positive effect of aid on economic growth above the threshold level. However, it is also possible that aid requires good policy to be effective ( Burnside and Dollar, 2000 ; Niyonkuru, 2016 ) and deteriorate balance of payment by causing national currency of the recipient country to appreciate ( Liew et al., 2012 ). According to Borjas (2015) , an increase in non-labor income reduces the number of hours people choose to work, which reduces the total labor supply in the economy. Since foreign aid tends to increase non-labor income, therefore, it reduces labor supply and this harms the productive capacity of the country ( Gyimah-Brempong et al., 2012 ). Thus, the claim of the existence of some conditions for effectiveness of aid and the tipping point is not unfounded.

Generally, as the results of this article reveal, the impact of foreign aid received by developing countries on their economic growth is contingent on the amount received. Since it is established that the impact of aid on economic growth is negative (positive) when amount of aid received is below (above) the threshold level respectively, it implies that foreign aid received by the developing countries inevitably entails both favorable and unfavorable effects. Therefore, below the threshold level (7.03% of GNI), the positive effect of aid on economic growth cannot completely swamp the negative effect and foreign aid remains detrimental to the economy. When it is sufficiently above the threshold level, however, it starts to stimulate economic growth. Significance and sign of the control variables are expected except financial development in this study.

The role of institutional quality in the relationship between aid and economic growth.

The role of institutional quality and economic freedom can also be examined using panel threshold regression by designating quality of institutions and economic freedom as threshold variables. This time, however, the threshold variables are institutional quality and economic freedom. In order for institutional quality and economic freedom to matter, the threshold estimate of institutional quality and economic freedom should be statistically different from zero. As shown in Table 6 , quality of institutions and economic freedom matter in the nexus of aid and economic growth as confirmed by the bootstrap p-value of less than 1%.

Table 6

Threshold estimates of institutional quality and economic freedom.

As indicated in Table 6 , the institutional quality threshold is -0.320, such that about 72% of the total observations fall below this. Below the threshold level, the effect of aid on economic growth is positive but insignificant. Above the threshold level, however, aid contributes to the economic growth positively and significantly. Accordingly, it is found in this study that a 1% increase in aid to GNI ratio is associated with 0.9% increase in economic growth in countries with average institutional quality greater than -0.320. Similar results concerning the positive role of good quality institutions in the impact of aid on economic growth is obtained by prior studies ( Burnside and Dollar, 2000 ; Tang and Bundhoo, 2017 ). However, the argument that aid undermines growth under poor in institutional quality is not established in this study since the coefficient of aid below the threshold level, though insignificant, is positive.

As regards to the role of economic freedom, the threshold level is 53.481 and it is significant at 1% significance level. As shown in Table 6 , the effect of aid on economic growth varies below and above this threshold level. Below the threshold level, the impact of aid on economic growth is negative, but it becomes insignificant when economic freedom index exceeds the threshold level. Specifically, a 1-percentage point increase in economic freedom below the threshold level costs 0.3% in economic growth. The observed negative effect of aid on economic growth when economic freedom is below the threshold level of 53.481 might be for two reasons.

Firstly, the low level of economic freedom index is an indicative of huge involvement of government in the overall economy than private sectors. In situations where government officials are opportunistic and/or corrupt, however, there is little chance for funds obtained through aid to be directed toward productive activities, and thereby promote growth.

Secondly, as found in this study a low level of aid received (below 7.03% of GNI), by developing countries is detrimental to their economy. Some western donors like IMF and WB requires the aid receiving economies to reform their institutions in line of neo liberalism. Countries that show improvement in economic freedom measures will be rewarded with more aid from these donors. Thus, countries with low economic freedom faces difficulties in attracting more aid and thus forced to experience the negative impact of low level of aid received. Out of the 48 sampled countries in this study, 32 have the overall economic freedom index above the threshold level on average. Aid flows to these countries amounts to 5.18% on average while the remaining 16 countries with economic freedom index less than the threshold level managed to attract 4.5% of GNI as aid. Therefore, it implies that countries with better economic freedom are rewarded with more aid than those with poor economic freedom.

5. Robustness check

The nonlinear relationship between aid and economic growth on one hand, and the significant role that institutional quality and economic freedom play in the relationship between the variables on the other, has been established by the panel threshold regression. In order to check if the result obtained is robust to different model specification, the current study employed system generalized method of moment with quadratic and interaction models. The quadratic model was used to determine the tipping point while the interaction models were used to ascertain the conditionality of the relationship between vid and economic growth on institutional quality and economic freedom.

The robustness of the mediating role of quality of institutions and economic is checked by including the interaction term between aid and quality of institutions and between aid and economic freedom in the GMM estimation. As indicated in Table 7 , the estimated coefficients of aid and square of aid are statistically significant at 5% and 10% significance level respectively with opposite sign. Since the sign of coefficient of aid is negative and that of square of aid is positive, we conclude that the relationship between aid and economic growth is nonlinear taking U shape. The tipping point of 15.5% of GNI is, however, more than twice the threshold level established by the dynamic panel threshold regression. Similar to this result, quadratic specification has overstated the tipping point than the panel threshold regression in the study conducted by Law and Singh (2014) . This shows that the use of quadratic specifications in an attempt to test the nonlinear relationship between aid and economic growth, up on which previous nonlinear studies in the aid literature based, is a bit biased. The computed marginal effects shows that the impact of aid on economic growth varies with amount received. Specifically, a 1% increase in aid to GNI ratio costs the economy by 2.1% when evaluated at mean value of aid (4.97), costs the economy by 3.1% when evaluated at the minimum value of aid (−0.28), and promote the economy by 1.8% when evaluated at the maximum value of aid (24.73).

Table 7

Robustness check with quadratic and interaction models.

Note: ∗, ∗∗, ∗∗∗ indicates significance of the estimated coefficients at 10%, 5%, and 1%. Figures in the parenthesis are t-values. Significance test of the marginal effects is based on standard error computation explained in Brambor et al. (2005) and Wooldridge (2012) .

The interaction models also confirm the result established in dynamic threshold regression regarding the role of quality of institutions and economic freedom. As it is vividly shown in Table 7 , standing alone, the impact of aid on economic growth is negative. However, it turns out positive when it interacts with institutional quality. For this interaction model, the marginal effect is not significant when evaluated at mean, minimum, and maximum values of institutional quality. Concerning the role of economic freedom, the negative impact of aid on economic growth becomes positive when interacted with economic freedom, indicating that economic freedom matters. As shown in Table 7 , the marginal effect of the interaction term between aid and economic freedom is significant at all values (mean, minimum, and maximum) of economic freedom index.

6. Conclusion and recommendation

Even though aid is meant to support the economy of developing countries, there are cases against these both at theoretical and empirical level. To this base, the link between aid and economic growth has been extensively researched with linear models so far. Though limited in number, few studies has tested the nonlinearity in relationship between aid and economic growth with quadratic and interaction models. As far as the relationship between aid and economic growth is concerned, however, results from previous studies are mixed. With this background, the current study is motivated to investigate the link between aid and economic growth using a different approach from the previous studies on the subject. This study contributed to literature on aid in three ways. Firstly, the study has tested non-linearity of the relationship between aid and economic growth using an innovative dynamic panel threshold regression. Secondly, the study has estimated threshold level of institutional quality, which developing countries should attain to be benefited from foreign aid. Thirdly, the study has investigated whether economic freedom matters in the relationship between aid and economic growth.

The study findings show that the effect of aid received by sample developing countries on their economic growth depends on amount of aid received, quality of institution, and economic freedom. Specifically, it is found in this particular study that aid received by developing countries should amount to greater than 7.03% of their GNI to promote economic growth, below which it is detrimental than beneficial. Hence, the result provides empirical support for the famous big push theory that advocates developing countries should mobilize huge amount of resources (including aid) to get their economy transformed for the better. The study also found that institutional quality matters in the relationship between aid and economic growth. In order to be benefited from foreign aid, developing countries should have minimum institutional quality index of -0.320. Below this threshold estimate, the impact of aid on economic growth is not negative, but insignificant. As regards to the role of economic freedom, it is found that aid does not perform well under poor economic freedom index. Below the threshold estimate of economic freedom of 53.481, aid harms the economy of the recipient country. Above the threshold level, however, the impact of aid on economic growth becomes insignificant.

The implication is that developing nations should attract sufficiently large amount of aid (above 7.03% of their GNI); and increase quality of institutions and economic freedom to be benefited from foreign aid. The findings obtained in this study should be considered with caveats. First, the threshold estimates established in this study are based on the panel of countries considered and, therefore, might not be appropriate for individual country. Threshold estimates for individual countries needs country level studies. Second, the current study examined the impact of aggregated aid inflow on economic growth. Since the impact of aid on economic growth might differ according to the type of aid received, future similar researches can extend the analysis to the disaggregated aid inflows. Thirdly, owing to small sample of nations selected by this article (only 48), it is inappropriate to further divide the sample in to regions or continents to check robustness of the results by controlling for the regions or/and continents.

Declarations

Author contribution statement.

Chala Amante Abate: Conceived and designed the experiments; Performed the experiments; Analyzed and interpreted the data; Contributed reagents, materials, analysis tools or data; Wrote the paper.

Funding statement

This research did not receive any specific grant from funding agencies in the public, commercial, or not-for-profit sectors.

Data availability statement

Declaration of interest's statement.

The authors declare no conflict of interest.

Additional information

No additional information is available for this paper.

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Events, news & press, a better approach to foreign aid.

Private development finance is vital

F rustration with u.s. foreign aid is widespread. The left complains that the United States does not provide enough money to developing countries. The right laments that aid is an inefficient use of resources. Both sides are to some degree correct. While the United States distributed $ 23 billion in 2006 — more than any other country — it was still very little for the billion people living on less than one dollar a day. And for every dollar given to sub-Saharan Africa, less than 44  cents reached the ground, partially because of inefficient spending and corruption.

Given the justifiable frustration with the current system, there have been surprisingly few attempts to fundamentally alter the architecture of foreign aid. Suggestions for change usually take the form of either advocating for more aid or calling for a different distribution of existing resources. Typifying the first of these approaches, Barack Obama recently suggested that the United States double its aid spending to $ 50 billion a year. Epitomizing the second is the Millennium Challenge Corporation, a government initiative touted by President Bush in his 2007  State of the Union address that distributes a portion of U.S. foreign aid based on the political and economic environment in the recipient country.

This focus on either growing the pie or distributing it differently takes as a premise that the current system of government-to-government aid is the best way forward. We suggest a different path. Rather than providing aid according to the wishes of foreign governments, the United States should provide incentives to encourage corporations and individuals to distribute development dollars. In 2006 , $ 380 billion of foreign direct investment flowed to developing countries and $ 220 billion in remittances was sent home by developing-country migrants. As figure 1 indicates, these numbers far surpassed the $ 104  billion in official foreign aid flows. Government policy can act to shape the direction of these dynamic flows of private development capital rather than solely relying on the old model of government-to-government transfers.

One simple way to provide incentives for private development finance is to give tax credits to American companies that invest in developing countries. We will argue that shifting money from government-to-government aid to tax credits would allow more total dollars to be distributed without increasing the cost to the taxpayer (addressing the critique of the left); would reduce money lost to mismanagement and corruption (addressing the critique of the right); and would more effectively foster the building of institutions necessary for sustainable economic development. We will outline how such a system can be put into operation, addressing the types of investments that should qualify for tax credits and which countries should be eligible to benefit from them.

A second way to channel private development finance is to give tax breaks to individuals working in the United States who remit money home. It is easy to forget that the most effective unit of redistribution is the family. Frequently, families are straddled across poor countries and rich countries like the United States. Tax breaks can increase the amount of intra-family redistribution and therefore contribute to global poverty reduction. And by restricting remittance tax breaks to certain countries, U.S. policymakers can involve poor-country diasporas in lobbying for positive political change in their home countries.

Fixing foreign aid is vital to the U.S. national interest. Not only does aid play an essential humanitarian role, but it provides a number of direct benefits to Americans, from opening new markets to alleviating conditions that aid terrorist recruitment. The current system has proven over the past half century that it faces serious challenges. Tax credits for companies, and tax breaks for individuals offer a pragmatic, incremental solution that should appeal to both sides of the aisle.

Channeling investment

T he u.s. government currently distributes most foreign aid directly to or in consultation with foreign government officials. However, an alternative system could be modeled on a successful domestic initiative. In 2000 , Congress established the New Market Tax Credit program to provide a 39- cent tax credit for each dollar American companies invest in poor communities within the United States. The idea behind the program is that business development does more for long-run economic prospects than an aid check. The program did not start distributing funds until 2003 , so there has not been sufficient time to gauge its effect on long-term poverty reduction. However, interest from the business community has been very promising. In 2006,  so many businesses wanted to invest in poor communities because of tax credits that Congress had only enough funding for one-quarter of those who applied.

Using this domestic initiative as a template, Congress should provide a 39 -cent tax credit to American companies for each dollar they invest in certain developing countries rather than distributing all foreign aid to foreign governments. For example, instead of giving $ 3.9 million of aid to the government of Mali, Congress should grant a $ 3.9 million tax credit to an American company for building a $ 10 million factory in Bamako. The cost is exactly the same to taxpayers — the $ 3.9  million is simply going to a private company rather than a foreign government.

Substituting tax credits for traditional foreign aid would have three simple and powerful benefits. A principal advantage is that Mali now receives $ 10 million rather than $ 3.9 million in development finance. The impact of the incremental $ 6.1  million on regular Malians could be substantial. For those who clamor for more aid, this is a cost-neutral way of making a real difference.

Another benefit is that money distributed to developing countries will be spent more prudently. As the economist Jeffrey Sachs has noted, of every dollar given to sub-Saharan Africa, only about 44  cents is actually directed toward economic development. The rest goes to debt service, consultants, and humanitarian emergencies. And after those expenses are subtracted, the remaining money is further reduced by mismanagement and corruption. Yet while government bureaucracies may be notorious for inefficient spending (or worse), American markets reward companies if they use capital efficiently. Because private companies are focused on the bottom line, they will be much more protective of money they invest than government officials, which means more of the aid will reach its intended destination. Combining more total aid with more efficient spending, there could be a severalfold increase in development dollars deployed.

A third important advantage of involving the private sector is that doing so will help to build institutions in developing countries. Institutions, such as a functioning market economy, a fair and enforceable legal system, and basic infrastructure, are vital to development. Yet traditional foreign aid, if it focuses on institution-building at all, does so from the top down. For instance, many U.S., World Bank, and imf  grants require countries to adopt political or economic reforms in order to receive aid. The trouble with this approach is that it does not rely on a genuine desire by constituents within states to reform. There is clearly a desire to get free money. But since many of the states would not undertake reforms without the promised aid, reform occurs largely because it is externally mandated. This may work to some degree, but institution-building is more likely to succeed if states want to do it rather than if they are told to.

A system of tax credits will slowly fuel a desire within states to build growth-friendly institutions. When U.S. companies invest in developing countries, they will foster institution-building in a host of ways. As they interact with local businesses and governments, there will be a formal transfer of knowledge. Malian contractors might learn from U.S. engineers how to build better buildings. More informal idea-sharing will also occur. When American businessmen share meals with Malian political leaders, they will exchange thoughts about what sorts of legal and political reforms would encourage businesses to invest. Furthermore, U.S. companies will, out of self-interest, demand a better business environment. For instance, after making an initial investment in Mali because of tax credits, General Electric might be more likely to increase its presence in the country if the government invests in infrastructure, such as its road and sewage systems. Tax credits thus take seriously the notion that in order for reform to succeed over the long run, there must be a genuine demand for institutional development from constituents within  a country rather than only from government bureaucracies on high.

In sum, tax credits for U.S. companies promise more aid, less waste, and the hope of better institution-building than government-to-government assistance. The next question is how a system of tax credits should be designed — which sorts of investments should qualify for credits, which countries should be eligible to benefit from them, and what the total size of the program should be.

Value creation, not transfer

Only certain business investments should qualify for tax credits. When developing countries offer tax subsidies for foreign investment, they tend to favor investments that will create jobs or bring in new technologies. Similarly, a system of U.S. tax credits should be structured to encourage investments that will generate benefits for the recipient country. Tax credits should therefore be restricted to new investments rather than the acquisition of existing companies (even though the latter officially counts as foreign direct investment, or fdi ). New investments will generate new industry, and therefore jobs, technologies, and skills development. In contrast, if U.S. firms were permitted to use the tax credits to purchase already-existing businesses at a discount, Malian firms would be at a competitive disadvantage.

Even a tax credit restricted to new investment could still harm businesses in the recipient country if subsidized U.S. firms beat out local ones. To prevent this from occurring, tax credits should be restricted to new investments that do not harm local business. There are three broad categories that fit this restriction: export-oriented investments, investments that require large capital outlays, and investments that bring in substantial positive spillovers.

Export-oriented investment can be subsidized without harming existing domestic firms. A new footwear manufacturer in Mali selling shoes to the European Union, for example, would have little effect on the profits of an existing footwear manufacturer selling shoes to the same market. After all, Malian exporters comprise such a small share of European consumption that different exporters do not really compete with one another.

Similarly, investments that require large capital outlays may not harm domestic businesses even if the proposed market is internal. Development scholars believe credit constraints are a key impediment to development, and as a result sectors that are capital-intensive are likely to be relatively immature in poor countries. Thus, the tax credits could be used to jump-start industries such as equipment manufacturing or greenhouse farming that might not take off in the absence of subsidies.

Tax credits could also be used to finance investments that generate major positive spillovers, even if they are neither export-oriented nor capital-intensive. Investments with substantial positive spillovers might transfer a new technology to the recipient country, such as a precision manufacturing plant, or improve the business environment for domestic firms, such as a for-profit stock market. The key point is that even though such investment entails profit being earned by foreign owners rather than local firms, certain types of investment produce substantial local returns that benefit the recipient country long after dividends have been remitted abroad — in the form of employment, know-how, and more nebulous benefits like reducing market frictions.

In order to ensure that tax credits go toward investments that benefit the recipient countries, the United States can establish an application process for tax credits similar to the process it established for the domestic New Markets Tax Credit program. As with the domestic program, companies seeking tax credits would submit an application to the Treasury Department detailing how they would spend the money. Treasury officials would review the applications against pre-established criteria, awarding tax credits to those who will make best use of the funds.

Eligible countries: Mali, not China

D evelopment tax credits for U.S. businesses should be restricted not only to certain investments, but also to certain countries. Most important, eligibility criteria should target countries that will not threaten American workers. Therefore, only poor countries that have been bypassed by American investors in the past should qualify. To this end, there should be a cap on gdp  per capita for eligibility. Moreover, eligible countries should have a low existing stock of U.S. investment. This will ensure that countries like Mali and Mozambique are the recipients rather than China or Mexico.

In addition to protecting U.S. workers, guidelines should ensure that investments do not prop up corrupt regimes and that, where investments are made, they can be reasonably supported by the political environment. Consequently, tax credits should be permitted only for investments in countries that, at the very least, are not blacklisted by the State Department, have reasonable political and civil rights, and are democratic. We would favor the use of indicators provided by respected third parties such as Transparency International (which rates countries on their corruption levels), Freedom House (which rates countries according to their civil and political liberties), and the conflict group at the University of Maryland (which analyzes the level of democracy in countries).

Matching these criteria to country data allows a determination of the potential size of a development tax credit program, as described in Table 1 . Eliminate all countries whose gdp per capita in purchasing power parity is above $ 2,500 as well as countries that have a substantial existing stock of U.S. foreign direct investment. Exclude countries in the bottom half of civil and political liberties, as measured by Freedom House, and countries with a low level of democracy, as reported by University of Maryland researchers. Eighteen countries, listed in Table 1 , remain. Then calculate how much fdi  is required for these countries to reach $ 10 of U.S. direct investment per person, approximately equivalent to that in Ghana or Croatia. (In comparison, there is over $ 650  U.S. direct investment per person in Mexico.)

According to this exercise, U.S. companies should be encouraged to invest approximately $ 4 billion in developing countries. Multiplied by the $ 0.39 tax credit, this implies Congressional allocations on the order of $ 1.5 billion. If this were provided over five years, the $ 300 million per year would represent only 1.3  percent of foreign aid. As such, a development tax credit could be rolled out relatively cheaply — initially just an incremental change to U.S. foreign aid policy — and if the results are encouraging, the program can be expanded. Much as private companies test new products in the market, the U.S. government should experiment here, especially since the cost is relatively low, the potential benefits significant, and the current foreign aid regime wanting.

Remittances and individual tax credits

T he other major  flow of private development finance occurs not through large companies but at the level of the family. Many families have a husband, daughter, or cousin living and working in a developed country. Research has shown that remittances lead to increased schooling and entrepreneurship in the recipient family and that foreign migrants help to “insure” their family members at home who suffer from income shocks.

Using the U.S. tax system to encourage and channel person-to-person remittances can also work, in principle, to achieve development and foreign policy goals. Given the decentralized nature of remittances, this innovation would be difficult to implement, but we nonetheless sketch how such a policy might be structured.

Congress could authorize changes in the personal income tax code that would enable individuals to deduct from their pre-tax income contributions earmarked for remittance. The contributions would be routed through pre-approved financial institutions in the recipient countries. As with the tax credits for investments, only the qualified developing countries described above would be eligible. The remitter would have the option to allocate her funds to one of several productive uses in her home country. For instance, she could pay the tuition of a family member at a post-secondary institution. She could make monthly payments on business loans or home mortgages (some of which already qualifies under existing tax law). Or she could put it in long-term savings products to prepare for her eventual return while funding domestic investment through the banking system.

This system has many of the advantages of the tax credit to companies. First, it can be structured in a revenue-neutral fashion by reducing the traditional foreign aid budget by a dollar for every dollar granted in tax benefits. If the typical marginal tax rate of a remitter is 30 percent (and it might often be 15 percent), a one-dollar reduction in foreign aid can lead to over $ 3  in increased private development assistance.

Second, remittance tax credits can reduce leakage and waste. Since funds go directly to beneficiaries in poor countries, the remittances would bypass the consultants and administrators who populate the current foreign aid approach. And the beneficiaries would, under the constraints outlined above, manage their own funds and certainly be vigilant about corruption or misuse.

Third, as with tax credits for business investment, restricting remittances to certain countries with good policies, democracy, and respect for human rights can serve as a catalyst for positive institutional change. Imagine the lobbying power of millions of immigrants in the United States who cannot qualify for the tax break because their government at home is relatively corrupt. Many countries like the Philippines and Cape Verde depend on their emigrants for contributing to family members who have not left. The diaspora is an important constituency for lobbying for change in these and other developing countries.

A tax break for remittances would bring additional benefits to the United States. Many migrants intend to return to their home countries once they have saved up enough money, and a well-thought-out system would allow them to plan properly for their return. This mirrors the incentives the tax system offers to U.S. citizens to plan for their own retirement through pre-tax retirement deductions. Moreover, by taking the lead among developed countries in allowing remittances to be deducted pre-tax, the United States would be able to attract talented foreign workers who have their choice of rich countries within which to work. The foregone domestic consumption from increased remittances (up to a few billion dollars) would be minuscule compared to the nearly $ 10  trillion of existing U.S. consumption. In any case, the political benefits of mobilizing the diaspora, allowing migrants to plan for a return home, and attracting foreign talent would outweigh the negligible amount of lost consumption — though the effect on consumption should be monitored to ensure that it does not become meaningful if the remittance program grows.

Without a doubt, subsidizing remittances would pose some challenges. For one, many remittances will occur anyhow without a tax break, so to be justified the program would have to be structured to generate new remittances. Second, clever remitters could evade taxes by sending income home tax-free, only to work with a financial institution on the other side to transfer it back. This could be dealt with through an effective bilateral remittance treaty, complete with monitoring mechanisms of the implementing financial institutions. While this seems like an administrative hassle, remember that there is already a web of bilateral trade and investment treaties — even between much smaller economies. Surely the cost of overseeing a remittance scheme run through private institutions would be far lower than the cost of implementing the same amount of government-to-government foreign aid with its program design, procurement, and evaluations overseen by a cadre of American overseas bureaucrats.

Yes, this is foreign aid

T raditional government-to -government aid can be spent by the recipient country on public goods the private sector might not supply, such as medicine for those who cannot afford it and public schools. Defenders of the status quo might therefore argue that tax breaks do not allow for public goods spending, since these breaks go to businesses and individuals, both private  recipients. There is merit to such an argument, and public goods are clearly a worthwhile use of money, which is one reason we suggest transferring only some taxpayer dollars from traditional aid to tax credits. Yet a body of academic research shows that private capital flows can raise wages and create positive spillover effects in the host country. These are valuable benefits which over the long run will allow a country to provide for its own public goods rather than relying on foreign handouts to do so.

In fact, developing countries have themselves already understood what current U.S. foreign aid policy has not — that private development finance is vital to long-run development. The best evidence of this is that many developing countries are already spending their own money on tax credits to attract foreign investment and on programs to enable their citizens to seek work overseas. World Bank studies show that tax credits and investment promotion work to attract foreign investment, so it is not surprising that countries spend money in these areas. Of course, these countries have no shortage of competing priorities that require funding. A system of U.S. tax credits and breaks would allow the benefits of foreign investment and remittances to take hold much more quickly and without breaking the bank of developing countries.

A development tax credit thus represents a shift in the delivery of foreign aid. It is a move from handouts to empowerment, from less aid to more, and from waste to efficiency. It is what developing countries themselves recognize as the key to long-run sustainable growth. And since tax credits and pre-tax deductions can be adopted incrementally, they are a pragmatic way to introduce changes to the model of foreign assistance.

More broadly, employing the tax system for development is a way to use government incentives to encourage and channel private transfers that will have a great impact on reducing poverty. Large government-to-government aid programs worked well in the period immediately following World War II, when the Marshall Plan brought the economies of Europe and Japan back up to speed. But those nations already had experience with market-driven prosperity and the institutions to support it. What was missing was a stimulus to demand (plus foreign exchange), and foreign aid packages provided that. However, countries that have escaped poverty in the postwar era have largely done so through harnessing the productive capacities of the private sector — frequently foreign investment. It is time that policymakers heed the lessons of development success stories from the second half of the twentieth century and rethink the old foreign aid paradigm.

Justin Muzinich lives in New York and works for a hedge fund. Eric Werker is assistant professor in the Business, Government & International Economy unit at Harvard Business School.

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Articles on Foreign aid

Displaying 1 - 20 of 155 articles.

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Weighing the Pros and Cons of U.S. Foreign Aid

| By Gale Staff |

With unobstructed access to international affairs tucked into our pockets, it’s nearly impossible for students to avoid a constant stream of troubling images. A scroll through social media means seeing apartment buildings in Ukraine reduced to rubble by Russian artillery, Gazan skylines left in ruins, and Taiwanese protestors marching for democracy amidst rising tensions with China .

News reporting on sensitive and complicated topics can come with bias, half-truths, and misinformation. Students curious or anxious about these global events might find themselves sifting through these varied narratives, seeking clarity but encountering sources that don’t always present both sides of the issue.

The content available through the Foreign Aid topic page housed in Gale In Context: Opposing Viewpoints presents curriculum-aligned resources without bias. Instead, this trustworthy, educator-vetted repository of information invites learners to explore diverse perspectives and form their own educated opinions about international conflict and our nation’s role in geopolitical issues.

One timely and relevant way to cultivate these critical thinking skills is to examine current legislative efforts, such as the foreign aid package that passed through with a 79-18 Senate vote on April 23, 2024. The $95 billion is allotted for American allies, with $60.8 billion in aid for Ukraine, $26.4 billion to support Israel and provide humanitarian assistance to Gaza, and $8.1 billion for Taiwan.

Evaluating these current events gives real-world context to the concepts students study in civics and history classes, immersing them in the complexities of global affairs and how they relate to America’s objectives in providing foreign aid .

A History of America’s Foreign Aid Policies: From Isolation to Intervention

American thinking about international strategic interests and humanitarian efforts has been in flux since the nation’s founding, from its early days of cautious isolationism to becoming the world’s foremost contributor of foreign aid . As such, students must trace how U.S. foreign aid policies have changed over time to see how past decisions shape current geopolitical dynamics and influence American responses to global concerns.

The timeline provides a few notable examples of these policy decisions to help fuel initial research and discussion into the topic:

1823: President James Monroe opposed European colonialism in the Americas while emphasizing neutrality in European conflicts. This Monroe Doctrine laid the groundwork for a century of American isolationism.

1914–17: The U.S. maintained its policy of neutrality as World War I ripped through Europe, reflecting the continuing isolationist sentiments of the time. It wasn’t until German submarines began sinking ocean liners carrying American passengers that the United States military joined the fight.

1933: President Franklin Delano Roosevelt’s Good Neighbor Policy opened the possibility of pursuing diplomatic relations with countries across Central and Southern America, but continued to emphasize non-intervention and non-interference.

1941: With the passage of the Lend-Lease Act of 1941 , the U.S. supplied military aid to Allied nations during World War II while still not formally engaged in combat, blurring the line between isolationism and direct intervention.

1948: In the wake of World War II, the Marshall Plan provided $13.3 billion ( $169 billion, adjusted for inflation ) to help rebuild European economies, both as a humanitarian effort and as a strategic move to counter Soviet influence during the Cold War.

1961: American foreign aid policies expanded and became more centralized with the founding of the United States Agency for International Development (USAID). In cooperation with the Department of State, USAID administers foreign aid to uphold America’s geopolitical interests and address international humanitarian concerns.

1973 : In the wake of the Vietnam War, isolationist sentiment surged , and Congress cut foreign aid spending.

1990–91 : Iraq’s invasion of Kuwait during the Gulf War prompted U.S. military intervention with Operation Desert Storm to prevent Iraq from taking control of one-fifth of the world’s oil supply.

2001: After the September 11 attacks, the U.S. significantly increased aid tied to strategic military objectives in Afghanistan and Iraq to c ombat terrorism and rebuild infrastructure .

2003 : President George W. Bush signed the United States Leadership Against Global HIV/AIDS, Tuberculosis, and Malaria Act of 2003 and launched the President’s Emergency Plan for AIDS Relief (PEPFAR). This humanitarian initiative has since provided billions in health aid, furthering the nation’s status as a global leader in combatting public health crises.

2020 : U.S. foreign assistance obligations for peace and security funding dropped in favor of health and humanitarian assistance, reflecting our response to the COVID-19 pandemic.

Modern Foreign Aid Objectives

Once students understand the historical evolution of America’s foreign aid policies, they can begin to evaluate the objectives that guide contemporary U.S. efforts in global affairs and how they act as a framework for government involvement. Each objective encompasses a range of sectors intended to support international development and peace, but these often provoke debates about their efficacy and ethical implications.

Learners can use the Gale In Context: Opposing Viewpoints Foreign Aid page as an all-in-one research destination for objective, informational resources. With Gale’s curated collection, teachers don’t need to pre-screen materials or risk inappropriate or inaccurate information.

To give students a launch point to begin their research, it may be helpful to front-load the information by providing a general outline of the arguments for and against each global affairs objective.

Economic and Development Assistance

The Office of Foreign Assistance —the department responsible for supervising and allocating foreign aid programs through the U.S. Department of State and USAID—classifies foreign aid into three categories.

The first is economic and development assistance, which is intended to “advance our national security by helping countries meet near-term political, economic, and development needs.”

As such, economic and development assistance contributes to health, education, agriculture , and infrastructure, fostering stable, prosperous societies that can participate in the global market and are less prone to conflict.

Example Arguments For:

Investments in developing nations can have a positive impact worldwide by creating stable societies less prone to conflict and economic collapse and opening new markets for U.S. trade. There’s also a moral imperative to support health and education efforts because they are necessary steps toward lifting communities out of poverty .

Example Arguments Against:

Domestic issues like healthcare, education, and infrastructure should take precedence over funding improvements for foreign nations. Money spent abroad would be better invested in improving the quality of life at home. Additionally, there’s a danger that we might inadvertently undermine the recipient’s culture and social structure by imposing Western values and economic models that are misaligned with local needs.

Humanitarian Assistance

Humanitarian assistance is designated for supporting “disaster and emergency relief efforts, including programs that save lives, alleviate suffering, and maintain human dignity.”

Organizations use this money to provide immediate relief in crises, such as constructing refugee camps and addressing access to food, clean drinking water, and medical care.

To prevent subsequent issues like mass migration or disease outbreaks, wealthier nations must provide aid to stabilize communities post-disaster. Humanitarian assistance also supports global security efforts by addressing high-stress conditions that can quickly lead to internal conflict.

These funds might provide short-term relief, but unless we deal with the underlying causes of the crises, we’re only creating cycles of repeated emergencies that require even more funding.

Security Assistance

The final category, security assistance, goes toward “Foster[ing] stability and security abroad by strengthening the military and law enforcement forces in our partner countries through capacity building and training and helps countries purchase defense equipment and services produced in the United States.”

Ukraine’s $60.8 billion aid package partially falls under this category, as some of it will be used for weapons and ammunition .

Aiding allies and participating in peacekeeping missions prevents conflicts from escalating and spreading, which also helps safeguard global stability and security . For example, our decision to assist Ukraine in its efforts to defend its territory against military incursion prevents further regional destabilization that could ripple out into a much larger conflict.

Intervention in foreign military efforts comes at a cost to taxpayers while diverting resources away from our own crises, like underfunded veteran assistance programs. That money could be used to provide better mental health support services and address the fact that veterans are 1.5 times more likely to commit suicide than the rest of the population.

Our funding of foreign military interests also risks exacerbating conflicts, fueling victory efforts rather than encouraging ceasefires and compromise.

Suggested Discussion Questions

Consider using these discussion prompts to assess learners’ use of evidence in constructing oral arguments or as a pre-writing activity for an argumentative essay.

• U.S. foreign aid seeks to promote peace, but in doing so, it may also foster intra- or international conflict. What measures are necessary to minimize the adverse outcomes of geopolitical intervention?
• What are the long-term impacts of investing in education and health in developing nations? How might these investments influence economic and social dynamics on a global scale?
• Discuss the challenges and opportunities in promoting transparent governance in countries with different cultural and political backgrounds. How can foreign aid support democratic processes without imposing Western values?
• Reflect on the relationship between humanitarian assistance and global environmental changes. How should the U.S. adapt its humanitarian efforts in response to the growing frequency and severity of natural disasters due to climate change?

Prepare Students to Be Engaged Citizens With Gale In Context: Opposing Viewpoints

With the resources available on the Gale In Context: Opposing Viewpoints platform, students can explore some of the most contentious topics impacting our world.

Learners can dig deeper into everything from immigration to automation in the workplace with a wide range of multimedia materials, including: infographics, statistics, videos—and more than 20,000 pro/con viewpoints and 19,000 reference articles. All are presented without bias and within an easy-to-use interface that makes finding the right information a breeze.

Reach out to your local sales representative to learn more about Gale In Context: Opposing Viewpoints and request a free trial.

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By Sapna Maheshwari and Amanda Holpuch

Concerns that the Chinese government could access sensitive user data through the short-form video app TikTok, which is owned by the Chinese company ByteDance, have prompted the U.S. government to pass legislation banning the social media platform unless it is sold to a government-approved buyer.

After President Biden signed into law legislation that gives ByteDance up to a year to divest from TikTok, the company sued the federal government in a case that is likely to end up in front of the Supreme Court.

Here’s why the pressure has been ratcheted up on TikTok.

It all comes down to China.

Lawmakers and regulators in the West have increasingly expressed concern that TikTok and its parent company, ByteDance, may put sensitive user data, like location information, into the hands of the Chinese government. They have pointed to laws that allow the Chinese government to secretly demand data from Chinese companies and citizens for intelligence-gathering operations.

They are also worried that China could use TikTok’s content recommendations to fuel misinformation, a concern that has escalated in the United States during the Israel-Hamas war and the presidential election. Critics say that TikTok has fueled the spread of antisemitism.

TikTok has long denied such allegations and has tried to distance itself from ByteDance, which is considered to be one of the world’s most highly valued start-ups .

Have any other countries banned TikTok?

Yes, India did in 2020 , costing ByteDance one of its biggest markets. The government there cracked down on hundreds of Chinese-owned apps , claiming in part that they were secretly transmitting users’ data to foreign servers.

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