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Will the financial crisis reduce foreign aid?

Shanta Devarajan's picture

This question comes up frequently in discussions with policymakers, civil society and journalists. Two things need to happen for the crisis to lead to a significant reduction in foreign aid. First, the financial crisis has to lead to a major recession in donor countries. Second, the recession leads to such fiscal constraints that foreign aid is cut. Since the first is the subject of intense discussion among macroeconomists around the world (not all of whom agree) that a recession is inevitable, I looked into the second. How has foreign aid varied during previous recessions? According to my colleague Rocio Castro, “after a period of stagnation throughout the 60s, Official Development Assistance (ODA) has been on an upward trend since the mid 70s--except for the period of 1992-97 when it declined in real terms. This downward trend may have been linked to the economic recession of the early 90s, but it would be hard to tell to what extent.” This point is confirmed by a recent paper by Pamela Paxton and Steve Knack, which shows that aid is motivated largely by non-economic factors.

Official Development Assistance (ODA) in $ Millions

Source: World Development Indicators


I think the decline in the 1990s had much more to do with the collapse of the Soviet Union, which removed the Cold War rationale for aid. A long literature confirms that a lot of aid is motivated by non-development foreign policy concerns--the Cold War, the "Global War on Terror", the U.S. war on drugs, policies of maintaining ties with former colonies, or with oil exporters, etc. I'd guess that *that* kind of aid is less vulnerable going forward. Aid that is more developmental in motivation is probably more vulnerable. I'd guess that the "donor darlings" like Uganda and Tanzania are therefore most vulnerable to cuts. At, I show what has happened to aid after past rich-country financial crises: down every time.

Submitted by iacopo on
According to the ActionAid Italy econometric paper written by prof. Cornia assessing the influence of internal donor political and economic variables in aid allocation( , income per capita is not a main determinant of aid, while income inequality, high debt negatively affect aid. Economic growth and trade balance both have positive effects. In conclusion, the current crisis is going to worsen all indicators positively supporting an increase in aid allocations.

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