I.C.N.I.E.

“… regardless of the situation — for example, in countries that have adopted sound economic policies or improved government institutions — or the type of assistance involved, aid does not appear to stimulate growth over the short or long term.”

Challenging the simplistic but seductive view that increased assistance from rich countries is likely to put many poor countries on the path to prosperity, a new study on the impact of foreign aid finds “little evidence” that it ever has a positive effect on economic growth.

In Aid and Growth: What Does the Cross-Country Evidence Really Show? (NBER Working Paper No. 11513), co-authors Raghuram Rajan and Arvind Subramanian conclude that regardless of the situation — for example, in countries that have adopted sound economic policies or improved government institutions — or the type of assistance involved, aid does not appear to stimulate growth over the short or long term.

They point out that their exhaustive analysis should not be taken as an argument that aid cannot ever help the growth of countries that receive it, only that there is “no discernible robust impact of aid on growth, positive or negative” in the past.

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Strong evidence of China’s emergence as a global economic powerhouse are these twin facts: a large foreign exchange reserve that China is holding, especially in dollar-denominated assets, and a large amount of foreign direct investment (FDI) going into China that rivals FDI into the United States.

A popular (and politically charged) explanation for these facts runs as follows: China’s rapid rise in the foreign exchange reserve is a consequence of its mercantilist policy, exporting like mad by relying on a deliberately undervalued currency, cheap labor, and foreign investors, particularly those from the United States.

But in The Chinese Approach to Capital Inflows: Patterns and Possible Explanations (NBER Working Paper No. 11306), authors Eswar Prasad and Shang-Jin Wei suggest that the reasons behind China’s increased foreign exchange reserve and its success at attracting FDI — as opposed to more volatile financial and equity markets –are too complex for this kind of simple theory. They argue that: the mercantilist explanation is an “intriguing story, but the facts do not support it.”

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