Monday, June 11, 2007

Does Aid Increase Economic Welfare

Does AID increase economic and social development for developing countries?

Advantages of aid.

1. Provides foreign capital which can be used for investment and increasing productive capacity of the economy.
  • However, a large % of aid is tied aid. This means it is fixed for certain investment projects which benefits the donor countries. In a sense this is not really aid, but it is classed as Aid. (e.g. building of dams in Argentina)

2. Can be important for solving economic, environmental and food crises. Without aid the developing country would struggle to rebuild. e.g. after tsunami disaster.
  • However, there is concern aid can lead to dependency. Developing countries come to rely on aid and lose incentives to improve productivity. This depends on the type of aid given. E.g. some aid can be just to improve infrastructure, this is more beneficial than handouts.

3. Food aid can harm local farmers. An increase in supply from the west can drive down market prices. Because demand is inelastic for food, lower prices can lead to lower revenues. This was a real problem when the EU "dumped" its surplus on world Markets.
  • However, if food aid is temporary, e.g. in a famine low prices are not concern. Food aid needs to be short term and specifically targeted to avoid this potential problem.

4. Foreign aid has its limitations in increasing productive capacity. Arguably long term growth requires building up trade and new industries.
  • However, aid could play a role in improving trade performance. For example, aid could be used for education and training to increase labour productivity. This enables the country to become more competitive in the long run.

5. Aid can be used to prevent environmental damage. E.g. securing the purchase of rainforest and prevent exploitation of natural resources.
6. Aid and Corruption
A real problem with Aid is making sure it gets to the targeted people. This can actually be quite difficult in countries with more infrastructure. The problem is exacerbated when countries experience civil war. Unfortunately, aid often does not reach the intended recipients.

There is no guarantee that Aid will improve economic and social development; however, there is no reason why it cannot increase economic and social development, if this it is targeted in the right way.

See also:

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