Examining Foreign Aid Fungibility in Small Open Economies

The paper uses a non-scale growth model to examine the behavior of a small open economy to varying degrees of foreign aid fungibility. Shifting government resources to public consumption while allocating the aid to either type of public expenditure or as a pure transfer changes the productivity of t...

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Bibliographic Details
Published in:Open economies review 2012-09, Vol.23 (4), p.675-712
Main Author: Byron, Sharri
Format: Article
Language:English
Subjects:
Accumulation
Capital
Capital accumulation
Consumption
Development Economics
Economic development
Economic growth
Economic models
Economic Policy
Economics
Economics and Finance
European Integration
Expenditures
Foreign aid
Government
Government policy
Government spending
Growth models
International Economics
Macroeconomics/Monetary Economics//Financial Economics
Neoclassical economics
Open economies
Political economy
Politics
Productivity
Public expenditure
Research Article
Resource allocation
Simulation
Studies
Trade-off
Volatility
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Summary:The paper uses a non-scale growth model to examine the behavior of a small open economy to varying degrees of foreign aid fungibility. Shifting government resources to public consumption while allocating the aid to either type of public expenditure or as a pure transfer changes the productivity of the private factors in production. Agents respond, as with any government transfer, by adjusting consumption, debt and work effort. Private capital accumulation slows and the welfare effect dominates. The fungibility results maintain for parameterizations that reflect limited substitution in production and where the public capital externality is small. The analysis, which employs extensive numerical simulations, emphasizes the tradeoffs between long-run capital accumulation and welfare that maintain even when aid is fungible. The simulations highlight the complementarity between foreign aid and public expenditure, the tradeoff between welfare and capital accumulation, and that aid cannot replace the government’s own commitment to financing public expenditure. The results suggest that a policy in which the government is required to maintain its expenditure commitment to public capital yields the highest level effects to capital accumulation, consumption and output.
ISSN:0923-7992
1573-708X
DOI:10.1007/s11079-011-9209-1