This paper seeks to contribute to the debate on the impact of foreign aid on economic development by exploring the implications of aid allocation by sector for the aid-development nexus. The study focuses on some of the two important dimensions of social and human development namely education and health. It seeks to explore the following questions: does an increase in the volume of foreign aid help ameliorate human development outcomes at the country level? Does the sectoral allocation of official development assistance matter for its impact on human development? Are gender outcomes influenced by the sectoral allocation of foreign aid?
The paper uses aid data from the OECD-DAC that are disaggregated by sector along various dimensions of human development. We investigate the effects of foreign aid on human development and gender equity by considering not only total foreign aid inflows but also aid allocation to social sectors. This analysis may help assess the gains in human development and gender equity from targeting particular social sectors such as education and health in the allocation of foreign aid.
Key Findings:
- The overall impact of aid on human development depends significantly on initial conditions. Specifically, high initial human development is associated with higher human development in subsequent years, and conditional on initial human development, foreign aid is negatively related to subsequent human development. However, when initial conditions are not controlled for, higher aid is associated with higher human development. These results are consistent with the fact that while the poorest countries receive relatively more aid as a result of the design of the development assistance model, they perform relatively poorly compared to higher-income countries because of structural factors that constrain growth and development in poor countries. The results are consistent with the observed persistence of gaps in human development across income levels and regions.
- This finding suggests that aid evaluations that do not take into account initial conditions are likely to underestimate the impact of aid on development outcomes. Rather than measuring absolute progress towards the achievement of outcomes, such evaluations should be country-specific, and should measure progress relative to the starting point of each individual country.
- The results also suggest that an increase in the share of the government budget allocated to education and health not only improves overall human development, but it also ameliorates gender-specific development outcomes. In particular higher government investment in education reduces the gender gap in youth literacy, while increased spending on the health sector in general and on health infrastructure (clean drinking water and modern sanitation) reduces maternal mortality. High age dependency is a drag on overall human development as well as on gender-specific development outcomes. Furthermore, the evidence shows substantial cross-regional variations, especially with SSA and South Asia performing relatively worse than other regions in social and human development.
- The evidence suggests that developing countries are likely to reap substantial benefits from increased targeted allocation of foreign aid to health, education and social infrastructure, especially clean drinking water and improved sanitation. Moreover, effective targeting of development and increased access by girls and women to social services and infrastructure are effective strategies for not only accelerating overall human development but also for improving gender equity.