Aid disaggregation, endogenous aid and the public sector in aid-recipient economies: evidence from Côte d’Ivoire

A major problem with much of the existing literature on aid effectiveness is the neglect of the heterogeneous character of aid inflows. This paper attempts to address this gap by examining the impact of different aid types (project aid, programme aid, technical assistance and food aid) on the fiscal sector of the aid-recipient economy in Côte d’Ivoire, 1975–99. It argues that the policy lessons from major studies, such as Boone (1996), Burnside and Dollar (2000) andAssessing Aid(World Bank 1998) should be re-evaluated in the light of this papers findings.

The paper finds that unlike when a single (aggregated) value for aid is used, results obtained under the assumption of aid heterogeneity suggest that the government responds differently according to the nature of the aid inflows. While the direct impact of aggregated inflows appear to lead to an increase in government consumption, and a decrease in public investment, tax revenue and borrowing, the impacts of disaggregated aid differ according to the nature of the aid:

• technical assistance and food aid were mainly directed towards financing consumption
• project aid and programme aid were used mainly for investment purposes
• changes in project aid affect public investment negatively, but have a positive impact on government consumption
• in contrast, programme aid affects public investment positively, and consumption negatively
• technical assistance and food aid changes are associated with positive changes in public investment and negative changes in government consumption

The paper argues that the findings concerning taxation provide a robust challenge to the widespread view that aid inflows encourage the government to abandon its tax collection efforts. Further, it argues that a reduction in the tax effort could in fact benefit the private sector and individual households.

The paper makes a number of policy recommendations:

• all those involved in the aid business should be a ware of the potential aggregation bias associated with most previous aid effectiveness studies, and should therefore re-evaluate the policy lessons drawn from such studies, including for example the assertion that all types of foreign aid are fungible
• coordination among donors regarding the delivery of project aid in particular and the sustainability of individual projects are vital for aid effectiveness, which may help improve the efficiency of project aid and therefore reduce the dependence of public investment on inflows
• increasing the grant element of project aid and programme aid could help developing countries achieve several important goals, including a) reducing tax revenue in a way that benefits the private sector and achieves income distribution (by targeting tax reduction at the poorest part of the population) and b) helping aid recipients alleviate their debt burden

The paper concludes that it is important to understand how aid works, and in particular how different types of aid work in order to design policies that further aid effectiveness.