Tied to capital or untied foreign aid?
AuthorMichael, Michael S.
Marrewijk, Charles Van
SourceReview of Development Economics
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A two-country trade model of foreign aid is developed. The aid-receiving country suffers from Harris-Todaro type unemployment. Aid is either untied, tied to sector-specific capital, or tied to intersectorally mobile capital. These types of aid are compared by examining their terms-of-trade and welfare effects to show that (i) welfare paradoxes are possible, (ii) the world as a whole may gain from aid, (iii) a conflict of interest concerning the type of aid may arise between donor and recipient, and (iv) under plausible conditions untied aid is better for the recipient and the world.