Direct & Indirect Effects of Aid Volatility on Growth: Do Stronger Institutions Play a Role?

This paper develops a political economy model to analyze the direct and indirect effects of aid volatility on growth and the outcome of higher institutional quality on the effect of aid volatility on growth. Using time-series cross section data for 77 countries from 1984-2007, the effects of aid volatility on growth are empirically tested. It is concluded that the relationship between growth aid volatility is significantly negative and dependent on the level of institutional quality. The results are robust to additional covariates, alternate sub-samples, non-linearities, different period averages and various computations of aid volatility.