Ethnic Fractionalization and Aid Effectiveness

We test the hypothesis that the effect of foreign aid on economic growth is positive in ethnically homogenous countries, but decreasing in ethnic fractionalization. Using panel data covering 114 aid recipient countries over the period 1962 to 2001, and employing two-stage least squares and GMM estimation techniques, we find strong support for this hypothesis. Our estimates suggest that foreign aid may have retarded economic growth in many fractionalized countries, most of which are located in Sub-Saharan Africa.