Page 1 of 15
Archives of Business Research – Vol. 9, No. 6
Publication Date: June 25, 2021
DOI:10.14738/abr.96.10395. Duramany-Lakkoh, E. K. (2021). Foreign Aid and Economics Development Nexus: The Case of Sierra Leone. Archives of Business
Research, 9(6). 219-233.
Services for Science and Education – United Kingdom
Foreign Aid and Economics Development Nexus: The Case of
Sierra Leone
Ezekiel K. Duramany-Lakkoh1
Department of Accounting and Finance, Faculty of Management Studies
Institute of Public Administration and Management
University of Sierra Leone. A.J. Momoh Street
Tower Hill, Freetown Sierra Leone
ABSTRACT
This study investigates the impact of foreign aid on economic growth in Sierra
Leone using cointegration and error correction methodology by Johansen and
Juselius (1990). Utilizing secondary data for the period 1970 to 2018, the empirical
estimation revealed that foreign aid in Sierra Leone is positively and significantly
related to economic growth both in the short run and long run, confirming the
importance of the study. The policy implication of the study is that the Sierra Leone
government should seek more foreign aid to accelerate economic growth and
development.
Key words: Foreign Aid in Sierra Leone, Economic Development in Sierra Leone
INTRODUCTION
In Africa, more than $600 billion of foreign aid has been transferred since 1960s. Evidence also
shows that the continent has shown slow economic development, regardless of increasing
amount of aid. Like other developing countries, Africa’s debts continue to increase, as a
percentage of gross domestic products. The indebtedness of African countries constrained the
achievement of the Millennium Development Goals (MDG). According to the Human
Development Report of 2014 of the United Nations Development Program (UNDP), 70.8% of
48 the countries that did not achieve the MDGs are in Africa.
Aids are usually given to assist poorer nations to effects reconstruction, rehabilitation or some
structural reforms that should improve economic development of standard of living of the
citizenry (Abouraia, 2014). Foreign aid is a significant financial source for developing countries,
including Sierra Leone. When domestic growth is constrained, foreign aid is expected to
substitute in stimulating economic growth and provide sources of finance such as savings;
thereby increasing the amount of investment and capital stock in the country (Njeru, 2003).
Foreign aid could also influence investment in human and physical capital, the importation of
capital goods or information technology transfer.
Furthermore, from the beginning of global recognition and development, countries have
realised that for the betterment of their citizenry and nation-building, financial assistance from
1 Ezekiel K. Duramany-Lakkoh is Lecturer in the Department of Accountancy at the Institute of Public Administration and
Management, University of Sierra Leone. He is a professional accountant and financial economics.
Page 2 of 15
220
Archives of Business Research (ABR) Vol. 9, Issue 6, June-2021
Services for Science and Education – United Kingdom
more developed and richer nations to smaller developing countries remain critical for national
goals achievement and fulfillment. There have been several studies on the impact of foreign aid
on the economic development of developing nations, but it is also important to consider the
need for foreign aid assistance, and how aid has affected different economic jurisdiction.
Historically, the advent of foreign aid could be traced back to the 1940s after the Second World
War’s massive destruction. Most African countries attract foreign aid after economic collapse,
either nationally or internationally.
According to Moyo (2009), foreign aid has done more harm than good in the African Continent.
This claim has been supported by many other scholars, Bonnie (1994), presented evidence that
shows that aid has not helped in sustainable economic development, regardless of the large
inflow into the continent since 1960. In contrast, Sachs et. at. (2004) contend that more than 6
million people will die a year from preventable and treatable causes, including
undernourishment, and other terrible diseases, if aid to Africa is stopped. Addison et al. (2002),
like Sachs (2004) presented that aid has reduced poverty in Sub-Sahara Africa and contributed
to growth. High corruption rate and authoritarian governments are some of the seasons
scholars are very critical about aid. The argument on the aids nexus to economic development
has also been extended to good governance and corruption.
Meanwhile, researchers have argued that a significant portion of foreign aid flowing to African
countries from developed nations have not been utilized efficiently to enhance economic
development. Corruption, poor states institutional administration and bureaucracy accounted
for some of the reasons for the misuse of foreign aid. Others opine that although aid has
sometimes failed, they should still be encouraged because they have supported poverty
reduction, health initiatives and growth in some countries. Over the last five decades, the World
Economic Forum (2015) estimates that western donors gave about $4.14 trillion-the equivalent
of more than seven times the 2014 GDP of Nigeria, in aid to developing countries.
These flows are topped up by support from non-governmental organisations and other private
charities, and the so-called new donor countries. Yet, in many of the developing countries
receiving the aid, poverty still looms large, and underdevelopment persists for which Sierra
Leone is no exception.
Sierra Leone has as in many other African countries have been receiving foreign aid, since after
independence. Hence, the country has remained highly aid-dependent with disbursed volumes
of aid higher than even the average for the most aid-dependent sub region, SSA. For Sierra
Leone’s receipt of foreign aid ranged from 30% of GDP in 2001, end of the civil war, to 12% of
GDP in 2018. As a result, the country still remains poor with high malnutrition rate, and infant
mortality rate (Kargbo (2012).
Statement of the Problem
Private sector development has been struggling because of higher cost of capital. According to
Duramany-Lakkoh (2020), there is a positive and statistically significant relationship between
private sector credit and interest rate in Sierra Leone. Meaning, the private sector is willing to
borrow regardless of the interest rate, showing the desperation in economy. When the private
sector is constrained, citizens become desperate for foreign aid as an alternative. There is
significant increase in foreign inflows, but the economic growth achieved by many West African
Page 3 of 15
221
Duramany-Lakkoh, E. K. (2021). Foreign Aid and Economics Development Nexus: The Case of Sierra Leone. Archives of Business Research, 9(6). 219-
233.
URL: http://dx.doi.org/10.14738/abr.96.10395
countries has not been satisfactory. The definite role of foreign aid to Africa for instance has
been an argument among scholars. Sierra Leone has been among the major recipients of
international aid, yet, despite these notable donor interventions the country‘s economy
experienced less growth with poverty remaining inherent for many years. Yet, there are few
researches capturing the attention of assessing the effectiveness of aid on such a country. This
makes it necessary to study the subject in the case of Sierra Leone as an addition to empirical
literature.
Objective of the Study
The objectives of this study are to:
Ø Assess the impact of foreign aid on the economic growth of Sierra Leone.
Ø Identify its significance in the development process in Sierra Leone.
Scope of the Research
This research focuses specifically on the impact of foreign aid on Sierra Leone economic growth
in the period of 1970 to 2018. This 48-year period data is considered adequate to enable the
study offer credible conclusions.
Justification for the Study
A number of studies have been done on the effectiveness of foreign aid for both cross-country
& country specific cases. Previous country specific studies have considered regressions for aid
on growth. That approach does not take into account interactions between aid and other
growth determinant variables.
This study will therefore go further to estimate the impact of aid on growth through
intermediate variables and focused on FDI, openness, population.
LITERATURE REVIEW
Theoretical Literature Review
The proposition that aid can promote economic development is based on theoretical foundation
of the 2-gap model (McKinnon 1964), which posits that development in developing countries
may be hampered by the existence of the savings gap and the foreign exchange gap. The savings
gap arises from the fact that domestic savings, for various reasons, tend to be low in the typical
developing country. Thus, savings will inevitably fall short of the ‘required investment’,
therefore, the investment needed to grow at a target rate. The effect of foreign aid on economic
growth can be transmitted via its impact on investment, private and government consumption,
as well as capital accumulation.
Hanson and Trap (2000) suggested that growth and investment levels can be improved by the
use of aid to fill the finance gap. Even where no finance gaps exist, aid can change the
equilibrium level of investment by raising private investment through improved infrastructure.
Economic scholars have given various reasons supporting the view that aid might have no
impact on economic growth. These include waste mismanagement, corruption, likelihood of
currency appreciation that will erode the profitability of the production of all tradable goods,
reduction in both private and public savings, and bad government and economic practices
(Radelet et al. 2004).
Page 4 of 15
222
Archives of Business Research (ABR) Vol. 9, Issue 6, June-2021
Services for Science and Education – United Kingdom
Scholars have particularly argued on two sides: the benefit of the foreign aid in promoting
economic development, transfer technology and enhance standard of living, while the other
school see foreign aid as more distractive and causes corruption and rent seeking behavior
among politicians. While there is still no consensus among economic scholars, various studies
are emerging on the relevance of foreign aid to economic development.
Burnside and Dollar (1997), two World Bank researchers have published several articles
suggesting causal relationship between economic growth and foreign investment. Their study
suggested that, with good fiscal policies like controlling inflation, budget deficit, economic
growth will be enhanced by foreign aid. Durbarry, et. al. (1998) also claims that foreign aod can
have a positive impact on economic growth with sound fiscal policy and other important socio- economic factors in place.
The study of Ali and Isse (2005) highlighted that even though foreign can have a positive
outcome on economic growth, but the overall outcome can diminish as the aid increases, if
other significant social and economic variables remains constant.
Notwithstanding the claims of Burnside and Dollar (1997), Durbarry, et. al. (1998), Ali and Isse
(2005) and others, Boone (1994) on the other hand observed that countries that have benefited
from foreign aid, especially in Africa have not shown any economic growth during the period.
Like Ali and Isse (2005), Knack (2001) concluded that foreign aid can cause red jacket protocols
and affect the administration and good governance, hence a recipe of state failure.
Not a lot of attention is paid to genocide, politicize, and revolution and their effects on growth
in the literature. It is reasonable to believe, though, that resources, including foreign aid, are
siphoned off by the dominant party and used for individual benefit rather than for economically
efficient activities, as intended.
A study by Jaouadi & Hermassi (2013) specifically mentions the negative relationship between
aid and governance in developing countries, noting that they are at a disadvantage for these
reasons as well, and the outcome of this relationship would affect the economic growth of
recipient Countries.
Economic Impact of Foreign Aid
According to Sogge and David (2002) argued that aid has caused poor management of public
resources, social collapse and widen inequality between the rich and poor. Rwanda was cited
as an example where the developed world disclaimed any responsibility after helping to
position in the edge of one of the worst genocide in the world. Again, it depends on the
leadership. Korea, Botswana and Honduras are few exceptions where foreign aid made
significant impact in the reduction of poverty and improvement in social service delivery, while
aid is believed to have played minor role in building effective public sector and in lifting millions
of poverty in larger number of countries including; Cuba, Zambia, Democratic Republic of
Congo, Haiti, Sierra Leone, Somalia, etc.
Good policy environments, according to Burnside and Dollar (2000), are those that are open to
trade, have low inflation rates, good share of the budget surplus in relation to GDP and balanced
government consumption in GDP. The study further presented that there are no clear impact
Page 5 of 15
223
Duramany-Lakkoh, E. K. (2021). Foreign Aid and Economics Development Nexus: The Case of Sierra Leone. Archives of Business Research, 9(6). 219-
233.
URL: http://dx.doi.org/10.14738/abr.96.10395
between aid and policy. For example, in Ghana, good policies were rewarded, while in the case
of Zambia, aid increased between 1970 and 1993, while policies deteriorated throughout the
period. The study of Burnside and Dollar also argued that aid significantly impacted economic
growth in environment with good public policy regimes, as opposed to environment with
weaker economic and social policies.
Nature of Aid in Least Developed Countries
Government project oriented lending has a closed end matching structure, which means that
donors and recipients share the total cost of particular investment but with a limit on the total
amount of aid available. In other words, in order to receive the fixed amount of loan aid, the
recipient may be required to reallocate a certain amount of its own funds in addition to
requirements of how the funds should be utilized. The theoretical purpose for providing closed- end matching aid is to stimulate recipients to increase spending in the sector that receives the
aid. On the other hand, categorical aid, which is aid for special purposes but without the cost
sharing requirements, would be expected to have a smaller effect on recipient spending, since
there are no inputs of local funds (Cashel-Cordo, 1990).
Africa Development Bank, Asia Development Bank, European Bank for Reconstruction and
Development, Inter-American Development group and World Bank group are the five
institutions of Multilateral Development Institutions. The International Monetary Fund (IMF),
is the other multilateral source of financing for LDC’s. Unlike the MDB, IMF loans generally are
not tied to specific investment projects.
Thus, an IMF loan doesn’t require additional funds from the recipient central government. The
set of conditions on IMF loan, however, is in the form of policy changes required for the
recipients. IMF aid is also a form of closed end matching aid, since to receive fixed amount of
loan aid, the recipient may be required reallocating on how the IMF fund should be used Cashel- Cordo (1990). Aid is provided through both grants and loans, which generally targeted toward
specific sectors or purposes. The form of bilateral aid is categorical aid, in which aid is targeted
but where there is little or no cost sharing arrangement with recipient countries. The flow of
this foreign aid from high- to low-income countries can be classified into three types. The first
includes income transfers of a relief nature' such as emergency and distress relief inducing
drought-related food transfers, medical and refugee relief, and balance of payment crisis
support. These transfers are generally temporary responses to unanticipated events of shocks
to the economy. They can be perceived as an attempt by the donor community to help finance
what is denoted in the permanent-income theory as transitory consumption.
In addition, they can be viewed as an attempt to maintain a 'subsistence' level of consumption
by absorbing the shocks to income entirely by changes in savings (Friedman (1957). The second
type of aid consists of income transfers for development purposes, such as project aid and
technical assistance. The level and duration of these transfers are signaled by past and current
commitments and may, therefore, be approximately anticipated by recipients. Contrary to the
temporary nature of the relief transfers, development assistance is more systematic and
permanent.
However, the fungibles of these funds are somewhat limited because they are tied to specific
projects or programmes. It has also been argued that, foreign aid can also be used to assist
Page 6 of 15
224
Archives of Business Research (ABR) Vol. 9, Issue 6, June-2021
Services for Science and Education – United Kingdom
friendly government and commercial interests, rather than promoting economic growth
(Kruger, 1986). In some of these cases diplomatic realities may preclude using the donors’
resources for developmental purposes. Hence, the objective of such type of aid has often been
military or political factor, which may or may not be consistent with using the resources.
Relationship between Foreign Aid and Economic Growth
Many scholars including Islam (2003) presented foreign aid as having demining returns when
compared to the rate of returns on economic growth. The nexus between foreign aid and
economic development remain to be controversial. The relationship between aid and economic
growth has always been a controversial issue. Voivodas (1973) conducted one of the first
studies of the relationship between foreign aid and economic development, from a sample of
22 underdeveloped countries, covers from 1956 to n1968 and found a negative relationship
between the two variables. This study however, lacks sufficient data and lacks the required
economics techniques.
Empirical Literature Review
On the important question of whether aid contributes to development or not, the debate is
broadly divided into those who believe that aid is an important tool for developing nations to
achieve take-off Sachs (2004), while other scholars believes that foreign aid has further
improvised poor nations, instead of making them better. More recently, there are writers who
are more interested in the political and 'world trade' undertones of foreign aid (Easterly, 2006;
Chang, 2007; Moyo, 2009 and Stiglitz, 2002).
In a study conducted by Burnside and Dollar (2000) using data from developing countries, it
was concluded that foreign aid has a positive effect on economic growth in low-income
countries with good policies, while it has no measurable effect in countries with severely
distorted policy regimes.
Gomanee, et al (2005) tested the hypothesis that aid contributes to increasing aggregate
welfare, measured by infant mortality and Human Development Index (HDI) in recipient
countries. Estimation was based on data for 104 countries over the period 1980 to 2000, and
for sub-samples of low income and middle-income countries. The results shows robust
evidence to support the argument that foreign aid to low income countries provides direct
relationship to welfare or through economic growth.
Alvi and Senbeta (2011) examined the effects of foreign aid on poverty using dynamic panel
estimation techniques. According to them, this technique enables the control for time-invariant,
country-specific effects of aid and its endogeneity. The results show that poverty reduced
significantly on foreign aid, after controlling the variable for average income. Foreign aid is
thus associated with a reduction in poverty as measured by the poverty rate, poverty gap index
and squared poverty gap index. Alvi and Senbeta (2011) concluded that the composition of aid
matters, as multilateral aid and grants have more poverty reducing effect than that of bilateral
aid and loans.
The study of Dreher, et al. (2006) examines foreign aid and its impact on specific human
development variables, using panel data and a dynamic panel estimator on primary school
Page 7 of 15
225
Duramany-Lakkoh, E. K. (2021). Foreign Aid and Economics Development Nexus: The Case of Sierra Leone. Archives of Business Research, 9(6). 219-
233.
URL: http://dx.doi.org/10.14738/abr.96.10395
enrolment rate as the measure of education outcome. The study establishes statistically
significant relations between foreign aid given to enhance primary school enrolments.
Mishra and Newhouse (2007) focused their research on the effectiveness of aid on health
outcomes. Panel data was used to study the effect of aid on various health variables. The study
concludes that total aid per capita and per capita health aid reduce infant mortality rates
significantly but aid has no significant impact on life expectancy. Aggregate aid improves
Human Development Index (HDI) and reduces infant mortality rates in less developed nations.
Gomanee, et al(2005) are also of the opinion that aggregate aid improves human welfare and
reduces infant mortality rate and effectiveness of aid on health and human welfare is higher at
lowest levels of income.
On the other, Humley and Mosley (1996) argued that when the donor receipt relationship is
modeled as a non-cooperative game, moral hazard problems can lead to aid having little impact
on the problems it is intended to alleviate. Aid may simply relax the budget constraint of the
recipient government without having much impact on the amount of that budget that ultimately
is used to purchase capital. Furthermore, the donor government can also be part of this game
for reasons other than benevolence.
Mallik (2008) examined the effectiveness of foreign aid on economic growth in the six poorest
and highly aid dependent African countries by using the Johansen’s co-integration tests. The
empirical results showed that aid as a percentage of GDP and the long run impact of aid on
growth was found negative for most of the sample countries. Ali and Ahmad (2013) conducted
a research that accesses the inequality of foreign aid on income equality in Pakistan, the study
covers the period from 1972 to 2007. The results shows that income inequality expands as
foreign aid increase in the long run, suggesting that foreign aid given to Pakistan during the
period has proven unproductive in terms of how it translates to economic development.
Ugwuegbe, Okafor and Akarogbe (2016) investigated the effect of external borrowing and
foreign financial aid (foreign grant) in the form of official development assistance (ODA) on the
growth.
The inconsistence results from various researchers, using different estimation methods in
different economic jurisdictions has inconclusively deepened the debate on foreign aid and
economic development. Notwithstanding the enormous number of literature on academic
articles, scholars are very much divided on the impact of aid.
In summary, the literature in general is suggesting that the impact of foreign aid depends on
the governance structure of the jurisdiction and what the aid is used for. Other factors, such as
the quality of a developing country’s government and the policies it pursues, appear to be as
equally important in promoting growth and development, than the quantity type of foreign aid
received.
METHODOLOGY
Model Specification
The model used to estimate the impact of foreign aid on economic growth in Sierra Leone is
adopted from the approach of Okoli and Agu (2015) expressed as:
GDP = f (FA, EXCR, IMPT, EXPT)
Page 8 of 15
226
Archives of Business Research (ABR) Vol. 9, Issue 6, June-2021
Services for Science and Education – United Kingdom
Where:
GDP= Gross Domestic Product
FA= Foreign Aid Flows
EXCR= Exchange Rate
IMPT = Import
EXPT= Export
However, for the sake of data availability and suitability of this study, we consider modifying
the above model by replacing import and export variables with openness (OPN). OPN is
introduced to measure trade as a percentage of GDP and is obtained by summing import and
export, and expressing the result as percentage of GDP. In addition, we include the population
growth (PPG) variable to represent labour force in Sierra Leone, and official development
assistance (ODA). Therefore, the modified model is specified as follows:
GDPG = f (FDI, OPEN, PPG, ODA)
Where:
GDPG = Gross Domestic Product growth rate
FDI = Foreign Direct Investment as a percentage of GDP
OPEN = Openness as proportion of GDP
PPG = Population growth
ODA = Oversea Development assistance.
In equation format, the model is expressed as:
Where:
GDPG = Gross Domestic Product growth
FDI= Foreign Aid flow
OPN = Openness of the economy
PPG = Population growth
ODA = Overseas development assistance
U= the stochastic error term.
The a priori expectation are b1>0, b2>0, b3>0, and b4>0
Where, β0 is a Constant and β1- β4 are coefficients to be estimated.
E-views 9 software is used to estimate the model.
Data and Sources
This research relies on secondary data sourced from existing World Development Indicators
(WDI) database on the World Bank. It uses annual time series data covering the period 1970
to2018.
Evaluation Procedure
Having established the appropriate model, we pursue the following estimation procedure:
GDPG FDI OPN PPG ODA U =+ + + + + bb b b b 01 2 3 4
Page 9 of 15
227
Duramany-Lakkoh, E. K. (2021). Foreign Aid and Economics Development Nexus: The Case of Sierra Leone. Archives of Business Research, 9(6). 219-
233.
URL: http://dx.doi.org/10.14738/abr.96.10395
Stationarity Test
The first step prior to estimating a model is to test the characteristics of the variables of the
model. This is done by conducting a stationarity or unit root test on each variable, by employing
the Augmented Dicker-Fuller (ADF) statistic.
The ADF test is designed to ascertain the order of integration of the variables in the model
(Dickey and Fuller, 1979). The stationarity test is performed first at levels and then at first and
second differences to establish the presence of unit roots and the order of integration in all the
variables.
Cointegration Test
The next step is to estimate a vector auto regression equation from which a cointegration test
is conducted. The cointegration test establishes the existence of long-run relationship between
the variables. This step is carried out because all series are non–stationary at level, hence the
check of whether there is long-run equilibrium of the series, as noted by Johansen and Juselius
(1990).
Vector Error Correction Model (VECM)
Next, I do a vector error correction model to determine whether the dynamism governing the
behaviour of the economy in the short-run is different from the long-run. The cointegration
term is known as the error correction term since the deviation from long-run equilibrium is
corrected gradually through a series of partial short-run adjustments (Gujarati and Sangeetha,
2007).
ESTIMATION, ANALYSIS AND DISCUSSION OF RESULTS
Unit Root Test
The unit root (or stationarity) test is conducted to enable us know the order of integration of
the variables under study. Results of the stationarity (unit root) using the Augmented Dickey
Fuller approach, are shown in table (1) as follows:
Table 1: Unit Root Test Results
Variable Level T-Statistic First Difference T- Statistic
Order of
Integration
GDPGR 6.2734 I(0)
FDI 4.2734 I(0)
ODPC 1.8080 5.8189 I(1)
OPEM 2.7640 I(0)
PPG 3.2748 I(0)
Source: Reviews output conducted by the researcher
Note *, and ** indicate that the variable is stationary at the 1 %, and 5% level of significance
respectively and I (0) = order of integration. From the result above all the variables, with the
exception of official development assistant (ODPC), are integrated of order zero (I (0)). That is,
they are stationary in levels, while ODPC is stationary at first difference.
We can see from table (1) that all the variables except openness to the economy are stationary
at levels with 1level of significance.
Page 10 of 15
228
Archives of Business Research (ABR) Vol. 9, Issue 6, June-2021
Services for Science and Education – United Kingdom
Cointegration Test
Having established the stationarity condition of the variables, our next step is to ascertain
whether there is a long run relationship of the dependent variable (in this case GDP) and the
independent or exogenous variables such as FDI Openness, overseas development assistance
and population growth. This is achieved by employing the co-integration test by Johansen and
Juselius (1990). The result is shown in tables 2 and 3 below:
Table 2: Johansen Co-integration Test Trace Results
Hypothesized
No. of CE(s)
Eigenvalue Trace
Statistic
0.05
Critical Value
Prob.**
None * 0.775020 113.5340 69.81889 0.0000
At most 1 0.404478 44.91391 47.85613 0.0921
At most 2 0.235375 21.07130 29.79707 0.3532
At most 3 0.151887 8.726271 15.49471 0.3913
At most 4 0.024652 1.148190 3.841466 0.2839
Source: Reviews Output Conducted by the Researcher
Table 3: Maximum Eigenvalue Results
Hypothesized
No. of CE(s)
Eigenvalue Max-Eigen
Statistic
0.05
Critical Value
Prob.**
None * 0.775020 68.62014 33.87687 0.0000
At most 1 0.404478 23.84261 27.58434 0.1403
At most 2 0.235375 12.34503 21.13162 0.5140
At most 3 0.151887 7.578081 14.26460 0.4232
At most 4 0.024652 1.148190 3.841466 0.2839
Source: Reviews Output Conducted by the Researcher
We can see from the above tables that both the Trace and Max-eigen statistics
indicate cointegration at 1 per cent level of significance, with one cointegrating
equation. This implies that there is a long run relationship among the variables.
Vector Error Correction Model
Having established long-run relationship, we proceed to estimating the long run and
short run equations as shown in tables 4 and 5 respectively.
Long Run Estimates
The result of the normalized long run co integration equation is presented in the
table below:
Table 4: Long Run Estimate Results
Variable Coefficient Std. error t ratio
ODPC(-1) 0.043185 (0.01373) [ 3.14516]
OPEM(-1) 0.264504 (0.03998) [ 6.61627]
PPG(-1) -1.432624 (0.51111) [-2.80299]
FDI(-1) -1.147525 (0.09259) [-12.3932]
C -11.87795
Source: Eviews Output Conducted By The Researcher
Page 11 of 15
229
Duramany-Lakkoh, E. K. (2021). Foreign Aid and Economics Development Nexus: The Case of Sierra Leone. Archives of Business Research, 9(6). 219-
233.
URL: http://dx.doi.org/10.14738/abr.96.10395
The long run equation as shown in the table indicate that overseas development
assistance (ODPC) and openness (OPEM) are positively and significantly related to GDP
in the long run, while population growth (PPG) and foreign direct investment FDI) are
negatively and significantly related to GDP in the long run. This means that ODPC and
OPEM conform with the a priori expectation, while PPG and FDI have the opposite sign.
Short Run Dynamics
According to Engle and Granger (1987), when variables are cointegrated, their dynamic
relationship can be specified by an error correction representation.
The result of the normalized short run co integration equation is presented in the table
below:
Table 5. Results of the Error-Correction Model (VECM)
Variable Coefficient Std. error t ratio
CointEq1 -0.859620 (0.27110) [-3.17086]
D(GDPGR(-1)) 0.077088 (0.20845) [ 0.36982]
D(GDPGR(-2)) -0.023288 (0.14213) [-0.16385]
D(ODPC(-1)) -0.124732 (0.06696) [-1.86289]
D(ODPC(-2)) 0.150347 (0.06873) [ 2.18741]
D(OPEM(-1)) 0.149464 (0.10455) [ 1.42955]
D(OPEM(-2)) 0.208005 (0.10207) [ 2.03793]
D(PPG(-1)) 3.533027 (5.88995) [ 0.59984]
D(PPG(-2)) -0.333647 (5.64445) [-0.05911]
D(FDI(-1)) -0.960874 (0.26945) [-3.56611]
D(FDI(-2)) -0.322984 (0.21575) [-1.49706]
R Squared 0.7246
Adjusted R squared 0.6355
F statistic 8.1331
Source: Eviews output Conducted by the Researcher
The tables indicates that in the short run ODPC and OPEM lag 2 are significant and
positively related to GDP, while FDI lag 2 is negative and significantly related to GDP.
However, population growth both lag1 and 2 are not significant to GDP.
The error correction term indicates the speed of adjustment to long-run equilibrium in the
dynamic model. In other words, its magnitude shows how quickly variables converge to
equilibrium when they are disturbed. It is expected to be statistically significant with a
negative sign. The negative sign implies that any shock that occurs in the short-run will be
corrected in the long-run. The larger the error correction term in absolute value, the faster
the convergence to equilibrium.
The coefficient of error correction term is -0.8596 indicating that 86% of a deviation from
the long runs in the previous is corrected in the current year. Whereas ODPC and OPEM
exhibited a positive and statistically significance relationship with economic growth, FDI
showed a negative and statistically significant relationship with growth in the short.
However, population growth is not significant to economic growth.
Page 12 of 15
230
Archives of Business Research (ABR) Vol. 9, Issue 6, June-2021
Services for Science and Education – United Kingdom
The coefficient of determination (R2) indicates 63 percent of the ODPC, OPEM, FDI and PPG
jointly account for the variation in GDP. F-statistic (8.13) is higher than the critical f-value
(2.34) suggesting significance and model adequacy.
In short, the analysis reveals that foreign aid, represented by ODPC, contributes positively
and significantly to economic growth both in the short run and long run.
CONCLUSION AND RECOMMENDATION
Summary
This study considered the impact of foreign aid on the economic growth in Sierra Leone
covering the period 1970 to 2018. The reason for this study is based on the fact that foreign aid
is an important source of finance in most countries in Sub-Sahara Africa (SSA), Sierra Leone not
an exception. Foreign aid is expected to stimulate economic growth by supplementing domestic
sources of finance such as savings; thereby increasing the amount of investment and capital
stock in the country (Arnold, 1985; Khan and Rahim, 1993; Mbakwu, 1993). Despite its
importance, foreign aid has been observed in Sierra Leone as rather than impacting positively
on infrastructure and economic development, it only resulted in waste and unproductive public
consumption because of perceived corruption, policy implementation and weak institutions
(Ugwuegbe et. al. (2016). Easterly(2006), Chang (2007) Moyo (2009) and Stiglitz (2002)
further maintained that rather than assisting poor African nations to develop, foreign aid
further impoverishes them.
Conclusion
Because of these assertions the study was conducted using secondary data and employing
vector error correction method of analysis. The study revealed that foreign aid in Sierra Lone
is positively and significantly related to economic growth both in the short run and long run.
R2 was 63 percent and F-statistic was significant. The study also clearly show that FDI is
negatively and significantly related to economic growth while population growth is not in any
way related to economic growth.
Recommendation
The simple recommendation is that, government should ensure that aids received are properly
channeled into productive uses such as investment. Government should create collaborative
institutions to check the disbursement and use of aid and hence prevent the likely diversion of
aid to personal purposes. In addition, studies have shown aid to be more effective in sound
economic policy environments. Against this background, governments and multilateral
institutions should continue to push economic reforms and trade liberalization on recipient
governments. Not only will this improve the effectiveness of foreign aid, but it will also result
in less aid being required from seeking foreign aid assistance; so long as the national savings
remains poor.
Page 13 of 15
231
Duramany-Lakkoh, E. K. (2021). Foreign Aid and Economics Development Nexus: The Case of Sierra Leone. Archives of Business Research, 9(6). 219-
233.
URL: http://dx.doi.org/10.14738/abr.96.10395
References
Abouraia, M. K., 2014. Impact of Foreign Aid in Economic Development of Developing Countries: A Case of
Philippines. European Journal of Business and Social Sciences, Vol. 3, No. 4, pp 166-180, URL:
http://www.ejbss.com/recent.aspx, ISSN: 2235 -767X.
Addison et al., 2002. Foreign Aid and Economic Growth: Does It Plays Any Significant Role in Sub-Saharan Africa?
International Journal of African and Asian Studies. ISSN 2409-6938 An International Peer-reviewed Journal
Vol.23, 2016
Ali, A. M., Isse, H. S., 2003. Determinants of Economic Corruption: A Cross-Country Comparison , Cato Journal
22(3): 449-466 .
Ali, S., Ahmad, N., 2013. A Time Series Analysis of Foreign Aid and Income Inequality in Pakistan. Global Journal
of Management and Business Research Economics and Commerce, 13 (5).
Alvi, E., Senbeta, A., 2011. Does Foreign Aid Reduce Poverty? Journal of International Development: 68- 98.
Arnold, G., 1985. Aid and the Third World: The North- South Divide. London: Robert Royce Limited.
AU (African Union Commission) and NEPAD Agency (201).‘Aid Reform for Africa’s Development’. In African
Consensus and Position on Development Effectiveness, Fourth High Level Forum on Aid Effectiveness,
September. Busan.
Boone, P., 1994. The Impact of Foreign Aid on Savings and Growth .Centre for Economic Performance Working
Paper 677. London: London School of Economics.
Burnside, C., Dollar, D., 1997. Aid, Policies and Growth. WB Policy Research Working Paper 1777. Washington,
DC: World Bank.
Burnside, C., Dollar, D., 2000. Aid, Policies and Growth. American Economic Review,90 (4): 847–68.
Cashel-Cordo, P., Craig, S. G., 1990. The public sector impact of international resource transfers, Journal of
Development Economics, Volume 32, Issue 1, 1990, Pages 17-42, ISSN 0304-3878,
https://doi.org/10.1016/0304-3878(90)90050-L.
Chang, H., 2007. Bad Samaritans: The Guilty Secrets of Rich Nations and the Threat to Global Prosperity. London:
Random House Books.
Dickey, D. A., Fuller, W. A., 1979. Distribution of the Estimators for Autoregressive Time Series with a Unit Root.
Journal of the American Statistical Association Volume 74, 1979 - Issue 366a
Dreher, A., Nunnenkamp, P., Thiele, R., 2006. Does Aid for Education Educate Children? Evidence from Panel
Data. Kiel Working Paper 1290. Kiel Institute for the World Economy, Kiel.
Duramany-Lakkoh, E. K,. 2020. The effect of Fiscal Policy and Financial Sector Development in Sierra Leone A
Time Series Approach. International Journal of Development and Economic Sustainability, vol. 8, no. 4: 1-23.
Published by ECRTD-UK.
Durbarry, R., Gemmell, N., Greenway, D, 1998. New Evidence on the Impact of Foreign Aid on Economic Growth.
CREDIT Research Paper 98/8. Nottingham: University of Nottingham.
Easterly, W., 2003. Can Foreign Aid Buy Growth?’. Journal of Economic Perspectives, 17(3): 23-48.
Easterly, W., 2006. What Doesn’t Aid Work. Published by CATO UNBOUND A Journal of Debate. Available
through https://www.cato-unbound.org/2006/04/02/william-easterly/why-doesnt-aid-work
Engle, R., Granger, C., 1987. Co-Integration and Error Correction: Representation, Estimation, and
Testing. Econometrica, 55(2), 251-276. doi:10.2307/1913236
Friedman, M., 1958. Foreign Economic Aid. Yale Review, 47(4): 501–16.
Gomanee, K., Morrissey, O., Mosley, P., Verschoor, A., 2005. Aid, Government Expenditure, and Aggregate Welfare.
World Development 33(3):355-370, DOI: 10.1016/j.worlddev.2004.09.005
Gujarati, D., Sangeetha, N., 2007. Basic Econometrics. Tata McGraw-Hill, New Dehli.
Hansen, H., Tarp, F., 2000. Aid Effectiveness Disputed’. Journal of International Development, 12(3): 375–98.
Page 14 of 15
232
Archives of Business Research (ABR) Vol. 9, Issue 6, June-2021
Services for Science and Education – United Kingdom
Humle, D., Mosley, P., 1996. Finance Against Poverty, Vol 2. Published by Routledge, ISBN 0-415-12430-1 (hbk)
Islam, M., 2003. Political Regimes and the Effects of Foreign Aid on Economic Growth. The Journal of Developing
Areas, 37 (1), 35-53. Retrieved December 3, 2020, from http://www.jstor.org/stable/4192937
Jaouadi, S., Hermassi, H., 2013. Official Development Assistance and its Impact on Governance in short term: The
Threshold theory. DOI: 10.18533/ijbsr.v3i3.68
Johansen, S., and Juselius, K., 1990. Maximum likelihood estimation and inference on cointegration - with
applications to the demand for money. oxford butxetln of economics and statistics. 52,2 (1990) 0305-9049 s3.00
Kargbo, P. M., 2012. Impact of foreign aid on economic growth in Sierra Leone. Working Paper No, 2012/07.
United Nations University.
Khan, N. Z. and Rahim, E., 1993. Foreign Aid, Domestic Savings and Economic Growth (Pakistan: 1960 to 1988).
January 1993 Pakistan development review 32(4):1157-1167. DOI: 10.30541/v32i4IIpp.1157-1167
Knack, S., 2001. Aid Dependence and the Quality of Governance: Cross-Country Empirical Tests. outhern
Economic Journal, Vol. 68, No. 2 (Oct., 2001), pp. 310-329 (20 pages) Published By: Southern Economic
Association
Krueger, A. O., 1986. Aid in the Development Process," World Bank Research Observer, World Bank Group, vol.
1(1), pages 57-78, January.
Mallik, G., 2008. Foreign Aid and Economic Growth: A Cointegration Analysis of the Six Poorest African Countries.
Economic Analysis and Policy, 38(2), 251-260.
Mbakwu, J. M., 1993. Foreign Aid and Economic Growth in Cameroon. Applied Economics 25(10):1309-14.
DOI: 10.1080/00036849300000098
McKinnon, R. I., 1964. Foreign Exchange Constraints in Economic Development and Efficient Aid Allocation.
Economic Journal, 74: 388–409. https://doi.org/10.2307/2228486
Millennium Development Goals, 2008. Achieving the Millennium Development Goals in Africa. Published by MDG
Steering Groups in Africa. Available online through mdgsteeringgrouprecommendations.pdf (who.int)
Mishra, P., Newhouse, D. L., 2007. Health Aid and Infant Mortality. IMF Working Paper No. 07/100, Available at
SSRN: https://ssrn.com/abstract=984605
Mosley, P., Hudson, J., Verschoor A., 2004. Aid, Poverty Reduction and the ‘New Conditionality’ The Economic
Journal, Volume 114, Issue 496, June 2004, Pages F217–F243, https://doi.org/10.1111/j.1468-
0297.2004.00220.x Published: 27 May 2004
Moyo, D., 2009. Dead Aid: Why Aid is Not Working and How There is a Better Way for Africa.
Vancouver/Toronto: Douglas & McIntyre PublishersInc. ... Book
Njeru, J., 2003. The Impact of Foreign Aid on Public Expenditure: The Case of Kenya, AFRC Research paper No.
135. African Economic Research Consortium, Nairobi, Kenya.
Okoli, T. T., Agu, S. C., 2015. Foreign Direct Investment Flow And Manufacturing Sector Performance In Nigeria.
International Journal of Economics, Commerce and Management. Vol.III, Issued 7th July, 2015. ISSN 2348 0386
Radelet, S., Clemens, M., Bhavnani, R. 2004. Aid and Growth: The Current Debate and Some New Evidence.
Washington, DC: Center for Global Development. Available at:
www.imf.org/external/np/seminars/eng/2005/famm/pdf/radele.pdf
Sachs, J., J. W. McArthur, J. W., Schmidt-Traub, G., Kruk, M., Bahadur. C., Faye, M., McCord, G., 2004. Ending
Africa’s Poverty Trap. Brookings Papers on Economic Activity, 1: 117–240.
Sogge, D., 2002. Give and Take - What’s the Matter with Foreign Aid? World Review, Vol. 6 No. 2 Summer 2004,
pp. 28-31synthesis of Give and Take: What’s the Matter with Foreign Aid, Zed Books, London 2002, 209 pages
Stiglitz, J., 2002. ‘Overseas Aid is Money Well Spent’. Financial Times, April 14.
Trumbull, W., Wall, H., 1994. Estimating Aid Allocation Criteria with Panel Data. Economic Journal, 104: 876–82.
Page 15 of 15
233
Duramany-Lakkoh, E. K. (2021). Foreign Aid and Economics Development Nexus: The Case of Sierra Leone. Archives of Business Research, 9(6). 219-
233.
URL: http://dx.doi.org/10.14738/abr.96.10395
Ugwuegbe, S., Okafor, I. G. and Akarogbe, C., Ugwuegbe, S, U. and Azino., 2016. Effect of External Borrowing and
Foreign Aid on Economic Growth in Nigeria. International Journal of Academic Research in Business and Social
Sciences April 2016, Vol. 6, No. 4 ISSN: 2222-6990 DOI: 10.6007/IJARBSS/v6-i4/2087
United Nations Development Program, 2014. Human Development Report. Human Development Report 2014 |
UNDP
Voivodas, C. S., 1973. Exports, foreign capital inflow and economic growth. Journal of International Economics,
1973, vol. 3, issue 4, 337-349
Wacziarg, R., Welch, K. H., 2003. Trade Liberalization and Growth: New Evidence. Stanford: Stanford University.
Mimeo.
Wooldridge, J. M., 2010. Econometric Analysis of Cross Section and Panel Data. Cambridge, MA: MIT Press.
World Bank, 2009.World Development Indicators. Washington, DC: World Bank.
World Economic Forum, 2015. Does Foreign Aid Boost Economic Growth. Available online at:
https://www.weforum.org/agenda/2015/10/does-foreign-aid-boost-growth/