Greasing the revolving door: foreign aid, governance, and private capital flows

Abstract

<p class="MsoNormal" style="margin-top: 8pt; line-height: 14pt; text-align: justify;"><span lang="EN-US" style="font-family: 'Cambria',serif; mso-fareast-font-family: '等线 Light'; mso-fareast-theme-font: major-fareast; mso-bidi-font-family: 'Times New Roman'; color: black; mso-themecolor: text1;">There is a considerable amount of debate on the impact of capital liberalization on economic performance. Using Three-Stage Least Squares (3SLS) estimation technique introduced by Zellner and Theil (1962), we synthesize studies on the determinants of governance and capital flows. We find evidence of a revolving door relationship. Foreign aid has a negative impact on governance and, thereby reduces capital inflows since bad governance hinders capital inflows. The need to fill the gap created by private capital outflows encourages inflow of foreign aid, which in turn harms governance. Therefore, capital liberalization could grease a revolving door and undermine economic development in the aid receiving countries.</span></p>