CID Graduate Student and Postdoctoral Fellow Working Paper No. 11, April 2006

Can Foreign Aid Create an Incentive for Good Governance? Evidence from the Millennium Challenge Corporation

Doug Johnson and Tristan Zajonc

Abstract 

The Millennium Challenge Corporation (MCC) awards aid to countries that perform well on a set of independently compiled governance indicators. Proponents of this new form of aid argue that 1) aid will be more effective when given to well-governed countries and 2) countries will respond to such rewards by pursuing sound policies. This paper is the first systematic attempt to evaluate the second hypothesis. By exploiting discontinuities in the MCC rules and reform patterns before and after the MCC was created, we are able to estimate the MCC incentive effect. Even though the MCC is still in its infancy, we find substantial evidence that countries respond to MCC incentives by improving their indicators. Controlling for general time trends, potential recipients of MCC funds improve 25 percent more indicators after the MCC was created than before it. While still too early to make a final assessment, a range of specifications yield similar results. We do not find any corresponding increase in growth rates.

Keywords: aid effectiveness, MCC effect, performance-based aid, Millennium Challenge Corporation, Millennium Challenge Account

JEL codes: F35, O19

Download the paper in PDF format

_______________________________________________________________

Back to CID Graduate Student and Postdoctoral Fellow Working Paper Series

Direct site comments or questions to CID's Webmaster.
Copyright ©2008 by the President and Fellows of Harvard College.