Does Aid Harm or Benefit Institutional Quality? Time Heals All Wounds

ABSTRACT Previous research has found conflicting results regarding the effect of aid on the quality of institutions, with some studies finding a positive relationship, whereas others finding a negative one. In this paper, we try to reconcile these results. In a dynamic regression discontinuity design, we explore the dynamics of the above relationship. Using the threshold of aid allocation of the International Development Association and a sample of approximately 100 countries over the 1989–2022 period, we provide evidence that aid has a differential impact on the quality of institutions depending on the time frame. We argue that there is an aid expropriation effect in the short run, as individuals try to expropriate aid revenues, ultimately harming domestic institutions. However, when the development effect of international aid kicks in, and after a few years, there is a positive effect on institutional quality.