This task deals with “Aid effectiveness and its impact on poverty” mainly seen from the side of the donors. Aid effectiveness also depends on how it is allocated by donor.
The paper proposes an approach centred on the concept of need-adjusted aid effectiveness. This means that the donor’s objective function explicitly takes into account the trade-off between considerations of needs and considerations of governance. Moreover, the donor is willing to exert external discipline on the recipient countries. To the extent there is a negative correlation between the extent of needs and the quality of governance, we expect that the donor would bring more discipline to bear upon the poorer countries with the consequence that they would not be excluded from aid programmes. Working within a one-donor-two-recipient framework, in which one recipient country is relatively poorer and worse-governed than the other, we are able to show that many intuitions regarding effects of parametric changes are too simple. In particular, the improvement in the governance of the poorer country does not necessarily induce the donor to raise its aid share.