Foreign aid, economic development and corruption

Abstract

We adopt a dynamic general equilibrium model in which bureaucratic corruption leads to poor quality public services thereby incentivising households to engage in tax evasion. With aid, government is able to shore up the revenue shortage attributed to corruption-induced tax evasion and is able to deliver a high quantity of public services. An economy with both corruption-induced tax evasion and aid has the potential of attaining a higher level of economic development than an economy with corruption-induced tax evasion but without aid. We show however that aid has the potential of worsening both bureaucratic corruption and economic development.