TY  - JOUR
AU  - Agénor,Pierre-Richard
AU  - Aizenman,Joshua
TI  - Aid Volatility and Poverty Traps
JF  - National Bureau of Economic Research Working Paper Series
VL  - No. 13400
PY  - 2007
Y2  - September 2007
UR  - http://www.nber.org/papers/w13400
L1  - http://www.nber.org/papers/w13400.pdf
N1  - Author contact info:
Pierre-Richard Agenor
School of Social Sciences, University of Mancheste
Manchester M139PL, United Kingdom
E-Mail: Pierre-richard.Agenor@manchester.ac.uk

Joshua Aizenman
Department of Economics;  E2
1156 High St.
University of California, Santa Cruz
Santa Cruz, CA  95064
Tel: 831/459-4791
Fax: 831/459-5077
E-Mail: jaizen@ucsc.edu
AB  - This paper studies the impact of aid volatility in a two-period model where production may occur with either a traditional or a modern technology. Public spending is productive and "time to build" requires expenditure in both periods for the modern technology to be used. The possibility of a poverty trap induced by high aid volatility is first examined in a benchmark case where taxation is absent. The analysis is then extended to account for self insurance (taking the form of a first-period contingency fund) financed through taxation. An increase in aid volatility is shown to raise the optimal contingency fund. But if future aid also depends on the size of the contingency fund (as a result of a moral hazard effect on donors' behavior), the optimal policy may entail no self insurance.
ER  -