The impact of foreign aid on the macroeconomic performance of Ethiopia

Abstract

Ethiopia has benefited greatly from foreign help over the past 20 years, primarily from western countries, in the form of development assistance. The fundamental premise behind such a significant influx of foreign aid into the country is to pay the government's ongoing financial deficit issue. There are still macroeconomic economic difficulties in spite of this enormous influx of foreign aid. Thus, this study's primary goal is to investigate how foreign aid affected Ethiopia's macroeconomic performance from 1999–2000 to 2021–2022.Using the ARDL model, an explanatory research design with a quantitative research approach is used to quantify the overall influence of foreign aid on significant macroeconomic variables. The Vector Auto regressive (VAR) model is used to select the lag for each macroeconomic variable, with a maximum lag selection criterion being defined. And the outcome shows that government spending and tax income are the two main macroeconomic variables that are most affected by foreign aid in the short term. Government spending and tax revenue are also the two most significant factors that have a long-term link with foreign aid. According to the study result, foreign aid has a positive long-term effect on government spending but a short-term negative impact on tax collection. Regretfully, it has been determined that foreign aid has no discernible long-term impact on the exchange rate, one of the macroeconomic variables. Finally, the study's findings suggest that Ethiopia's policy makers and government should be able to design and execute a meaningful fiscal and monetary policies that can maximize the benefits of foreign aid in a win-win manner while maintaining the influence of aid on the macroeconomic performance of the nation.