The Effect of Bargaining on US Economic Aid

ABSTRACT

This article is designed to explore the effect of bargaining power on the distribution of US economic aid. Conceptualizing US foreign assistance as the outcome of aid-for-policy transactions between the donor and its recipients, it shows why the bargaining issue is an integral part of US economic aid. A two-tiered stochastic frontier analysis (SFA) is then developed to integrate the bargaining effect into our empirical analysis. Applying the model to US economic aid for the period of 1976–2011, I show empirical results that strongly support the bargaining approach. The results show that the bargaining effect explains a fundamental part of the cross-recipient difference in the level of US economic aid. On average, the donor US enjoys more bargaining power. However, a huge variation in bargaining capability on the recipient side is equally noteworthy. As for the contributors to the difference, the statistical results reveal that bargaining efficiency increases with higher per capita income, ongoing civil war, violations of personal integrity rights, and a more democratic regime, on the one hand. Importing heavily from and having an active defense pact with the US, on the other hand, affect bargaining efficiency negatively.

KEYWORDS:

• Bargaining
• foreign aid
• stochastic frontier
• surplus division

Supplemental Material

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Notes

¹ It is clear that there are other useful ways to understand donor-recipient interactions. For instance, a couple of theoretical studies have explored the issue from the perspective of contracting by utilizing principal-agent models (Azam and Laffont 2003; Hagen 2006). This contract-based approach has been especially popular among scholars studying the financial support of international organizations and has provided fruitful results on that front (for example, Bas and Stone 2014; Bird, Hussain, and Joyce 2004). These studies, however, can be distinguished from the current research in three major respects. First, they ascribe bargaining power entirely to the principal (donor) side. Second, the literature often adopts the assumption of an altruistic donor. Third, the literature focuses exclusively on the topic of utilizing aid conditionality to lower agent problems and hence promote aid efficiency.

² For a general review of the literature on stochastic frontier analysis, see Kumbhakar and Lovell (2000) and Greene (2008).

³ It can also be understood as the situation where the transaction surplus is evenly divided between the trading parties.

⁴ The covariates are assumed to be nonstochastic here (Subal Kumbhakar, personal communication).

⁵ Both the Nash axiomatic approach and Rubinstein strategic approach can be seen as the theoretical foundation of the empirical model, for both focus on the issue of surplus division. This research also adopts the viewpoint that the Nash bargaining model is a special case of the more elaborate Rubinstein bargaining framework (Muthoo 1999).

⁶ For those still uncomfortable with the idea of investigating the allocation of US economic aid without looking at the chance of aid being offered, placating evidence from previous research does exist. Applying the Heckman selection model to examine US economic aid from 1955 to 2006, Fleck and Kilby (2010) show (with a Wald test yielding a P value of .48) that the distribution equation is highly unlikely to be dependent on the selection equation. As a result, estimates of US aid distribution obtained from the Heckman model and the two-part model are almost identical in their research.

⁷ The two-tiered SFA models are fitted by using SFA2tier Version 1.0 (Lian 2009) and Stata (Version 11.2).

⁸ If we look at the average annual US aid inflows into these countries, it is interesting to note that US economic aid to Germany and Argentina is considerably smaller than its aid to the other countries on the ranking list. Thus, whether there is a size effect on bargaining success/failure is an open question and deserving of future academic efforts.