Foreign aid is typically fungible. One dollar of assistance targeted to rural development raises rural development spending by 11 cents – net. This is not because of corruption. Rather, if donors fund particular services – schools or rural roads – this frees up the government to use its other resources as it wishes.
Thus, aid funds the public sector in general – which helps to explain why its impact depends on the overall quality of policies and institutions. In countries with relatively good policies, it makes sense to deliver much of foreign aid as simple support to the budget – which would relieve both donors and recipients of the large administrative burden that comes when all aid is delivered through projects.
