The Impact of Foreign Aid on the Fiscal Behaviour of Government of Pakistan

Abstract

This study, titled "The Impact of Foreign Aid on the Fiscal Behavior of Government of Pakistan," aims to investigate the relationship between foreign aid and its influence on Pakistan's fiscal policies. Despite receiving substantial foreign aid over several decades, Pakistan's economic and social performance has not seen significant improvement. This study primarily focuses on assessing whether foreign aid has hindered the government's efforts to increase domestic tax revenue and whether it has reduced accountability while promoting higher levels of foreign debt accumulation. Furthermore, it explores whether foreign aid has redirected public spending away from essential service sectors. The research employs Vector Error Correction Model (VECM) to analyze the connection between domestic borrowing, grant aid, development expenditures, and domestic revenue from 1991 to 2020. The findings suggest that international grants have had a negative impact on Pakistan's financial management, leading to decreased domestic revenue and increased foreign debt. Additionally, it reveals that expenditures on projects increased when government spending was constrained. This study underscores the importance of Pakistan effectively utilizing foreign aid resources while emphasizing the urgent need to enhance income collection and fiscal discipline. Ultimately, it highlights that the government's choices, rather than those of donor countries, determine whether foreign aid is used to reduce domestic borrowing and government spending or to augment available resources.