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Can Foreign Aid Buy Investment? Appropriation Through Conflict

The failure of foreign aid to promote growth in the developing world has received significant attention as evidence suggests that foreign aid does not translate into investment. This research has demonstrated that poor institutions in these developing economies (particularly with respect to property rights) results in an inability to fully appropriate the return to one’s investment, thereby serving as a prominent disincentive to investment. This paper presents an experimental test of a a 2-player, one-shot game of conflict in which we vary the strength of property rights. Our results suggest that stronger property rights reduce conflict and increase investment. In addition, we test the conventional wisdom that technological progress can increase the effectiveness of aid in stimulating investment. Contrary to intuition, we find technological progress has practically no effect on investment and that this failure to stimulate investment is largely due to deficiencies in property right institutions. Key Words: Property Rights; Conflict; Investment; Foreign Aid; Experiments