FOREIGN AID, INTERNATIONAL TRADE, POLITICAL UNCERTAINTY AND ECONOMIC PERFORMANCE: A COMPARATIVE POLITICAL ECONOMY ANALYSIS OF SRI LANKA AND PAKISTAN

Abstract

The purpose of this study is to explore the link between foreign aid, trade openness, political uncertainty and economic performance using a comparative study of Sri Lanka and Pakistan. Aid inflows and trade liberalization are often considered key factors in the growth of developing economies yet their results have shown to be different over time and across countries. The study suggests that the degree of economic performance is influenced by a conditioning factor of political uncertainty, which in turn influences the role of aid and trade. The analysis, based on political economy theory and a comparative case-study approach, examines the links between political stability, policy continuity and institutional credibility with development outcomes in the two countries using secondary macroeconomic and governance data. The results indicate that economic impact of aid and trade is more positive in relatively politically stable periods in which policies are more credible and implementation more stable. On the other hand, high political uncertainty is a drag on investment incentives, delays policy implementation, and diminishes the lasting impact of external support and linkages to trade. Another comparison demonstrates that while political and economic uncertainties existed in both countries, the quality and duration of the uncertainty were different, and as a result, the growth path was different. The study concludes that the role of aid and trade as engines of growth is not fully understood if political environments in which they operate are not taken into consideration.