Foreign aid, human capital acquisition and educated Unemployment:Fish or fishing

Abstract

By tying aid to the productive purpose of the skilled sector, this paper explores the effects of foreign aid on human capital acquisition and educated unemployment in the recipient economy. Utilizing a search and matching model, a rise in the allocation of aid used for the productive purpose can provide incentives to firms for more job entries and result in a lower unemployment rate among skilled workers. However, this result can be mitigated or even overturned when endogenous human capital acquisition is incorporated. We also show that an increase in the portion of foreign aid used for education subsidy can increase the supply but reduce the demand for skilled labor. This thus results in a higher educated unemployment rate in the economy.