additional complication that as economies develop, they can better afford liberal institutions such as democracy, redistributive taxes and transfers, rule of law, protection of property rights and from corrupt governments, and so on. Because the level and pace of economic development will be correlated with the levels of economic or political freedom, democratic institutions, we must include controls for economic development to avoid missing variables bias.

We use the log of real gross domestic product per capita as our measure of economic development and the growth rate of real GDP per capita to reflect the pace of economic development. Finally, we include the log of the country population as a crude measure of the size of the market. These measures are all available for all our countries from the national accounts compiled by the United Nations Statistics Division.

# **_B. Life Expectancy_**

In Becker (1994) formulation of the theory of human capital investment, individuals will continue to specialize in schooling as long as the net present value of the investment is positive. That implies that an individual who expects to live longer will optimally spend more time in school and, if human capital investments are subject to diminishing returns, will get a lower annual return per year of schooling. Too understand why, consider two otherwise identical individuals with different life expectancies who complete the same year of schooling. Both will generate the same marginal increase in human capital product after completing that year, generating the same resulting marginal change in annual earnings. However, the present value of the returns from that year of schooling will be greater for the individual with greater longevity. As a result, the longer-lived individual will spend more time in school, generating successively lower annual increments in earnings from the additional time investing in human capital. Life expectancy at birth is available for all countries through the World Development Indicators.<sup>16,17</sup>

# **_C. Foreign Aid_**

There are sharp differences of opinion on the role of foreign aid in economic development. Some have argued that increased levels of foreign aid are critically necessary to foster economic development (Sachs (2005)) while others have suggested that foreign aid has been ineffective (Easterly (2006), Easterly (2009)). Still others emphasize the need for internally or externally generated political stabilization (Collier (2007)) or a culture of capitalism (Clark (2007)) before any economic development can occur.

To our knowledge, the debate on foreign aid has not dealt greatly with how or whether aid benefits or hinders economic mobility within the country. Aid may be critical to the expansion of schooling opportunities and to the improvement of existing schools, in which case it should raise returns to schooling. Furthermore, to the extent that the aid is accompanied by

> 16 When exact matches on years were not available, we interpolated between years.

> 17 We also experimented with using average years of schooling.  Results are similar-- years of schooling are negatively correlated with average returns to schooling, consistent with the hypothesis of diminishing returns. However, years of schooling responds to other factors besides life expectancy including expectations of returns to schooling, and so life expectancy can more plausibly be viewed as a factor shifting outward the country’s demand for schooling rather than a response to returns to schooling.

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