Ethiopia is one of the countries receiving large proportions of aid, especially since the introduction of the policy changes (1992) there is a substantial amount of aid flows. Therefore this study is trying to answer the question: What role has aid played in the economic growth and poverty reduction process in Ethiopia? In order to answer this question both quantitative and qualitative methods were used. Quantitatively I followed traditional production function with special emphasis to the new (endogenous) growth model. But in order to examine aid effectiveness in more detail aid is disaggregated into loan and grant component and is estimated using time series data for the period 1981 to 2003. The result strongly supports the stated hypothesis. In the case of intensive growth, no significant relationship between aid given in the form of loan and economic growth, but the relationship between aid given in the form of grant and economic growth of Ethiopia is negatively related and significant, whereas in the case of extensive growth foreign aid given in the form of grant does have some positive impact on growth.