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Fridays Academy: Emigrant Remittances

Ignacio Hernandez's picture

Like every Friday, from Raj Nallari and Breda Griffith's lecture notes.


Emigrant remittances have come to represent an increasingly important source of financial flows between developed and developing countries in recent decades (Exhibit below and Spatafora, 2005, who shows that remittances – all unrequited transfers from migrant workers to family and friends in their country of origin – have grown steadily and are expected to reach $160 billion in 2005). Improvements in technology in the banking industry that reduce the costs and increase the geographical range over which remittances can be sent should see more unofficial remittances become recorded. Chami et al. (2005) hypothesize that this may be a contributing factor to the increase in recorded remittances in recent years. 


Worker Remittances (in millions of US dollars, 1970-98)


Source: World Bank reproduced in Chiami, R. et al (2005)


Nevertheless, a significant proportion – estimated from anything between 35 and 70 percent of official remittances – remain unrecorded.  Unrecorded remittances are channeled through the informal sector and are not captured in official balance of payment statistics.  (While remittances outside the formal sector may be used for legitimate reasons, they may also be channeled to unproductive activities such as money laundering, drug money flows and financing terrorism). Examples of both formal and informal channels include (i) interbank transfers; (ii) formal nonbank money transfer operators; (iii) post office transfers; (iv) cash and commodities carriers; and (v) informal money transfer operators (Kireyev, 2006). Other channels are more country and/or region specific – Fei-Ch’ien (China), Padala (Philippines), Hundi (India), Hui Kuan (Hong Kong) and Phei Kwan (Thailand). The hawala system, historically associated with South Asia and the Middle East, refers to an informal channel for transferring funds from one location to another through service providers – known as hawaladars – regardless of the nature of the transaction and the countries involved. (EL-Qorchi, 2002).


While some studies suggest a self-interest motive for remittance arrangements, the motivation for remittances is seen as primarily altruistic (Stark and Lucas, 1988 and Chami et al., 2005) and mainly confined to transfers between family members. The concentration on the household has formed the basis of the studies of the microeconomic impact of emigrant remittances. Studies have focused on the pattern and motivation of remittances and have shown a positive impact for the household in terms of increased consumption, (property) investment, and better education and health care (Kireyev, 2006). Thus, from a microeconomic perspective, remittances should have a positive impact on growth.


The literature, most of which is fairly recent, is, however, not very definitive on the macroeconomic impact of remittances. For example, Chami, Fullenkamp and Jahhah (2003) suggest that remittances have a negative impact on economic growth whilst Aggarwal and Spatafora (2005) find no effect and Giuliano and Ruiz-Arranz (2006) show that remittances promote growth in countries with shallow financial systems but have no impact in countries with well-developed financial systems.  The lack of a concrete discernible relationship is unsurprising.  First, the impact on growth will depend on whether the remittances are spent on consumption or investment. To this end, the research suggests that remittances have primarily been used for consumption purposes with little impact on long-run growth. Second, the research shows that remittance inflows are countercyclical, increasing during periods of weak economic growth in the receiving countries. This countercyclical nature makes it difficult to establish the true impact of remittances on economic growth. The counter cyclical nature does however suggest that remittances can play a large part in maintaining macroeconomic stability and mitigating the impact of adverse shocks. A number of papers have attested to this (quoted in Spatafora, 2005).


The distributive effect of remittances has occupied a large part of the evolving literature.  Remittances have not only been shown to mitigate the impact of adverse shocks to an economy, but they also have been linked with helping to reduce poverty (Aggarwal and Spatafora (2005).  Kireyev (2006) suggests that the decline in the poverty rate in Tajikistan from 81 to 60 percent over 2000 to 2003 was helped by the significant level of remittances to that country (flows of remittances have reached 50 percent of GDP).  Moreover, children in households receiving remittances are more likely to receive better education and healthcare. 


Distributive effects can also be negative.  Kireyev (2006) outlines a number of negative effects of remittances for Tajikistan that also feature in studies for other countries. Remittance inflows can/may:

  • impede monetary management and rekindle inflationary pressures – the unpredictability and seasonal nature of foreign currency inflows create uncertainties for monetary management;
  • lead to an appreciation of the national currency, which may hamper competitiveness;
  • contribute to the expansion of the trade deficit – in Tajikistan most of the remittances are used to finance imports;
  • create a strong disincentive for domestic savings – declining savings can potentially deplete the resource base for investment and can even turn negative; and
  • represent a serious moral hazard problem by reducing the pressure for reforms. Remittances enable households and private businesses to support their own consumption/investment independent of the national government, thus reducing the pressure for the authorities to create a better business environment and deal with the problems that forced the people to leave the country in the first place. 


Furthermore, while migrants may learn skills that might be useful to their country of origin if they return, offsetting this is the ‘brain-drain’ and the loss of human capital hampering the country’s development prospects.  Mishra (2006) shows, for example, that the Caribbean countries – these have lost in excess of 70 percent of their labor force with more than 12 years of completed schooling – are not compensated for “brain-drain” impacts by the significant inflow of remittances. 


While some of the research has focused on the policies and regulations that determine the flow of remittances, further research is needed on how to create a sustainable development path for the source country. In summary, remittances represent a short-term fix to what are long-term problems should they continue to be unaddressed.


Next week we will start looking at Trade Policy and the Poor

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