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Development, Economics, Regional, Web Articles

Too Many Remittances?

Posted: November 25, 2017 at 6:32 pm   /   by   /   comments (0)

Jorge de Leon Miranda (Master in International Economics and Finance SAIS Class of 2017) is a research assistant at the International Monetary Fund. While attending the Johns Hopkins SAIS, he worked as a consultant at the World Bank’s Governance global practice. He previously served as a consultant for the Inter-American Development Bank and the Guatemala’s National Competitiveness Program. He holds a BA in Economics from Wheaton College Massachusetts and is originally from Guatemala.

The outcome of the U.S. election triggered a series of events in Guatemala in November 2016. Among them, remittances to the country from migrant workers in the US were on the rise and economic growth was expected to fall in fear of heralded massive deportations. Remittances inflows to the country totaled US $1.8 billion in the last quarter of 2016, an increase of 11 percent relative to 2015.[1] Nevertheless, growth in the net oil-importing country remained strong due to a general decrease in international oil prices. But when did remittances became such an important feature of a small economy and a determinant of its growth?

Remittances inflows have become one the largest, most reliable and least volatile sources of capital inflows for developing countries. Because of current trends of growing international migration, remittances to developing countries have drastically increased, totaling more than US$441 billion in 2014.[2] These capital inflows are indeed three times larger than official development aid and have surpassed net foreign direct investment in these economies.[3]

The benefits from remittances to the recipient countries are varied. For instance, increases in remittances are associated with poverty alleviation and improvements to child health and infant mortality.[4] Additionally, unlike government expenditure or private capital inflows that are procyclical due to institutional limitations[5], remittances are counter-cyclical in developing countries.[6] Migrants’ decision to send remittances is driven by altruism or by insurance purposes and not necessarily due to political structures or risk perceptions.[7] For this reason, these flows can play a role as a shock absorber and help households to smooth short-term income disturbances, particularly during bad times.

Moreover, remittances usually flow from countries with more capital per worker to those with less, contrary to private capital which flows in the other direction[8]. Unlike traditional debt, remittances do not generate future repayment obligations and do not have political or economic impositions that must be followed by the recipient country.[9]

Nonetheless, because of the changes in Guatemala’s growth expectations in 2016, it is pivotal to examine to what extent countries are relying too much on remittances and how such dependency may hinder the observed positive effects. Figure 1 shows that in 2015, 27 countries had remittances inflows that were at least as large as 10 percent of their GDP. Indeed, for four countries, remittances inflows were as large as 25 percent of GDP: Nepal (32 percent), Liberia (31 percent), Tajikistan (29 percent) and Kyrgyz Republic (26 percent). Figure 1 also shows the countries’ classification by income and identifies that 20 were ranked either as lower middle (LMICs) or low income countries (LICs) by the World Bank. It is undeniable that remittances in LICs may be one of the largest sources of foreign capital inflows and international reserves. Moreover, at the household level, remittances have facilitated financial access in those countries where high cost methods of borrowing have hindered consumption and entrepreneurship.

Remittance inflows in these countries are so large that they are even comparable to trade and fiscal revenues. Figure 2 (on the right-hand side) shows that remittances were at least as half as large as the value of the total exports of goods and services in 2015 in 15 out of the 27 countries. In some cases, such as in Liberia and Tajikistan, remittances were more than 270 percent times larger than the value of total exports of goods and services. As shown on the left-hand side of figure 2, these large inflows of income have facilitated the ability of countries to sustain negative trade balances due to higher demand for imports. This phenomenon has raised concerns about the potential impacts that remittances may have at the aggregate level in the context of a “Dutch Disease.”[10] On the other hand, the ratio of remittances to tax revenue was 103.2 percent on average in 18 of these countries in 2015.[11] Many of these countries have weak tax systems and are unable to recollect enough revenue, which might affect their capabilities to provide public services. In such circumstances, remittances can also play a role in facilitating households to access private health and education services.

Another problem in these countries is the high level of dependence on another single country’s economic performance. As shown as figure 3, in 2015 there were 14 countries where there was one major source that accounted for at least 50 percent of their total incoming remittances. In the case of the Marshall Islands, El Salvador, Guatemala and Honduras, the United States accounted for more than 90 percent of their total remittances inflows. In the case of Kyrgyz Republic, Tajikistan, Armenia and Georgia, most remittances came from Russia. This dependence is problematic because it creates economic vulnerabilities for the remittance-recipient countries when the sender is in a recession. As a matter of fact, remittances grew on average by 16 percent in the period 2000-2008; however, in 2009 right after the global financial crisis, remittances inflows to these 15 countries decreased by 13 percent.[12] The drastic reduction of these flows may negatively impact economic growth, the incomes of remittance recipients and their ability to smooth out external shocks.

In conclusion, because of the benefits from remittances, these countries should implement policies that facilitate formal channels and reduce the costs of sending and receiving remittances. Countries can also implement policies that assure the productive use of remittances in the form of savings and investments at the household level—this ensures the availability of cash in bad times allowing households to be more resilient to negative economic shocks. Nevertheless, it is also important to examine remittances’ macro- and microeconomic effects. At the macro-level, it is necessary to gradually examine the short-run effects that these flows may have to the real effective exchange rates as inflows steadily increase. Countries also need to understand the effects of remittances to the competitiveness of the main productive industries and reduce their dependence, particularly in those countries where there is one major source. This feat can be achieved by strengthening the trade competitiveness of their productive sectors and improving their tax collection systems. Remittances may support consumption and investment during bad times but should not be a substitute for steady trade revenues and the effective public provision of health and education services.

[1] Banco Central de Guatemala, Macroeconomic data, (2016).

[2] World Bank, Migration and Remittances Factbook 2016 (Washington, DC: World Bank, 2016), v.

[3] Ibid., v.

[4] Richard Adams, “Evaluating the Economic Impact of International Remittances on Developing Countries using Household Surveys: A Literature Review,” Journal of Development Studies 47, (2011), 809-828.

[5] Hillel Rapoport and Frédéric Docquier, “The economics of migrants’ remittances,” The Institute for the Study of Labor (IZA) Discussion paper no. 1531, (2006), 1138-1195.

[6] Jeffrey Frankel, “Are bilateral remittances countercyclical?”, Open Economies Review 22, no. 1 (2011), 1-16.

[7] Hillel Rapoport and Frédéric Docquier, “The economics of migrants’ remittances,” The Institute for the Study of Labor (IZA) Discussion paper, no. 1531 (2006), 1138-1195.

[8] Sebnem Kalemli-Ozcan, Ariell Reshef, Bent Sorensen and Oved Yosha, “Why Does Capital Flow to Rich States?”, The Review of Economics and Statistics 92, no. 4 (2010), 769-783.

[9] Adolfo Barajas, Ralph Chami, Dalia Hakura, and Peter Montiel, “Workers’ Remittances and the Equilibrium Real Exchange Rate: Theory and Evidence”, International Monetary Fund, Working Paper No. WP/10/287, (2010).

[10] Gazi Hassan, and Mark Holmes, “Remittances and the real effective exchange rate,” Applied Economics no. 45, 35 (2013), 4959-4970.

[11] Author’s calculations using the World Bank’s Migration and Remittances Data (updated Oct. 2017) and World Bank’s World Development Indicator series – GC.TAX.TOTL.GD.ZS, Tax Revenue (% of GDP).

[12] Author’s calculations using the World Bank’s Migration and Remittances Data (updated Oct. 2017).

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