I Introduction
  • 1 0000000404811396https://isni.org/isni/0000000404811396International Monetary Fund
  • | 2 0000000404811396https://isni.org/isni/0000000404811396International Monetary Fund
  • | 3 0000000404811396https://isni.org/isni/0000000404811396International Monetary Fund

Abstract

Immigrant remittances are truly a force to be reckoned with in the global economy. These private, unrequited transfers of money from migrants to the family members they leave behind, often sent a few hundred dollars at a time, nonetheless add up to billions of dollars annually: US$114 billion in 2003, the last year for which complete data are available. This figure includes only remittances sent through official, measurable channels, and much more is believed to flow through informal channels. Consequently, remittances represent one of the largest international flows of financial resources.

Immigrant remittances are truly a force to be reckoned with in the global economy. These private, unrequited transfers of money from migrants to the family members they leave behind, often sent a few hundred dollars at a time, nonetheless add up to billions of dollars annually: US$114 billion in 2003, the last year for which complete data are available. This figure includes only remittances sent through official, measurable channels, and much more is believed to flow through informal channels. Consequently, remittances represent one of the largest international flows of financial resources.

Moreover, because remittances naturally flow from high-income countries to developing countries, the total quantity of remittances reported in the previous paragraph still tends to understate their relative importance to the economies that receive them. For many remittance-receiving developing economies, remittance flows exceed foreign direct investment, portfolio flows from financial markets, and official development assistance. Some countries’ total remittance receipts amount to a substantial portion of their imports and a nontrivial fraction of GDP.

Given the large size of aggregate remittance flows, they should be expected to have significant macroeco-nomic effects on the economies that receive them. In addition, remittances have been identified as a potential source of funding for economic development. Thus, two main issues are of interest to policymakers with regard to remittances:

  • how to manage their macroeconomic effects; and

  • how to harness their development potential.

This paper directly addresses these two questions by reporting the results of the first global study of the comprehensive macroeconomic effects of remittances on the economies that receive them. The ultimate purpose of this endeavor is to draw summary policy implications for countries that receive significant flows of remittances.

In broad terms, the findings of this paper tend to confirm the main benefit cited in the microeconomic literature: remittances improve households’ welfare by lifting families out of poverty and insuring them against income shocks. However, the systematic macroeconomic analysis of remittances developed over the following seven chapters also yields a number of important caveats and policy considerations that have largely been overlooked:

  • Measurement. The category workersremittances in the balance of payments best represents what economists have in mind when modeling remittances. The properties of this series differ significantly from those of employee compensation and migrantstransfers, so combining these three items into a single measure of remittances, as is common practice in the literature, can lead to invalid conclusions about the properties of remittances and, in turn, suboptimal policy decisions.

  • Fiscal policy. Remittances should not be taxed directly. Consumption-based taxation provides the optimal incentive structure for maximizing the benefits of remittances, whereas labor income taxation exacerbates the labor-leisure incentives of remittances and encourages the use of inflation as an indirect tax. Remittance-receiving countries should be advised to shift toward consumption-based tax systems to mitigate possible negative effects on economic growth, minimize the level of distortion generated by fiscal and monetary policy, and benefit from any tax-induced increase in investment resulting from remittances.

  • Debt sustainability. Remittances can lead to reduced country risk and improve the sustainability of government debt. In addition to increasing household saving, significant inflows of remittances can directly or indirectly increase the government’s revenue base, thereby reducing the marginal cost of raising revenue.

  • Fiscal discipline. Remittances may reduce the government’s incentive to maintain fiscal policy discipline. The empirical evidence suggests that governments take advantage of the fiscal space afforded by remittances by consuming and borrowing more.

  • Economic growth. Remittances are not necessarily associated with an increase in domestic investment or a more efficient allocation of domestic investment. Remittance recipients rationally substitute unearned remittance income for labor income and, since labor and capital are complementary goods in production, this negatively affects the rate of capital accumulation. Analysis reveals that remittances have no statistically significant effect on GDP growth.

  • Dutch disease effects. Although remittances may constitute a source of financing in the balance of payments, empirical evidence suggests that remittances are positively correlated with real exchange rate appreciation. Hence, there is some evidence of Dutch disease effects in remittance-receiving countries. Policymakers must find ways to mitigate this real exchange rate effect or address any loss of competitiveness arising from equilibrium real exchange rate appreciation.

  • Governance and incentives. Remittances pose a moral hazard problem by reducing the political will to enact policy reform. Compensatory remittances that insure the public against adverse economic shocks and insulate them from government policy reduce households’ incentives to pressure the government to implement reforms to facilitate economic growth. Remittances can therefore delay needed upgrades to the public infrastructure both by reducing public demand for such upgrades and by decreasing the likelihood of a crisis that would make such upgrades necessary.

  • Role of international financial institutions. Outside engagement may be required to prompt governments to undertake needed reforms in the presence of remittances. In particular, international institutions have an important role to play in encouraging remittance-receiving countries to undertake or accelerate necessary reforms. A one-size-fits-all reform strategy is likely to be counterproductive. Instead, an approach that differentiates among countries based on their remittance-driven characteristics will be more helpful in achieving its targets.

The main challenge for policymakers, stated in general terms, is to design policies that promote remittances and increase their benefits while mitigating adverse side effects. Getting these policy prescriptions correct early on is imperative. Globalization and the aging of developed economy populations will ensure that demand for migrant workers remains robust for years to come. Hence, the volume of remittances likely will continue to grow, and with it, the challenge of unlocking the maximum societal benefit from these transfers.

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