NextBillion - An Initiative of the William Davidson Institute at the University of Michigan

Remittances – transfers of money from foreign workers to their home countries – have been a critical means of financial support for generations. These flows have generally been conducted away from formal markets. However, as more and more workers move abroad, the volume of remittances sent back home has grown and thus become an important flow of foreign currency in many countries.

Earlier this year, the International Monetary Fund published a working paper about the evolution of capital flows to Low-Income Countries (LICs). The paper sheds light on the increasing importance of remittances in development. Although the working paper is based on shaky data (on the admission of the authors), it calculates that total capital inflows to LICs increased from 4% of LIC GDP in the 1980s to more than 10% for LIC GDP by 2006. All the net growth in these inflows is due to private sources, while official inflows remained unchanged at roughly 2% of LIC GDP. (This brought me memories of when several years ago there were worldwide calls for developed countries to give 0.7% of their income to developing ones as they had promised to do. Only a couple of Scandinavian countries ended up doing so.)If we dig a bit deeper into the private sources, these inflows have been overwhelmingly non-debt creating and have been dominated by Foreign Direct Investment (FDI) and remittances (or, as the study calls them, private transfers). Remittances are estimated to have more than tripled as a share of LIC GDP since the 1980s, rising from 1.1% of GDP to 3.6% of GDP in 2005.

Furthermore, since IMF records only include data on official international remittance flows, private transfers brought home by friends, relatives and even the migrant himself are unaccounted for, thus underestimating the real volume of remittances.

If we want to unearth opportunities to stimulate growth, one of the first things that need to be done is to appropriately quantify the amount of remittances depending on origin and destination. If we find out the origin of remittances, additional competition or social pressure might be able to lower transaction costs. Additionally, by looking into the destination of the remittances, we might be able to support the saving and re-investment of these remittances in the local economy.

According to the International Fund for Agricultural Development (IFAD) there are about 150 million migrants worldwide. Based on a recently published study, migrants sent an aggregate of $300 billion back home in 2006 (see a short summary here). It is now estimated that remittances reach 10% of the world’s households. Although these funds are mostly used to meet family needs, some of them are saved for a rainy day and/or re-invested in education, housing or local businesses. It is this last portion that, if stimulated and supported, could be useful to ultimately pull these communities out of poverty.

IFAD’s study quantifies only the destination of the remittances in 2006 with Asia receiving about $113 billion, Latin America and the Caribbean $68 billion, Europe $51 billion, Africa $39 billion, and the Near East $28 billion.
Additionally, the Multilateral Investment Fund, a part of the Inter-American Development Bank devoted to stimulating wealth creation in BoP communities through Microenterprises and Small Businesses, offers an overview of the remittances received in Latin America according to their origin in 2008 (Does anyone know of other sources of data for remittances classified according to its origin?). The MIF’s information is intuitively classified in maps, so that when clicking on a particular country or region, we can obtain a more detailed breakdown. I recommend that our readers check it out.

The most important factors in the growth of remittances in the last years seem to be a mix between demographic, economic and financial variables. For example, several studies have shown that migrants tend to remit more money when interest rates at home are high and positive. Additionally, the costs of remitting money home, the exchange rate spreads between the remitting agencies and the central exchange rates, and the presence of civil unrest and political stability are determining factors in remittance flows.

A study published by the World Bank in March 2008 suggests that the skill composition of migrants also plays a role in the volume of remittances. Other things equal, countries which export a larger share of high skill (educated) migrants receive less per capita remittances than countries which export a larger proportion of low-skilled migrants. One possible explanation for this relation is that high-skill migrants remit less because they are more likely to bring family member and to remain in the newly adopted country. By contrast, low skilled migrants tend to remit more because their migration is more temporary in nature and they are more concerned with returning home.
Also, the results of this study seem to suggest that there is an inverted U-curve between the level of per capital GDP income and the receipts of remittances. The level of per capita remittances received by a country seem to increase until a country has a per capita GDP of about $2,200 – and fall thereafter.

These studies all point to one direction: the increasing relevance of remittances as a means to financing wealth generation in BoP communities. We are still mostly on the measurement phase, but hopefully given the relative reliability of these inflows, by stimulating the saving and investment of remittances many BoP communities may improve their status quo sooner than later.