The importance of remittances

The increasing attention paid to the question of migrant remittances comes from the realisation of the important role they play in poverty alleviation and, circumstances permitting, economic development more broadly. The former is most obvious in the way the circumstances of individuals are directly transformed; the latter operates via a collective response much dependent on the existence of institutions that can leverage remittances to create true ‘development finance’.

Individual poverty alleviation

Remittance payments directly alleviate the poverty of the individuals and households to whom they are sent. Forming a relatively stable source of income independent of the (often dire) local economy of recipient families, remittances offer a lifeline to millions in the most vulnerable groups across the developing world. Moreover—and unlike other financial flows to developing countries that stream through government agencies and non-governmental organisations (NGOs)—remittance payments are targeted precisely to the needs and desires of their receivers. It is not aid agencies or governments that decide when, where or why remittance incomes are spent, but the recipients themselves.

As with other ‘novel’ devices of promise in the field of economic development (micro-finance and civil-society promotion being other examples), relatively little in the way of empirical work has been undertaken on the impact of remittances on poverty alleviation. The empirical work that has been done, however, supports the positive picture painted above and in the countless anecdotes that dominate the literature. For instance, a 71-country study undertaken by Adams and Page (2005:1646) concluded that remittances ‘reduce the level, depth, and severity of poverty’ of receivers and their communities. Likewise, Ratha (2005) found that remittance flows lowered the proportion of people living in absolute poverty in Uganda, Bangladesh and Ghana by 11, 6 and 5 per cent, respectively. Gupta et al. (2007) find that a 10 per cent increase in a country’s remittances-to-GDP ratio corresponds with a fall in the percentage of people living on less than $US1 a day of just more than 1 per cent. The World Bank (2003), the OECD’s Financial Action Task Force (2005) and Spatafora (2005) also find reductions in absolute poverty among remittance receivers. Meanwhile, studies such as López-Córdova (2005) and Hildebrandt and McKenzie (2005) find positive associations between remittances and poverty-reduction ‘proxies’ such as lower infant mortality and higher birth rates.[1]

The ways in which remittances alleviate the poverty of individuals are, in the ‘first round’ of effects, direct and fairly obvious. They include the following.

  • ‘Survivalist’ income supplementation. For many recipients, remittances provide food security, shelter, clothing and other basic needs.

  • Consumption ‘smoothing’. Many recipients of remittances, especially in rural areas, have highly variable incomes. Remittances allow better matching of incomes and spending, the misalignment of which otherwise threatens survival and/or the taking on of debt.

  • Education. In many developing countries, education is expensive at all levels, whatever the formal commitments of the State. Remittances can allow for the payment of school fees and can provide the wherewithal for children to attend school rather than working for family survival.[2]

  • Housing. The use of remittances for the construction, upgrading and repair of houses is prominent in many widely different circumstances.

  • Health. Remittances can be employed to access preventive and ameliorative health care. As with education, affordable health care is often unavailable in many remittance-recipient countries.

  • Debt. Being in thrall to moneylenders is an all-too-common experience for many in the developing world. Remittances provide for the repayment of debts and for the means to avoid the taking on of debt by providing alternative income and asset streams.

  • Social spending. Day-to-day needs include various ‘social’ expenditures that are culturally unavoidable. Remittances can be employed to meet marriage expenses and religious obligations and, less happily but even more unavoidable, funeral and related costs.

  • Consumer goods. Remittances allow for the purchase of consumer goods, from the most humble and labour saving, to those that entertain and make for a richer life.

Of course, the extent to which remittances reduce poverty is explicably bound up in how they are used. Typically for poorer recipients, remittance payments are used for basic survival, consumption, housing, health and education, as per above. Once these needs are met, however, remittances can be ‘invested’ whereupon they provide ‘second-round’ impacts on poverty into the future. Of course, education and some health expenditure can legitimately be thought of as constituting investment, but important in this context is the extent to which remittances can be used to create income-generating activities. Expenditure on agricultural equipment and fertilisers, vehicles, retail stock and equipment and on land improvement are not uncommon forms of investment of remittance earnings.[3]

Broader concerns: remittances and economic development

Remittance income does not benefit just individual recipients, it benefits the local and national economies in which they live. Indeed, the spending allowed by remittances has a multiplied effect on local economies—as funds subsequently spent create incomes for others and stimulate economic activity generally. Beyond such multiplier effects, however, are other factors conducive to economic growth and stability.

  • Remittances can provide receiving countries with much-needed foreign exchange. As noted at the outset of this chapter, remittances are a more stable and reliable form of foreign earnings in many developing countries than either FDI or aid flows, and help alleviate the balance-of-payments and debt crises that are often a characteristic of such countries. In this sense, they are also a potentially stabilising factor for national currencies and can provide developing countries with lower borrowing costs by presenting them with a stable flow of foreign exchange ‘collateral’.[4]

  • Adding to the appeal of remittance flows to local and national economies is the fact that their frequency and magnitude tend to be counter-cyclical. Economic distress in the home country—precisely the scenario least conducive to other financial flows such as FDI—inspires migrant workers (for altruistic reasons or to protect their own economic interests at home) to increase the volume of funds they remit. Thus, just as remittances allow consumption smoothing for individual households, in this sense they provide a potentially stabilising stream of earnings for national economies too.

  • Remittances provide a potential boon for a country’s financial development: a stream of earnings to be tapped for saving and for leveraging through formal credit and other products.[5] The existence of links between financial-sector development and economic growth now enjoys a broad consensus, and there is also growing acceptance that better financial institutions lead to lower levels of poverty and inequality.[6] ‘Leveraging up’ remittances through formal financial institutions (FIs) is important since, by themselves, remittance flows do not solve the structural financial constraints faced by many developing countries. FIs allow remittance recipients to access credit to finance business projects, smooth consumption and so on, and to establish a financial and savings culture more broadly. ‘Banking the unbanked’ is one of the prime objectives of the micro-finance ‘movement’, but it is an objective similarly enhanced by FIs bundling remittance payments into savings and (ultimately) loan products through which investment can be activated.[7] Of course, FIs also stand to benefit individually in the longer run through the establishment, via remittance products, of customer relationships with people who are often the most enterprising members of society. In Latin America, about one-fifth of remittance senders become bank clients (Orozco and Fedewa 2006:21).[8]

  • The ‘leveraging up’ of remittances via financial institutions is the policy of individual FIs and micro-finance operators, as well as significant industry representative groups such as the World Council of Credit Unions (WOCCU). The latter’s International Remittance Network has enabled hundreds of credit unions (in sending and receiving countries, mostly in the Americas) to participate in the remittance business in collaboration with money-transfer firms (WOCCU n.d.). These firms are relatively expensive, however, and their fees are a significant drain on the margin of funds available for saving.[9] Help is available from various multilateral agencies and NGOs in developing remittance products and linking them with micro-finance—in which context the International Fund for Agricultural Development (IFAD) of the United Nations, USAID (which is providing funds for the WOCCU initiatives) and the Ford and Rockefeller Foundations are especially prominent.

Negative aspects of remittances

The overwhelming narrative of the remittances issue is a positive one, but it is important to recognise that such payments are the flipside of what is also the loss of labour abroad. Moreover, this labour is often the most highly skilled—the manifestation of the ‘brain drain’ that is a characteristic of the interaction between the rich and the poor worlds more broadly. Such labour migration causes skills shortages at home and imposes great human costs that come from people forced to be away from their families and their communities.[10] The existence of substantial labour migration from a country, and the remittance flows created as a consequence, is often a most eloquent statement about the lack of economic opportunities at home.

A concern sometimes voiced about remittances is that they might promote a variant of the so-called ‘Dutch disease’. A phenomenon identified with respect to the Netherlands in the 1960s, Dutch disease is the possibility that foreign exchange flows in one area (gas, in the case of the Netherlands) could result in the overvaluation of a country’s exchange rate and, as a consequence, make other areas of its economy uncompetitive. Given the often-chaotic nature of foreign-exchange arrangements in developing countries, Dutch disease effects with respect to remittances are almost certainly overstated. Certainly, as a problem, it would be swamped by far more significant ones in the case of Burma’s multiple exchange-rate arrangements—otherwise variously guided by government fiat (in the case of the ‘official’ rate) and the wild swings of sentiment that drive the unofficial value of the kyat.

[1] Surveys of the ever-growing literature on the role of remittances and poverty reduction can be accessed at the web site of the Institute of Development Studies (<>).

[2] For more on the impact of remittances on school attendance, see Yang (2005) and López-Córdova (2005).

[3] The Inter-American Development Bank (IADB 2003) found that, for Latin America, 5–10 per cent of remittances were immediately invested in business of some form (and a roughly similar proportion was used for education). Woodruff and Zenteno (2001) estimated that remittances provided about 20 per cent of the capital employed by more than 6000 urban micro-enterprises in Mexico. Yang (2005) and Aggarwal et al. (2006) likewise find evidence of remittances promoting entrepreneurship across many countries and circumstances.

[4] Gupta et al. (2007) and Ratha (2005) speculate that developing countries could raise funds on global financial markets by effectively ‘securitising’ future remittance flows.

[5] Empirical analysis by Aggarwal et al. (2006) reports ‘a robust positive impact of remittances on financial sector development’. Their study is backed up by a growing number of others suggesting a link between remittances, financial development and economic growth. See, for instance, Guiliano and Ruiz-Arranz (2005) and Gupta et al. (2007).

[6] On the role of financial institutions and economic development, see King and Levine (1993), Levine (1997, 2004), Beck et al. (2000a, 2000b) and Rajan and Zingales (1998). With respect to the relatively new findings positing a link between financial-sector development and better outcomes in poverty and inequality, see Beck et al. (2004) and Aggarwal et al. (2006).

[7] According to the UNDP (2005), up to 40 per cent of remittance recipients save at least some of their payments. Savings rates of senders seem to be highly variable according to context. According to Orozco and Fedewa (2006:4) in their work on the Americas, ‘on average, around 10% of remittances received are saved and invested’. For more on the link between savings and subsequent investment decisions, see Gupta et al. (2007:24).

[8] FIs around the world have recognised the potential of remittances. BancoSol of Bolivia, one of the world’s largest and most successful micro-finance institutions, has a special savings and loan product, ‘My Family, My Country, My Return’, through which remittance recipients can take out housing loans (Orozco and Fedewa 2006:16). Other mainstream banks and micro-finance providers offer similar products.

[9] Nevertheless, collective deals to reduce the fees that money-transfer firms charge micro-finance institutions have been done. For more, see Orozco and Fedewa (2006:13–15). ACLEDA Bank of Cambodia is one micro-finance institution that has partnered with Western Union.

[10] For more on the damaging impact of this brain drain, particularly on national health systems, see Clemens (2007).