I found Rama Isibo’s article “Remittances can help or hinder progress” lacking in some quarters and I felt that I would put forward another point of view.
Mr. Isibo is indeed right that remittances are an important source of capital for developing countries. While less important than FDI, they surpass official development assistance and capital market flows.
Moreover, remittances are a stable source of capital; in contrast to FDI and portfolio investment, which recently fell sharply due to worldwide recession, remittances grew further, evidence of an anti-cyclical character.
However, I would emphasize further the power of these remittances; in addition to the direct impacts they have on migrant sending economies such as poverty reduction, reducing balance of payments deficits, reducing of foreign exchange shortages and increasing investments.
Remittances also have indirect impact, such as easing capital and risk constraints, releasing other resources for investment and generating multiplier effects of consumption spending.
However, where I believe Mr. Isibo’s article goes astray is comparing overseas development assistance to remittances, as these two sources of revenue are completely different in character.
Although remittances seem to be larger than foreign aid, they enter the economy in small units that go directly to individuals so as to increase private consumption. They also arrive in highly unequal amounts; while one sender may send small handfuls per month to a large family, another may send large sums on an annual basis to one or two family members. Remittances also have no specific target population other than family members back home; these family members may be poor and in great need of money, or they may be middle income and simply using the remittances as supplemental income.
On the other hand, foreign aid is lumpy and can go to either project or budget support, and they can have a direct and profound positive effect on development if the government has a clearly defined policy framework.
It is usually targeted towards specific populations or areas of the economy in need of help, and in cases where the government really knows what it wants, foreign aid could lead to technology transfers, bring in new management styles and skills – Rwandan government seems to be thriving on this aspect.
Nevertheless, I will agree with Mr. Isibo that surges in remittances can have negative effects and thus be accompanied by a number of policy challenges.
Remittances might negatively affect labour supply (the number of hours worked per week and, in a number of countries, also labour force participation). On the external front, remittances also seem to be accompanied by real exchange rate appreciation pressures.
While these effects are consistent with adjustments towards new equilibriums following a positive shock (that is, the surge in remittances), evidence suggests that some of the appreciations are usually linked to real exchange rate misalignments, which justifies the desire by policy makers to take mitigating actions in order to minimize competitiveness losses due to remittances.
In conclusion, productive investment does not depend on income, but rather on market infrastructure, interest rates, stock prices, macroeconomic policies and stable economic growth.
Hence, remittances are not a panacea and should follow models of sound macroeconomic management and development strategies in order to maximise their positive growth effects.
Liban Mugabo is a graduate student in Singapore