The Role of Migrant Remittances in Reducing Poverty and Inequality in Developing Countries - Essay Example

The Role of Migrant Remittances in Reducing Poverty and Inequality in Developing Countries Introduction For a developing country that lacks economic opportunities for large parts of its population, the ability of workers to migrate and find work in other countries is an important source of income for families and a key part of the national economy. At the beginning of this decade, it was estimated that about 175 million people – a number approximately equal to the entire population of Brazil, by way of comparison – were working outside of their home countries, making remittances, earnings sent back to the home countries to support families, the second-most important source of outside funding for the developing world. (Adams & Page, 2005: 1645) This essay explores whether or not migrant remittances reduce poverty and income inequality in developing countries, and if so, to what degree. Intuitively, it would seem that remittances do make a significant positive contribution. A migrant earning from a well-paying job, or at least one that pays significantly more in the host country than in his homeland, can add a large amount to his family’s income with just a small percentage of his earnings. (Goldfarb, et al., 1984: 3) There have been numerous studies done with the aim of quantifying the effect of remittances; this essay examines a few of these, first in relation to remittances’ effect on poverty levels, and second with respect to their impact on income inequality. Based on these studies, some conclusions as to the overall impact of remittances will be offered. The Impact of Remittances on Poverty In the simplest terms, remittances from migrant workers do reduce poverty – defined in most every study as a daily income of less than $1.00 per day – but the recent studies that have defined the degree of the poverty reduction effect make a number of qualifications. The impact of remittances seems to be fairly consistent. Adams and Page (2005) determined that a 10% increase in remittances leads to a 3.5% decrease in the number of people living in poverty. A study two years later found that every 1% increase in the ratio of remittances to GDP reduced the poverty population by 0.4%, or about 4% if defined in the same way as the 2005 study. (Acosta, et al., 2007) There are a number of variables that have to be considered in order to make a general assessment of remittance effects on poverty. The distance from the home country and the level of education of the workers greatly affect the amount of money that is remitted. The farther the migrant has had to travel, the less money he is able to send back to his home country. In addition, better-educated workers, who have better-paying jobs, tend to remit less money back to their families at home. (Adams & Page, 2005; Adams, 2009) Somewhat paradoxically, the greater the poverty in the home country, the less in total remittances it receives as the number of higher-skilled workers that migrate increases. (Acosta, et al., 2007; Adams, 2009) The reasons for that may be that higher-skilled workers are more inclined to bring their families with them and settle in their host countries, and in other cases, their remittances are directed more to business or investment opportunities in their home countries rather than day-to-day living expenses; the more impoverished the host country, the fewer the investment opportunities that are available, and thus less is remitted overall. For lower-skilled workers, however, the poverty level in the home country does not seem to make a difference; the amount of remittances is related to the number of workers migrating, and cannot be related with any statistical significance to the poverty level. (Adams, 2009: 98-100) The exchange rate between the currencies of the host countries and the home country also affects the amount of remittances. When the exchange rate favours the currency of the host country, remittances decrease slightly, and increase when the exchange rate favours the currency of the home country. (Freund & Spatafora, 2008: 361) What seems to happen is that when the recipients can receive more of their home currency per unit of remitted foreign currency (i.e., the home currency is lower in value), the migrants remit more in order to take advantage of the favourable exchange. When the home currency increases in value, the migrants’ families receive less of it for every unit of the remitted foreign currency. In that case, the same amount remitted is lower in value in the home country. The migrants also actually reduce their remittances slightly, possibly waiting for a more favourable exchange, but also because transaction costs – fees charged to make money transfers – become proportionally higher. Not all of the remittances that account for a measurable decrease are actually held back, however; much is simply transferred from “formal” or “official” remittance channels, i.e. those that lead to money being deposited in bank accounts, to informal ones with lower transaction costs, which are harder to track. (Freund & Spatafora, 2008) The Impact of Remittances on Inequality While remittances do have the effect of reducing poverty under certain circumstances, they do not seem to have much effect at all on reducing income inequality. In most countries the Gini ratio for remittances is extremely high; in one study in Latin American countries it was found to be above 0.9, meaning that the distribution of income from remittances alone is very unequal. The closer the Gini ratio of remittances is to the Gini ratio of total income, however, remittances do have a small equalising effect on incomes. (Acosta, et al., 2007: 17) In other words, the less income inequality there is in the first place, the more remittances can reduce that inequality even further. In countries where income inequality is greater, an increase in remittances actually causes a small increase in income inequality, by about 0.2% for every 10% increase in remittances. (Acosta, et al., 2007: 18) There are several possible causes for the lack of positive effect of remittances on income inequality. The greater the poverty level and level of income inequality, the less likely migrants are to report remittances, or use “official” remittance channels. (Acosta, et al., 2007; Freund & Spatafora, 2008) A more obvious cause is the availability of more and better-paying work opportunities for higher-skilled workers than for lower-skilled workers. In countries with a greater level of poverty, the proportion of higher-skilled migrants to lower-skilled ones is much greater; since the remittances from higher-skilled migrants benefits families that are already comparatively better-off than their lower-skilled counterparts in the home country, these remittances tend to aggravate the problem of the income gap. (Stark, et al., 1988: 320) Conclusion Drawing definite conclusions that remittances reduce poverty and income inequality is difficult to do, because of the great many variables that have an impact on the analysis. A large part of the problem is that much of the remittance income of many developing countries is ‘informal’, and therefore not accountable; for example, Freund and Spatafora (2008: 363) found that anywhere from 5% to 80% of remittances could be considered informal. This could mean that the observed effects of formal or ‘official’ remittances are not really representative of the true consequences of remittances; adding informal remittances to the calculations might show greater improvements in poverty levels and income inequality, or they might make the problems worse. There is simply no way to tell without being able to account for them, and so the assumption is made that the effects that can be calculated from the amount of remittances that can be tracked is fairly representative of the effects of all remittances. This is a big assumption, and adds a significant degree of uncertainty to any conclusions about remittance benefits. If the assumption is correct, the research indicates that remittances do have a slight impact towards reducing poverty levels, but that this positive effect diminishes the more impoverished the home country is. The possible exception to that, however, depends on the institutional environment of the home country; if it is stable with institutions that support efficient investment and development, overall poverty levels do drop as an indirect result of remittances. (Catrinescu, et al., 2009: 90) On the other hand, it could be said that more impoverished nations are less likely to have sound institutions, and therefore the effect of the institutional environment is just a reflection of the country’s overall condition. In terms of income inequality, it seems that remittances have the effect of actually increasing income inequality, although the effect is rather small. Again, the uncertainty about the effect of informal remittances makes it difficult to draw a firm conclusion, and suggests, at least anecdotally, that the negative effect of remittances in terms of inequality might not be as bad as it seems; after all, it is the lower-income and less-skilled workers who are more likely to use informal remittances channels or otherwise not report remittances, and may be receiving more than can be known. (Acosta, et al., 2007) In either case, the impact of remittances is very small. Even the best-scenario mentioned above, where a 10% increase in remittances means that the poverty-stricken population is reduced by up to 4%, means that if a country has one million migrants working abroad, the deployment of another 100,000 migrants will only raise 4,000 people in the home country above the poverty line. This seems to be a small return for the amount of human resources used, and suggests that at best migrant remittances should only be considered as a temporary measure to help ease a population’s economic burdens while more sustainable development is being pursued. References Acosta, P., Calderón, C., Fajnzylber, P., and Lopez, H. (2007) “What is the Impact of International Remittances on Poverty and Inequality in Latin America?” World Bank Policy Research Working Paper 4249, June 2007. Retrieved from http://ideas.repec.org/p/ wbk/wbrwps/4249.html. Adams, R.H. (2009) “The Determinants of International Remittances in Developing Countries”. World Development, 37(1): 93-103. Adams, R.H., and Page, J. (2005) “Do International Migration and Remittances Reduce Poverty in Developing Countries?” World Development, 33(10): 1645-1669. Catrinescu, N., Leon-Ledesma, M., Piracha, M., and Quillin, B. “Remittances, Institutions, and Economic Growth”. World Development, 37(1): 81-92. Freund, C., and Spatafora, N. (2008) “Remittances, transaction costs, and informality”. Journal of Development Economics, 86: 356-366. Goldfarb, R., Havrylyshyn, O., and Mangum, S. (1984) “Can Remittances Compensate for Manpower Outflows”. Journal of Development Economics, 15: 1-17. Stark, O., Taylor, J.E., and Yitzhaki, S. (1988) “Migration, Remittance, and Inequality”. Journal of Development Economics, 28: 309-322. Read More