Remittances and economic development

Remittances are a source of economic wellbeing for a large number of families of expatriates living in home countries and also lead to economic growth through consumption and development, where the state and banking sector play a key role in channelizing the remittances for productive economic activity

By M. S. Qazi
The NEWS

It is a known fact that after 9/11, the state of Pakistan’s remittances changed drastically. These increased gradually from almost $1.0 billion to $7.81 billion by the end of last fiscal year. During H1 FY-10 their amount was $4.531 billion, displaying an increase of $891.07 million or 24.48 per cent over the same period of last fiscal year. According to an optimistic estimate remittances would increase to around $9.0 billion by the end of current fiscal year, nearly half of the amount of projected exports. Major contribution in remittances is from expatriates working in UAE, UK, Saudi Arabia and a few other countries.

How is one to estimate further growth of remittances, in the light of economic slowdown in nearly all the countries where expatriates are concentrated, and the government’s expectation for further increase in them during the next few years? The government of Pakistan (GoP) conscious of the positive effects of remittances on an economy and poverty alleviation, a few months earlier launched PRI (Pakistan Remittances Initiative) to streamline flow of remittances through commercial banks and official channels, against illegal transactions through hawala system, with a focus on doubling the remittances within five years.

Remittances are a global phenomenon and their impact is more pronounced in South America, the Middle East and South Asia. Some economists consider remittances as a ‘development resource’ at par with domestic savings and foreign investment. On the contrary, a few IMF economists after carefully analysing their effect on economic growth and development, particularly in the long term perspective did not find any significant impact. This is because many countries, including Pakistan have not developed the required expertise and financial institutions to directly channelize the remittances towards increasing economic growth and development. The IMF study further revealed that, “a negative relationship between remittances and growth was found.” This observation is quite pertinent with reference to the recent boom in remittances and economic growth in Pakistan.

Despite such diametrically opposite views, remittances are a source of economic wellbeing for a large number of families of the expatriates living in home countries and also lead to economic growth through consumption and development, where the state and banking sector play a key role in channelizing the remittances for productive economic activity. Remittances are not risk free; they create excess liquidity unless it is mopped up in the banking system and concerted efforts are also made by the government to tone down fiscal deficit. Otherwise, they are likely to lead to higher inflationary pressures and create other fiscal and monetary distortions.

It was estimated that in 2008 more than $325 billion remittances were transferred worldwide through official and banking channels. According to an analysis during the past ten years, inflow of remittances to developing countries on an average amounted to one-third of their export earnings. In recent years, they became at par with the foreign direct investment (FDI) in developing countries and during the period of global financial crisis have performed much better than FDI. In Pakistan, FDI during first five months of current fiscal year have declined by 52.0 per cent compared to corresponding period of last fiscal year, but remittances have increased by around 22.0 per cent during this time, as compared to the corresponding period of last fiscal year.

The global financial crisis, which triggered in late 2008, certainly did negatively affect the flow of remittances. Recently added element was the fallout of the Dubai World. With particular reference to Pakistan and other South Asian countries, according to a World Bank (WB) report titled, Global economic prospects 2010; crisis, finance and growth in developing countries, “remittances inflows- a cushion for the region could fail to recover in the event of a prolonged global recession or a jobless economic recovery potentially coupled with tighter immigration controls.” Contrary to fears expressed in the report, inflow of remittances to Pakistan has been on the increase during past two years. The remittances increased to a record high level of $7.811 billion during FY09, compared to their inflow of $6.451 billion a year earlier. According to the SBP, “the monthly average remittances for the July-December 2009 period came out to be $755.17 million as compared to $606.67 million during the corresponding period of last financial year registering an increase of 24.48 per cent.” This is being attributed to a number of factors that include return of some of the expatriates, diversion of remittances partially from informal to formal channels, increased outreach of the banking sector because of the Pakistan Remittance Initiative (PRI) under which transfer of remittances is facilitated within 24 hours, and posting savings in the homeland country considered to be more secure than elsewhere.

According to the report, “South Asian countries are projected to benefit from stronger inflows of remittances which should boost private consumption and support growth particularly in Bangladesh, Nepal, Pakistan and Sri Lanka. Conflict ridden countries like Pakistan, Afghanistan and to a lesser extent Nepal, are expected to face more moderate growth as political uncertainty and fighting continues to disrupt economic activity.” South Asia’s growth is projected to firm up from 6.0 per cent in 2009 to 7.0 per cent in 2010 and further to 7.4 per cent in 2011. The region’s fiscal deficit is projected to continue to exceed its pre-crisis deficit of 5.7 per cent recorded in 2007. Pakistan has problems on account of containing fiscal deficit, inflation and boosting growth that need to be addressed.

The boom in the level of remittances is not occurring for the first time, though the amount remitted during last fiscal year and expected remittances during current fiscal year will be the highest ever. During the past two years economic growth slowed down. It touched a low level of 2.0 per cent during last fiscal year (FY09) but remittances were at a record high level of $7.811 billion. In the current fiscal year, an inverse relationship between high remittances and low economic growth will be reflected. The economy is projected to grow at 3.0 per cent, whereas remittances are expected to grow to around $9.0 billion. During the past five and a half years (including H1 of current fiscal year), remittances worth more than $32.0 billion became a part of the money supply in the financial market. However, they landed mostly in stocks, real estate and domestic consumption. In addition to this, national savings scheme (NSS) and commercial banks had their share. The financial market witnessed excessive liquidity that was diverted towards boosting consumption through consumer financing. There was hardly any concerted effort to divert a major chunk of remittances towards manufacturing, agriculture or agro-based industries either by the government or by commercial banks.

Lack of any concrete strategy to divert part of the remittances towards productive economic activity and a greater stress on consumption had a threatening effect on weak supply side of the economy. It resulted in developing inflationary pressures that was further aggravated because of expansionary fiscal policy of the government, soon after coming out of the IMF bailout package by end of 2004. In 2008, prices of essential commodities and food items hit new peaks. The cumulative effect of all these factors pushed the inflation to a record high of 25.4 per cent in August 2008. With respect to utilisation of remittances there is hardly any change. An amount of $9.0 billion received as remittances, if converted into domestic currency would mean Rs765 billion. Where would such an enormous amount of money end up? This is an important question that needs to be addressed by managers of the national economy. Huge remittances are a big national asset for a country, as they help in alleviating poverty, shoring up foreign exchange reserves and improving the current account. However they contribute little towards development because of shortage of significant expertise in channelising them towards productive economic activity. It is up to the managers of the economy to make the best use of remittances as a development resource. PRI is meant only to double the remittances in five years. The need to move beyond this limited objective is too obvious to be highlighted.