Remittances: boon or bane for growth?–I

Pakistan is the sixth largest recipient of remittances in the world, with the State Bank of Pakistan declaring a total of $29 billion received in 2022. Remittances play an important role in Pakistan’s economy, contributing 8.99% to its GDP, outpacing the global average of 5.32% (World Bank, 2021).

The Pakistani diaspora is also the sixth largest in the world, with migrants located in virtually every continent. The majority of remittance earnings arrive from Saudi Arabia ($5.7 billion), followed by the United Arab Emirates ($4.3 billion), and the United Kingdom ($2.9 billion).

The nation’s earnings outcompete Bangladesh’s and Vietnam’s, whose received remittances were $21 billion and $19 billion, respectively, for the same year. However, these were still below the Philippines’ at $38 billion and India’s at $100 billion.

Pakistan’s remittance earnings have been increasing over time, coinciding with the establishment of the Pakistan Remittance Initiative in 2009 and subsequent increased outreach of banks in the remittance market. In 2021, the Planning Commission recommended initiatives to increase remittances, which focused on making it easier for Pakistani labour to gain employment abroad.

This initiative should be approached with some caution, as little is mentioned about the use of remittances domestically to promote growth. As the nation attempts to expand this inflow, important questions arise, both macroeconomic (its relationship to economic growth, investment, and trade balance) and also microeconomic (its role in determining consumption patterns and labour supply).

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                 Figure 1: Sources of Remittances (Millions of USD)
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                         2023                         July-March
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Country          March           February        FY23           FY22         YoY Growth
                                                                                   FY23
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USA              316.0           219.4           2,288.60       2,218             3.20%
UK               422.0           317.0           3,053.20       3,193.40          4.40%
Saudi Arabia     563.9           454.6           4,910.60       5,827.80         15.70%
UAE              406.7           324.0           3,604.30       4298.0           16.10%
EU               298.6           245.3           2,334.40       2,508.40          6.90%
Total            1269.2          919.3           16,191.10      13,748           46.30%
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Source: State Bank of Pakistan
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The existing research is divided on whether remittances have a net positive or negative impact on Pakistan’s political-economy. What can be said with certainty is that the relationship between remittance inflows and long-term economic growth is highly heterogeneous. While remittances definitely increase consumption amongst recipients, that consumption, however, does not necessarily translate into long-term, non-volatile growth.

The State Bank of Pakistan’s (SBP’s) empirical analysis shows a positive correlation between remittance growth and economic growth. With the findings indicating a 1% increase in remittance flows results in a 0.15% increase in GDP growth as of 2017.

However, more recent econometric analysis in 2020 from the World Bank, Asian Development Bank (ADB), and independent research from economic institutes, have all shown that increases in remittance flows actually decrease economic growth for Pakistan. Perhaps this contradiction can be resolved through the one conclusion all the literature holds common - remittances have a negligible to negative impact on investment.

This conclusion is supported by the fact that the nations that have consistently shown a positive link between remittances and economic growth, such as India and Singapore, have placed considerable resources into channeling remittance flows towards investment into industry. Pakistan must shed its reliance on remittances, because while they may work as a short-term tool for poverty alleviation, they entail a host of negative externalities that hurt the nation’s long-term growth potential.

Research conducted in 2008 by the Social Science Research Network and in 2016 by the International Journal of Organizational Leadership has found that remittances do contribute to unemployment. Even when migration flows are excluded from the equation, remittances decrease incentives for labour force participation among recipient households.

Furthermore, a slight linkage exists between remittances and decreased working hours. Implying that those households which do work, have incentives to work for fewer hours knowing that wages can be substituted. The only caveat being that when remittances are directed towards productive investments such as small scale enterprises then unemployment decreases.

However, the consumption patterns in Pakistan do not support this argument. Pakistan’s average ratio of investment to GDP has been 17.2% since 1960, one of the lowest in the world, standing at 151 out of 175 countries. As of June 2022, the ratio of investment to nominal GDP was 15.2%. Compared to regional competitors, Pakistan’s savings are less than half of India’s (30.2% of GDP) and Bangladesh’s (36% of GDP).

A limited amount of research under the State Bank of Pakistan has shown that remittances are mainly used to acquire consumer durables and plots. Research by the ADB (Asian Development Bank) has shown that remittances are majorly utilized for consumption as well. Increased consumption is generally favourable, as it stimulates demand and generates employment. However, the larger pattern is one of dependency.

Both at the household level, where remittances depress labour-force participation, but also at the policy level where the state is less motivated to promote job expansion. Therefore, though remittances can help alleviate poverty, they cannot eliminate its structural determinants. Unless they are paired with long-term growth through promotion of industry, remittances only exist as a short-term solution for the nation’s balance of payments crisis.

While increased consumption on its own is beneficial for economies, remittances pose an opportunity cost that must be highlighted. Remittance inflows lead to exchange rate appreciation, decreased trade competitiveness, and a deteriorated balance of payments. The simplest way to understand this process is to envision remittances as a type of capital inflow. Economies become vulnerable to the Dutch disease when there are large, uncontrolled surges of capital inflow towards a particular sector.

(To be continued)

Copyright Business Recorder, 2023