Underutilisation of remittances in economy

Don’t count your chicken before they hatch is an idiom that goes quite well with our situation. Quite often we see monetary policy quoting record remittances. Remittances from abroad have been a significant source of foreign exchange inflows for Pakistan, contributing to the improvement of the current account deficit in monetary policy.

However, despite their positive impact on the current account balance, remittances do not translate into substantial economic growth in the country unlike other SAARC developing nations.

We are exploring the reasons why remittances fail to accrue meaningful benefits to Pakistan’s economy beyond addressing the current account deficit and propose solutions to ensure their effective utilization.

The current situation

Pakistan has long been dependent on remittances from its diaspora to bolster its foreign exchange reserves and offset trade imbalances.

According to the State Bank of Pakistan, remittances have shown a consistent upward trend over the years, contributing significantly to the country’s external finances. However, the economic impact of these remittances remains limited. As per the SBP data, remittances have increased from US $443 million in June FY06 to US $2,055 million in June FY23 with minor and major deviation during these years.

Challenges and limitations

Labour income: One of the primary issues with remittances is that they do not lead to a substantial increase in labor income within Pakistan. While remittances do provide financial support to recipient families, they do not necessarily enhance local job opportunities or improve wage levels for the general workforce. This lack of direct impact on the labor market hinders the overall economic growth.

Appreciating exchange rate: The influx of remittances often leads to an appreciation of the exchange rate, making the country’s exports less competitive on the international market. As a result, Pakistan’s export-oriented industries face challenges, leading to a slower growth rate in the manufacturing sector.

Leisure as a normal good: When people receive remittances, their disposable income increases, making leisure activities more affordable. Consequently, the incentive to work diminishes as individuals may prefer leisure over engaging in productive economic activities. This phenomenon could hinder workforce productivity and dampen economic growth.

Inequality factor: Remittances can exacerbate inequality, particularly income inequality in the country since the remittances receiving households experience a higher stability in financial standing compared to the households surviving without remittances, in other words, remain economically advantaged. Such income disparity may lead to instability and social tensions.

Brain drain: The charm of better opportunities in foreign countries is leading to a “brain drain” situation since skilled laborers and professionals seek employment abroad. This talent migration creates shortages of labor in critical sectors which can also lead to limited human capital development.

As per the available statistics, around 225,000 nationals in 2021 moved across borders for greener pastures that increased three times, to 765,000 last year.

A significant portion comprises of highly educated professionals such as accountants, doctors, engineers and technology experts.

There is New Economics of Labor Migration theory, which says, among other things, that migration is a decision of a family as a whole instead of an individual with an aim of receiving higher income in the form of remittances which offsets the reduced income generated by the migrated member had they not migrated.

However, we question this idea in context of Pakistan where the country needs skilled and educated individuals for development.

We cannot afford such mass migrations since the economic value of productive and skilled labor is way higher than the remittances we receive, especially in a country like Pakistan where remittances aren’t being put to productive use, and thus creating limited economic value as a whole.

Non-productive use: We usually observe that remittances in many households are consumed for non-productive purposes that include real estate investments, conspicuous consumption, etc., instead of being channeled into sectors that can translate into stimulating economic growth, one of the reasons being the trust deficit in the economy. On the broader level, such misuse of funds limits the potential benefits of remittances that a country could have achieved otherwise.

Proposed solutions

Consumer investment and documentation of remittances: Establishing a robust system is the need of the time to ensure documentation of inflows and utilization of those remittances in the form of investments. Understanding where these inflows are being channeled will help policymakers identify those areas where these funds could be used for better outcomes to drive economic growth.

Encouraging investment in productive sectors: Incentivizing redirection of remittance inflows towards more prolific sectors such as technology, manufacturing and agriculture should be at the rim of the bucket list of policymakers. This can be achieved through subsidized loans, targeted tax incentives and investment facilitation programmes.

Enhancing inclusion and financial literacy: Better literacy among remittances receivers will help them make better decisions regarding savings and investments that would also reflect in overall economy’s growth. Hence, efforts must be made with an aim to enhance financial inclusion. Access to formal banking channels and healthy financial opportunities are prerequisite and a catalyst to achieve above mentioned goal.

Human capital investment and skill development: In order to tackle brain drain, the government needs to focus on creating such an environment that invests in human capital and promotes skill development. Competitive employment opportunities as well as supportive policies will aid us retain our skilled workforce and bring back the skilled professionals to Pakistan.

Without a doubt, remittances have played a central role in improving Pakistan’s current account deficit. However, the potential to stimulate sustainable economic growth remains largely untapped owing to challenges such as exchange rate appreciation, labor income, and non-productive use, trust issues in economy and leisure preferences.

By documenting remittances and encouraging investment in productive sectors, the country can unlock the full potential of remittance inflows and ensure a robust and more inclusive economy for the citizens.

Besides, fostering human capital development and addressing brain drain will definitely contribute to long-term economic fortune and reduce dependence on remittances as primary source of foreign exchange.

Copyright Business Recorder, 2023