The impact of workers' remittances on economic growth: evidence from ECOWAS countries.

Author:Koyame-Marsh, Rita O.
Position:POLITICAL, ECONOMIC, SOCIAL, AND CULTURAL, DEVELOPMENTS IN THE THIRD WORLD - Economic Community of West African States - Report
 
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INTRODUCTION

Workers' remittances represent one of the most important sources of external flows of capital and foreign exchanges for many developing countries. They play an important role in the lives of their recipients. This is particularly the case in sub-Saharan African countries where resources are constrained and real output growth is often negligible. The impact of workers' remittances on real output growth can be positive or negative depending on how recipients use remitted funds. If recipients use remittances for productive investments rather than consumption or household expenditures, then, remittances should have a positive effect on real GDP growth. However, most of the studies in the literature (see next section) have found that the share of remittances that goes into uses that can be categorized as investment is often very small and are usually not productive in terms of the economy as a whole. Recipients mostly use remittances for consumption expenditures.

Since recipients of remittances often use remitted funds to further their standard of living by paying for consumption expenditures such as food, health care. education, and so forth, workers' remittances should not be expected to stimulate economic growth. Indeed, increase in consumption has a propensity of stimulating imports, especially in developing countries where the industrial sector is not well developed. Thus, remitted funds that are used for consumption are less likely to improve output growth in the recipients' countries. Moreover, there is a potential for a moral hazard problem between the remitters and recipients of remittances. Recipients of remittances might act in ways that can reduce their work efforts without the knowledge of the remitters.

In view of the belief that remitted funds are mostly spent on family expenses and given the existence of the moral hazard that reduces work efforts of recipients, we believe that workers' remittances are more likely to have a negative effect on GDP growth rate. We shall, thus, empirically test the hypothesis that workers' remittances are detrimental to the economic growth of recipients' countries. We use time series data on workers' remittances and the real GDP growth rate often sub-Saharan African countries, members of the Economic Community of West African States (ECOWAS). Data are from 1976 to 2007 for Benin. Burkina Faso, Cote D'Ivoire, Gambia, Ghana, Mali, Niger. Nigeria, Senegal, and Togo. Additional control variables such as the initial level of per capita income, gross domestic investment (gross capital formation), Foreign Direct Investment (FDI), and total external debt, are also included in the regression model. We found that workers' remittances do not stimulate economic growth in any of the ten ECOWAS countries. However, they seem to have a significantly negative impact on real output growth of Benin.

The second section of the paper examines the literature review on theoretical and empirical studies of workers' remittances and growth. The third section discusses the empirical model used in this study and the results of the regression analysis. The paper ends with a conclusion where some policy implications of the findings of this study are discussed.

LITERATURE REVIEW

Several theoretical studies of remittances in the literature found that only a small fraction of remitted funds is saved and used for investment while the rest is used for consumption expenditures. Studies by the African Development Bank (AfDB) in the cases of Mali, Senegal, Morocco, and Comoros, (1) Brown in the case of Western Samoa and Tonga, (2) Durand et al. in the case of Mexico, (3) Glytsos in the case of Greece, (4) Gilani in the case of Pakistan, (5) and Oberai and Singh in the case of India, (6) all found that a highly significant portion of remitted funds is spent on consumption in these countries. In addition, the AfDB's study of workers' remittances in Mall, Senegal, Morocco, and Comoros, (7) Adelman's paper on Pakistan, (8) Adams' study for Pakistan, (10) and Adams' study for Egypt, (10) found that the share of remittances that goes into uses that can be categorized as savings or investment is often very small and is usually not productive in terms of the economy as a whole.

Moreover, surveys conducted by the AfDB in its study of Mall, Senegal, Morocco, and Comoros, which show a distribution of workers' remittances by recipients amongst different budget items reveal that a higher portion of remittances received in the four countries goes to family expenditures on goods and services at an average rate of 98 percent in Senegal and 94 percent in Mali. Health expenses come in second in the use of workers' remittances and education/training expenses rank third in both Senegal and Mali. Productive investments rank sixth in the utilization of remittances in Senegal and fifth in Mali on a scale of one to seven. (11) Mali and Senegal are two of the ten ECOWAS countries used in this study.

Even though the AfDB's surveys included only two of the ten countries used in this study, we believe that its findings could be extended to the remaining eight countries. Indeed, the share of remittances in the budget items of households in these eight countries is probably not very different from that of Senegal and Mali.

Finally, there are studies that ascertain the existence of moral hazard associated with workers' remittances which causes the latter to have an adverse effect on GDP growth. A study by Chami et al. argued that since remittances are often used as a non-market substitute for wages to help protect recipients against negative income shocks, it is possible for the recipients to exploit the remitters by cutting down their work efforts and live off remittances. In this case, the recipients' contribution to production and output growth decreases. Due to this moral hazard, workers' remittances are found to be detrimental to the labor force participation rate of receiving countries which in turn reduces long-term output growth. (12)

Kozel and Adelman found that remittances had a substantial negative effect on labor force participation of males in Pakistan. (13) Similarly, Itzigsohn, using a sample of Caribbean cities, found that remittances significantly reduce labor force participation of not only heads of households but also of other members of the families. (14)

Nevertheless, we believe that the part of workers' remittances that is spent on education might, over time, contribute to output growth if it leads to the improvement in recipients' skills, assuming that opportunities exist for these skills to be put to higher-value uses. The effect of education on output growth might be insignificant if recipients drop out of school or, if after they graduate, they have trouble finding a job where they can be productive.

There are few studies in the literature that have empirically examined the role of workers' remittances on economic growth. However, the results of these studies have been mixed. Some studies such as Chami, et al. and Karagoz found a negative relationship between workers' remittances and economic growth. Chami et al. used a panel of aggregate data of I 13 countries and found that workers' remittances had a negative impact on real per capita GDP growth. They argued that significant inflow of workers' remittances can cause a decrease in the work effort of the recipients and labor force participation which in turn lowers output. The authors also affirm that remittances are countercyclical compensatory flows that are not often used for productive investment by recipients. (15) Karagoz used 1970-2005 time series data for Turkey and found a negative relationship between workers' remittances and GDP growth. (16)

Other empirical growth studies of workers' remittances such as Iqbal and Sattar and Kandil and Mirzaie found that workers' remittances have a positive impact on economic growth. Iqbal and Sattar used time series data from 1972-73 to 2002-03 for Pakistan and found that workers' remittances had a positive effect on real GDP growth. They argued that because remittances are used by recipients to supplement domestic consumption and investment, they should directly or indirectly contribute to economic growth. (17) Kandil and Mirzaie used 1975-2003 time series data for a sample of nine MENA countries and found that remittances contributed to output growth of Jordan only. The growth in GDP was coupled with an increase in consumption, investment, exports, and imports. (18)

DATA ANALYSIS

The empirical model in this study analyzes the impact of workers' remittances on real GDP growth using 1976-2007 time series data for each of the following ten ECOWAS countries: Benin, Burkina Faso, Cote D'Ivoire, Gambia, Ghana, Mali, Niger, Nigeria, Senegal, and Togo. Data on workers' remittances are from the World Bank and include only remittances that migrants send home via formal channels. (19) However, since migrants not only send money home via formal channels but also via informal channels, data collected by the World Bank on remittances might underestimate the true size of remittances. Nevertheless, we believe that the amount of remittances sent through informal channels is very small and should not affect the results of this study.

The time period of this study could be divided into two periods, pre and post September 11, 2001. However, when examining the series on remittances, we did not observe any significant change in workers' remittances flows to these countries after September 11, 2001. In addition, there are no historical events of higher importance such as civil wars that could impact the flow of remittances to these ECOWAS countries during the time period of this study. Indeed, except for Cote D'Ivoire which experienced periodic political turmoil that started after the death of President Felix Houphouet-Boigny in 1993...

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