The Effect of Remittances on Economic Growth in Kyrgyzstan and Macedonia: Accounting for Financial Development
| Date | 01 February 2018 |
| Published date | 01 February 2018 |
| Author | Arvind Patel,Peter Josef Stauvermann,Ronald Ravinesh Kumar,Selvin Prasad |
| DOI | http://doi.org/10.1111/imig.12372 |
The Effect of Remittances on Economic
Growth in Kyrgyzstan and Macedonia:
Accounting for Financial Development
Ronald Ravinesh Kumar*
,
** , Peter Josef Stauvermann***, Arvind Patel* and
Selvin Prasad*
ABSTRACT
Kyrgyzstan and Macedonia have experienced a reasonable increase in remittances over the last
twenty-five years. Subsequently, the extent to which remittances can be instrumental for eco-
nomic development of the two countries has gained serious attention in recent development
dialogues. The aim of this study is to examine the impact of remittances versus financial
development on the economic growth of the two counties, complementing the burgeoning
interest and focus on remittances for policy. The short-run and the long-run effects and the
causality dynamics of remittances and financial development, are explored. The results show a
long-run positive impact of remittances on the economic growth of these countries. The impact
of financial development is negative, significant only for Kyrgyzstan and not statistically sig-
nificant for Macedonia. The causality results show that remittances support economic growth
for Kyrgyzstan, whereas economic growth appears to propel remittances for Macedonia.
INTRODUCTION
Remittances are defined as personal transfers (cash and in-kind) and compensation of workers (in-
come from border, seasonal and other short-term works) (World Bank, 2017). While remittances
are an important source of income for emigrants’families, it is often exposed to exchange rate risk
and transaction costs. As such, it is not surprising that the impact of remittances on growth can be
ambiguous and depends on whether remittances are used for consumption or investment purposes.
The net amount of this income largely depends directly on the associated transaction costs related
to the money transfer. Also, the high costs incurred in sending or receiving remittances often
encourage the use of informal money transfer services (IFTs) (Coxhead & Linh, 2010), e.g. postal
services and friends or relatives travelling to the recipient countries, as means to send remittances.
The flow of remittances is also influenced by the degree of competition among the transfer service
providers, legal restrictions imposed by monetary authorities on the service providers, senders and
recipients, and the availability of information to the senders and recipients. Additionally, the quality
of infrastructure such as telecommunications, finance and local transport services are necessary to
ensure smooth transfer of remittances to the recipients (Kock & Sun, 2011).
* University of the South Pacific, Fiji
** University of Leicester, UK
*** Changwon National University, South Korea
doi: 10.1111/imig.12372
©2017 The Authors
International Migration ©2017 IOM
International Migration Vol. 56 (1) 2018
ISSN 0020-7985Published by John Wiley & Sons Ltd.
In general, remittances can help to overcome poverty and the liquidity constraints of emigrants’
families, where both effects reduce the likelihood of income and wealth inequality in the home
country (Stark et al., 1986; Taylor & Wyatt, 1996; Ratha, 2007; Buch & Kuckulenz, 2010; Rao &
Hassan, 2012). However, remittances, which can be similar to welfare benefits, change the eco-
nomic incentive structure and therefore the economic behaviour of the receivers. Therefore, it is
unclear if these changes will have a desirable impact on key economic variables, including eco-
nomic growth. In the extreme, remittances can result in conspicuous consumption (Rempel & Lod-
dell, 1978) which may frustrate non-migrants and discourage the labour supply of the receiving
relatives in their home country. It is also conceivable that remittances can promote moral hazard on
the side of the receiving relatives (Chami et al., 2005) or the government of the home country
(Grabel, 2009). This phenomenon appears when migrants’relatives and/or the government of the
home country reduce their efforts in improving the economic performance and instead rely on
remittances as a source of income predominantly to furnish consumption. In this regard, both con-
spicuous consumption and moral hazard reduce the growth performance of a country. A second
argument is that remittances are used as a kind of informal insurance against local risks and shocks
(e.g. natural disasters) by saving the remittances first and in case of a realized risk to consuming
the savings to maintain consumption level (Yang, 2011). Additionally, remittances can be used as a
source of finance for human (Rapoport, 2002; Rapoport & Docquier, 2003) and physical (Stark,
1991) capital investment.
It is widely accepted that a well-developed and well-functioning financial sector is integral for
economic growth and development (Bagehot, 1873; Schumpeter, 1912; Cameron, 1967; Goldsmith,
1969; McKinnon, 1973; Shaw, 1973). The underlying argument (Levine, 2005) is that a well-func-
tioning financial sector and its institutions produce information about possible investments, allocate
savings efficiently, monitor investments, exert corporate governance, facilitate trading and diversifi-
cation, and manage risk. The financial sector is well placed to mobilize funds like remittances to
productive investments and income/employment generating activities (Gregorio & Guidotti, 1995;
Demetriades & Hussein, 1996; Calder
on & Liu, 2003; Adenutsi, 2011; Valickova, Havranek, &
Horvath, 2015; Durusu-Ciftci, Ispir, & Yetkiner, 2017). It should be noted, however, that improved
resource allocation and lower risk imply opposing income and substitution effects which may result
in lower savings rates and less capital accumulation (Levhari & Srinivasan, 1969). The conse-
quence could be that better financial services may cause a growth-retarding effect.
The nexus between remittances, financial development and economic growth has been of interest
to migration scholars for quite some time. Whenever it was noted that remittances have increased
in or perceived to have an impact on a particular country or region, subsequent studies have fol-
lowed in conjunction with financial development. The majority of these studies conclude that remit-
tances have pro-growth effects in the presence of an efficient financial sector (Demirg€
ucß-Kunt,
C
ordova, Peria, & Woodruff, 2011; Aggarwal, Demirg€
ucß-Kunt, & Peria, 2011; Ramirez, 2013;
Kumar, 2013; Menyah, Nazlioglu, & Wolde-Rufael, 2014; Chowdhury, 2016).
Recently, remittances have become a centre of discussion for the development of Kyrgyzstan and
Macedonia (Karymshakov, Abdieva, Sulaimanova, & Sultakeev, 2015; Blagica, Tumanoski, Pet-
reska & D
avalos, 2016; Petreski, Petreski, & Tumanoska, 2017). In 2015, remittances as a propor-
tion of GDP for Kyrgyzstan was 25 per cent compared with 22.5 per cent the previous year.
Macedonia, on the other hand, recorded remittances close to 3 per cent of its GDP (Figures 2 & 3).
Although there is a significant difference in terms of remittance inflows as a share of GDP, both
countries have acknowledged remittances to be a valuable source of income to propel socio-eco-
nomic development. Additionally, Karymshakov et al. (2015) and Blagica et al. (2016) highlighted
the need for financial institutions like banks and pension funds in improving the impact of remit-
tances in Kyrgyzstan and Macedonia. However, there are no studies so far to ascertain the plausible
impacts of remittances in conjunction with financial development on the growth of the two coun-
tries. Thus, by exploring the short-run and long-run effect of remittances viz. financial
96 Kumar, Stauvermann, Patel and Prasad
©2017 The Authors. International Migration ©2017 IOM
development, this study provides a timely contribution to the development policy dialogues, and
more specifically on the prospects of economic growth in the two countries.
The balance of the article is organized as follows. In the next section, a literature review of
remittances and financial development is discussed. This is followed by a brief background and jus-
tification of choosing the two countries in section 3. In section 4, guiding theories, data and
methodology are discussed, followed by the results from the analyses in section 5. Policy is dis-
cussed in section 6 and finally conclusion follows in section 7.
LITERATURE REVIEW
There are some evidences that remittances boost economic growth, alleviate poverty and stabilise
consumption that can emerge from various shocks (Adams & Page, 2005; Adams, 2009; Combes &
Ebeke, 2011; Driffield & Jones, 2013). However, it is noted that the effects of remittances on growth
can be unique for each country given the differences in terms of income, population, infrastructure,
among other things. Studies which examined remittance-led growth hypothesis have, for the most
part, showed mixed outcomes: Acosta et al., (2008), Mundaca, (2009), Catrinescu et al., (2009)
Chami et al., (2009), Jawaid and Raza, (2012), Ramirez, (2013), Datta and Sarkar, (2014), Ramirez,
(2014), Imai, Gaiha, Ali and Kaicker, (2014), and Nwaogu and Ryan, (2015), among others.
1
The role of financial sector development in shaping growth and development (Schumpeter, 1911;
Mckinnon, 1973; Shaw, 1973; Greenwood and Jovanovi
c, 1990; King and Levine, 1993; Beck
et al, 2013; Valickova, et al., 2015; among others) is at least as important as remittances. The func-
tion of financial sector extends to pooling, allocating and mobilising funds into productive projects,
promoting entrepreneurship, facilitating trade of goods and services, diversifying and managing risk,
and supplying access to credit. The efficient transfer and use of remittances thus requires a close
link with the services offered by the financial institutions. Subsequently, for richer analysis of remit-
tances and growth, a number of studies have accounted for the role of financial development (Giu-
liano and Ruiz-Arranz, 2009; Nyamongo et al., 2012; Bettin and Zazzaro, 2012, among others).
Giuliano and Ruiz-Arranz (2009) examined the impact of remittances on growth in one hundred
countries and concluded that countries with less developed financial system can use remittance as
an alternative form of liquidity to boost investment and growth.
2
Similarly, Aggarwal et al. (2011)
considered one hundred and nine countries over the periods 1975 to 2007 and examined the link
between remittances and financial development. They found a positive and significant association
between financial development and remittances viz. economic development. With municipal level
data for Mexico and focussing on the depth and breadth of the banking sector, Demirguc-Kunt et al.
(2011) also found a strong association between the two. Ramirez (2013) estimated the impact of
remittances and financial variables on the economic growth of selected high- and low-income coun-
tries in Latin America and the Caribbean. The results showed that a positive effect of remittances in
both income groups were stronger in the presence of credit, although credit and the degree of eco-
nomic freedom were positive and significant only in the upper income countries. Nyamongo et al.
(2012) investigated thirty-six African countries and concluded that the association between growth
and remittances was positive, growth and volatility in remittances was negative, and remittances
complemented financial development. Bettin and Zazzaro (2012) developed and used a bank ineffi-
ciency index in addition to the other measures of financial development such as the ratio of liquid
liabilities of the financial system to GDP (M2), the ratio of domestic credit provided by the banking
sector to GDP, the ratio of bank deposits to GDP and the ratio of claims on the private sector to
GDP. Using a sample of sixty-six countries, the results from this study showed the impact of remit-
tances on growth was negative (positive) in countries where bank efficiency was low (high). On the
other hand, Chowdhury’s (2016) study looked at a sample of thirty-three top remittance receiving
The effect of remittances on economic growth 97
©2017 The Authors. International Migration ©2017 IOM
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