Remittances and Financial Development: Substitutes or Complements in Economic Growth?

Abstract

Recent studies indicate that the effect of migrants' remittances on the economic growth of receiving countries depends negatively on the level of development of the domestic financial sector. In this paper, we introduce a new indicator of financial development to measure the efficiency of the domestic banking system, and find the existence of complementarity between remittances and bank efficiency in economic growth, such that remittances promote growth only in countries whose banks function well. This result is robust to controls for other traditional measures of financial depth and institutional quality indicators.

The Effect of Remittances on Economic Growth in Kyrgyzstan and Macedonia: Accounting for Financial Development

“…We introduce remittance (per cent of GDP) and financial development as shift variables (Rao, ). The financial development is measured by the domestic credit to private sectors (per cent of GDP) (Bettin & Zazzaro, ; Beck et al., ). Following Kumar and Stauvermann (,b), we describe the relationship between remittances and financial sector with a Cobb‐Douglas function:where θ > 0 represents the elasticity of remittances, respectively.…”

“…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 remittances and growth, a number of studies have accounted for the role of financial development (Giuliano and Ruiz‐Arranz, ; Nyamongo et al., ; Bettin and Zazzaro, , among others).…”

“…() 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 () developed and used a bank inefficiency 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 remittances on growth was negative (positive) in countries where bank efficiency was low (high).…”

“… However, we argue that this is possible in countries with less developed financial sector provided there is a substantial demand for funds for productive investments and high efficiency (c.f. Bettin & Zazzaro, ). …”

Africa's Money in Africa

“…() from a sample of 162 countries concludes that sound institutions help in efficiently channelling remittance towards investment purposes for meaningful impact in the recipient country. Although Kapur () expresses scepticism towards the role of institutions in enhancing economic impact of remittance, Bettin and Zazzaro () maintained that institutions can enhance efficient utilisation of remittance through policies that deepen the financial sector and its efficiency in credit allocation. This can occur by offering incentives to encourage remittance recipients to invest the funds, encourage saving culture remittance recipients and ensure reduction of transaction cost (Bettin and Zazzaro).…”