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Tuesday, September 08, 2009 Add to Clippings Print Story

Role of remittances
Dr Ashfaque H Khan

Remittances constitute one of the largest and more resilient sources of foreign exchange
earnings for developing countries including Pakistan. The flow of workers' remittances to
developing countries has grown steadily over the past three decades – rising from $18 billion in
1980 to $328 billion in 2008; approximately an 18-fold increase. Within developing countries,
South Asia accounted for 23 per cent, that is, $74 billion. India alone accounted for 70 per cent
($52 billion) remittances in South Asia followed by Bangladesh (12 per cent or $9 billion) and
Pakistan (9.5 per cent or $7 billion). These three countries together accounted for almost 92
per cent or a remittance inflow of $68 billion in South Asia in 2008.

Workers' remittances in Pakistan continued to exhibit a rising trend over the last one decade
(1999/00-2008/09). These have grown eight fold in 10 years – rising from $984 million to $7.8
billion. United States, UAE, other GCC countries and Saudi Arabia accounted for over 79 per
cent of total inflow of remittances.

The surge in remittances flows in Pakistan during 2008-09 has surprised many analysts. In the
midst of the global economic meltdown and rise in unemployment, remittances grew by over
21 per cent in 2008-09. This surge in inflow was not only limited to Pakistan but South Asia as a
whole registered an increase of 33 per cent. Why did remittances surge in South Asia in general
and Pakistan in particular during the outgoing fiscal year? There are several views in this
respect. Firstly, migrants may have lost their jobs in host countries and have returned with their
savings; hence, the jump in remittances flows. Secondly, Saudi Arabia, UAE and other GCC
countries are major destinations for the Pakistani migrants. It appears that these countries
have not sent Pakistani workers back home in large numbers. Thirdly, falling property prices,
rising interest rate differentials and a sharp depreciation of exchange rate may have played
important roles in attracting large remittance inflows for investment purposes as opposed to
consumption purposes.

Why are remittances important for developing countries like Pakistan? The developmental
impact of remittances is widespread as it affects various sectors of the economy and helps
improve living standards; these are non-debt creating inflows and help in developing the
financial sector in recipient countries.

In particular, remittances improve households' welfare by lifting recipient families out of


poverty and insulating them against income shocks. These flows serve as a means to increase
recipient families' income, ease credit and liquidity constraints and allow them to improve their
consumption and living standards. The increase in recipient families' consumption leads to an
increase in the demand for goods and services which encourages entrepreneurs to invest more.
This leads to an expansion of markets, increase in output, higher economic growth, and rise in
employment opportunities. Higher consumption expenditure and greater demand for goods and
services may increase tax revenue through consumption-based taxes. These additional
resources can be used by the government by allocating more resources for strengthening the
country's physical infrastructure and for alleviating poverty. Remittances also improve a
country's debt sustainability level. Empirical evidence suggests that the recipient country of
remittances can sustain higher levels of future debt. Empirical evidence also suggests that
remittances have a positive and significant impact on investment and economic growth.

Remittances have played a pivotal role in Pakistan's economic development during the last one
decade. Remittances surged from less than one billion dollars to almost eight billion dollars
during this period. With the exception of 2006-07, remittances have always been higher than
the FDI; these have been almost 10 times the official development assistance that Pakistan
received in the last one decade; and in the absence of remittances, the current account deficit
would have been over $20 billion or 12 per cent of GDP in 2007-08 and $16.4 billion or 9.9 per
cent of GDP in 2008-09 – igniting a serious balance of payment crisis. Thus, remittances have
played an important role in not only preventing the balance of payment crisis but also helping
the country build foreign exchange reserves.

Remittances also played an important role in reviving economic growth through its contribution
in promoting private consumption expenditure. As stated earlier, remittances, by easing
liquidity constraints of the recipient families, allowed them to increase their consumption
expenditure. The contribution of private consumption expenditure to economic growth surged
from 20 per cent in 2000/01 to over 100 per cent in 2004/05 but declined sharply thereafter.
However, despite aggressive monetary policy tightening in 2008/09 the contribution of private
consumption expenditure to economic growth has been 100 per cent.

The most important contribution of remittances in Pakistan has been the reduction of poverty
during the last 7-8 years. Since remittances accrued to private individuals (recipient families),
an inflow of Rs. 1940 billion remittances during 2000/01 to 2007-08 must have raised
consumption expenditure of the recipient families and thus, contributed to a sharp reduction in
poverty from 34.5 per cent to 17.2 per cent during the period. A recent empirical study (Dr.
Sajjad Akhtar and Mansoor Ahmed of Poverty Centre) suggests that a 10 per cent increase in
workers' remittances would take 1.3 per cent poor people out of poverty.

The contribution of remittances in Pakistan's economic development has been widespread. It


has helped revive economic activity; created employment opportunities; reduced poverty;
improved the living standards of the recipient families; prevented the balance of payment
crisis; built foreign exchange reserves; provided stability in exchange rate and improved the
country's credit rating.

Remittances have been the most stable source of foreign exchange and proved remarkably
resilient in the face of global economic downturn. Efforts must be made to reduce the cost and
time for sending remittances, including removing barriers to entry and competition in the
remittance market.

The writer is dean and professor at NUST Business School in Islamabad. Email:
ahkhan@nims.edu.pk