Does Remittance Help in Reducing Poverty - Literature review Example

DOES REMITTANCE HELP IN REDUCING POVERTY? Case Study on Somalia LITERATURE REVIEW 0 Introduction Remittances are financial or asset-based transfersthat are provided by foreign workers to other individuals in their home nation. Remittances usually are conducted in the form of currency, but can also include non-monetary transfers such as tools, clothing, equipment or medicine (Chukwuone et al. 2012). The motivation for serving as a benefactor of transferred funds or assets differs depending on the individual, and can include improving the lifestyle of family members receiving the remittances, improving a community’s well-being and infrastructure, national pride and heritage, or even general social obligation. However, it is generally recognised that altruism is the most potent motivator for remittance-sending, fulfilling a sense of responsibility and motivated out of legitimate affection for family members (Maimbo and Ratha 2005). Remittances have been applauded for improving the lifestyles of family member recipients, improving development for local capital markets, contributing toward infrastructure development, and even serving as a catalyst for improving demand of regional goods and services produced within a community or nation. Remittances may also alleviate some dimensions of poverty within a country or community. This section explores the statistics on remittances, investigates various case studies of remittances on economic growth or individual lifestyle improvement, and focuses on whether remittances can, as supported by empirical data, serve as a predictor for poverty reduction. 1.1 Remittance statistics In 2012, global remittances totalled a whopping $529 billion USD (World Bank 2013). Remittances are theorised to have an instrumental role in the economies of developing countries, with remittances represented a marked contributor to a nation’s economic growth and improvement of the lifestyles of less-affluent citizens. In 2009, $316 billion USD was transferred to developing nations, representing transfer activity of 192 million migrant labourers (World Bank 2011a). Remittances are typically delivered through conventional channels such as Western Union, Xpress Money and MoneyGram, however a marginal percentage of remittances do occur through formal banking infrastructure. 1.2 A theoretical link to poverty reduction? There is substantial evidence that higher inflows of remittances are linked with decreased poverty (Gupta et al. 2009; Acosta et al. 2008; Adams 2006; Fajnzylber and Lopez 2005). Remittances have been linked to improvement in a nation’s economic growth (Fayissa 2008; Loxley and Sackey 2008), which is a global predictor of poverty reduction. There are many theoretical reasons for why remittances could, potentially, be a contributor to poverty reduction. These causes will be discussed individually and in detail. 1.2.1 Improvement in a nation’s financial sector A recent study conducted by Aggarwal et al. (2011) explored whether remittances maintained a measurable impact on development and growth in a nation’s financial sector. The study examined data from 109 different countries with a history of remittance acceptance between the years 1975 and 2007. Findings indicated that households accepting remittances led to a greater bank deposit ratio (Aggarwal et al. 2011). Giuliano and Ruiz-Arranz (2009) confirmed these findings in another empirical study, discovering that financial sector growth in developing nations is enhanced through increased remittance deposits. Financial sector growth can be theoretically linked to poverty reduction as a well-developed financial sector provides opportunities for small business owners to procure loans or assists citizens in gaining access to credit. Levine (2004) asserts that when nation has superior-functioning banking systems, it serves as a stimulus for national economic growth. Better-developed financial systems lessen the constraints of external financing that often encumbers business and industrial growth or expansion (Levine). Hence, there might be a theoretical link between growth in the financial sector as a result of remittances and increased employment opportunities or more widely-available consumer products which enhance lifestyle through consumption. The positive correlations between remittances and the financial sector’s growth have been confirmed by numerous studies (Adenutsi 2010; Catrinescu et al. 2009; Jongwanich 2007). Furthermore, a better-functioning financial system facilitates more effective exchanges of products and services in a nation. A quality financial system provides the tangible mechanisms by which to make financial payments and obtain them, which in turn reduce transaction costs to a country and its people utilising these systems (Zhuang et al. 2009). Technological innovation is recognised as being enhanced by a competent financial system, creating a market that promotes economic exchanges that enhance industrial sector productivity (Levine). It is not only, theoretically, the private sector that is improved through financial sector development and growth, but also the public sector that is encouraged to invest in national infrastructure as well as human capital (i.e. education); hence boosting long-term consumption in a nation. For instance, a stable financial sector enhanced through remittances encourages development of a bond market that allows a national government to raise rapid and inexpensive capital to produce more roadways, airports, public sanitation projects and enhanced telecommunications (Claessens and Feijen 2006). 1.2.2 Health and education improvements Households that accept remittance incomes have been shown to have more positive health outcomes, especially measurable in children (Ratha 2013). Households that receive remittances tend to invest more in health care than households not receiving remittances (Ratha). It has also been discovered through analysis of quantitative data that remittance-receiving households tend to produce infants with higher birth weights and fewer instances of infant mortality rates (Hildebrandt and McKenzie 2005). Furthermore, a cross-country study comparing data from six African nations found there was a direct correlation between the mean average of household residents with a secondary education and the household receiving foreign remittances (Ratha). Dendir and Pozo (2005) found that in Ethiopia, remittance-accepting households tend to invest more heavily in education than non-remittance-receiving counterparts. How, though, might improved health and education improvement as a result of remittances be attributed to potential poverty reduction? Remittance-receiving households might theoretically have more opportunities to gain knowledge of sustaining better personal health, such as improved sanitation or producing safer drinking waters (UNDP 2009), gleaned through improved educational investments. Hence, an educated citizen encouraged by remittances might seek more opportunities in a region of the country with a better-developed health and human services infrastructure. This phenomenon has been identified in Nigeria, where rural-urban migration is outpacing national population growth by 5.5 percent (Nwakaze 2007). Greater governmental investment in education is providing citizens in Nigeria with knowledge of the benefits of superior social amenities (i.e. clean water and sanitation), causing a rapid flood of rural residents to seek opportunities in urban regions of the country. Hence, education of remittance-accepting household members might be fuelling similar migration patterns in pursuit of improved personal health in regions with greater employment and education opportunities. Urban-rural migration, at least in Nigeria, has been attributed to greater growth in household income (Naijablog 2012). 1.2.3 Improved household income Though it might appear to be relatively simplistic, remittances might theoretically reduce poverty merely as a result of improving household income for remittance-receiving individuals (Adams 2011). The World Bank (2006) identified that in Latin America, a reduction in poverty rates from 42 percent in 1995 to 31 percent in the year 2004 was attributed directly to remittances increases in the country. Having a higher household income insulates remittance-receiving families from health-related setbacks or other, more corpulent shocks such as national economic declines, political instability or even weather-related disasters that are commonplace in some developing nations (Stark 1991). One empirical study found that in Haiti, increases in remittances offset 20 percent of the shock and damage from 2004’s Hurricane Jeanne that struck Haiti for remittance-receiving households as compared to households without this increased income opportunity (Yang 2008). Furthermore, Taylor (1992) found that in Mexico, remittance-accepting households tended to invest more capital in agriculture-based assets, such as livestock, than households without remittances. Hence, having a higher volume of assets might theoretically insulate a remittance-accepting household from falling into the poverty furrow. Adams (2005) found that remittance-receiving households in Guatemala tended to spend more capital on durable goods, goods that do not rapidly reach their life cycle, such as appliances and automobiles. This might theoretically insulate a remittance-receiving household in terms of having greater trade bargaining power in the event of financial setbacks by having tangible assets with life cycle longevity by which to barter. Also, in Mexico, improvement in household income as a result of receiving remittances increases consumption in food volumes within the household (Fajnzylber and Lopez 2006). This same phenomenon was discovered in Jamaica and Nicaragua where food consumption increased as a result of receiving remittances (World Bank 2006). This would seem to have significant implications for how remittances in countries such as Nicaragua might reduce poverty. In October 2014, Nicaragua’s food inflation rate was 10.05 percent (Trading Economics 2015). This is much higher than the global average for food inflation. Concurrently, Nicaragua maintains a poverty rate of 46.2 percent of the nation’s entire population (World Bank 2011b). Household increases in food expenditures as a direct result of receiving remittances would seem to point toward an insulation against significant inflationary growth that might be more detrimental to households without remittance payments. 1.3 Can remittances reduce poverty? – An exploration of Somalia Somalia is an interesting case study to determine whether remittances can actually reduce poverty. Due to years of Civil War, a great deal of the nation’s infrastructure has been destroyed and the government maintains a difficult time attempting to stabilise a troubled economy. Somalia does not currently have a Central Bank nor any domestic commercial banks (Hassan and Chalmers 2008). Therefore, in this particular country, remittances are vital to some households as the only source of legitimate income available. It is estimated that between $750 million USD and $1 billion USD enter Somalia every year in the form of remittances (Hassan and Chalmers 2008). It is estimated that a whopping 20 to 50 percent of the nation’s entire GDP is founded on remittance payments (Hassan and Chalmers 2008). Whilst Somali remittances are delivered with the intention of covering day-to-day living expenses, it is common practice in Somalia for remittance benefactors to send funds to provide a self-sustaining environment and reduce remittance dependency from the recipients (Hassan and Chalmers 2008). Eighty percent of all investment revenue in entrepreneurial activity (such as starting up a private business) comes in the form of remittances in this country (Hassan and Chalmers 2008). However, the majority of Somali remittances are spent on generic household consumption, inclusive of food, health and education (Maimbo 2006). Hence, with evidence that a massive portion of the country’s entire GDP is founded on remittance payments and that household consumption increases as a result of remittance-receiving, is there evidence that poverty is reduced in Somalia as a result of remittance payments? It would not appear so. The United Nations describes Somalia as “the worst humanitarian crisis in the world” (UNDP 2012, p.34). Conflict and drought have left 4 million Somali citizens at a high level of risk for starvation and 750,000 facing severe famine (UNDP 2012). Nearly all development funding has come not from domestic sources, but from international aid programmes (UNDP 2012). Hence, it does not appear that the high reliance on remittances in this country has had any measurable impact on infrastructure development and such remittances have not curbed the food security and famine problems. A whopping 82 percent of all Somali citizens are considered to be poor (UNDP 2012). It does not appear, therefore, that the high volume of remittances in the country, equal to 20 to 50 percent of the nation’s entire GDP, has insulated citizens in the country from food insecurity or being at risk of severe famine. Gundel (2003) asserts that many remittances delivered to Somalia stem from young women and men who had opportunities to seek education abroad, given opportunities for scholarships from Britain, Italy and the Soviet Union. These youths who now deliver Somali remittances already hailed from more elite families with pre-existing social connections and resources. Hence, remittance-receiving households in Somali, largely, are already more affluent households. Figure 1 illustrates the depth of poverty that is still pervasive throughout all regions of Somalia, despite remittance volume and dependency in the nation. Figure 1 Source: UNDP (2012). As shown by Figure 1, Somalia maintains incidences of poverty ranging between 61 percent and 99 percent throughout the entire nation. Even though the Chief Executive of one of Somalia’s largest money-transfer companies, Abdirashid Duale, believes Somalis are inherently entrepreneurial (Sambira 2013), there is no evidence that remittances are providing new start-up businesses (funded by these remittances) with success that is having a positive trickle-down effect on poverty ratios in this country. Additionally, in Somalia, remittance-receiving households are often city-dwelling households and investment in education occurs within these particular households (Maimbo 2006). It would theoretically be the long-term goal of the benefactor remitter to encourage education as a means of ending dependency on remittances to encourage more self-sustainment. For city-dwelling households receiving remittances, their access to improved education is already sustained as compared to their rural counterparts, hence little support can be granted toward remittances, themselves, as being the key toward poverty reduction. There is less instance of poverty in urban regions in Somalia (as shown by Figure 1) and there is no empirical data generating support that urban remittance-seeking households have educational opportunities created as a result of the remittance, itself. In fact, Maimbo (2006) asserts that remittance-receiving households in urban regions are encouraged only to seek higher cost education opportunities. Several researchers have found that remittances tend to enhance income inequality and ultimately raise the poverty level. Stahl (1982) found that remittance-accepting households which are inherently better-off are capable of more effective migration which ensures future remittances continue whilst poorer remittance-accepting households will not have this opportunity. Essentially, the notion of the rich growing richer and poor growing poorer is justified when examining that existing affluent households receiving remittances seem to experience more positive benefits of remittances. This is supported by the UNDP (2001), indicating that remittances are more common in urban households than in rural households in which household members are already educated and skilled labourers. Perhaps the aforementioned is what is theoretically occurring in Somalia. The majority of remittance-accepting households in the country already hail from urban regions and sustain more economic affluence than other remittance-receiving counterparts. Hence, these affluent households are already insulated from issues such as food insecurity and famine that might be experienced even without receipt of remittances. Lindley (2010) also claims that Somali remittances are devoid of social philanthropy that is justified by a clan-based culture. Van Hear (2003) contends that because of this clan-based Somali culture, poorer community members are rarely the recipient of remittance benefits. Beyene (2011) studied remittances and poverty reduction in Ethiopia and discovered that poverty was decreased substantially, however it was because the majority of receivers came from very low income households and had received very large remittances. Hence, this may provide justifiable evidence that remittances must be received by lower-income households, rather than more well-to-do receiving households, if any measurable change in poverty is to be witnessed. 1.4 A broader discussion of Somali remittances The case study of Somalia’s remittances appears to defy the literature identified in this study in terms of justifying evidence that remittances can, perhaps, reduce poverty. Aggarwal et al. (2011) examined data from over 100 countries and found that remittances improved financial sector growth which, in turn, created new business, consumer and industrial opportunities that alleviated poverty ratios long-term. In Somalia, however, even with high national dependency on remittances, the country has failed to develop a central bank and sustains no commercial banks. Perhaps, then, it is a product of environmental factors, such as having a strong financial sector governed by a commercial bank, that serves as the foundation for poverty reduction and is not necessarily attributable to remittances. Somalia has 20 to 50 percent of its annual GDP reliant on remittances, however the case study provided no evidence that, in this country, remittances are moving toward reducing poverty. Furthermore, Taylor (1992) and Adams (2005) discovered that in Mexico and Guatemala increases in household income improved consumption and asset procurement which contributed to reduction in household poverty. However, in Somalia, consumption included primarily education and basic daily lifestyle needs. In a country where poverty does not decrease, even with heavy reliance on remittances, it may be the how remittances are spent (such as livestock or durable assets) determines the long-term capability of remittances to reduce poverty. In Somalia, significant consumption towards education is occurring, but usually with existing elite families receiving remittances. Somalia appears to be a unique case that transcends other nations, such as Jamaica, Guatemala, Mexico and perhaps even 100 other developing countries in remittance ability to reduce the national poverty rate in this country. Somalia would seem to point toward a set of mitigating circumstances that might enhance poverty reduction or challenge it. For instance, more emphasis on community-oriented philanthropy, improving real infrastructure in education and health rather than consuming these for a clan-based household, and changing an inferior food infrastructure might have to be paramount concerns before remittances can have a measured impact on poverty levels within a region. Prior to this study’s examination of Somalia, it appeared overwhelmingly supported by existing empirical data that remittances can, indeed, reduce poverty levels. Somalia, however, with no evidence that remittances are making a marked improvement in poverty, points toward certain externalities that must be considered before remittances become an effective tool for alleviating poverty problems. For example, an existing Central and commercial banking infrastructure, community philanthropy, and income inequality within a society might be prevalent predictors of whether remittances will be, long-term, effective in poverty reduction. The following section describes the methodology undertaken to provide more substantial primary data to assist in understand what dynamics (e.g. social, environmental or economic) might be influential in determining whether remittances are effective in curbing poverty problems within a nation. References Acosta, P., Calderon, C., Fajnzylber, P. and Lopez, H. (2008). What is the impact of international remittances on poverty and inequality in Latin America?, World Development, 36(1), pp.89-114. Adams, R. (2005). 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