How Latin America can solve the problem of declining remittances.
Until recently, the nations of Latin America have been relatively unaffected by the financial crisis that is affecting the world’s leading economic powers. However, there are growing signs of an infection that could influence Latin America indirectly. Experts worry about the drop-off in remittance payments sent home by Latin American workers who have settled in other countries to their countries of origin. Until now, these remittances have helped to reduce poverty, promote growth and reduce economic volatility in Latin America. A decline in remittances is all the more worrisome if you take into account that the two nations that send the highest volume of remittances, the U.S. and Spain, are both undergoing an economic slowdown. In the case of the U.S., this could process could turn out to be a recession, according to most analysts.
GREATER THAN FDI
Why is this so important? According to Rafael Pampillón, professor at the Instituto de Empresa business school in Spain, “If we add up all the remittances taken in by Latin Americans, we see a greater amount [of money] than the total sum of foreign investment and development assistance to [Latin America]. These remittances have an advantage, in that they do not have to comply with conditions that, in many cases, don’t really help development. Nor must they pay the interest and dividends required by foreign investments.” From a more pragmatic viewpoint, he adds, these funds “have made it possible for many families to move forward….There are some immigrants who have used this money to buy a house in their country of origin or to start a small business. It gives their home country a sense of initiative and growth when they create small and midsize companies.”
David Tuesta Cárdenas, professor at the Pontifical Catholic University in Peru, believes that the importance of remittances varies from country to country. However, he observes that “in some countries, remittances reach about 10 percent of the [Latin American country’s] Gross Domestic Product.” Moreover, “A relevant factor is the country’s level of development.” Along these same lines, Hugo Macías Cardona, coordinator of the University of Medellín’s center for research in economics, accounting and administration in Colombia, agrees that “remittances don’t have the same impact in every country of Latin America, either in terms of their absolute volume or what they represent to the domestic economy of each country.”
As Macías notes, Mexico alone takes in 38 percent of the total remittances in the entire region – a bit more than $20 billion a year. Brazil, in second place, is far behind with 12 percent or a little more than $6 billion. Next comes Colombia with 6 percent, a little more than $3 billion a year. As a percentage of those countries’ GDPs, these remittances amount respectively to 2.8 percent, 1.1 percent and 3.3 percent.
Although some other countries take in a lower total volume of remittances, the impact of these remittances is more significant in such countries. Remittances represent a much higher percentage of the Gross Domestic Product in such countries as Honduras (21 percent), Haiti (20 percent), Jamaica (19 percent), Salvador (17 percent), Nicaragua (16 percent) and Guatemala (8 percent). “In these cases, remittances are the most important source of foreign exchange, and they have a significant impact in terms of making it possible for very low-income groups to have access to some basic commodities,” states Macias.
Total remittances by Latin American emigrants to their countries of origin grew by 7 percent in 2007 to $66.5 billion, according to the Inter-American Development Bank (IDB). However, there was cause for concern: It was the first time in seven years that the growth rate was lower than 10 percent.
According to the IDB, this stems, for the most part, from the decline of cash payments made to Mexico and Brazil, two of the main destinations for remittances in the region. Remittances to Mexico grew by only one percent last year to $24 billion. Money transfers to Brazil dropped by four percent to $7.1 billion.
Meanwhile, remittances to Central America grew by 11 percent last year to reach $12.4 billion, and transfers to the Andean countries grew by 5 percent to $11.6 billion. As for the Southern Cone countries, money shipments to Argentina reached $920 million last year; to Chile, $850 million; to Uruguay, $125 million and to Paraguay, $700 million.
Pablo Fajnzylber, a senior Latin American economist at the World Bank, said recently that “We are seeing a reduction in the growth rate of remittances.” He was talking about his study, “Remittances and Development: Lessons from Latin America,” during a presentation in Washington on April 8. He emphasized that the crisis in the U.S. affects key sectors that employ many immigrants, such as construction. If this trend continues, it seems obvious that the region will suffer the consequences of the sub prime mortgage crisis and the decline of the U.S. homebuilding sector. Latin America will thus take in less money from its emigrants, not to mention the fact that the dollar has also lost value against other currencies in recent months. “The slowdown in the U.S. economy is leading to a slowdown of remittances to the [entire Latin American] region. This fact could affect the ability of the poor families who receive these funds to deal with damaging economic crises, including recent increases in the price of food,” his report said.
“The people who receive these funds wind up being affected seriously by the decline in the value of the dollar in the countries of the region. That means that those people who send the money from other regions in the world have to work even harder. A study undertaken in Colombia and published by ECLAC (the Economic Commission for Latin America and the Caribbean) in August 2007, showed that 76 percent of all people who received these funds were women. Most of the money transfers took place within the 10 years that followed the emigration process. In addition, in the great majority of cases, that money was used for the consumption of very basic goods,” notes Macias, adding that the drop in the value of the dollar can have two kinds of negative effects. First, it can “increase emigration among those people who have yet to leave for foreign countries. Second, it can raise internal unemployment rates because a larger share of the population will need to look for work in the formal labor market.”
Adverse economic conditions in the U.S. won’t be the only factor affecting remittances to Latin America. All forecasts agree that Spain will also be suffering this year. The growth rate of its GDP will drop from 3.8 percent last year to just 2.3 percent in both 2008 and 2009, the Spanish government said recently. “It seems that if the level of economic activity drops, remittances also drop,” explains Pampillon. “That’s especially true in those sectors that employ a lot of immigrants, such as construction and services.
Along with Spain’s higher unemployment rate, especially among immigrants, there has been a strong upward trend in inflation. High interest rates are also negatively affecting consumer spending. If immigrants who live in Spain must spend more on food and fuel because of rising prices for both, and they must also pay more for their mortgages because of the rise of the euribor [the European index rate for mortgage interest payments], it’s logical that immigrants, both unemployed and employed, will have less money available to send to their countries of origin.”
According to the Bank of Spain, immigrants in Spain sent $1.042 billion to their countries of origin in January, or 5.4 percent more than during the same month last year. The problem is that the growth rate in these remittances is much lower than it has been in previous years. Remittances reached a total of $12.7 billion last year, or 19.5 percent more than in 2006, when the growth rate was almost 38 percent.
SPAIN SURPASSES US?
The IDB has made it clear that remittances from Spain are important. It estimates that the money immigrants in Spain send back to the Andean countries will soon exceed the amount of money that Andean immigrants in the U.S. send back to their homelands. For example, Bolivia already takes in more money from Spain than from the U.S. According to the Bolivian central bank, remittances from the U.S. represent 20.8 percent of total remittances to Bolivia, compared with 36 percent from Spain. In Ecuador, which received a total of $3.085 billion in 2007, the amount of money sent from Spain is practically equal to the amount sent from the United States.
Donald Ferry, director of the Multilateral Investment Fund, a branch of the Inter-American Development Bank, forecasts that this trend will accelerate in coming years because of the strength of the euro and the fact that Spain is a friendlier place for Latin American immigrants than the U.S., given Spain’s strong cultural affinity.
IN SEARCH OF SOLUTIONS
How can we solve the problem of declining remittances? The World Bank proposes three routes. The first has to do with the development of the banking sector. In 2007, only 7 percent of all remittances to Latin America were sent through banks, compared with 78 percent from specialized providers of remittance services. An additional 11 percent came from people who traveled in the Latin American region. World Bank experts suggest that banks cut their commissions and design products specifically for the needs of immigrants. They also invite governments to minimize the regulatory costs for those banks that open subsidiaries to serve those communities.
The second challenge cited by the World Bank is the high price of sending money; commission rates are as high as 20 percent of the value of the funds actually transmitted. With that in mind, the Bank believes that the efforts of regulators should be aimed at facilitating services at the lowest possible cost and attracting the greatest possible number of users. For example, the World Bank cites an initiative of the Mexican government, which has launched an Internet portal that enables visitors to compare costs, security levels and the locations of those companies that send money from the U.S. to Mexico. The World Bank also advises governments of those countries that receive these funds to make it easier for more and more financial institutions to participate in the remittance market.
According to Tuesta, Latin Americans need “to reduce current vulnerabilities in the external and fiscal realm in order to better protect against any future negative impact from international markets.”
Macías offers a similar solution. “Remittances are sent because there is an absence of opportunities for a significant number of people living in several [Latin American] countries. The most appropriate thing would be to create sources of employment that enable people to lower their dependence on other countries [from which the funds are sent]. It’s not the suppliers of [remittance] services that need to make this effort; in fact, these suppliers are becoming less and less important in the flow of foreign currency. A good option would be to pay for imports with the funds that are received.”
Republished with permission from http://www.knowledge.wharton.upenn.edu -- the online research and business analysis journal of the Wharton School of the University of Pennsylvania