Remittances as a Source of Productivity

In recent years Latin America has seen reduced inequality, a burgeoning middle class, and good economic governance that helped it recover from the latest recession sooner and better than others. But for all of its advances, the region still struggles to produce goods and deliver services more efficiently. In fact, over the last 40 years the region’s productivity growth has been dead last in the world.

There are many reasons for this productivity gap but top among them, according to a new book by the Inter-American Development Bank, is the lack of credit. Simply put, businesses that want to streamline and take advantage of new methodologies and technologies haven’t had access to the necessary financing to do so.

The recent recession has only exacerbated the problem. Total credit growth in the region dropped by more than three fourths from 17 percent in 2008 to 4 percent in 2009. In terms of traditional mechanisms of investment, improved productivity in the near term does not look bright.

Still, that does not mean there is no capital flowing to the region. One vigorous source of funds, often misunderstood and overlooked, might be doing more than any other to open doors to finance for Latin Americans and, indirectly, improved productivity: remittances.

Even during the recession, remittances showed great resilience. Despite their first recorded decline of 15 percent from 2008 to 2009, when adjusted for inflation they continued to increase in value in local currencies and by the end of last year they had stabilized, reaching a total of $58.8 billion in 2009.

What’s more, migrant dollars have proven far less volatile than other external flows, such as foreign direct investment or export earnings. They far surpass foreign aid and represent the second largest source of foreign income after oil revenues in Mexico. In El Salvador, Guyana, Haiti, Honduras, Jamaica and Nicaragua they account for 18 percent or more of gross domestic product.

But what can remittances do for Latin American productivity?

For some time, economists, entrepreneurs and policy makers have been hoping to tap this sizeable flow of cash for development. Governments have offered to match dollars invested by immigrants in their hometowns. Developers have held housing fairs to get migrants to invest in projects from abroad. And micro-lending institutions have used remittances as collateral.

So far results have been limited. Remittances have proven to be “a channel for savings and investment” albeit a small one, said Jeff Dayton-Johnson, head of the Americas Desk at the Organization for Economic Cooperation and Development in Paris. It is easy to have “exaggerated expectations” for what migrant dollars can do, he added.

But that is not where the story ends. Remittances can still do much for productivity even without directly helping large corporations. In fact, no other source of foreign capital comes close to its ability to serve as catalyst for other financial activity.

According to Manuel Orozco, remittance expert at the Inter-American Dialogue in Washington, recipients of migrant dollars in Latin America tend to own more bank accounts than non-recipients. In Honduras, for instance, those who receive remittances are nearly twice as likely to have a bank account than those who do not receive them.

In Mexico, households with migrants invest more in small businesses than other households, according to a study by California professors, Christopher Woodruff and Rene Zenteno. Another study found that remittances underwrote 21 percent of new Mexican businesses.

Also, according to Orozco’s research, at least fifty percent of those who receive remittances maintain as much $1000 in savings, even if mostly under the mattress. While that reflects a continued lack of confidence in the formal financial sector, the money saved can become an important source of financing for startups and for improving current businesses.

Nonetheless, some could argue remittances undermine the banking sector and help preserve the high level of informality that keeps productivity low in Latin America.

That may be true, but only to a very minor degree. As Dayton-Johnson put it “remittances may help postpone the day of reckoning,” in which business owners realize they can’t grow unless they get a loan, but they are not any of the traditional reasons keeping businesses outside the purview -- and protection -- of their governments.

Remittances rather have helped solve “a huge lack of access to credit” in Latin America, Orozco said. And when people who are locked out of traditional sources of capital gain access to it, their improvements in livelihood, education, business and the future of their children, will naturally impact productivity for the better.