Importance of remittances for India in the current economic scenario

Abstract

India has retained its position as the highest recipient of global remittance flow at USD 52 million in 2008. Remittances comprise 3.1% of India’s GDP. Remittances flows are part of a private welfare system that transfers purchasing power from relatively richer to relatively poorer members of a family, or a community. They reduce poverty, smooth consumption, affect labour supply, provide working capital, and have multiplier effects through increased household spending. It has been seen that remittances are used to finance consumption, or investment in human capital, such as education, health, and better nutrition. Studies suggest that remittances that raise the consumption levels of rural households might have substantial multiplier effects, because they are more likely to be spent on domestically produced goods. Over the years, it has been seen that remittances are, generally, stable or even countercyclical in nature. Unlike private capital flows, remittances tend to rise when the recipient economy suffers an economic downturn following a financial crisis, natural disaster, or political conflict. This is because migrants send more funds during hard times to help their families and friends. Remittances thus smooth consumption and contribute to the stability of recipient economies by compensating for foreign exchange losses due to macroeconomic shocks. Historically remittance flows have also been resilient to downturns in the migrant destination countries. This time the crisis is quite different. The crisis is rooted in rich countries and it is spreading from the rich countries to poor countries. The conditions are quite uncertain as there is little idea about the depth of the financial problems in developed economies like US, Europe and Japan and the impact that it will have on the economic development of the world. Another source of uncertainty comes from the exchange rate movements. When US dollar was weak, migrants had to send more remittances to maintain purchasing power parity. In the last few months, after the onset of the financial crisis, US dollar is appreciating and hence the purchasing power parity of remittances can be maintained with lesser dollars. The present financial crisis is severe and the current data indicates new trends in remittance flows. After several years of strong growth of almost 20-25%, remittance flows to developing countries began to slow down in the third quarter of 2008 and this slowdown is expected to deepen further in 2009. India might be hit hard because of the slowdown in the economies of US as well as GCC (Gulf Cooperation Council) which are estimated to host 70% of Indian migrants. Our project aims to do a scenario analysis. We will study the behaviour of the remittance flows to India in the current scenario and how they have been impacted by the changing conditions in both the sender as well as the recipient country. We will also try and predict how remittances might behave in the future in the context of the financial crisis. Steps in the Study:-Factors driving remittances: We will try and understand the motivation for remittances and the underlying factors which drive these flows. An understanding of the factors driving remittances is critical towards analyzing the behaviour of the remittances flows. We would use the various research studies and empirical evidences to understand these factors. Developing a framework: Based on the factors driving remittance, we will develop a framework which would outline the various parameters that we will use to analyze the remittance flows to India, in the backdrop of the current financial crisis. Study of the various factors: We will use the framework to analyze the various variables and the way they have affected the remittance flows over the period of ongoing financial crisis. We will try and gather data relating to the variables and then study the affect these factors might have had on the remittance flows to India. Study the effect of remittances on Balance of payment account: In this section, we will try and analyze the effect of the changes in remittance flows in the balance of payment account of India. We will study the nature of the effect of uncertainties in the remittance flows on the current account of BOP. Macroeconomic implications of remittances: In this section we will study the growing importance of the remittances as resource flows to the developing countries. We will try and understand the macroeconomic implications of these large flows as well as the role that policy can play in maximizing the benefits that recipient countries can derive from them.