Remittance Mechanisms

Pakistan is among those developing countries where workers seek better working opportunities by migrating to other countries abroad. These workers both skilled and unskilled leave their parent country in search of handsome salary packages so that they can send money back home improving living standards of their family. For many years Pakistan has faced massive outflow of Pakistani's migrating to work in other countries such as Middle East, U.S.A, Europe and North Africa. According to a study conducted by Pakistan Institute of Development Economics (PIDE) overseas Pakistani has increased from 3.97 million in 2004 to 6.7 million in 2012 resulting in an annual net increase of about 0.34 million workers. This increase in migrant workers has also caused an increase in the amount of remittance sent back home to Pakistan. The home remittance plays an important role in reducing poverty in the country by increasing the purchasing power of recipient which leads to increased aggregate demand and eventually increased output. According to Gupta (2006) growth in remittances over time is determined by the increase in migration and total earnings of migrants. Remittances are affected by the economic environment in the source countries and are counter-cyclical i.e. remittances are higher when the economic growth of recipient country is low and are lower when the economic growth of the recipient country is higher. The political uncertainty, interest rates and exchange rate depreciation do not affect the flow of remittances significantly. Some people also call this migration of workers as Brain Drain as sometimes it has caused a shortage of skilled labor in Pakistan. But coming to think of it from perspective of the worker he is sending money back home which if converted into Pakistani rupees e.g. dirham, riyal or Dollars becomes an amount that is considered to be handsome. These are strong currencies and upon conversion into rupees they allow the recipient to experience an increase in Purchasing power. So economists consider this migration as a good sign because this migration causes increase in inflows to the country in form of cheap foreign exchange. For countries like Pakistan, the remittance are very important for the country's economy as a whole. According to Nishat and Bilgrami (1991), worker's remittance has a strong positive impact on consumption, GNP, investment and imports. The increase of one million rupees in remittances has increased GNP in Pakistan worth 2.43 million rupees.

When talking about remittances, Pakistan is one of the few countries which include workers remittances separately in their gross national income. This is because contribution of remittances is significant and has an increasing trend over the past 10 years. In 2013 Pakistan recorded an inflow of 13.92 Billion USD from home remittances compared to 3.87 Billion USD in 2004. The major reasons for such an increase are increase in number of migrant workers abroad, job losses for overseas Pakistani workers may force them to move their savings back into the country to invest it and preference of banking channels by overseas Pakistani as against illegal channels. However still major chunk of remittance is sent through illegal channels. There are multitudes of ways in which people can move money or goods around the world, and a huge number of remittance mechanisms are in use. One common, though problematic, distinction is between formal and informal mechanisms. For the purposes of this study, we follow the definition of informal transfers used by Pieke, Van Hear and Lindley (2005): informal transfers are transfers 'initiated outside the formal banking systems and outside the mainline money transfer businesses'.

Formal remittance mechanisms commonly used in the study area are banks (Habib, National Bank) and the Post Office (which acts as an agent for Western Union and has an agreement with Habib). Together, they offer several means of moving money, including postal money orders, wire transfers and bank accounts. The primary disadvantage of these systems is the need for recipients to come to the offices of the agent, and these agents' limited rural outreach.

Two informal remittance mechanisms are commonly used in the study area. The first is personal, hand carried, delivery; the second involves sending money via a money-changer (the Hundi or Hawala system). Hand-carried remittances depend on home visits by a migrant family member or other trusted individual (usually another migrant from the same village). The main advantage of this channel is that it is, in a simple sense, free: the amount remitted is exactly the same as the amount delivered. The main disadvantage is that the frequency and regularity of remittances is tied to the frequency and regularity of a migrant's home visits. The second mechanism, transfer via money-changers, incurs a commission, but the total cost is lower than with formal mechanisms, and recipients get their money quicker than they do through official channels. The fact that details of the whole transaction are clearly and simply agreed from
the start makes it less likely that remittances will be delayed or diverted.

International policy changes implemented in a bid to curtail terrorism funding have had a significant influence on remittances to many countries, including Pakistan. Since 2001, official flows to Pakistan have markedly increased, suggesting that the balance between formal and informal channels has moved in favor of the latter. Meanwhile, the Pakistan government has introduced a series of measures designed to encourage the use of formal channels, including more favorable exchange rate regulations, and Pakistani banks abroad have begun offering free-of-cost money transfer services.In this regard, Khalid Bin Shaheen SEVP/Group Chief-NBP and Chairman NBP Exchange Company Limited recently held a series of meetings with senior banking counterparts at Saudi Arabia to promote home remittances through the formal channels as Saudi Arabia is the leading remitting country for Pakistan in terms of home remittances.This will help in Pakistani government to regulate the flow of remittances.

For measuring an economies health we use measures such as CA balance and GNP.Thecurrent account is a key performance indicator about an economy's health. It comprises of balance of Trade(X-M), Net Income abroad and Net Current Transfers. Balance of trade i.e. Exports of goods and services minus Imports of goods and services. Net income from abroad includes the workers remittance sent from abroad for example Pakistanis working in other country sending money back home will have positive impact on current account and People of other nationality such as U.S working in Pakistan and sending money back home in U.S.A will have negative impact on current account. This will also include income/receipts such as dividends received from investments abroad and payments made to investors who are abroad and have invested in our economy. Please note that investments come under capital account but payments made and received such as interest/dividend will come under current account balance. If payments made are more compared to receipts than it will have a negative impact on CA and vice versa. Net current transfers include aids, donations or grants i.e. nothing is received in return. It is also called unilateral transfer and is not considered as resources that effect economic output due to their nature. When an economy is having CA deficit it means that it is absorbing more resources than it is producing i.e. it is importing more than it is exporting, it is paying more to foreign factors of production, this can only happen if other economies are lending their savings to it in the form of debt or the economy is exhausting its foreign exchange reserves. However if the economy is having CA surplus it would mean that it is absorbing less than it is producing and exporting more goods to other economies. Hence the economy is said to be saving and investing abroad thus creating foreign assets.

In layman terms when a country has CA Surplus it means that it is exporting more goods and services than importing and the Net factor payments are positive implying that Receipts of home remittance from abroad and other income such as dividend/interest exceeds the payments made and money sent abroad by foreign factors of productions. In other words this is also implying that CA surplus will reduce if remittances from abroad reduce. For the purpose of our study we want to find out that how much of a difference the workers remittance makes on CA surplus/deficit.

Secondly we use GNP to measures how good an economy has performed during a given fiscal year. It comprises of GDP and NFP.GDP is measured either through expenditure approach accumulating all expenditures within a fiscal year or by income approach accumulating all income earned in the country. Both measures give same results. NFP is the income from foreign sources such as remittance received from abroad minus payments made to foreign factors of production. So here we can observe that GNP can be less than GDP if NFP are negative or greater than GDP if NFP are positive. To further support our scope of study our basic objective is to measure the impact home remittances has on GNP and CA. by looking at the equations we can see that NFP are common in both the calculation of CA and GNP.
So keeping in mind the above equation our research will be carried out in finding how significantly the remittances affect CA balance and GNP. Furthermore as discussed above, the use of formal vs. informal remittance, we would like to draw attention towards encouraging the use of formal remittance transfer mechanism in order to fully benefit from the advantages of sending remittance back home through proper channel.

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