Remittances as a means towards financial inclusion

Much has been said about remittances and how they in some countries constitute the second largest component of external finance after foreign direct investments.

In economic and financial literature much attention has been paid to two important points namely (1) how remittances help meet shortfalls in finances in countries and (2) how financial inclusion is a means to an end – helping channel these remittances from abroad to intended recipients; most of whom are often poor and beyond the reach of normal banking channels.

Though true the emphasis on these two points tend to miss another very important point. How remittances are a means to achieving financial inclusion for all.

Not only do these remittances flowing in from abroad provide an incentive to bring greater segments of the population under the ambit of formal financial institutions and channels as there is sufficient revenue to be gained for banking and financial institutions from channeling remittances to these recipients but they also make it possible for the recipients to gain access to formal banking channels and networks that were until recently structurally at least out of their reach. the result of this is an improvement in the lending capacity of banks and credit institutions in these countries who with greater numbers of people using their service; primarily for savings; suddenly have greater volumes of credit in their possession ; significantly enhancing their lending capability. An added impetus is provided by national and international  security considerations that look down upon informal channeling of money from abroad into domestic economies. Thus remittances by their very existence exert and demand pull to  improve formal institutional coverage to unbanked and under-banked sections of society. 

Under such scenarios remittances provide ample scope for “development” ; provided adequate policy is designed by governments and central banks to channelize the extra lending capability of formal financial  institutions; through infrastructural and policy initiatives; to help bridge the gap currently existing between demand for credit and supply of credit for particular segments of society and regions that are lagging behind. Structural change in economies to put them on to an accelerated path of development is hence a very possible consequence if remittances and their externalities are successfully harnessed. 

Remittance: a step towards financial inclusion

Financial Inclusion is the buzzword doing the rounds in the social sector these days. Financial inclusion is an umbrella term used to represent access to various financial services by the poor (bottom of the pyramid!). One of these services is the transfer of money i.e. remittance; a field which is seeing a lot of developments lately.

Remittance in common parlance refers to the transfer of money by a person abroad to his family/friends in his/her home country. Various reports by World Bank, United Nations University show that remittances form the second largest source of international finance to many developing countries of the world, often surpassing the official development flows. International Fund for Agricultural Development (IFAD) 2006 estimates put the total flow of remittances to developing countries at $301 billion (including informal channels) while the World Bank estimates are $250 billion (excluding informal channels), which mirrors the huge market potential.

And we are not just talking about the rich or middle-class but the poor too. We have known through personal experience or news stories about the sheer no. of unskilled labour who have migrated to areas for e.g. Gulf (from Kerala) in search of livelihoods. And it is this section of migrants that the development sector needs to concentrate on by ‘introducing’ formal channels to them which can be better leveraged to promote economic development.

Remittances make a real difference to people, a difference that’s measured not in money but in its ultimate utilization for better food, medicines, education and healthcare. But what’s the connection between remittance flows and financial inclusion?

In countries like Ghana, remittances can account for up to half the household income. In Bangladesh, they can represent most of the household income. It is estimated that about 10% of the world’s households receive remittances (DFID). And while this money is used to support basic necessities like roti, kapada, makaan, it can have a multiplier effect. It is known that most often the excess money is further invested for genetrating profits for the family. The cumulative effect on the economy could be increased employments, increased money flow for investments, thereby stimulating growth. And it is this aspect that if encouraged, can help communities to come out of poverty.

Money is sent through formal channels like banking institutions or money transfer agencies or more frequently, as in case of poor migrants, through informal channels like friends, acquaintances or illegal Hawala channels. There a number of impediments faced in the informal fund transfer – higher charges, delivery issues, possibility of theft etc., which may not just mean reduced money to the beneficiary but may even further tax the family. On the other hand, the formal channels ensure easy transference of the entire amount in return for set charges. And as money transfers through formal channels often require the use of a bank account, remittances promote access to formal financial services for the sender as well as recipient.

However the problem lies in the fact that the penetration of the formal channels is much limited, due to the same demand and supply problems which are plaguing the banking sector - problems of availability and accessibility, identification, information gap, illiteracy, higher operational costs.

This situation if utilized efficiently can prove to be a win-win situation for all stakeholders. As Dilip Ratha(World Bank) points out, encouraging remittances through the banking channels (formal channel) can increase the development impact of remittances by encouraging more savings and furthering investment opportunities. Banks and other financial institutions can introduce their other products to its remittance customers thereby reducing their costs per customer. MFIs can make use of the history of the remittance receipts to map out the credit history of the potential customers.

Access to remittance services in rural and remote areas can be improved by encouraging the participation of the microfinance institutions, credit unions, and saving banks (including postal saving schemes) in the remittance market thereby effectively increasing the probability of usage of formal channels by the poor.

The opportunities are limitless; and if combined with initiatives by the financial institutions and policy and regulatory support by Governments have the potential to make a difference!