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Procedia Economics and Finance 10 (2014) 54 – 60

7th International Conference on Applied Statistics

Remittances as an economic development factor. Empirical

evidence from the CEE countries
Zizi Goschin a,b,*,
a
Academy of Economic Studies, Piața Romană nr. 6, Bucharest 010374, Romania
b
Institute of National Economy, Calea 13 Septembrie nr.13, Bucharest 050711, Romania

Abstract

Empirical studies on remittances revealed their key role for the household consumption of the receiving families, as well as their
investment potential with direct influence on economic development in emigrant’s country of origin. This paper focuses on the
second approach by treating remittances as capital flows that have macroeconomic growth potential. Aiming to test this
hypothesis, we constructed a two growth models that include remittances as the variable of interest, alongside the traditional
production factors. The models have been tested using aggregate data that cover ten countries in Central and Eastern Europe
(CEE) over 1995-2011. Panel estimation methods were employed to account for potential cross-section heterogeneity. The main
result is the significant positive influence of remittances on both absolute and relative GDP growth in our panel of CEE countries.

© 2014 Elsevier B.V. This is an open access article under the CC BY-NC-ND license
© 2014 The Authors. Published by Elsevier B.V.
(http://creativecommons.org/licenses/by-nc-nd/3.0/).
Selectionand
Selection andpeer-review
peer-reviewunder
underresponsibility
responsibilityofofthe
theDepartment
DepartmentofofStatistics
Statisticsand
andEconometrics,
Econometrics,Bucharest
BucharestUniversity
Universityofof
EconomicStudies.
Economic Studies.

Keywords: remittances; economic growth; panel data; CEE countries.

* Corresponding author. Tel.:+40 21 319 1900/383.

E-mail address: zizi.goschin@csie.ase.ro.

2212-5671 © 2014 Elsevier B.V. This is an open access article under the CC BY-NC-ND license
(http://creativecommons.org/licenses/by-nc-nd/3.0/).
Selection and peer-review under responsibility of the Department of Statistics and Econometrics, Bucharest University of Economic Studies.
doi:10.1016/S2212-5671(14)00277-9
 Zizi Goschin / Procedia Economics and Finance 10 (2014) 54 – 60 55

1. Introduction

Ranking second to FDIs and staying resilient even in times of economic crisis, remittances remained an important
source of external financing for developing countries (Ratha, 2012). Consequently, a large part of the migration
literature is focused on remittances, trying to assess both their contribution to the household consumption of the
receiving families and the influence on economic development in the countries of origin. Depending on their
concrete use, the remittance flows either provide additional revenues for household consumption or are invested and
fuel economic growth. Both destinations had been documented in the literature (e.g., El-Sakka and McNabb, 1999;
Buch et al, 2004).
As an important source of capital, remittances are able to support the economic growth of the receiving countries.
We test this hypothesis on a panel dataset including ten countries in Central and Eastern Europe (CEE) that are the
newest members of EU, over 1996-2011. Migration statistics indicate CEE countries as important receivers of
remittances (fig.1), and their remittance inflows returned at high levels following temporary decrease in the context
of the recent global economic crisis.
Information on potential development effects of remittances are of large interest and might be especially useful
for policymakers that should devise appropriate policies for transposing the economic potential of these financial
resources into real economic growth.

(a) (b)
Fig. 1. Remittance inflows in CEE countries: (a) year 1996; (b) year 2011.
Source: processed by author using World Bank online database

The reminder of this paper proceeds as follows. Next section provides a summary of the literature on
macroeconomic effects of remittances, focusing on their role in economic growth. Section 3 describes the method
employed in the paper and highlights the variables and data. Section 4 discuses the results and the final section
summarizes the main findings.
56 Zizi Goschin / Procedia Economics and Finance 10 (2014) 54 – 60

2. Literature review

The constant increase in the remittance flows to the developing countries and their potential economic effects
attracted a lot of interest from the scholars worldwide. The two main theoretical approaches to remittances are “the
family approach” stating that altruistic reasons determine the immigrant to send money in order to support the
relatives left behind and “the portfolio approach” which considers remittances as investments made by the immigrant
in his/her country of origin. In both instances remittances should trigger economic effects, either by increasing
consumption (demand side) or production (supply side) and consequently boosting economic development in
receiving countries (OECD, 2006).
The empirical literature documents various macroeconomic effects of remittance inflows. Firstly, since the
money largely go to poor families, they are expected to reduce inequalities in income distribution (e.g. Quibria,
1997; Taylor, 1999; Adams and Page, 2003; Docquier and Rapoport, 2003). This effect is controversial, as some
researchers found that wealthier families, better fitted to cover the costs of emigration, are benefiting more from the
remittances (Adams, 1998; Rodriguez, 1998). Secondly, remittances act as a source of capital and support higher
employment and economic growth in the receiving economies (Ratha, 2003; Lowell and De La Garza, 2000; León-
Ledesma and Piracha, 2001). Thirdly, remittances contribute to covering the current account deficit (Daianu, 2001;
Terry et al., 2004).
At the macroeconomic level, Chami et al (2005) tried to find out if remittances behave similar to capital flows,
i.e. if they correlate positively with GDP, and found significant negative influence on economic growth. This seems
to indicate that the money which the emigrant sends back home represent mere “compensatory transfers” providing
support to poor families during difficult times. Consequently, the variance of remittance flows is likely to be
countercyclical (Chami et al, 2005).
In the same register, Jahjah et al (2003) reunite the analysis on reasons to remit and on economic impact of
remittances. They found adverse impact of remittances on GDP for a big panel of countries and explained this from
the perspective of labour decrease, as remittances might reduce the work incentive for the receivers, adding to the
initial loss of workforce through emigration.
On the opposite, other researchers reported significant positive influence of remittance inflows on
macroeconomic growth (Mundaca, 2009; Bugamelli and Paterno, 2011). Finally, small or insignificant economic
impact of remittances was reported by Barajas et al. (2009) and Rao and Hassan (2012).
Studies on Eastern Europe also produced mixed results. Some found support for positive influence of remittances
on investments’ size (Léon-Ledesma and Piracha, 2001) and further on long-term macroeconomic growth (Léon-
Ledesma and Piracha, 2004), while for a panel of 12 Central and Eastern European countries, Gjini (2013) detected
small negative impact of remittances on economic growth.
The direct impact of remittances on economic growth depends of the share allotted to productive investments.
Consequently, a significant part of the literature on remittances explores their alternative destinations and the
underlying factors. It is largely accepted that most of the money go to household consumption, health care and
housing (OECD, 2003), although savings propensity seems to be higher for remittances compared to domestic
money (Adams, 1998). The household’s decision to invest is determined by the money that remain available after the
basic needs are satisfied, but it also depends on the broader economic environment, especially the financial market,
interest rates, tax policy, etc. (Puri and Ritzema, 1999).
Even if remittances are not invested, remittance-based consumption can also trigger economic growth via bigger
employment and production. This indirect effect, named in the literature “multiplier effect”, has been shown to
produce 2 to 3 additional units of GDP for each unit of remittance inflow (Ratha, 2003). Increased demand due to
remittances may sometimes produce negative macroeconomic effects, such as inflation. For instance Adams (1991)
found high increase in land prices due to remittances.
In sum, as reported in the literature, significant remittance inflows in a country seem to have important, mostly
positive, macroeconomic effects, compensating for the workforce loss through emigration.

3. Models, variables and data

In order to test the influence of remittances, as an important source of capital, on the economic growth of the
receiving countries, we use a balanced panel for ten former communist countries that are now EU members, namely
 Zizi Goschin / Procedia Economics and Finance 10 (2014) 54 – 60 57

Bulgaria, Czech Republic, Estonia, Latvia, Lithuania, Hungary, Poland, Romania, Slovak Republic, Slovenia. The
period under consideration was limited by data availability to the interval 1996 to 2011.
We constructed two simple growth models including remittances as the variable of interest, alongside traditional
production factors such as labor, gross fixed capital, foreign direct investments, research and development, etc. The
following tables offer the description of all the variables in the models that we are going to estimate. Model 1 uses
natural logarithms of absolute values of the variables (Table 1), while model 2 is based on either relative growth or
variables’ share in GDP (Table 2).

Table 1. The variables in model 1.

Variable name Description

ln GDP GDP (constant 2000 US$)

ln FDI Foreign direct investment, net inflows (BoP,
constant 2000 US$)
ln REM Personal remittances, received (constant 2000 US$)
ln GFCF Gross fixed capital formation (constant 2000 US$)
ln HT_exp High-technology exports (constant 2000 US$)
ln Labor Labor force, total (persons)

Table 2. The variables in model 2.

Variable name Description
GDP_growth GDP growth, annual (%)
Pop_growth Population growth, annual (%)
Foreign direct investment, net inflows (as
FDI%
percentage of GDP)
Remit% Personal remittances, received (% of GDP)
GFCF% Gross fixed capital formation (% of GDP)
Gross fixed capital formation (annual %
GFCF_gr
growth)
Labor force participation rate, total (% of total
Labor_p
population ages 15-64)
Ter_educ% Labor force with tertiary education (% of total)
Research and development expenditure (% of
RD%
GDP)
Rural% Rural population (% of total population)
Trade% Trade (% of GDP)
Employment in services (% of total
Servic
employment)
Real labour productivity per person employed
Productivity
(percentage change on previous period)

The first specification to be estimated is a pooled data regression:

Yit = β0+Σj βjKitj +εit , (1)

where: i = 1,..., 10 (countries), t = 1996,..., 2011, Yit represents the dependent variable (lnGDP and GDP growth,
respectively), Kitj are the exogenous variables, βj is the parameter that summarize the j factor contribution to the
dependent variable. Last, εit is an independently and identically distributed error term with zero mean and constant
variance.
The panel data allow for a deeper exploration of the factors that influence macroeconomic growth based on two
additional specifications: fixed-effects and random-effects. The fixed-effects model captures the sources of change
within countries, while the random-effects model assumes a random variation across countries and is more
appropriate if differences among countries affect the dependent variable.
We are going to run a two-way fixed effects (FE) model:
58 Zizi Goschin / Procedia Economics and Finance 10 (2014) 54 – 60

Yit = β0i +t + Σjβj Xjit + eit, for i=1,….,10 and t =1996,..., 2011 (2)

where t is capturing the period fixed effects such as economic growth and crises, changes in migration policies, etc.,
while β0i reflects cross-sectional fixed effects (country characteristics that are time-invariant over 1996- 2011).
The random effects (RE) model assumes that the constant is a random variable and that the individual intercepts
β0i are random deviations from the average constant β0:

β0i = β0 + εi, (3)

therefore the country-specific errors εi should be added to the usual errors eit:

uit = εi + eit. (4)

Consequently, the general specification of the random effects model includes these composite errors uit:

Yit = β0 + Σjβj Xjit + uit, for i=1,….,10 and t =1996,..., 2011. (5)

Finally, Hausman test will help decide which model - FE or RE - is more appropriate for our dataset.
Good data on remittance flows are difficult to obtain. Official statistics capture only a fraction of the total, as a
large part of the remittances goes through informal channels, such as family and friends. Moreover, the concrete
destination of these resources cannot be estimated accurately at the macroeconomic level. The source of our data is
the World Development Indicators database (World Bank, 2013) and covers the interval 1996 to 2011.

4. Results

The results from running the previous regression models are presented in Table 3. Since the Hausman test and the
redundant fixed effects test indicated that FE models are better than RE and pooled OLS models, respectively, only
the FE results are reported below.
Table 3. Results from the fixed effects models.
Dependent Variable: Ln GDP Dependent Variable: GDP_growth
Variable Coefficient Probability Variable Coefficient Probability
Ln Labor 0.318193 0.0013 GFCF% 0.217887 0.0001
Ln GFCF 0.225343 0.0000 FDI%(-1) -0.026717 0.3156
Ln HT_Exp 0.022609 0.0075 Pop_growth 0.346425 0.0986
Ln FDI(-2) -0.020162 0.0000 RD%(-2) -3.492111 0.0067
Ln REM(-2) 0.012544 0.0005 Productivity 0.725865 0.0000
C 13.97253 0.0000 Remit% 0.685112 0.0002
Servic -0.503757 0.0006
Ter_educ% 0.298677 0.0000
Trade% 0.064460 0.0023
C 17.77413 0.0285
Number of 170 Number of 170
observations observations
Adjusted R-squared 0.95990 Adjusted R-squared 0.85803
F-statistic (prob.) 5414.710 (0.0000) F-statistic (prob.) 28.10076 (0.0000)
Durbin-Watson stat 0.68410 Durbin-Watson stat 1.51032

The first model, based on natural logarithms of absolute values of the dependent and independent variables (see
Table 1 for the complete list of the variables that were tested), provided positive and highly significant coefficients
for total labor force, gross fixed capital formation, high-technology exports and two-years lagged remittances, while
the net inflows of foreign direct investment, that are second-lag significant, seem to have a negative impact on the
 Zizi Goschin / Procedia Economics and Finance 10 (2014) 54 – 60 59

receiving economies. Model 2, based on either relative growth or variables’ share in GDP (see Table 2 for the
complete list of variables) provided a larger number of significant variables.
The main result stemming from these models is the significant positive influence of remittances on both absolute
and relative GDP growth in our panel of CEE countries. This finding suggests that remittance inflows are able to
stimulate macroeconomic growth and is supporting similar results reported in the literature (e.g. Léon-Ledesma and
Piracha, 2004; Mundaca, 2009; Bugamelli and Paterno, 2011). Our results go however against the commonly held
view that remittances to CEE countries are destined mainly to household consumption and do not act as capital
factor (e.g. Gjini, 2013). In the first model remittances are highly significant at a two-year lag, thus suggesting an
economic behaviour similar to investments.
As expected, labor force and capital are positive and highly significant factors of influence for macroeconomic
growth in both models. In the second model there are some significant variables that reflect workforce quality and
structure: real labour productivity per person employed (as percentage change on previous period) and labor force
with tertiary education (% of total) and these variables have the expected positive impact on GDP growth. On the
contrary, the coefficient for the employment in services (% of total employment) bears a negative sign that may be
due to lower labor productivity of the workers in this sector. Population growth (%) also correlates positively with
GDP growth.
Another positive factor of influence on GDP is trade: high-technology exports in the first model and total trade
(% of GDP) are both highly significant indicating that trade has stimulated domestic economic activities in CEE
countries.
The two-years lagged FDIs are negative and highly significant in model 1, suggesting macroeconomic
inefficiency of foreign capital in CEE countries, most probably due to their low technological level (Zaman et al,
2011). In model 2, lagged FDIs also bear negative sign, but are not statistically significant.
Absolute research and development expenditure is an insignificant factor of influence in the first model, but two-
years lagged research and development expenditures as percentage of GDP in the second model are highly
significant and negative. This finding is confirming other empirical research that reported negative or insignificant
effect of R&D on macroeconomic growth in CEE in the context of insufficient and sometimes declining funding of
research and development in these countries. Following their transition to market economy, public funding for R&D
declined and small private firms were reluctant to invest in such a high-risk sector.
We tested pooled OLS regression, fixed-effects and random-effects models. Pooled data regression was rejected
based on very low probability provided by Redundant fixed effects test. The probability from the Hausman test is
also close to zero, indicating FE as a better choice compared to RE model. In sum, the tests point to fixed effects
model as most appropriate for our dataset. Both cross-section and period fixed effects are significant. Cross-section
fixed effects reflect specific within-country factors (time-invariant characteristics) that impact macroeconomic
growth. Period fixed effects capture time-specific events (such as the economic downturn due to global crisis) that
influence the long-term economic growth of CEE countries.

5. Summary and conclusion

The last EU enlargements and subsequent border opening for CEE workforce have had significant social and
economic effects on both sending and receiving countries. In this context, the assessment of the influence of
remittance flows on economic development on the long-run, as well as the effects of the decline in remittances amid
recent global economic crisis, could be useful for policymakers.
We addressed the hypothesis of remittances being capital flows that have macroeconomic growth potential. To
this aim we constructed two growth models including remittances as the variable of interest, alongside the traditional
production factors and we tested the models using panel data that cover 10 CEE countries over 1996-2011.
The main result of our empirical research is the significant positive influence of remittances on both absolute and
relative GDP growth in the selected CEE countries. Although emigration is likely to reduce the potential GDP in
sending countries, our results indicate that the overall net effect is positive, remittances compensating for the
workforce loss in CEE countries.
60 Zizi Goschin / Procedia Economics and Finance 10 (2014) 54 – 60

The tests indicated that the fixed effects model is the most appropriate for our dataset, thus suggesting that there
are unobserved country characteristics, largely constant over the period under consideration, that have affected the
macroeconomic growth.
Our research has potential policy implications, as the findings indicate that remittances can provide stable support
to macroeconomic growth even during the crisis.

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