Macroeconomic determinants of remittances for a dollarized economy: the case of El Salvador

Abstract

PurposeTraditionally, remittances have been analyzed in the context of their socioeconomic impact on the receiving communities. Consequently, little is known about the macroeconomic factors that influence their behavior. This paper aims to evaluate the importance of several macroeconomic indicators on the flow of remittances from the USA to El Salvador.Design/methodology/approachThe analysis considers cointegration and common cycle tests. It includes as explanatory variables gross domestic product (GDP) and the interest rates differential in El Salvador, employment in California, and M2 as a measure of the stance of US monetary policy. These variables are intended to capture macroeconomic conditions in the host and home countries.FindingsThe study finds that all variables share a common trend and a common cycle with remittances; though the association with the interest rates differential in the short‐run is weak. That is, remittances respond significantly to transitory and permanent changes in macroeconomic conditions. El Salvador's GDP is negatively associated with remittances, while employment, the interest rates differential, and M2 exhibit a direct relationship at both time horizons.Practical implicationsUnderstanding how macroeconomic conditions influence the supply of US dollars via remittances is fundamental for policy makers in a dollarized economy. In the absence of tools to implement discretionary monetary policy, officials in El Salvador can benefit from learning how the flows of US dollars to the economy respond to macroeconomic shocks.Originality/valueAnalyzing the macroeconomic determinants of remittances for a dollarized economy is a novel exercise. Furthermore, the combined long‐ and short‐run approach allows recognizing how macroeconomic conditions influence this capital flow in the steady state and during transitory episodes.

Impacts of remittances on financial development

“…The outflow of migrants and inflow of remittances can affect remittance-receiving countries in a variety of subjects such as brain drain (Faini (2007); Bollard et al (2011)), poverty and inequality (Barham and Boucher (1998); Adams and Page (2005)), human capital and labor supply (Sasin and McKenzie (2007); Azizi (2018); Lopez et al (2007)), and financial development, which is the subject of this paper. Also, incentive behind remittances (Yang and Choi (2007), Lucas and Stark (1985), Azizi (2017), Azizi (2019), remittances and information flows (Seshan and Zubrickas (2015); Batista and Narciso (2016)), cost of remittances (Beck and Martinez Peria (2011)), determinants of remittances (Castillo-Ponce et al (2011); Mak Arvin and Lew (2012)), remittances and volatility (Jackman et al (2009)), remittances and industrialization (Asongu and Odhiambo (2019); Efobi et al (2019)), and other miscellaneous impact of remittances on remittance-receiving countries (Karpestam (2012); ) are among other interesting subjects to the researchers in this field.…”