Remittances and Formal Entrepreneurship Development: The Role of Local Financial Development

Abstract

Low savings rates in developing countries limit the effectiveness of the local financial sector in providing funding for entrepreneurship development. However, the sheer size and the relative stability of migrants’ remittances to developing countries could be essential in filling this savings gap and fostering formal entrepreneurship development. This paper investigates how local financial sector development serves as a mechanism for positioning a country to take advantage of increasing remittances inflow and channeling them towards formal entrepreneurship development. The paper deviates from the previous studies that assess the combined impact of remittances and financial development on the general economic growth by focusing on formal entrepreneurship development while excluding the informal sector that accounts for large portions of GDP in developing countries. We use a new dataset on new business density in 79 remittance-receiving countries to measure formal entrepreneurship from 2006 to 2020 alongside the panel Feasible Generalized Least Square (FGLS), Driscoll-Kraay standard errors fixed effect and a two-step system GMM techniques for our analysis. Our findings indicate that remittances and financial development are complementary in fostering formal entrepreneurship development in developing countries. Furthermore, we find that remittances positively influence entrepreneurship when domestic credit to the private sector, deposit money bank assets, and liquid liability reach 101.5%, 80%, and 89% of GDP, respectively. The implication is that remittances adequately fill the savings gap in developing countries, allowing local financial institutions to channel credits towards entrepreneurship development.JEL Classification: F24; L26; O16; M13