The literature on the determinants of remittances generally finds altruistic and investment motives to remittances (Lucas & Stark, 1985).When guided by altruistic motives, remittances aim to support recipients in their daily expenditure and / or compensate them for catastrophic events. In this case, remittances are negatively correlated with economic conditions (real GDP growth and employment) in the home country. The end use of remittances is primarily consumption. When guided by investment motives, remittances aim to take advantage of high returns or other opportunities for profits in the home country. In this case, remittances are positively related to economic conditions and investment opportunities in the home country.
On the other hand, remittances are categorized at macro level based on the assumption that flows of international remittances can be countercyclical, procyclical or acyclical.
The nature of relationship between remittances and these macroeconomic variables (exchange rate, interest rate, inflation rate, financial development, unemployment, real GDP and population growth) can not be predicted with precision, indicating for each country of interest, there would be need to set preconditions for analysis for a meaningful interpretation
of empirical results. Also, for interest rates, the fact that differentials between host and home country might be strong determinant of remittances for investments, research results are divergent, ditto other variables.
As also indicated in El-Sakka and Mcnabb (1999), the contradictory findings reported in the literature may reflect the fact that the focus of some studies is often limited to only a few macroeconomic variables often ignoring key determinants such as the black market exchange rate. In addition, because of the lack of data in labor exporting countries estimation periods of most studies are really short. Also, the estimations in previous studies (see, for example,c Elbadawi and Rocha (1992), El-Sakka and Mcnabb (1999) are generally based on modeling remittances with the levels of potential determinant variables, while these variables are generally non-stationary. All these factors lead us to question the reliability of the general conclusions in the previous literature.
For instance, economic policies and institutions in the home country, like exchange rate restrictions and black market premiums, may discourage remittances from being sent and may also shift remittances from formal to informal sector (IMF, 2005). The literature reviewed also revealed an inverse relationship between remittances and inflation in the long- run. Interestingly, the short- run reveals a positive relationship. The short- run relationship suggests that remittances received increase as price level in the recipient economy goes up.
This is in consonance with the findings of El- Sakka and McNabb (1999). They opined that remittances increases with a country‘s price level using the Egyptian example. However, the long-run result with an inverse relationship suggests a procyclical situation. This conforms to the findings on remittance to Latin America and the Caribbean from the USA by Aydas et al (2005). Infact, there is heterogeneity among the scholars on the nature of relationship between these macroeconomic variables and the size of migrants remittances.
In the literature reviewed, the stock of migrant workers on a host country is seen to be an obvious determinant of remittances; the greater the stock of workers, the greater the volume of remittances. Freund and Spatafora (2005) estimate that a doubling of the stock of migrants would lead to 75 percent increase in recorded remittances.
However, the pure Keynesian model is the oldest model that tries to capture the short – run macroeconomic impact of international transfers, under the assumptions of sticky prices, fixed exchange rate and interest rates.In the absence of supply constraints, this model shows that any shock on the demand side has disproportionate effect on the national output.
2.4 Justification for the Study
This study is first justified by the dearth of capital problem plaguing the country which has forstalled projected growth and the consensus by economists that remittances could be used as an alternative source of development finance. Even though Nigeria is agreed to be the largest recipient of remittances in Sub Saharan Africa and the seventh largest recipient of remittances in the world as at 2015 (Global Eeconomic Prospect, 2016). It is yet to be ascertained the direct impact of remittances on economic growth in Nigeria. Much attention has been placed on other sources of foreign capital like FDI and foreign aid but very little attention has been placed on remittances inflow in the country.
On the other hand, given the volume of remittance inflow into Nigeria in recent years it is critical to carry out this research to find out if remittances have had any significant relationship both in the long and short run with the above mentioned macroeconomic variables. In the same vain, understanding the responds of migrant remittances on the selected macroeconomic variables should create a climate for policies that have the capacity to encourage and fully harness the benefits of remittances towards economic growth and development in Nigeria.
Policy makers and forecasters are particularly interested in what policies may encourage remittances and how they move with other macroeconomic variables,including GDP in the host country, or the exchange rate in the home country. The latter will help illuminate the role of remittances in buffering economic shocks,such as term-of-trade shocks, large swings in capital flows.
As also indicated in El-Sakka and Mcnabb (1999), the contradictory findings reported in the literature may reflect the fact that the focus of some studies is often limited to only a few macroeconomic variables often ignoring key determinants such as the black market exchange rate. In addition, because of the lack of data in labor exporting countries estimation periods of most studies are really short. Also, the estimations in previous studies (see, for example, Elbadawi and Rocha (1992), El-Sakka and Mcnabb (1999) are generally based on modeling remittances with the levels of potential determinant variables, while these variables are generally non-stationary. All these factors lead us to question the reliability of the general conclusions in the previous literature. Hence, the relationships between the size of remittances and these macroeconomic variables is an empirical issue which cannot be generalized across countries, (Amuedo-Dorantes & Pozo, 2004; Adams & Page, 2003;
Humberto 2005; El-Sakka & McNabb, 1999; Belshaw et al. 1999; Kihangire & Katarikawe, 2008). Hence, confirming the recommendation by Chami et al., (2008), that there is need for country by country study of both the micro and macro impact of remittances.
CHAPTER THREE RESEARCH METHODS
This chapter discusses the econometric research techniques that are appropriate to this study.
Specifically, it focuses on the theoretical framework, model formulation, estimation procedure and techniques, among others.
3.1 Theoretical Background
In view of the theoretical ideas of Lucas and Stark (1985) and taking notion of mathematical formulation of Rapoport and Docquier (2005), Vargas-Silver and Huang (2006) and Adenutsi (2014) an optimal theoretical framework is designed to determine the macroeconomic determinants of remittances in Nigeria.Within this framework, a representative migrant maximizes his or her life time consumption and transfers remittance to his/her family at home with respect to the income constrainst. The utility function is composed of consumption goods and transfer (remittances).The income constraint reflects the fact that the migrant‘s total disposable income must be equal to the total expenditure on his or her own consumption of composite goods, remittances and financial asset holdings. Hence, we develop a model that yields testable predictions about the effect that changes in the macroeconomic variables of the host and home country have on remittances and establish explicitly the relationship of remittances with home country and host country macroeconomic conditions. We use a two period model in which remittances are sent in the first period. The model that we present has the same basic implications of most other remittances models (see Rapoport & Docquier, 2005).
Assume that we have an individual (emigrant) living in a foreign (host) country. In the remittances literature it is common to assume that the emigrant's utility depends on his/her consumption and the household consumption (Bougha-Hagbe, 2004; Funkhouser, 1995;
Lucas & Stark, 1985). Following the literature we assume that the utility function of the emigrant in the first period depends on two factors his/her consumption in the host country (c1) and the consumption of the household in the home country (c*). The utility function of the representative individual in the first period can be represented as U (c1, c*) with U1 > 0, U11 <0,U2 >0 and U22 <0. For simplicity we also assume that utility is additively separable.
The consumption of the household depends on income and remittances received (αr). Here the parameter α represents the cost associated with sending remittances (α < 1). This implies that although a migrant remits r dollars back home but the household only gets a fraction αr.
Migrant‘s household income is separated into two components. The first component is the fraction of household income that is not susceptible to changes in the macroeconomic conditions of the home country (y*). The second component is the fraction of household income (πY*) that is susceptible to changes in the macroeconomic conditions of the home country (Y*). The parameter π reflects the relationship between the economic conditions in the home country and the household income. In general we assume π > 0, which indicates an improvement in the economic conditions of the home country is associated with an improvement in household income (though the size of πdoes not have to be the same across households.The consumption function of the migrant‘s household is given by c*(y*+πY*),αr).The consumption function of the household is assumed to be additively separable and that c1* > 0,c2* > 0,c11* < 0 and c22* < 0.
In addition to consuming and sending remittances, the emigrant saves a percentage of his income in the home country (s). The income restriction of the individual in the first period is then given by:
y1 + υY1 = cl +r + s υ > 0
This implies that y1 is the fraction of emigrant's income in the first period that is not susceptible to changes in the macroeconomic conditions of the host country. Similarly, υY1 is the fraction of household income that is susceptible to changes in the economic condition of the host country (Y1). Here υ represents the relationship between the emigrant's income and the economic conditions of the host country.
In the second period, migrant‘s household migrates to the host country and joins the emigrant. Similar results can be obtained assuming that in the second period the emigrant returns to the home country and joins the household. The emigrant's maximization problem is then:
Max U (c1,c*) +βV (c2) 3.1 {c,r,s}
st. y1 + υY1 = c1 + r+s 3.2
and
c2 = y2+ υ Y2 + (1+i)s 3.3
Where V(c2) is the utility from second period consumption (V1 > 0 ,V11 < 0), i is the interest rate of the(intuitively the deposit rate) home country, β is a discount factor, and y2 and Y2 have similar interpretations to y1 and Y1 but for the second period. The first order condition of the optimization problem yields:
U1 = βV1 (1+i) 3.4
αU2c*r = βV1 (1+i) 3.5
From equations (3.4) and (3.5) we get the derivative of r with respect to Y1 (host country income):
3.6
Where D is the determinant of the matrix of second derivatives. Equation (3.6) implies that an improvement in the economic conditions of the host country positively affects remittance flows from the host country to the migrants home country. Suppose that Y increases, the economic condition of the host country improves. The emigrant sends more money home because his/her economic condition also improves (remember υ > 0). Given that households spend their incomes on normal goods.It can also be shown that an improvement in the economic conditions of the migrant‘s home country is associated with a decrease in remittances inflows in the home country, that is;
3.7 Equation (3.7) is non-positive. If the emigrant is remitting for altruistic purposes.Under this assumption, the migrant remits less money home (country) because the target household is better off (π > 0). Finally we have that:
3.8 Therefore, we cannot sign equation (3. 8) because we have two opposite effects. First, as a result of the increase in host country interest rates the migrant can consume more in the second period. This indicates a positive effect on remittances. On the other hand, there is a
higher return to capital in the host country. As a result the migrant may reduce remittances and increase savings in the host country.
The model presented above allows us to hypothesize how remittances respond to changes in the economic conditions of the host and home country.