What Are Remittances? How Do They Impact the Global Economy?

Migrant communities have become a significant demographic in the globalized economy. According to the International Labor Organization (ILO), there were 169 million global migrant workers in 2019. Often, residents of developing nations migrate to high-income countries in search of job opportunities. And once migrants start earning, they typically send money to family members in their country of origin. 

With rising technological advancements, remittances have become a lifeline for millions of people in developing regions. These payments account for a large share of the national gross domestic product (GDP) in some countries. 

To understand the global economy, learn what remittances are and how they function. 

What are remittances?

A remittance is a money transfer between two parties. Although many payments qualify as remittances, this term is commonly associated with funds such as cash remittances migrant workers send to family and friends in their home country. Sometimes, they send non-cash goods such as clothes, electronics, or medicine as “in-kind remittances.”

Besides goods transfer, some economists argue that transmitting values between cultures is a “social remittance.” Sociologists such as Dr. Peggy Levitt define social remittances as the exchange of ideas, knowledge, and behaviors between two parties. 

How do remittances work?

People send many types of remittances, but every payment method involves three parties:

1. Sender: The person who transfers funds.  
2. Recipient: Whoever receives the payment from the sender. 
3. Remittance service provider: A payment network that screens, sends, and approves money transfers.  

Digital technology growth drives the number of electronic remittance providers. While people still send physical checks or cash as remittances, it’s more common to transfer funds using one of the following payment services: 

1. Wire transfers: “Wiring funds” means transferring money between banks in foreign nations through an international payment network such as SWIFT. The sender needs the receiver’s bank account details to remit. Wire transfers take about 3–5 business days to clear. 
2. Money transfer companies: Many businesses solely focus on transmitting funds between countries. While some companies require recipients to have a bank account, others deliver directly to a person’s address. Examples include Western Union, MoneyGram, and Wise. 
3. Fintech apps: Many fintech apps and e-wallets allow customers to send international funds. For instance, PayPal supports transfers in roughly 200 nations. However, these apps charge different transfer fees for domestic and international remittances.
4. Prepaid cards: Prepaid remittance (debit) cards allow senders to transfer funds directly to receivers. Once the transaction clears, cardholders use these funds to make daily transactions such as buying groceries or paying bills. 

Besides these, many international and domestic payments are remittances. For instance, parents sending or receiving money from children studying abroad or migrants paying e-bills in their home countries qualify as remittances.

The economic significance of remittances

Remittances are the primary source of capital inflow in many developing countries. Data from the World Bank suggests global remittances bring in more capital to developing economies than Foreign Direct Investment (FDI) and Official Development Assistance (ODA). Remittances account for more than 30% of the total GDP in Tonga, Lebanon, and Somalia. 

Although remittances significantly impact the economies of developing countries, they don’t considerably affect host countries. Most migrant workers send about 15% of their income as remittances (roughly $200–$300 every few months), translating to 60% of a recipient family’s income. 

Most remittance money goes toward essentials, but statistics reveal many recipients put 25% of these funds into savings. Remittances encourage people to save and often compel them to open a remittance bank account. And better access to financial services provides greater security to people in developing countries. 

What to consider when sending remittances 

Remittances are a crucial part of the globalized economy, as they maintain the capital inflow in the world. While these payments empower many developing economies, experts indicate concerns over efficacy and safety. Here are three key areas remittance payment providers must address to make these payments more accessible and secure:

1. Transfer fees: The World Bank estimates most international cash remittance transfers cost an average of 6.4% in fees. Although more remittance providers aim to reduce these fees, cross-border transfers come with many transaction costs. In addition to processing fees, senders sometimes pay foreign exchange rates (forex) to switch between fiat currencies. 
2. Potential misuse of funds: Many governments express apprehensions about businesses using remittances for illegal purposes, such as funding terrorist organizations or money laundering. To combat this threat, international payment rails enforce standards, such as Anti-Money Laundering (AML) and Counter Terrorist Financing (CTF), contributing to the slow speed of international remittances. Sometimes, financial institutions freeze these payments if they suspect illicit activities.  
3. Tax evasion: As more developing nations rely on remittances, governments have introduced tax breaks to incentivize migrant workers to keep sending payments. However, countries that adopt these policies exacerbate offshore tax evasion. According to the U.S. government, U.S.-based firms total $100 billion in tax evasion annually. If more countries try to increase remittances with generous tax policies, they could contribute to tax evasion.  

What are crypto remittance transfers? 

Cryptocurrencies, such as Bitcoin, are used for remittances. As long as people have access to a mobile device with a self-custodial wallet (which enables users to manage their crypto), they can send peer-to-peer (P2P) transactions with various digital currencies. Sending a crypto remittance is the same as a fiat remittance, except the latter relies on centralized financial institutions and payment rails. In contrast, cryptocurrencies use primarily decentralized blockchains to post and validate transactions on a distributed ledger. 

Pros and cons of using crypto for remittances 

Many questions and concerns about the impact of crypto remittances exist. However, crypto supporters point out a few potential benefits of using digital assets for cross-border payments. 

Pros

1. Low fees: While blockchains charge transaction fees, for many networks the cost to send a transaction can be far lower than legacy methods of sending remittances. A recent study claims that crypto payments reduced transaction fees by as much as 93% in Kenya as opposed to centralized transfer methods. Some new crypto projects, such as the Bitcoin Lightning Network or low gas fee blockchains like Polygon make fees virtually non-existent. 
2. Fast transactions and 24/7 market: The crypto market never sleeps, which speeds up the settlement time for international crypto transfers. Also, cryptocurrencies don’t undergo third-party checkpoints. 
3. Censorship-resistant: Since governments and banks don’t control cryptocurrencies, it’s more challenging for agencies to freeze funds. This is especially important in countries with authoritarian governments where people need the money more.
4. Ease of Access: People living in rural areas may not have access to financial institutions such as banks. However, they can set up a crypto wallet and transfer digital funds with internet access.  

Cons

1. More prone to hacks: Many hackers take advantage of the crypto industry’s lack maturity. Anyone transferring digital assets should be wary of common attacks and that the software they use is less battletested. 
2. Requires technical knowledge: Using crypto for the first time can be confusing, especially for people without technical education. This is improving over time, though at the moment, most crypto remittance products are slightly more technical
3. Volatile prices: The prices of crypto assets such as Bitcoin and Ethereum are unpredictable. Although stablecoins match the value of established currencies, such as the USD, concerns over their safety and legality persist. 
4. Unclear legal status: Not all countries allow crypto transfers. Some have banned crypto (e.g., China) and others may tax it heavily.

Wrapping up

At Worldcoin, we believe cryptocurrencies can provide frictionless remittance payments. To help more people understand the benefits of crypto remittances, we’re putting a share of our crypto in their hands for free. Subscribe to our YouTube channel to learn more.