Time to leverage fintech in remittances

3 Dec 2019

Photo Credit: Pixabay/Sasin Tipchai

For the first time in history, remittances are expected to become the largest source of external financing for low- and middle-income countries worldwide. Remittances are expected to reach $550 billion by 2019, well above foreign direct investment and official development assistance.

In Asia-Pacific, remittance inflows registered a record high in 2018, with India and China as the top recipients. The region is also home to the most remittance-dependent countries in the world – Tonga, Kyrgyzstan and Tajikistan – whose economies received remittances exceeding 30 per cent of their GDP.

Remittances flow directly to households instead of governments or businesses. They play a crucial role in financing the development of local communities. Remittances are found to alleviate poverty and ensure better access to healthcare and education. They also contribute to economic growth by boosting private consumption and stabilizing economic output in times of crisis. Furthermore, remittances can encourage entrepreneurship by providing the funds to support small businesses. In short, they are an important means to achieve the Sustainable Development Goals (SDGs).

Unfortunately, remittances are far from an efficient mechanism for prosperity and inclusiveness. This is due to their transaction costs, which are unsustainably high. In 2018, migrant workers sending money back home to Asia-Pacific spent, on average, 6.42 per cent of the total transaction amount in fees. For the Pacific alone, costs were as high as 9.75 per cent of the transaction value. This is over three times the ceiling set by SDG10: Reduced Inequalities, which aims to reduce the transaction costs of migrant remittances to less than 3 per cent.

By tracking the evolution of remittance costs as well as listing operating firms and their characteristics, innovative platforms have emerged as helpful tools to stimulate market competition and bring down costs. Migrant workers can now consult and compare the services provided by different companies regarding the cost, method of transfer and speed of transaction, among others.

Utilizing these databases, our recent paper on Finteching remittances in Paradise: a path to sustainable development finds that fintech companies significantly and systematically charge less fees than conventional money transfer operators and banks. This can be explained by their distinct business model, which does not rely on brick-and-mortar agents but operates exclusively through the Internet or mobile phones. Examples include peer-to-peer online platform and cross-border mobile money provider.

We argue that the small island developing States of the Pacific can benefit the most from these fintech-based remittance services. The difference in fees charged by traditional versus fintech companies is the biggest for that subregion. This means that remittance-dependent households could further increase their savings by reducing transaction costs. For a Tongan family, savings could be as great as $960 per year.

Surveys show that 72 per cent of Fijians and 92 per cent of Samoans receive money from abroad through conventional money transfer operators. Western Union’s services alone are used in Tonga by about 83 per cent of the individuals who receive international remittances. An important question is why do migrant workers still use traditional remittance services when more affordable ones are already available?

In our paper, we discuss this issue in detail. Even when low-cost services are already present in a country, there are other aspects that impede people from adhering to them: accessibility, awareness, literacy and trust. Lacking any of these dimensions would explain why migrants would still consider using traditional remittance providers over fintech companies. Our analysis reveals that different countries face different challenges, ranging from poor ICT infrastructure to a strong cash culture.

This heterogeneity in challenges led us to formulate varied policy recommendations tailored to each country-specific context. Papua New Guinea, for instance, needs to invest in universal access to electricity. Samoa and Tonga, on the other hand, should focus on the implementation of a digital government-to-person system of transfers. Effective policy action can only be achieved by raising awareness to countries’ particular needs.

Every day we are reminded that we live in a global village. While information, goods and services flow more rapidly than ever before, so do people. If we wish to meet the SDGs by 2030, this remittance cost issue should be brought to the table of the Financing for Development agenda. Only by tackling transaction costs are we able to potentiate the positive effects of remittances.

Related SDGs: Goal 9: Industry, Innovation and Infrastructure, Goal 10: Reduced Inequalities, Goal 17: Partnerships for the Goals