## What’s Different about Monetary Policy Transmission in Remittance-Dependent Countries?

_IMF Working Papers, March 1, 2016_

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## Bibliographic details
- Authors: Adolfo Barajas, Ralph Chami, Christian H Ebeke, Anne Oeking
- Published: March 1, 2016
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781513531236.001

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### Key findings and summary
- Remittance inflows provide welfare and poverty-reducing benefits for recipient households.
- Remittances entail macroeconomic challenges, including:
  - Producing Dutch Disease-type effects through their upward (appreciation) pressure on real exchange rates.
  - Reducing the quality of institutions.
  - Delaying fiscal adjustment.
  - Ultimately having an indeterminate effect on long-run growth.
- The paper explores an additional challenge for monetary policy: remittances expand bank balance sheets and provide a stable flow of interest-insensitive funding, but they tend to increase banks’ holdings of liquid assets.
- Increased holdings of liquid assets:
  - Reduce the need for an interbank market.
  - Sever the link between the policy rate and banks’ marginal costs of funds.
  - Shut down a major monetary policy transmission channel.
- The authors develop a stylized model based on asymmetric information and a lack of transparent borrowers.
- Econometric analysis provides evidence that increased remittance inflows are associated with a weaker monetary policy transmission.
- As independent monetary policy becomes impaired, recipient countries’ behavior is consistent with earlier findings that they tend to favor fixed exchange rate regimes.

### Model, methodology, and evidence
- Theoretical approach:
  - Stylized model grounded in asymmetric information and a lack of transparent borrowers to explain how remittances affect bank behavior and transmission channels.
- Empirical approach:
  - Econometric analysis examining the association between remittance inflows and the strength of monetary policy transmission.
- Core empirical result:
  - Increased remittance inflows are associated with a weaker transmission of monetary policy.

### Policy implications and institutional considerations
- Monetary policy effectiveness can be impaired in remittance-dependent countries because remittances:
  - Increase banks’ liquid asset holdings and excess reserves.
  - Reduce reliance on interbank markets and weaken the pass-through from policy rates to banks’ marginal funding costs.
- Institutional and policy responses implied by the analysis:
  - Recognition that standard interest-rate-based monetary policy may be less effective where remittance flows are large.
  - The finding that impaired independent monetary policy is consistent with recipient countries favoring fixed exchange rate regimes.

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_Source: https://www.imf.org/en/publications/wp/issues/2016/12/31/whats-different-about-monetary-policy-transmission-in-remittance-dependent-countries-43762_