Real exchange rates and remittance inflows in Jamaica

Abstract

Large remittance inflows (remittances) can have several positive economic impacts, but they can also lead to real exchange rate appreciation and a loss of international competitiveness for recipient countries, or the Dutch disease effect of remittances. Using Jamaican data from 1977 to 2019, we test for the existence of this effect. After applying autoregressive bounds and Granger causality testing, we arrive at three findings. First, there is a long run cointegrating relationship running from remittances to the real exchange rate, where 64% of any perturbation from this relationship is corrected within one year. Second, we find that a 1% increase in remittances leads to a 0.53% appreciation of the real exchange rate in the long run. The Dutch disease effect exists in Jamaica. Third, consistent with the long run results, we find that remittances Granger cause the real exchange rate in the short run. An important policy implication of our findings is that the Jamaican government should channelize remittances to capital investment in the tradeable sector, while focusing on improving trade competitiveness to compensate for the deterioration of the country's terms of trade due to remittances’ impact on the real exchange rate.