Effect of Remittances on Economic Growth: Role of Governance Quality and Financial Crises

Abstract

ABSTRACT This study investigates the non‐linear relationship between remittances and economic growth, considering the influencing effects of governance quality and financial crises. Using a balanced panel of 48 countries from 1984 to 2016, we explore both direct and indirect channels of remittance impact through panel regressions and the Bayesian Model Averaging (BMA) approach to identify the main determinants of growth. In addition, we employ both Autoregressive Distributed Lag (ARDL) and cross‐sectionally augmented ARDL (CS‐ARDL) models to evaluate long‐term effects and deal with endogeneity and cross‐sectional dependence. The results indicate that governance regularly boosts GDP per capita in both developed and developing countries. However, remittances stimulate growth in developing nations but may have a negative effect in developed economies. Furthermore, in developing countries, the positive impact of remittances is partially offset by improved governance, suggesting a substitution effect. Financial instability negatively affects growth, particularly in developing economies, reducing remittances' benefits. In addition, remittances' influence on economic growth is more sensitive to financial stability in developed countries and governance quality in developing countries. This emphasises the importance of considering distinctive characteristics of each country in evaluating remittances' effects on its economic growth.