Remittances - a new form of Dutch Disease?

"Dutch Disease" refers to the harmful effect imposed by export booms in one sector on other exporting sectors. The monicker was given for the Netherlands experience in the 1960s, following the surge in foreign exchange earnings from North Sea Oil. The resulting currency appreciation caused business contraction in the rest of the exporting sector, including manufacturing. Foreign exchange booms are typically associated with natural resource exports, such as oil (another example is Nigeria), though commodity exports (e.g. coffee in Colombia) have also been blamed. In this era of high oil prices, petrodollars are beginning to cause massive foreign currency effects on oil exporting economies.

While it is too early to make a diagnosis, early signs of a Dutch Disease may be suspected in the recent worker remittance boom. The peso has gained in value by 3.8% (relative to the US$) from October this year, while foreign exchange remittances are expected to hit an all time high of between 10 and 12 billion US$. Based on the latest Global Economic Prospects report of the World Bank, in 2004 the country was already the world's fourth biggest remittance earner. Among the top earners, the country had by far the largest share of remittances in GDP (13.5%).

What's the real problem with Dutch Disease? It's not all those dollars coming in - may as well complain about earning too much money! The problem is ensuring that the temporary wealth gains are not frittered away in investments in low returns - or not in investments at all. That happens when the policy environment is not conducive to such investment activities.

In short, the main problem is that an earnings boom may reinforce existing distortions and policy dithering. If the Central Bank is pursuing an inappropriate dirty float of the currency, the reserves accumulated from dollar earnings may encourage its anti-depreciation efforts. The dollar bonanza may also lull foreign lenders to throw more money down the abyss of public profligacy. That is, Dutch Disease is bad for economies prone to unsustainable exchange rate and fiscal policies. One guess as to which country I am describing.