# **I. Introduction**

In 2008, remittances to developing countries reached $328 billion dollars, more than twice the amount of official aid and over half of foreign direct investment flows (World Bank, 2009).<sup>1</sup> Numerous studies have shown that remittances can have a positive and significant impact on economic development along a number of dimensions including: poverty alleviation, education, entrepreneurship, infant mortality, and financial development to mention a few.<sup>2</sup> But remittance transactions are known to be expensive, with estimates averaging 10 percent of the amount sent (World Bank, 2008).<sup>3</sup> At the same time, there is a wide dispersion in these costs across corridors, ranging from 2.5 percent to 26 percent of the amount sent. Furthermore, case studies have shown that remittances flows are very sensitive to costs and are likely to increase significantly as costs go down (see Gibson, McKenzie and Rohorua, 2006).

In the L’Aquila 2009 G8 Summit, leaders pledged to reduce the cost of remittances by half (from 10 to 5 percent) in 5 years.<sup>4</sup> Yet, empirically, little is known about what drives the cost of remittances.<sup>5</sup> Is the problem of high costs mostly due to sending country or recipient country factors? Are high costs related to socio-economic factors, industry market structure, or government policies and regulations? Are there significant differences between banks and money transfer operators (MTO)? Given the importance of remittances for many developing countries, explaining the variation in costs is of interest for academics and policy makers alike.

1http://econ.worldbank.org/WBSITE/EXTERNAL/EXTDEC/EXTDECPROSPECTS/0,,contentMDK:21122856~pa gePK:64165401~piPK:64165026~theSitePK:476883,00.html 2 For example, see Adams and Page (2003), Adams (2005), IMF (2005), Lopez-Córdova (2005), Maimbo and Ratha (2005), and Taylor, Mora, and Adams (2005) for studies on the impact of remittances on poverty. Studies such as Cox-Edwards and Ureta (2003), Hanson and Woodruff (2003), López-Córdova (2005), and Yang (2005) find that by helping to relax household constraints, remittances are associated with improved schooling outcomes for children. Remittances have also been shown to promote entrepreneurship (see Massey and Parrado, 1998; Maimbo and Ratha, 2005, Yang, 2005; Woodruff and Zenteno, 2006). Furthermore, a number of studies on infant mortality and birth weight have documented that, at least in the Mexican case, migration and remittances help lower infant mortality and are associated with higher birth weight among children in households that receive remittances (see Kanaiaupuni and Donato, 1999; Hildebrandt and McKenzie, 2005; Duryea et al., 2005; and López-Córdova, 2005). Aggarwal, Demirguc-Kunt, and Martinez Peria (2006) show that remittances can have a positive impact on financial development.

> 3 See the World Bank Remittance Prices website at www.remittanceprices.org.

4 See paragraph 134, page 49 of the L’Aquila 2009 G8 Summit.

http://www.g8italia2009.it/static/G8_Allegato/G8_Declaration_08_07_09_final,0.pdf 5 Orozco (2006) and Freund and Spatafora (2008) are the exception, but their data is limited to few countries or few providers. While Orozco’s work focuses exclusively on Latin America, the second study analyzes only the costs of remittances sent from the US and the UK exclusively via MoneyGram or Western Union to 66 countries.

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