The Remittance Problem Is Inflated
Everybody seems to know it: cross-border payments are way too expensive.
One can find this incontrovertible narrative in countless articles, in market research, and in podcasts. It is even the base for official G20 policies. It is used as argument for Bitcoin, Stellar, and CBDCs.
But is it still true? After 20 years?
Let us take a look at the usual benchmark:
There is a world bank project that continuously monitors remittance prices in selected countries and publishes quarterly reports. Their latest report from Q1 2021 states that the average global cost for remittances is 6.38%.
That would be a lot for just moving money between two countries. However when digging deeper one finds that this number is highly inflated due to an outdated benchmark.
Before we deep dive into the details let me share two short observations that support this thesis:
- Western Union reports in its latest quarterly report revenues of 4.7% of the transfer volume. As the market leader in remittances they are likely the most expensive money transfer operator.
- Fully digital services are even cheaper. Wise, for instance, says it collects 0.7% on average of the $7 billions it processes every month.
So there is a surprising gap between the official benchmark and what companies actually report.
Let us take a look how the Global Average Total Cost for Sending Remittances is calculated by the World Bank and how this leads to missleading results.
1. Too little coverage makes it inaccurate
Remittance Prices Worldwide covers 367 “country corridors”. The corridors include 48 remittance sending countries and 105 receiving countries.
The data covers only a subset of the global market. For instance Germany, France, Belgium and Italy are only considered as sending country, even though it is said that they together receive 10% of all global remittances.
Furthermore, the data is collected only once in a quarter, but the prices change daily. This leads to a high volatility that may hide any real progress. The rates in the Germany-Nigeria corridor, for instance, fluctuated more than 30% in the last quarters.
2. The amount is arbitrary and too low
The costs are surveyed for the local currency equivalent of USD 200 based on an exchange rate from 2009.
The amount seems to originate in a poll of one thousand emigrants mostly from Mexico, as witnessed in an US senate committee hearing from 2002.
- They literally had to “came up with” the average figure because they just asked for ranges.
- It is used everywhere, even though Latin-American emigrants in the US might not be representative for emigrants in other areas of the world.
- It was never adjusted for inflation nor different exchange rates.
Consequently, remittances originating in France are more than three times larger and therefore cheaper these days.
To be fair, the world bank also collects data for USD 500 equivalents. However, they are typically not mentioned in the press-release and 80% of the quarterly report focuses solely on the lower amount.
3. Averaging the costs skews the results
The cost for a corridor is the average of the total cost for sending USD 200 charged by each single remittance service provider.
Choosing the average for any price comparison is a very bad choice, especially if there are huge pricing differences.
- the result largely depends on the samples taken
- a few expensive entries heavily skew the results
- a single perfect solution has only a limited impact
The German-India corridor shows this quite well. The average of all entries is given as 6.5%, even though three services charged less than 1% and another six for less than 3%.
The world bank has acknowledged the problem and developed a different indicator called SmaRT already five years ago. It still relies on the average, but only of the cheapest three entries. This solves many known issues and it drops the reported global number down to 4%.
However, the original approach is still the dominant indicator and 3 out of 4 progress trackers depend on them. Furthermore, SmaRT data for $500 is never reported.
4. Averaging all services inflates the problem
The Global Average is a simple average, which means that all corridors and services — regardless of size — are given equal weighting.
The simple average does not account for the size of the flows. However, larger markets tend to be less expensive due to economies of scale and more competition. This can easily be observed when comparing the prices for India and Nepal.
The world-bank therefore calculates another indicator called Global Weighted Average which weights the averages of a corridor by the estimated flow size. In Q1 2021 this approach resulted in 4.5% — a significant drop as well.
The often cited benchmark for remittance costs the Global Average calculated by the world bank should be made obsolete, because it is inaccurate and inflates the real costs.
Proposed solutions like SmaRT and Global Weighted Average tackle only parts of the problem. An unified approach is still missing. Until that happens, we are likely to overestimate the cost of remittances by at least 2x.
Or in other words: the remittance problem might already be solved in the majority of the cases. However, we cannot be sure until we have a better benchmark.