Wealth Heterogeneity, Income Shocks, and International Migration: Theory and Evidence from Indonesia∗

This paper investigates the extent to which financial constraints limit international labor migration flows in a developing country context. Income growth in these settings can have two countervailing effects. Rising income may relax liquidity constraints that prevent profitable migration among poor households. However, higher income also implies smaller wage gaps with rich countries and a higher opportunity cost of migrating. Although acknowledged in the literature, existing theories make it difficult to disentangle these offsetting effects empirically. I solve this difficulty by incorporating wealth heterogeneity, fixed migration costs, and different types of income shocks into a microfounded model of village-level migration flows. Analytic solutions for village migration rates are obtained by exploiting observable heterogeneity in household landholdings, which follow a Pareto distribution. I then test for financial constraints in Indonesia using new administrative panel data on international migration from 66,000 villages. I capture income variation arising from transitory rainfall shocks and a large, sustained increase in domestic rice prices following an unanticipated ban on rice imports. Using a two-step estimator suggested by the theory, I find that positive agricultural income shocks are associated with significant increases in the share of village residents working abroad, particularly in villages with a greater mass of small landholders. Migration flows are more responsive to rainfall shocks in underdeveloped villages—in terms of bank presence and other measures of baseline wealth levels. The empirical findings are consistent with the prevalence of binding financial constraints to labor mobility. I rule out aggregation bias using auxiliary survey data. Using the structural model, I show how financial constraints imply large interregional differences in potential future emigration flows. ∗I would like to thank my advisor, Gordon Hanson, for guidance and support. I also received helpful suggestions and feedback from Craig McIntosh, Paul Niehaus, James Rauch, Prashant Bharadwaj, Markus Brückner, Michael Clemens, Marc Muendler, Stephen Morris, Jonathan Robinson, Alexander Rothenberg, Ajay Shenoy, Maisy Wong, and numerous conference and seminar participants. Additionally, I thank Sudarno Sumarto for sharing data and insights on Indonesia; Peter Timmer for several helpful discussions regarding the rice economy in Indonesia; Palmira Bachtiar for sharing data on international migration in Indonesia; Ida Fariana at the Central Bureau of Statistics (BPS) in Jakarta for assistance in preparing the Agricultural Census; Robin Kraft for preparing high resolution rainfall data; and Rizki Wimanda for sharing monthly price data. I acknowledge financial support from the Center on Emerging and Pacific Economies at UC, San Diego. Any remaining errors are of course my own. The most recent version of this paper as well as the online appendix can be found on my website: http://econ.ucsd.edu/ ̃sbazzi. †Dept. of Economics, UCSD, 9500 Gilman Dr. # 0534, San Diego, CA 92093-0534; [email protected]