NEPAL’S ECONOMY IN CAPSULE
By Madhukar SJB Rana
Since Fiscal Year 2001/02 Nepal’s economic performance has been very disappointing as compared to 1991/92-2000/01. During this period GDP growth rate dropped from an annual average of 4.8 percent to 2.8 percent, which is just a little above the annual population growth of around 2.3 percent. Such decline by 58.3 percent is significant because all the gains from the donor-driven structural adjustment programmes, started in 1982, have possibly reversed. This implies that future reforms to liberalize the economy would have to be even more radical should the government wish to jumpstart economic growth to catch up with lost opportunities. The stagnancy in average per capita income has, undoubtedly, added to the chronic economic hardships faced by households of the common person, especially the urban poor.
The Gini coefficient, which measures income inequality, is 0.41 in Nepal and is one of the highest in the world. This indicator does not inform on the prevalent regional, ethnic and caste inequalities. It appears that inequalities grew even more so between regions, castes and ethnicities, since 2001, as most growth was centred in and around a few urban areas like Kathmandu, Pokhara, Birgunj and Biratanagar. There are indications that in the last decade Kathmandu witnessed comparable growth rates to China’s at over 10 per cent per annum.
Most of the fall in GDP is accounted for by the miserable performance of the non-agricultural sector. To say the least, sector perspective planning in agriculture can be described as a ‘national disaster’ due mainly to the deteriorating investment climate on account of the heightened civil war, on the one hand and persistent political instability following Jana Andolan II, on the other.
Nepal is yet to be blessed by a ‘peace dividend’. On the contrary, the political and social instability, symbolised by the territorial bandhs in Terai and elsewhere and frequent labour strikes resulted in the disruption to the free flow of goods and services causing cost push inflation. These factors also led to poor performance of exports and decline in the capital expenditure of the government. Ironically, the opportunity cost of the ‘peace dividend’ might be more than the civil war as more GDP setbacks have occurred after the peace.
Total exports during 2001/02 to 2006/07 increased by 9.9 percent per annum compared to the growth of 24.3 percent in the 1990s. Similarly, import growth is estimated to be about 15.9 percent in the review period, compared to 19.9 percent in the 1990s. Increasing imports and decreasing exports have resulted in higher trade deficit. Export-import ratio as a percentage of GDP declined from 43.7 percent in 2002 to 32.4 percent in 2007.
Negative annual average growth of export and import underscores the underlying weakness in the national economy with declining comparative advantages and capacity to import. This also indicates that the aggregate output is lying well below the capacity or production frontier. Unemployment is bound to shoot up in such a scenario.
Nevertheless, it is remarkable that the fiscal deficit was managed at 3.5 percent of GDP in 2005. However, the deficit has started increasing after 2005, chiefly because of increase in non-budgetary expenses related to subsidies on petroleum products, rehabilitation of the Maoists and election expenses, which kept on being postponed three times.
Resource gap, measured by saving-investment differences, increased from 11 percent in 2002 to 18 percent in 2006. The average annual inflation measured by the national consumer price index recorded a rise of 5.1 percent during 2001/02-2006/07. However, it increased to eight percent in 2005/06 and remained close to seven percent in 2006/07 mainly because of rise in petroleum product prices. Further rise in inflation will cause a real strain on the body politic in this critical period of transition. More inflation is to be expected since rising food prices, commodity and energy prices has been a global phenomena.
However, the current accounts and balance of payments positions remain strong. Current account surplus which stood at NRs. 18.2 billion in 2001/02 is estimated to be at NRs 8.2 billion in 2006/07. The surplus in the current account has been observed primarily due to the high growth in the inflow of remittances which is over $ 1.5 billion as per official statistics but could be nearly double of that if one can gauge the inflows through the hundi market and individuals.
Remittance has helped tremendously to keep the balance of payments favourable. We learn from the Finance Minister’s mid-term review of the economy (March 5, 2008) that it has kept growing to the tune of 18.5 percent from the same period last year. Thus, the balance of payments position has been in surplus since 2002/03 after a deficit of NRs 3.3 billion in 2001/02.
In 2006/07, the balance of payments surplus is estimated to be NRs 9.0 billion. However, the rising value of NRs against US dollar is leading to increasing trade deficits and such an artificial forex rate with respect to the dollar could have an adverse impact on remittance earnings as NRNs choose to keep their savings abroad.
If remittance flows should slow down, such a scenario will adversely affect the foreign exchange reserves causing pressures on the NRS-IRS parity since it was the reserves in dollars that helped keep that forex rate fixed in terms of Indian rupees. Should pressures on forex appear, the long standing macroeconomic stability, since mid-1980s, would be under severe test.
Immediate Future Scenario
The immediate future economic scenario is pretty bleak as law and order situation continues to deteriorate. It is expected that a new constitution defining and demarcating the nature and scope of the polity of the new Nepal is not likely to be in place before the end of 2010 or early 2011. Given the weak government at the centre and the continual erosion of its power while the existing bureaucratic institutions remaining in limbo one could reasonably expect the investment climate to deteriorate further.
It looks even bleaker with the power outage for eight-hour a day and the queues for kerosene, petrol and diesel that could absorb four to six hours of productive time. One could expect further curtailment of non-agricultural output, especially in manufacturing industries.
The inability for successive governments to respond to market-driven forces in pricing petroleum products has meant that the government has to pick up the tab of around Rs. 9 billion to meet the expenses of the Nepal Oil Corporation causing further fiscal imbalances. With oil prices now hovering above $ 100 per barrel— some expect it to rise further, say up to $ 149 per barrel — the government will be forced to bring forth a supplementary budget sooner than later as the treasury has no extra resources to draw on.
The government is also expected to float bonds at seven percent to meet its fiscal deficit, which means that there will be a liquidity crunch in the economy as bank deposits will switch to bonds and treasury bills thus leading to rise in interest rate and fall in investment by the private sector.
In the immediate future, one does not see performance in the agriculture sector improving with the virtual absence of government agencies in the rural areas. Without massive rural electrification, rural irrigation, rural road building and the spread of improved seeds, the desired transformation in agriculture looks unlikely.
The scale of the challenge requires mass mobilization of the people in all nooks and corners of Nepal to actively participate in local development which, alas, has been a development phenomenon in deep void since 2002. No political representation to boot exists in the local bodies. Furthermore, there are no signs of this void being filled— ideally through local elections.
The sad reality is that expenditure in agriculture declined from annual two percent of GDP in the ninth Plan period to 1.4 percent in the 10th Plan period. Budget allocation in irrigation is declining in real terms and the performance of extension service is not satisfactory.
One will not expect to see a spurt in budgetary expenditures for the agriculture sector given the fact that the Ministry of Finance has a severe liquidity crisis faced with unprecedented rise in regular expenditure that is growing by 40 percent compared with revenue growth of around 26 percent! More demands are likely to be set upon it post-CA elections as populist policies scale new heights amidst the newly found national legislature that has risen from 205-member to over 601-member.
Tourists arrivals increased by 6.5 percent per annum in the 1990s only to decline by 1.1 percent per annum between 2000 and 2006. It has started to pick up since 2006 especially after the peace agreement was signed between the Maoist rebels and the government of Nepal. There are high hopes that it will gain further momentum. However, the reality is that tourism is a very volatile service industry which can take a new downturn if there is a global economic recession or regional wars or breakdown to the peace process in Nepal.
Thus, well designed innovations are needed to attract more tourists from the region. Much would depend on whether Nepal allows FDI in the real estate, civil aviation, hotel, and trekking sub sectors. Similarly, a new policy of ‘resident tourists’ may be tried to attract people to come and make Nepal their second home as is the case in Malaysia, Thailand, Sri Lanka, Mexico etc. Much more than simply a paltry three percent of GDP should be obtained from this sector with such immense potential. Nepal’s per capita tourist earning is the lowest in South Asia.
Experiences of other countries show that the economic and social costs of political transition and transformation can be very high in the post-conflict situation, particularly with low probability of strong, visionary leadership to be seen in the horizon. Thus, adverse impact on investment and growth is expected as political instability will compound in a polity of full proportional representation. In such an unstable environment, transaction costs of doing business will soar.
Nepal is now in the vortex of the democracy-growth dilemma. Without economic growth no democracy can be strong, stable and sustained. Possibilities abound for regression where good governance is not grounded on accountability, transparency and competition. These three acid tests of good governance are meeting tough times with the political parties in dire need to find new space and meaning in the emergent federal Nepal not to mention finances to keep party workers happy.
The tendency has been, so far, to weal and deal and resort to cartelization of the political and economic spaces to maximize the spoils of power with no checks and balance from the judiciary, bureaucracy and the civil society.
Unity-in-diversity, henceforth, has to be redefined with the rejection of the traditional institutions in the quest for inclusion and social justice. Unguided pluralism in the wake of a fragile, non-visionary leadership, driven by dynastic party politics, will add to the tension in society as all castes and creeds, and races and regions, clamour for what is called ‘horizontal equity’. That too is beginning to take root just when the macro economy is glaringly vulnerable to shocks from outside that are beyond the control of the government. .
Silver Lining
Every cloud has a silver lining. So the incidence of poverty declined from 42 percent in 1996 to 31 percent in 2004. Net enrolment of girls in primary school increased from 57 percent to 87 and under five mortality declined from 139 to 61 during the same period. These are solid achievements despite the civil war
Urban poverty stands at only 9.5 percent which can be completely eradicated with sound municipal governments empowered with sound devolution of development responsibility to work in tandem with new NGOs like Rotary Nepal, Lions Club Nepal as well as other NGOs and INGOs to be given the chance to enter the process of social mobilization of the urban poor.
Steady flow of remittances, wide ranging devolution activities and community ownership and management in a number of areas including small scale rural development activities, school management, health system, drinking water and increased motivation to educational achievements have provided strong stimulus to the socio-economic activities of the rural areas. These have been the reasons for whatever success achieved since 2001. Nepal must build on them with maximum devolution of authority and responsibility to local communities.
The above positive scenario reveals that an increased level of devolution, delegation, decentralization and social mobilization of the poor are critical. Increased resources are required by the rural areas. A vital need is this: stronger people’s ownership and participation in development activities. Local communities at the village levels must take leadership of the development process pursuing models that befit their own capacities and cultures and not blindly pursue models made in donor capitals or Singha Durbar. Re-discovery and revival of the traditional voluntary organization (TVOs) must be at the core of local community development.
Now is the time to strengthen critical central bureaucratic institution to make them function as technocracies even as the shape and form of federal Nepal are being worked through. We should introduce the concept of a ‘managerial civil service’. In doing so we can learn much from the experiences of Malaysia as to how they modernized their bureaucracy so rapidly in the 1980s.
Finally, as remittances will continue to be the salvation for our economy it is necessary for Nepal to be engaged in skill development for global markets. More qualified can obtain jobs overseas. Higher quality of vocational and technical skill help meet both national and international manpower demands.
This necessitates that we give top most priority to manpower planning to meet the most difficult of all national planning challenges; namely, how to create employment for the 300,000 youth entering the job market each year?
Having youth endowed with the right skills is one positive approach to meeting the challenge. Youth unemployment, alienation and angst are at the core of the conflict and violence in Nepal. A National Youth Policy and Action Plan is needed to allow for the fostering of national pride and patriotism and for leadership mobilization and development in new Nepal.
(The author is former finance minister)
Aid for Trade & Trade for Poverty Alleviation
By Shiv Raj Bhatt
As per the conventional trade theories, international trade, if based on production specialization according to each nation’s comparative advantage, leads to a more efficient allocation of resources in the world economy and consequently to higher levels of output and growth in all countries. Accelerated growth, in turn, promotes national development and reduces poverty. Therefore, it is argued that trade has greater potential than aid to increase the share of the world’s poorest countries and people in global prosperity (UNDP: Human Development Report 2005).
International trade can, no doubt, be a powerful catalyst for human development; however, the link between trade and human development is complex and right conditions are needed for trade to work in favour of the poor. Moreover, competitive productive capacities are needed to compete internationally. But least developed countries (LDCs), including Nepal, lack competitive productive capacities thus making them unable to use trade for accelerating growth and reducing poverty. The major problems faced by the LDCs can be clubbed into three groups:
i. Lacking infrastructure - like road, ports, and telecommunications- that unlock producers’ link to global markets;
ii. Inefficient institutions - customs, tax and product standard - that drive up the cost of doing business and trading; and
iii. Knowledge gap (producers are unaware of market opportunities)
Therefore, an LDC’s increased market access opportunities that have been created/or expanded through the membership of the World Trade Organisation (WTO) (and regional and bi-lateral trade agreements or arrangements) cannot be sufficient to produce the desired outcomes. Moreover, adjustment cost of liberalisation (coupled with revenue and public spending implications associated with trade liberalisation) may ultimately force the government to backtrack on their poverty reduction efforts.
To overcome these challenges and to make aid and trade a viable instrument of poverty reduction, WTO members have committed various ‘Aid for Trade’ related programmes.
Aid for Trade under WTO
It is now well recognised that aid and trade are two most powerful weapons in the hands of global community that can be used to fight the war against poverty. Unfortunately, both are yet to be utilised properly. Aid is underused and badly targeted; on the other hand, the right conditions have yet to be created for trade to work for the poor. To overcome such challenges, the global community, under the auspices of the WTO, came up with the idea of ‘Aid for Trade’. This is considered a ‘double-edged sword’ to fight the war against poverty.
To trade commodities and services in the global market, a country/or producer not only needs comparative but competitive advantages too. However, both are less favourable for LDCs as they are hurdled by various supply-side constraints, including infrastructure (physical and human), policy and polity. To overcome such challenges, LDCs need additional assistance. This truth was first realized during Doha Ministerial Conference in 2001. Doha Ministerial declaration (commonly known as Doha Development Agenda - DDA) confirms that technical cooperation and capacity building are core elements of the development dimension of the multilateral trading system. It welcomes and endorses the New Strategy for WTO Technical Cooperation for Capacity Building, Growth and Integration. Moreover, it has instructed the Secretariat, in coordination with other relevant agencies, to support domestic efforts for mainstreaming trade into national plans for economic development and strategies for poverty reduction ( Para 38). The Director-General was instructed to consult with the relevant agencies, bilateral donors and beneficiaries, to identify ways of enhancing and rationalising the Integrated Framework for Trade-Related Technical Assistance to Least-Developed Countries and the Joint Integrated Technical Assistance Programme (Para 39).
Similarly, it was recognised that LDCs need more concrete actions to reap the benefits of trade liberalisation and globalisation. It was recognized that the integration of the LDCs into the multilateral trading system requires meaningful market access, support for the diversification of their production and export base, and trade-related technical assistance and capacity building. Therefore, it was agreed that the meaningful integration of LDCs into the trading system and the global economy will involve efforts by all WTO members. So, the members were committed to the objective of duty-free, quota-free market access for products originating from LDCs. Similarly, the Ministerial endorsed the Integrated Framework for Trade-Related Technical Assistance to Least-Developed Countries (IF) as a viable model for LDCs’ trade development.
The General Council in 2004 (commonly known as ‘July Framework’) affirms that LDCs should be provided with enhanced Trade Related Technical Assistance (TRTA) and capacity building to increase their effective participation in the negotiations, to facilitate their implementation of WTO rules, and to enable them to adjust and diversify their economies.
The latest Ministerial Declaration (Hong Kong Ministerial Declaration) of the WTO also includes several issues related to aid for trade ( Para 50- 57). Most important issues in the declaration are:
• Increase contribution (development partners and six IF core agencies) to the IF Trust Fund to intensify their assistance in trade-related infrastructure, private sector development and institution building to help LDCs expand and diversify their export base.
• Trade related technical assistance programme should be demand-driven and it should focus on the needs of the beneficiary countries and reflect the priorities and mandates adopted by Members.
• There should be an appropriate needs assessment mechanism and there should be support to the efforts to enhance ownership by beneficiaries, in order to ensure the sustainability of trade-related capacity building.
• In order to continue progress in the effective and timely delivery of trade-related capacity building, in line with the priority that the members attach to it, the relevant structures of the Secretariat should be strengthened and its resources enhanced.
• Ensure secure and adequate levels of funding for trade-related capacity building, including in the Doha Development Agenda Global Trust Fund, to conclude the Doha Work Programme and implement its results.
• Special attention should be given to the problem of dependence of several developing and least developed countries on the export of commodities and the problems they face because of the adverse impact of the long-term decline and sharp fluctuation in the prices of these commodities.
• Aid for Trade should aim to help developing countries, particularly LDCs, to build the supply-side capacity and trade-related infrastructure that they need to assist them to implement and benefit from WTO Agreements and more broadly to expand their trade.
• Aid for Trade cannot be a substitute for the development benefits that will result from a successful conclusion to the DDA, particularly on market access. However, it can be a valuable complement to the DDA.
• Create a task force that shall provide recommendations on how to operationalise Aid for Trade.
• Establish appropriate mechanisms to secure additional financial resources for Aid for Trade, where appropriate through grants and concessional loans.
Major Problems
Though the advanced countries principally agreed and committed to help LDCs to overcome supply-side constraints; challenges and problems still remain. The most important problems associated with aid for trade initiatives can be presented as follows:
• Under funding: Current funding for the Integrated Framework for Trade-related Technical Assistance to LDCs amounts to less than USD 6 million, which is diminutive, thus cannot significantly support LDCs in their economic infrastructure development and overcoming supply-side constraints.
• Loan based support: Most of infrastructure supports are loan based, which may result in increasing debt and repayment burden (e.g. total debt stock of Nepal was 48.6 percent of GDP in 2001, which was increased to 53.4 percent in 2002 and 55.6 percent in 2003 and the principal repayments of debt increased by 25.4 percent in Fiscal Year 2004/05 as compared to 12.9 percent in FY 2003/04: Ministry of Finance, Economic Survey 2005/06, p17-18). Therefore, it is necessary to increase the share of infrastructure projects/or productive projects funded by grants;
• Support without predictability: Most of the supports are based on best endeavour commitments, thus they do not guarantee the fund and ensure credibility of the commitments.
• Donor-driven priorities: It is claimed that assistance for trade related capacity building is too often biased towards donor priorities. For example, EU’s priority negotiation agenda (competition policy, trade facilitation and investment) were the agenda for negotiation under WTO (commonly known as Singapore issues). In 2001, the Singapore issues accounted for one-half of total technical assistance in trade policy; whereas only one percent policy support was directed towards negotiations on agriculture which is an area of vital concern for developing countries (UNDP: HDR 2005).
• Biased and restricted advice: Too much technical assistance for capacity building is for implementation of WTO agreements, while too little for enhancing public policy objectives; i.e. building supply capacities for poverty reduction.
• Weak links to development strategies: It is also argued that there is no clear-cut link of diagnostic studies (trade competitiveness studies carried out by the donor agencies for mobilising trade related technical assistance in LDCs) with PRSPs or national development policies and strategies. Moreover, identifying trade-related needs should be a continuous process. Also the recommendations provided for establishing mechanism to support and finance trade-related infrastructure are not very clear.
• The last, but the most important, point is that a very insignificant support is being provided for development of productive capacity. Unless supply capacities are built properly; LDCs cannot be truly integrated into the global mainstream. Therefore, supply side capacity (productive capacity) building should be given utmost priority in international technical assistance packages.
Aid for Trade Strategy: Some Recommendations
While these problems should be removed timely for aid and trade to work for poverty reduction, effectively and efficiently, national capacities also matter, especially in the context when LDCs lack appropriate mechanism for need (aid for trade related) assessment and prioritisation. Similarly, coordination among key stakeholders (public-public and public-private) is also very weak and insufficient in these countries. Therefore, LDCs, including Nepal, should establish a ‘National Aid-for Trade Committee’ that will take the responsibility of needs assessment and also bridge the coordination gaps. The committee will also help (work) ensure trade mainstreaming in national development strategies, determine country needs, set priorities, assist in matching ‘demand’ and ‘response’, and ensure continuation and help in monitoring/evaluation of aid for trade initiatives. But, effectiveness/or proper functioning of the committee may itself demand a support mechanism (e.g. a secretariat with full time experts on trade and aid related issues). Therefore such mechanism should be established within the appropriate institution (e.g. Ministry of Industry, Commerce and Supplies of Nepal). The secretariat, among others, will assist ‘National Aid for Trade Committee’ on identification of national priorities (aid for trade), developing project proposals, implementation of project activities, and coordination among public and private stakeholders.
(Bhatt is associated with Enhancing Nepal’s Trade-related Capacity Project, UNDP/Ministry of Industry, Commerce and Supplies. Views expressed in this article are those of the author and do not necessarily represent UNDP or the Government of Nepal).
