Business Hurdles

What types of problems do manufacturing firms face in dealing with the business environment in Nepal? A summary of a survey report.

It has been found that inappropriate government policy and poor policy implementation are the biggest problems facing business in Nepal. Depressed economic activity and low aggregate demand for products, poor access to finance, and inadequate infrastructure services were the second most often cited problems of the business community. The major problems with government policy and its implementation cited by firms were excessive government red tape, long delays in provision of government services and corruption of government officials. Implementation of the income tax, VAT, import regime and labour laws are specific areas where firms had the most complaints.

Biggest obstacle to doing business in Nepal

The survey asked firms to identify the three biggest obstacles they face in doing business in Nepal and to elaborate on the nature of these obstacles. Firm responses were not limited to a set of choices, pre-specified in the survey instrument. They were purposely left to be open-ended, so not to be suggestive. The responses of firms were then grouped into eight major categories as shown in the box. It should be noted that the obstacles to doing business identified in this survey are reinforced in many ways by the findings of a study carried out by the National Planning Commission in 1999. In addition, the survey uncovers some major business problems that were not in the NPC study, and ranks problems based on their relative importance to firms.

The simplest method for ranking the obstacles to doing business is to calculate the proportion of sample firms that identified each problem category as the number one obstacle to doing business in Nepal. Government in all its forms – its policies and regulations and the bureaucratic burden imposed on firms in complying with them – turns out to be the number one obstacle for almost 40 percent of firms (see figure 1). It is more often cited as the number one problem than lack of demand for their products, difficulty of financing their operations, or inadequacy of infrastructure services. Less than a tenth of the firms reported their number one problem to be labour, lack of business support services, shortages of inputs, or trade regimes of foreign governments.

When we include the second and third business problems reported by firms the overall ranking of obstacles to doing business does not change much. An index of business problems constructed by weighting the three major business problems identified by firms is shown in table 1. The index is independent of sample size and rises in proportion to the percent of firms that report problems within a category. It can be interpreted as the intensity weighted percent of firms that reported problems within each category.

Disaggregating broad problem categories such as “government” provides a more precise indication of the specific complaints noted by firms. “Government”, for example, encompasses everything from customs delays and official corruption, to labour regulations and high taxes. Hence, complaints about government were separated into two groups: complaints about inappropriate government policies and complaints about bureaucratic burden imposed by the agencies of government. In categorizing firms responses, the “policy” category includes problems related to the government policies themselves, such as complaints about inappropriate tax laws, import duties, labour regulations, and many forms of restrictions on economic activity as prescribed by law or regulation. The category of “bureaucratic burden” includes complaints about the day-to-day administration and implementation of policy and regulation. For example, complaints about a high tariff on imports would be coded under “policy”, while firm complaints about administration of tariff valuation and corruption by customs at the international border would fall under bureaucratic burden. Similarly, firm complaints about lack of demand generally revolve around the issues of market competition and aggregate demand in the economy. The former included the inability of firms to sell their products, given their current price and quality in comparison with domestic or foreign competitors. In contrast, aggregate demand complaints resulted from decreased demand for a firm’s products due to changes in general economic conditions, caused by shocks like the Asian economic crisis, the effects of poor harvests, and concerns about child labour. Complaints about finance were also divided into two groups: access problems and cost problems. Access problems included difficulties in obtaining financing because of high collateral requirements, need for personal guarantees, and lack of financial institution’s confidence in the firm’s operations. Complaints about cost (mostly high interest rates) were included under the interest rate subcategory.

The ranking of business problems using these more detailed subcategories is shown in table 2. The business problem cited most often in the top three problems of doing business in Nepal is the bureaucratic burden of government. Bureaucratic burden includes complaints about excessive government red tape, extended delays in provision of government services, corruption of government officials, and the administration of the tax laws, including income tax, VAT, and customs. The second most often cited business problems centre on government policy and low aggregate demand. In third place, firms report that poor infrastructure services are a bigger problem than access to finance, although access to finance was cited more frequently as the number one problem by some firms, which indicates that finance is especially constraining in some enterprise groups.

Variations

Firms behavior is driven by both the business environment and the specific characteristics and business needs of firms. Therefore, even under the same business environment, the major obstacles to doing business reported by firms will vary based on firm and industry characteristics. In this section are examined these variations based on characteristics such as firm size, sector, location and extent of export orientation. Table 3 through 5 summarize these results using the ranking methodology described in the last section.

Firm size is often a proxy for the resources available to a firm, for the access and need a firm has for government and business support services, and for the type of markets a firm serves. Smaller firms primarily work in local markets, have little market power, interact with government in a very limited way, and often do not have the standing in the community to easily obtain financing. Moreover, small firms are generally unable to substitute for poor infrastructure and business support services through their own resources. In contrast, larger firms generally have better access to the financial community, and can often afford to provide some of their own infrastructure and business support services in the absence of effective public provision. Such differences are reflected in the business problems reported by various size classes of firms as indicated in table 3. Clearly, the cost structure of larger firms is more affected by bureaucratic burden and inappropriate government policy than the cost structure of small firms. Many more firms in the medium, large and conglomerate size classes complained about the costs of these types of problems than did firms in the micro and small size classes. On the other hand, micro and small firms were more affected by lack of access to finance and business support services.

Labour market problems appear to hamper micro-enterprises and large enterprises, but not the other. The limited resources of small firms make it difficult for them to maintain a diverse set of employees and specialists. Finding specialist labour, such as skilled technicians and mechanics, is a substantial problem for small firms. On the other hand, larger firms have their own labour problems in terms of dealing with unions and managing a large diversified workforce.

Turning now to the business problems reported by firms in different locations around the country (Table 4), as the data indicate, government (bureaucratic burden and policy) is a relatively large problem for firms in Birgunj and Butwal compared to the rest of the country. Firms in Birgunj use more permanent workers than in other parts of the country, due to the city’s longer history of manufacturing activities, and consequently have greater problems with government labour regulations which concern the dismissal of workers. Firms in Butwal, on the other hand, are more concerned with the implementation of the government policies because of the lack of full services in Butwal and the less knowledgeable and trained government officials in the area compared to neighboring Birgunj. In contrast, firms in Biratnagar are less concerned about government, but are concerned about the availability of raw materials and parts and business support services, such as training and technology transfer. Competition is a bigger problem in the border towns of Birgunj, Butwal, and Nepalgunj where cheap Indian manufactured substitutes are readily available. Firms in Biratnagar do not seem to consider the Indian competition as big a problem as the other border towns and this is partly related to the sectoral composition of firms. It should be noted that firm size considerations drive some of the business problem responses found in Table 4. The larger firms found in Hetauda and Birgunj are more affected by government bureaucracy and policy than the smaller firms located in Pokhara and Dhangadhi. In these cities, with a preponderance of smaller firms, aggregate demand, infrastructure, and obtaining skilled labour are the biggest reported business problems.

Firms in different sectors also have different priorities across business problem categories (see table 5). Government policies and bureaucratic burden affect pharmaceutical firms more than firms in other sectors. Their major concerns are bias in import and safety regulations favoring imported medicines, ineffective regulation of drug quality standards, and difficulties in obtaining duty and VAT refunds. In contrast, industries dominated by small firms such as non-metal and wood and wood products exhibits the typical small firms priorities.

Infrastructure is of greater concern in industries that incur heavier losses when electricity supply is irregular or transportation facilities are inadequate. The limited self life of most food products, and the consequent need to quickly process, transport and distribute food products, makes infrastructure a bigger problem for firms in the food industry. Firms in the beverage industry were concerned about the poor condition of the roads, which can cause high breakage of bottles. Metal firms producing goods for major construction projects were concerned about transporting their goods to their customers and increased costs caused by the poor supply of electricity. Similarly, the reliability of the transportation system in terms of timely delivery and theft of consignments en route to India ports were a major concern for firms in the garments and carpet businesses.

Industries dominated by small firms (non-metal and wood) have difficulty finding skilled workers while the garment industry is more concerned about availability of workers during periods of peak demand season. Competition from imports is also a major problem for the metal and textile industries. Textile firms are most concerned about duties imposed on both raw material imports and exported outputs in India. Garments firms are concerned about the availability of quotas in the near term and the ability to compete in world markets in the long term.

Lastly, Table 6 examines the business problems of exporters relative to non-exporters. Exporters, as the data indicate, typically have the problems of larger firms, as they are generally larger than non-exporters. They are more concerned with government policy and bureaucracy. Competition does not appear to be a major concern for firms in garments and carpets focused on the American and European markets, but is a major concern for firms in the textiles and chemicals industries focused primarily on the Indian market.

(Based on “The Business Environment and Manufacturing Performance in Nepal, the World Bank Regional Program for enterprise Development and Federation of Nepalese Chamber of Commerce and Industry, December 2000)

Table 1

Ranking of Business Problem Categories

Table 2

Ranking of Business Problems across Subcategories

Table 3

Variations in Business Problems by Firm Size 

Table 4

Variations in Business Problems across Firm Locations