Growth  by Construction

After a lull of several years, the construction industry in the valley capital of Nepal seems to have taken an upswing of late. The indicators such as the number of applications with the municipalities for house construction and the production/sales figures for various construction materials are there to believe that the activities in this sector are in fact increasing. But the truth behind these figures is not a thing to rejoice, as the following account shows.

First, let’s see the optimistic side. When almost all the other sectors were registering a decline (see table), the sign of growth in any sector would provide a respite. And the rate of growth in construction sector was an impressive 4.9% in 2001-02 as compared to 0.9% only in the year previous to that. The rate should be called impressive also because it is the second highest rate across all the sectors, with the electricity gas and water being at the top rank with 14.9%.

Effect

When a sector of the economy grows, its effect on the broader economy is always positive due to the “multiplier effect”. But in case of the so-called construction boom, the value of the multiplier has not been significant as it seems. Despite positive increment in all the other sectors (including a hefty 4.9% in construction), the aggregate growth rate in the non-agricultural sector was only 0.2%. The reason is not difficult to see. Manufacturing has declined nearly 6% while trade, restaurant and hotel sector has declined more than 6%. These are the sectors with the highest percentage of the Nepali labour force engaged (9.9% in trade, restaurant and hotel and 8.8% in manufacturing sector), according to the latest census report.

The message is clear: However high the growth rate may be in any other sector, it is not going to make any positive impact on the aggregate growth of the non-agricultural sector without improvement in the manufacturing and /or the trade and tourism.

The construction boom has obviously not helped the Nepali economy. The reasons are not difficult to find. The major inputs by value that go into the construction industry (such as steel and cement) are imported. Also the major portion of the inputs in locally manufactured construction material is imported (e.g. clinker of cement and billet for the steel). That is the reason why even when the index for the production of all the construction material – wood, bricks, cement, iron rods, corrugated sheets and electrical wires – has increased (see box on the next page), it was not enough to pull up the average of the manufacturing sector.

The share of construction sector in the total GDP at factor cost at current prices has remained almost constant for the last several years at around 11% and it reached 11.86% in 2001/02. That means, the so-called construction boom has become visible only because other sectors have not done well, not because construction has done well.

Dubious Sources

The so-called construction boom has come from a few dubious as well as not so-dubious sources. The first, and which is officially acknowledged one, is the Maoist terrorism: People chased away by Maoist from the villages have migrated to the cities, particularly Kathmandu Valley, and the housing construction has boomed in these destinations of the migrants, according to the estimation made in the Economic Survey for 2001-02 by the Ministry of Finance.

The other source is the remittance received from the migrant Nepali workers. According to the reports quoting recent survey by Nepal Rastra Bank, a very significant portion of the remittance money received in Nepal is used in buying land and construction of house.

The third important source is the housing loan being offered by the commercial banks and finance companies. Added to that is the mushroom growth of housing companies. There are about 30 of them active in Kathmandu Valley alone, according to one estimate and they include also those operated by established business houses (e.g. Chaudhary Group) and well-known finance company (Ace Finance Co. Ltd.).

Given these many factors at play, the growth in construction sector should have been much higher than what is actually recorded. Particularly the business sector should have utilized the ongoing recessionary phase in the construction of new factories or renovation of the existing facilities so that competitive capacity would be ready there when the next phase of economic revival begins. But that has happened in very much limited scale. Investors are still wary of the investment climate and shying away from making long-term investments such as on building constructions.

However, the boom at the housing sector should be regarded as really significant, when considered against the budget reduction in other development activities. Overall budget of the government allocated for the development works (roads, irrigation, electricity transmission etc.) was curtailed last fiscal year to arrange funds for security purpose. And there was no work at all on the World Bank funded big budget development projects in the Mid-Western Development region due to security problem. “The net effect was almost 50% decline in development works”, says Ramesh Sharma, Immediate Past President of the Federation of Contractors Associations of Nepal and executive committee member of the Federation of the Nepalese Chamber of Commerce and Industry (FNCCI). Still the overall growth rate in the construction sector was nearly 5%. The credit goes entirely to housing boom.

For the current fiscal year (2002-03), the government has further curtailed the budget in such development works by 20-25% directly. “If you provide for a further reduction in the budget due to the difficulty in arranging the budgeted funds, the effect this year is going to be much more severe”, adds Sharma. “The hardest hit last year was perhaps tourism. This year it is going to be the construction”.

One most likely adverse impact of the phenomenon will be on the Nepali contractors who became heavily indebted over the last several years while investing in construction equipment. To encourage the Nepali construction companies to bid for the contract for various construction works under Asian Development Bank (ADB) funding, the companies were provided loans for the purchase of the modern equipment. As the loan from ADB initiative alone was not sufficient, the contractors had borrowed also from the banks. Since these loans are still not retired, these contractors that were fortunate in the past to get such opportunity to enhance their capacities, have suddenly reached a point of bankruptcy. Since the housing boom in the cities has provided work to a very few contractors, it has not helped this group of entrepreneurs though it may have helped for the survival of some construction material manufacturing industries, opines Sharma.

The solution, according to Sharma, lies not in reducing the development construction. “At least, we can carry out development construction activities in those areas where the security situation is still good. We still have to do a lot of development construction in those areas”, thinks Sharma.

But the government thinks in a diametrically opposite way. “Let there be peace first so that the infrastructure created can be safeguarded”, say the authorities.

However, Sharma’s prescription too may not be sufficient to really turn around the economy given the fact that a large portion of increased construction spending will be in imported inputs, thus decelerating the multiplier.

The situation is really pathetic when one considers that it is mainly through the construction activities that even the Keynesian prescription of pump-priming is administered.

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