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June, 2003 |
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Economy & Policy |
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Improving Investment Climate in Nepal It
seems that Nepal faces three challenges: first, the acceleration of
economic growth; second, participation in growth by rural areas, weaker
geographic regions, and poorer socio-ethnic groups, and third, specific
programs fostering progress in health, education, and the environment . In
my view, addressing these challenges successfully depends on a concerted
effort on two broad dimensions. Let me speak of building two pillars.
The first pillar is to improve the investment climate, which shapes the
conditions for investment, growth, and jobs. The second is to increase
the inclusiveness of the development process. This will require
improvements in education and health for all groups and regions, and
particularly for women and girls. But inclusion involves more than
simply investment in health and education. It also involves the
participation of all groups in the community in the processes that shape
their lives. Improving
the investment climate and inclusion will both require major
improvements in governance. This perspective on the challenges which
Nepal faces draws on lessons from the experience of development over the
last 50 years. Further discussion of the lessons and strategy can be
found on my website at the World Bank, including lectures in Munich and
London in November 2002 (http://econ.worldbank.org/staff/nstern/).
Our understanding of the meaning, of goals, of development has changed
substantially over this period, particularly in the last 20 years. We
now look beyond incomes to health and education. Indeed we now look
beyond these basic elements of human development and see the objectives
or ends of development as concerning the ability of people to shape
their own lives. What
are the essential elements of these two pillars? The first pillar is the
creation of a good investment climate - one that encourages firms,
especially small firms and farms, to invest, create jobs, and increase
productivity. In
many countries, and it seems Nepal, the investment climate is damaged by
poor infrastructure, and by problems of governance. In agriculture which
has a crucial role to play in development and the eradication of poverty
in Nepal - inadequate irrigation facilities and poor transport and roads
have led to very slow agricultural growth. Indeed Nepal’s agricultural
output has scarcely changed in per capita terms over the last thirty
years and much of it is still subsistence. Problems
of governance include: bureaucratic harassment and corruption;
rigidities in the labor market imposed by excessive regulation; and
“soft budget constraints”, associated with the combination of
government action and the functioning of the financial sector, which
together inhibit exit and dampen incentives for firms. The
second pillar of the development strategy is to empower and invest in
poor people- by enabling their access to health, education, and social
protection, and by fostering mechanisms which allow all Nepalis – by
which I mean women as well as men, and Dalits and ethnic minorities as
well as traditionally dominant social groups to participate in the
process of growth and to participate in the decisions that shape their
lives. Improving
the Investment Climate The
main engine of sustained aggregate growth is the private sector. It is
also the main provider of economic opportunity and activity for poor
people. Private-sector growth, particularly of smaller firms and farms
on which most poor people depend, is vital to the reduction of poverty.
A central policy question for poverty reduction is then how we can
construct policies to promote this kind of growth. The answer proposed
here is in terms of the investment climate. This shapes not simply the
level of investment but also to productivity. Let
me now say a few words about the challenges that are specific to Nepal
in terms of the investment climate. In spite of the global economic
slow-down and restrictive trade practices by trading partners, there has
been a rebound in the growth rate of ready made garments (RMG) exports
to around 30% in the first five months of the current fiscal year over
the previous year. This points to the resilience of this key export
sector, a strong example of Nepali initiative. Given stable conditions
and a positive domestic investment environment we should all have
confidence in Nepali entrepreneurship and creativity. The necessary
confidence can be built and the arguments for the Government’s
emphasis on this issue and its action program in this area are strong. I
do not want to minimize potential risks and difficulties externally. The
forthcoming phasing out of the MFA in January 2005 deserves special
mention. RMG exports to the US, which constitute around 20% of all
export earnings, can be sharply and adversely affected by the lapsing of
quota protection under the MFA. Nepal will have to make significant
progress in increasing productivity and lowering transport costs (which
are caused less by the long distance to the ports, and more by customs,
port and trans-shipment obstacles and inefficiency) to overcome this
change in trading regime. On the other hand, possible improvements in
these areas can also provide Nepal with significant growth opportunities
far beyond the garment sector. The
nominal anchor that is provided by pegging the Nepali Rupee to the
Indian Rupee has been valuable in maintaining the competitiveness of
exports. But there are several factors that will have important effects
on the real effective exchange rate and Nepal’s competitiveness which
need to be studied further. These include: the appreciation of the real
effective exchange rate in the second half of the 1990s (which helped to
halt the decline of Nepal’s unit labor costs in manufacturing), the
forthcoming challenges to Nepal’s competitiveness posed by the repeal
of the MFA, the WTO accession, and the “Dutch disease” implications
of the large jump in labor remittances from abroad-if it proves to be
lasting. While
a global economic slow-down and restrictive trade practices by trading
partners are growth-dampening factors that Nepal can do little about,
there are other impediments to growth that the government can influence.
Conflict in rural areas, heavy dependence on rain-fed agriculture, high
transport costs, unreliable power and telecom services, a weak financial
sector, a rigid labor market and the limited effectiveness of public
investment currently constrain growth in Nepal. Restoring peace is
particularly important not only for the overall investment climate but
for the tourism industry in particular. Looking
further ahead, strong agricultural growth will depend on improving the
effectiveness of irrigation, rural transport and power sector
investment. These are key components of the agricultural growth strategy
which is adopted in the Government’s PRSP. They are likely to involve
partnerships between the public and private sectors, the form of which
will depend on the sectors. The lack of irrigation in Nepal is very
striking compared with North India and investment here seems of special
importance in the fight against poverty given that the large majority of
poor people depend on agriculture for their livelihood. Of particular
importance to improving the productivity and competitiveness of domestic
manufacturing will be greater flexibility in labor markets, significant
strengthening of the financial system and more reliable telecom and
power services. Social
Inclusion, Good Governance and Poverty Reduction The
second pillar of the development strategy that I am suggesting guides
action to enhance the ability of poor people to shape their own lives.
It promotes and enables their investment in themselves. It fosters
social inclusion and participation in growth, but it also promotes
growth itself by bringing the assets and energies of poor people into
the story. Thus the processes embodied in the two pillars are mutually
reinforcing in their effects on growth and poverty reduction. Governance Improved
governance is fundamental to the success of most or all effective
policies to promote growth and poverty reduction. The strategy of the
government of Nepal to improved governance has three main elements: (1)
improving the effectiveness of the civil service; (2) strengthening
anti-corruption and accountability institutions and (3) improving the
functioning of key agencies. This strategy has the strong support of the
World Bank. Let me comment briefly on these elements. Civil
Service reform: The core service in Nepal comprises 106,000 positions,
or roughly 0.4 civil servants per hundred population, which in per
capita terms is one of the smallest in both Sough Asia and the
developing world. The actual numbers are even lower, as the estimated
vacancy rate is around 16 percent. The composition of Nepal’s civil
service is particularly skewed towards the lower tiers, with a much
smaller number of senior administrative staff than India and relatively
more civil servants at the lowest classless level (e.g. peon, driver,
guard, etc). Accountability mechanisms have historically been weak,
performance and productivity low, and political interference in daily
operations a chronic problem. The
number of transfers has been substantially reduced in the last three
fiscal year from 4653 in FY00 to 2500 in FY01 and 2143 in FY02 (Source:
ADB Governance Reform Program). Anti-corruption
measures: The government has taken significant preventive measures to
stem corruption. But defeating corruption involves much more than new
laws and institutions. It depends crucially on three further aspects: (i)
strong example from leaders to set standards of behavior, (ii)
transparency; (iii) promoting policies which limit bureaucratic
discretion by reducing and simplifying licensing, etc. Thus defeating
corruption is about changing behavior and reducing opportunities for
corruption as well as detecting and punishing it. Functioning
of Key Agencies: The government has also taken action to improve the
functioning of key agencies. For example, the assessment, collection,
and audit functions have been separated in the Income Tax Department to
prevent all three tasks from being concentrated in the hands of a single
officer, as was earlier the case. The Income Tax Department has
introduced a citizens’ charter. We would suggest, however, that this
needs to be revised, based on stakeholder consultation, to reduce the
time-limits for receiving refunds, introduce tax-payer identity cards
and to clarify grievance redress procedures. There is a weekly public
hearing to resolve issues but current charter makes no reference to it.
Other agencies with large public interface where service delivery gains
could be made by mid 2004 are land and property registration as well as
passports. Improvements in other functions of district administration
are expected by mid 2005. Finally,
let me turn to transparency. Major measures were introduced recently to
promote transparency, including a Political Party Law adopted in 2002
requiring the Auditor-General to audit the accounts of all parties; a
decision to open up FM radio programming to both private and community
participation; and the establishment of a National Vigilance Centre in
the Prime Minister’s Office. These steps will be furthered by public
reporting of audit findings relating to political parties; by the
creation of a web-portal for His Majesty’s Government of Nepal
(initially with links to other departments, forms, information on
schemes and programs, and an official directory) by end 2003; by
drafting Freedom of Information legislation, based on wide public
consultation, by mid 2004; and by institutional strengthening of the
National Vigilance Centre by mid 2004. Transparency should go beyond
laws and institutions to encourage it, necessary as these are. It should
be embedded in the principles and practices of behavior generally-the
first presumption should always be for release of information. Why
is it important to make rapid progress on governance? Because the
evidence is clear that weak governance has profoundly damaging
implications for growth and development outcomes. In recent years,
various papers, including those by Hall and Jones; Acemoglu, Johnson and
Robinson; and the work on governance of Dani Kaufmann and Aart Kraay at
the World Bank show that good governance and per capita incomes tend to
be strongly positively correlated across countries. There is also a
strong association between good governance and better development
outcomes such as lower infant mortality and higher literacy. One
governance index that is commonly used comes from the International
Country Risk Guide. The governance index is a on 0-50 scale created by
combining 5 separate indicators measuring subjectively (but it seems
fairly robustly) corruption, bureaucratic quality, rule of law, risk of
expropriation, and risk of government repudiation of contracts. Let
me give an example using data from the South Asia region. Of the 79
countries in the world for which we have these data on governance,
Pakistan ranks 61st on the governance index; by contrast, India ranks
30th, Sri Lanka ranks 53rd, and Bangladesh ranks 76th- unfortunately we
have no data for Nepal. Econometric work using these data suggests, for
example, that Pakistan’s growth rate would have been nearly doubled,
over recent years, if it had possessed the same quality of governance as
Thailand. Conclusions Where
do these assessments of Nepal’s prospects in relation to development
experience leave us? We must conclude that Nepal is at a turning point
in its history. It has a real opportunity to move forward strongly in
the fight for a better standard of life for all its people. Poverty
reduction will require an acceleration of growth and policies to ensure
that all Nepalis, from rural and urban areas and from all socio-ethnic
groups, can participate in the growth process. In my few days here I
gained the strong impression that these challenges are fully recognized
by many reform-minded leaders in the government. It seems that this is a
period of challenge and opportunity and, therefore, of responsibility
for the Nepali people and decision makers. At the center of this effort
is likely to be concerted and sustained efforts to improve the
investment climate, and to increase the inclusiveness of the development
process through improvements in the delivery of basic service including
education and health for all groups and regions, through closing of
gender gaps, and through major improvements in governance. I believe
this opportunity can be taken and am confident that it will. We wish the
Nepal’s people and its leaders success in their endeavor, and we will
do all we can to support them. (Dr.
Stern is the Chief Economist and Senior Vice-President of The World
Bank. This articles is an excerpt from a lecture he delivered in
Kathmandu during his recent Nepal visit.) Nepal
has been trying to get into the WTO for more than five years. The
efforts are likely to materialize in the fifth Ministerial Conference to
be held in September this year in Cancun, Mexico. In the mean time Nepal
will have to complete the negotiation and get the approval from the
existing WTO members. Issues to be finalized in this round if Nepal is
to succeed: Tariff
binding What
sort of rates we will be allowed to bind our tariff ? Nepal already has
tariff rates generally lower than those of our neighbours. So we had
tried to bind the rates at a higher level than our presently existing
rates. Our trading partners and those countries which have expressed
their trade interest with us have been calling us to bind the rates at
the existing rate or lower. Although their logic sounds logical that the
WTO regime is meant to liberalise trade, and our effort to bind the
rates at a higher level is rather regressive, but one has to look not
only at the present production facilities but also at the possibilities
of the future. The challenge for Nepal is not only to protect the
interest of present producers but also to avoid putting in jeopardy the
future potentials. As one of the basic principle or logic of the WTO is
protection only through tariff, the other routes to protect the
producers will be totally blocked. In such circumstances, we need to
identify products, which are to offer critical potentials for us and try
to put a higher bound rate on them and trade off with lower rates
on products of not so critical importance. The
tariff in Nepal is not only associated with protection of local
producers but also with the government revenue. Since the customs duty
forms the major source of revenue, this issue assumes still greater
importance. Lower rate may mean lower revenue for government. In certain
areas we may have to learn to impose internal taxes (also applicable to
local producers) although that product may not have any local producer
right now. The issue is not only to generate revenue but how to use our
ingenuity to raise the revenue. Along with the tariff the issue of other
taxes like special duties and local development charges will come into
the fore. The WTO in principle discourages levying other than custom
duties on the import. In the tariff negotiation, the crucial issue will
be in the agricultural products. It should be noted here that in
agricultural products, especially among the primary products, our
tariffs have been very low. It may be very tough for us to successfully
negotiate this issue with those countries that are showing trading
interest with us. In other products too, the choice for us is rather
limited in the tariff negotiation. Opening
services sector Services
are as much of the concern as the goods in the WTO negotiations. As more
and more share of the GDP is generated from services they become more
and more important in international trade negotiations. The developed
countries are particularly interested in opening up of services sector
as they have much bigger competitive advantage in services. The crucial
consideration for a country like ours is the protection of the
livelihood of the service operators and protection of employment. Being
a country with a massive unemployment problem, we have to be very
cautious in opening the services. Unlike
in case of the goods it is not possible to protect services by tariff.
On the one hand, opening of services may lead to greater efficiency and
productivity of resources in all sectors, but on the other hand we
cannot allow displacement of the persons employed in services. The
service sector negotiation will have a very profound impact on the
future development of Nepal and its economy. Legislative
reform One
of the issues in the negotiation is to make our rules, laws and
procedures compatible to the WTO norms. Although our commercial laws are
generally compatible to WTO norms, in many areas such as competition,
intellectual property protection etc. much more needs to be done. The
issue here is not only to pledge to make our laws and their enforcement
WTO compatible, but also to satisfy other countries that we can deliver
our pledge.The legislative action plan, may be a very easy component to
pledge but the most difficult part is to deliver/comply. The issue is
not only to enact modern laws but also to develop the capacity to
administer such laws. Other
issues Apart
from these three major aspects, Nepal in the negotiations will be under
tremendous pressure to adhere to other non compulsory (often called
plurilateral) agreements. Although adherence to such agreements is left
to the contracting custom territory, for a small economy like ours the
pressure to join such agreements may be so huge that we may find it
impossible to remain out. We do not mean that we need to stay outside
such agreements but we have to genuinely locate where our interests and
benefits lie. (Khetan
is the second vice-president of FNCCI) Nepal’s
export to China is nominal and as such the trade deficit is huge. Also
the Chinese investment is nominal in Nepal. To increase the prospects of
trade between the two countries, Nepal-China Non Governmental Forum
desks were established at FNCCI and ACFIC (All China Federation of
Industry and Commerce) as decided by the first meeting held in October
1996. Still
mainland China seems to be far away. Though Nepali products can reach
Chinese customers, by road and air, the long time taken for
transportation via land and the high cost of transportation involved
reduce the competitiveness of Nepali products vis-a-vis the Chinese.
Under these circumstances we have to prepare a list of products that we
have a comparative advantage in. Then we have to chalk out a strategy to
excel on them. Here is an attempt to identify the products that have
good potential for export to China. Mainland
China The
following three points indicate the potentials for Nepali export to
mainland China. 1.
There is great demand of computer software in China. In order to become
competitive, Nepali software experts will have to learn about the
specific demand in China and the Chinese language. 2.
Cereals, sugar, fruits, flour, carpet, readymade garments, pulses,
woolen goods, rice, handicrafts, herbs, Nepali paper and paper products,
metal products etc. can be exported to China. 3.
Once the Lhasa – Ghormu railway is operational, it will definitely
reduce the transportation cost which is one of the major bottlenecks in
export to China from Nepal. Tibet
Prospects As
of now the following products seem to have good potential for export to
China in general and to Tibet in particular: Rice
/ Sugar: There is a growing demand for rice in Tibet as it is a staple
food for the mainland Chinese who have settled in Tibet. The rice
grown in Betrawati–Trishuli area which is located near Rasuwa district
can easily be exported to Tibet. Also the rice produced in the
fertile Terai region can be exported to Tibet. There is tremendous
demand for sugar as well. But as of now, there is no provision for
exporting rice and sugar to Tibet. A re-thinking on this provision is
required. Vegetable
Ghee and Oils: Most of the Nepali ghee that goes to Tibet is for
religious purposes and is used by devotees to offer lamp at monasteries,
as Nepali ghee manufacturers have maintained the reputation that Nepali
ghee does not contain animal fat at all. Nepal has been exporting
Vegetable Ghee to India in large quantity and has become one of our
major exports to India. But due to the quantitative restrictions put on
Nepali vegetable ghee export to India has caused a large production
capacity in Nepal to remain idle. One
brand of vegetable ghee “Shanti” is being exported to Tibet since
quite some time now. If more vegetable ghee manufacturers start
exporting to Tibet, there is good potential to utilize the surplus
capacity that exists in this industry in Nepal. Wheat
flour/rice flakes/chili/turmeric powder: Nepal could cash in the export
of these foodstuffs, as there is a huge demand in Tibet for these.
Due to its altitude, infertile land and its distance from the mainland,
Tibet still faces difficulties in meeting the demand for these
foodstuffs. But we should also realize that after the completion
of the Lhasa – Gormu railway we may lose our advantage in these
products. Cement
/ steel bars: Lots of construction works are going on in and around
Tibet. However, entire construction materials are brought from outside.
Nepal can sell cement, steel bars, angles, sheets and other construction
materials there. Fruits
/ Vegetables: Tibet has to meet its demand for fruits and vegetables by
bringing it from outside. This offers opportunity to Nepal. Apples could
be exported from Mustang and oranges from Rasuwa and Nuwakot
districts. There’s a thriving orange plantation in Dhunche area of
Rasuwa. This will be a more real opportunity after the Syafrubesi –
Rasuagadhi road comes into operation. Also the other fruits like
mangoes, leechi and grapes have good potential. An old Japanese
farmer has shown that fruit, rice and vegetable plantation can succeed
even in a desert like Mustang. The government should encourage Nepali
farmers in the areas bordering Tibet to venture into production of food
stuffs that are in demand in Tibet. Both in processed and fresh
form vegetable can be exported to Tibet. Potato can be converted into
chips and other similar items helping to develop small scale secondary
production activity. Another interesting example of vegetable product
with good business prospect in Tibet is radish. Since it has its
therapeutic value in traditional Chinese medicines and can also be used
as vegetable for local consumption, it can be processed into other forms
such as dried, juices etc. making it more appealing to the
consumers in Tibet. Cheese:
Dairy Development Corporation (DDC) has a manufacturing unit in Kyanjing
Gompa of Rasuwa District of Nepal. Given the proximity of this
plant to the proposed highway to Tibet, the products of this dairy such
as cheese, milk, yogurt and cream can be exported to Tibetan market. Yaks:
Already Tibetans come to Mustang in droves to buy Nepali yaks for
domestic use. This shows that there is good prospect for exporting yaks
to Tibet from Nepal. The investment if made in improving the fertility
and breed of yaks will reap good dividends. Raw
Wool: Provided that yarn mills and wool processing units can be set up
in Nepal, Nepali villagers would not have to send their raw wool to
Tibet. This processed wool could have better market in Tibet and
could be used in Nepal itself. Fish:
A lot of people point out the potential for exporting fish to Tibet
since Tibetans love all varieties of fish. But the distance from
Janakpur and other fishery centres of Nepal to Tibet is quite
long. Investment needs to be made on setting up cold stores along the
way and in operating refrigeration trucks. Handicrafts:
In the fiscal year 2001/02, the handicraft export to China through
Tatopani customs has grown substantially. In fact, the number of
handicraft items exported in the previous years was not even shown in
the official statistics. This indicates to the latent market in Tibet
and China for Nepali handicraft products.
Herbs Yarcha
Gumba (Cordyceps sinensis): This is renowned as the best herbal
aphrodisiac throughout the world and is very expensive in the
international market. However, its production and marketing is
still not regularized in Nepal due to the lack of funds on the one hand
and wrong policies of the government on the other. A royalty of Rs.
20 thousand per kilo has been fixed by the government. If the
government/private sector get involved in large-scale yarcha gumba
farming and processing, this would be a major revenue earner for the
government and a lucrative business for private sector entrepreneurs.
Chinese Health Ministry is reported to have approved this herb for
various types of illnesses. Given its therapeutic value and its demand
in the international markets, this will, undoubtedly become one of the
most money-yielding exports in the long run. The government needs
to simplify its policy on this herb. As of now, one needs the
approval of the District Forest Office with recommendation of the Herb
Production and Processing Company Limited to process this herb in Nepal. Dalechuk
(Hippophae salicifolia D) This herb is an excellent source of vitamin C
and the traditional Chinese medicine (TCM) has placed high importance on
this herb because it is not only an anti oxidant but also natural remedy
for asthma and other diseases associated with blood, kidney and heart.
Although, a dalechuk-processing farm has been established by the Danish
aid agency DANIDA in Mustang district, this plant has confined itself to
processing of dalechuk produced only in and around the locality of the
plant. The harvest from other parts of Nepal is being wasted. Candies
and juices can be made out of dalechuk and exported to Tibet and other
parts of China as well. Bojho
(Acorous calamus): People believe that if Bojho is consumed regularly,
it can help to regain memory and keep the brain alert. This herb
can be processed into lucrative forms such as pills, candy or even
juices, and exported. Ghodtapre
(Centella asiatica): It is yet another herb that grows in abundance in
Nepal and if the production is regularized and it is processed into more
appealing forms, then it can find markets easily not only in Tibet but
also in other parts of China. This herb can be used to cure many
diseases such as diseases related to veins, stomach and diseases related
to male reproductive disorders. Chiraito
(Swertia chirayita): This is a natural antibiotic that grows in Nepal,
but as with other aforementioned herbs, this goes to waste due to lack
of processing facilities in Nepal. Among
other major herbs that can be exported to Tibet are Patchouli and
Shilajeet. Since these herbs and other ingredients used in
medicine are found in abundance in Nepal, China-Nepal joint ventures can
be set up in manufacturing medicines based on these herbs to export to
India, China or other counties. FMCG
Fast
moving consumer goods such as biscuits, toothpaste, soaps etc. are not
manufactured in Tibet and are imported from mainland China incurring
heavy transportation cost. These products from Nepal can be cheaper in
Tibet. (Shrestha
is the Acting President of FNCCI) |
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