Friday, March 11, 2011

Are Nepal’s policies “mercantilist/economic nonsense”?

Here is my latest piece about Nepal’s Industrial Policy 2010, Trade Policy 2009, and Nepal Trade Integration Strategy (NTIS) 2010, and how they are trying to address trade related problems in Nepal. It is largely based on criticism of a paper authored by Malcolm Bosworth, who argues that unilateral trade liberalization with an increase in imports should be the main trade policy agenda of Nepal. I find this (bad) recommendation not suited to Nepal’s context. He argues that Nepal’s existing industrial and trade policies are “mercantilist/economic nonsense”. I will have detailed, specific comments on other arguments raised by Bosworth in later posts.

Mercantilist nonsense?

On February 28, 2011, the United Nations Economic and Social Commission for Asia and the Pacific (UNESCAP) organized a high level national policy dialogue on Nepal’s long-term direction in global and regional trade policy in Kathmandu. High level officials and experts working on trade related issues participated in the program, which was aimed at increasing national awareness and knowledge on “trade policy options to increase engagement in global and regional trade and derive benefits from such trade for development.”

The main highlight was a paper authored by Malcolm Bosworth, international consultant for the study and visiting senior research fellow at Crawford School of Economics & Government, Australian National University. By interacting with high level Nepali officials for few days and banking on inputs from a national consultant, Bosworth has written and fiercely advocated trade policy agendas for Nepal that are suicidal and largely detached from the dynamics and ground realities of the Nepali economy.

Let me touch upon a few of the many outrageous and ludicrous recommendations emanating from Bosworth’s paper. His main message is that unilateral trade liberalization, especially those geared toward increasing imports, should be the main trade policy agenda of Nepal. He argues that imports are as important as exports and the former has to be at least equally promoted as the latter. Furthermore, Bosworth maintains the current industrial and trade policies – which he says are “mercantilist nonsense”—are discriminatory because they promote one sector/product over the other, and seek market concessions abroad to increase exports. According to him, the increase in trade deficit is not a trade policy problem, but that associated with saving-investment imbalance, particularly domestic investment being higher than domestic saving. He recommends Nepal to eschew attempts to address trade and balance of payments (BoP) deficits using trade policy. To Bosworth Nepal Trade Integration Strategy (NTIS) 2010 is against the spirit of ‘welfare enhancing’ trade policy, which to him is unilateral liberalization to increase imports and non-discriminatory in terms of sector or product promotion.

Given Nepal’s structural problems (which are very likely not related to saving-investment imbalance), macroeconomic fragility and socioeconomic dynamics, Bosworth’s arguments defy rational economic logic. He assiduously extols the discredited “one-size-fits-all” policy recommendations and the Washington Consensus.

The reality is that unilateral trade liberalization will further worsen our BoP deficit and deepen macroeconomic instability, which might force Nepal to knock on the door of the IMF once again. Nepal already imports almost six times more than it exports. In 1976, trade deficit on goods and services was negative 3.4 percent of GDP, which swelled to negative 21 percent of GDP in 2009. This is simply unsustainable even in the medium-term. So far remittances have been partly neutralizing the effect of rising imports on overall BoP. But, this too is volatile because any disturbances in remittances inflow would further exacerbate the already fragile macroeconomic situation. Just two years ago when the global economic crisis led to a decline in growth rate of remittances inflow, our BoP became negative.

In such circumstances, prescribing a policy to increase imports by unilaterally liberalizing trade (and if necessary going beyond the rules set by the WTO to increase imports) is suicidal. Trade liberalization in unproductive imports—especially on luxury goods and branded items— will not increase welfare in a country where approximately 78 percent of the population lives below $2 a day. It would sensible if we liberalized further on capital goods imports, which would at least contribute to the productive capacity of our economy.

Pretty much every country in the world uses trade and industrial policies in one form or the other to aid their industries and export-oriented sectors. For Nepal, the domestic welfare emanating from trade and employment, and increase in purchasing power matters more than the welfare of citizens of other countries, i.e. we should not make ourselves worse off by making someone else better off. If possible, we could make ourselves better off by at least not making others worse off. But, this is idealistic given that in reality there are always tradeoffs. Our policymakers should not believe in the ideology that unilateral trade liberalization creates high welfare gains and less deadweight loss globally. Even if they did, the welfare from such liberalization is not equally distributed across and within nations. The Nepali government has responsibility to think about enhancing welfare of its citizens by playing by the rules set under international treaties, including the WTO.

If trade and industrial policies, that do not violate WTO rules, increase welfare of Nepali people, then there is nothing wrong in implementing them. An ultra-liberalization policy recommendation that tries to unsuccessfully debunk established evidence on the effectiveness of trade and industrial policies to abet domestic industries/specific sectors and products adds no value to the ongoing discussion about and efforts to mainstreaming our trade policy into overall economic policy.

It seems that rather than doing exhaustive stocktaking and writing a report based on reality, the analyst has tried to use a template of trade policy report used elsewhere. In fact, Bosworth forgets to replace “PNG Government” with “Government of Nepal” in the report (page 79, para 2). It is very likely that he inserted some discussion about Nepal’s trade situation by getting inputs from a national consultant and then projected it on top of a trade policy report already prepared for Papua New Guinea. Unsurprisingly, if you look at the presentations of the lead author and national consultant Dr Pushpa Raj Rajkarnikar, the latter seems to have comprehended and reflected Nepal’s trade situation and constraints more clearly than the former.

One appreciable aspect of Bosworth’s report is that he acknowledges that no degree of market opening abroad will boost Nepal’s exports if the supply-side constraints are not addressed. Supply-side constraints such as intermittent blockades, labor disputes and lack of adequate infrastructures (road transport and electricity) are eroding our competitiveness and preventing diversification of exports basket. That said, he again fails to read what Industrial Policy (IP) 2010, Trade Policy (TP) 2009 and NTIS 2010 are trying to address, i.e. supply side constraints in key sectors that have high chances of being successful domestically and abroad, and also have high socioeconomic benefits.

These policies are trying to facilitate structural transformation and diversification that Bosworth wrongly claims will only happen if trade is fully liberalized. When markets are riddled with coordination failures and information externalities structural transformation will not happen just by swinging the wand of liberalization. It only happens in ideal situation, which is hard to get by in Nepal. The recent literature on product space and the role of state in facilitating structural transformation is inconsistent with Bosworth’s recommendations. The government’s role as a facilitator in reducing coordination and information hurdles in order to accelerate economic activities is equally important in bringing about structural transformation as is the role of the private sector.

No doubt, Nepal’s existing policies have shortcomings in terms of achieving the aims that they are supposed to. But, they definitely are not “mercantilist/economic nonsense”. Making such outlandish, baseless claim shows the shortcoming of analysts, especially those ‘parachute analysts’, who drop in on Nepal for few days, interact with few officials and experts, and write reports based on templates. If their remuneration is counted as a part of Aid for Trade (AfT) initiative, then it is better not having them because the net value addition is probably negative. And, for now, promoting exports is more important than encouraging imports.

[Published in Republica, 2011-03-10, p.6]