Wednesday, March 20, 2013

Nepal’s fiscal cliff

Todd Schneider, IMF’s mission chief for Nepal, argues that the lack of a full budget and the expenditure for FY2013 thus far set at the actual expenditure in FY2012 is leading to a situation where real expenditure (i.e., accounting for inflation) is contracting while rising revenue mobilization is pulling off money from people’s hands and storing it in the savings account of the government.

The inability of the government to spend money when so much of development works—particularly those related to infrastructure, which helps boost productivity— need to be accomplished is simply exerting unnecessary inertia on Nepal’s growth engine. Consequently, high government savings are resulting in liquidity strain (not the only reason, but one of the main reasons) in the banking sector. All of these will surely hit growth rate, which is already restrained by expected low agriculture production due to unfavorable monsoon, which IMF expects not to cross 3%.

In effect, there is a real expenditure contraction. This could be Nepal’s unintended “fiscal cliff”, emanating, as usual, from the lack of political consensus and the inability to separate basic budgetary processes from political influence.

Excerpts from Todd’s article:

The move back toward political cooperation and consensus could help address the sharp reduction in government spending that has arisen in the absence of a formal, detailed government budget for 2012/13—known in some circles as Nepal’s “fiscal cliff”.
There are several reasons for this regrettable state of affairs. First, the 2011/12 government budget was under-executed—particularly for investment spending where only about 73 percent of the budget was actually spent. This under-performance was then used as the base for the spending ordinance passed in late November 2012.
Second, the 2012/13 budget ordinance of Rs 351 billion is a nominal figure—taking no account of inflation. So if projections for year-end inflation turn out to be accurate, spending could fall by another 9 percent in real terms.
The lack of a full budget with line-item allocations has further dampened expenditures. The budget ordinance was politically expedient, but lacked the detail that would allow government ministries to spend—and spend wisely.
Consequently, more money is being taken out of the economy via tax than is being put in by expenditure. As a result, government deposits are rising at the central bank, and liquidity available to commercial banks has dropped, putting upward pressure on interest rates and challenging monetary policy.
[…]Quick executive action on an appropriation ordinance (to allow line ministries to spend) would be the first step. Speeding up the approval process for investment projects would also help. Looking ahead, another year of badly-needed economic growth should not be lost to infighting and indecision over the next budget. The risks are high given the short time left to hold elections and forge a new consensus government before the beginning of the 2013/14 fiscal year in July. Political cooperation is needed to put the budget above the political fray, manage government spending in line with existing national priorities, and “do business” as normally as possible. How this is to be done should be decided now, as the budget is being formulated. Transparency and an inclusive dialogue on budget priorities should be an integral part of political parties’ agenda for the next several months, with the common objective of starting 2013/14 with a full-year budget in place. This opportunity to step back from the edge of Nepal’s fiscal cliff should not be missed.

Todd has hit the nail on the head here. Highly recommended article.

Even if we account for 10% inflation, the actual expenditure allocation should have been around Rs 396 billion (including Rs 7 billion for election and Rs 3 billion for rehabilitation of Maoist combatants). The budget allocation is usually higher than actual expenditure, probably around Rs 430 billion for FY2013.

The political parties need to reach a consensus that FY2014 budget will not end up having the same fate as FY2013 budget. If not, there will be even more real expenditure contraction (and even more steeper ‘fiscal cliff’). For the sake of accounting purpose as well, Nepal needs to present a full budget for FY2013 however late it is, and set the stage for a full budget for FY2014. More on these in later blog posts when I have free time.