Saturday, March 31, 2018

Brief overview of the white paper on economy released by finance minister

On 30 March 2018, Finance Minister Dr. Yuba Raj Khatiwada released a white paper on the current state of the economy, challenges and opportunities. He did a good job in laying out an honest assessment of the economy and doesn’t shy away from saying that things are bad with respect to fiscal capacity, financial sector instability, remittances-induced consumption of imported goods and tax revenue based on it, deteriorating external sector, lackluster economic activities and large unemployment. What Dr. Khatiwada said is nothing new, but what is good is that there is hardly any finance minister who was as candid as he is in laying bare the bad stuff about the economy. 

However, what the white paper doesn’t mention is how this government is going to tackle these problems, especially with respect to implementing the laws and policies in earnest, enhancing allocative efficiency in budget making processes and its implementation, and creating incentives to ensure that the public sector does what it is supposed to, i.e. provide services to people by minimizing hassles, facilitating investments by removing regulatory bottlenecks, creating a time-bound project based medium-term economic vision with clear implementation modality, etc. Let us hope that these will be reflected in the policies and programs of the government, and budget (the former due few days before budget presentation in mid-May). 

Here are brief highlights from the white paper:
  • This government inherited an economy that was in a challenging situation: spending programs without ascertaining funds, ad hoc non-budgetary projects and plans, deteriorating financial sector, deceleration in remittance inflows, etc. Tax revenue is not enough to fully cover recurrent spending. 
  • Fiscal imprudence is rife. Quality of public services is below the expected standard. Expenditure-revenue asymmetry is widening given the increase in administrative cost in the federal set up. Decreasing age to receive elderly allowance, ignoring MTEF, assigning unqualified projects for multiyear contract (outstanding liability itself is NRs200 billion now, and one ministry has been allowed to go for multiyear contracting for 239 projects worth a cumulative NRs122 billion), hiring excess teachers or lecturers in contract without adequate homework, doling out healthcare subsidies without including them in budget, passing a law allowing early retirement of public servants with golden handshake at a time when more of them are needed at local bodies, etc are some of the examples of imprudence.
  • Capital spending is too low despite budget being unveiled one and a half months prior to the start of FY2018. Spending pattern hasn’t changed as most of the capital spending is happening in the last quarter. Same reasons are being recycled for low capital spending: forest clearance, lack of construction materials (clinker, stones, sand, soil, etc), inter-agency coordination, etc. Post-earthquake reconstruction is too slow.
  • Financial sector has very weak links to real sector and is not aiding productive economic activities. Banking services are of traditional nature. Productive sector lending is not that encouraging. There is unhealthy competition in setting interest rates in banking sector. 
  • Deindustralization is going on. Improved electricity supply has been helpful since last year, but increase in transaction cost, low share of institutional investors compared to individual investors, narrow market for industrial goods, and high dependence on imported raw materials and intermediate goods are some of the unresolved issues. Lack of adequate and quality infrastructure is crippling economic activities.  
  • Investment climate is not that encouraging. Investors are in wait-and-see mode with respect to investment in Nepal. This is aggravated by the fact that Nepal’s image in tackling anti-money laundering activities and implementing associated laws is not that assuring. Nepal will face a review of its activities on this front in 2020/21.
  • Except for NT and government-backed commercial banks, all other public enterprises are operating without much success. Their product quality, price, timeliness and responsiveness to consumer demand is disappointing. 
  • Privatization exercise has been broadly unsuccessful. Privatization modality, valuation, and process were not based on ground realities. Rent on lease of public enterprises’ assets is too low. Privatized SOEs have not operated as per the understanding and objectives during privatization.  
  • Nepal aims to graduate from LDC category to a developing country status by 2022. Nepal fulfilled two of the non-income criteria three years ago but deferred early graduation due to low income per capita and the vulnerabilities to per capita income shocks.
  • Nepal is committed to achieving 17 SDGs and 169 targets within it by 2030. 
  • Opportunities: federal set up (35,041 elected representatives at local level, 550 elective representatives at provincial level and a stable government) and expectation of better public service delivery; a youth bulge signaling demographic dividend; commitment from neighboring countries and multilateral development institutions to increase investment; natural resources
  • Next steps: improvement in policy and administrative capacities to increase domestic and foreign investment; public, private and cooperative partnership; fiscal prudence and better allocative efficiency; strengthen revenue administration and increase revenue (widen tax net, control leakages, electronic billing, etc); capacity building of local and provincial governments to manage expenditure and mobilize revenue, etc.

Few comments:
  • Let us be fair here. Some of the problems have been building up for a long time and the finance minister and the party he represents were at leadership position during those times as well. So, the economic ills are not exclusively the outcome of the previous government. It would be good to resist from mud-slinging cause there may be a boomerang effect. Most of the leaders of the left alliance are not new and they are equally a part of the process that brought the economy to this state.  
  • In the past, communist governments were more fiscally imprudent than non-communist governments although the last Deuba-led government is an exception.
  • On privatization, there is a broad sweeping statement that it has failed. Privatization is not bad in itself. When it got started in 1992, it was the need of the hour given the economic realities. However, the process of handing over SOEs to private sector without fair valuation and assessment of economic potential was badly managed. That is giving privatization itself a bad name. And communist governments have been at the forefront of raising this issue for issue’s sake. They have neither undone privatization nor worked to remedy some of flaws in the process. In fact, they have been willing participants as and when opportunity arose. Its a management problem and this should not be overlooked while asserting that the concept of privatization itself is wrong. 
  • The white paper chides redistributive policies, but then says the government will adhere to the election manifesto of left alliance (which is more redistributive than what we have seen so far). 
  • Let us wait for the program and policies, and budget to see what this government will do different and how it is going to do that. Till then adequate reasons to give benefit of doubt!

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