Revenue shortfalls in Nepal

Nepal is facing a very large revenue shortfall in FY2023. According to FCGO, revenue mobilization in the first seven months of this fiscal (mid-January 2022 to mid-March 2023) is just 40% of the target. In the previous fiscal years, the revenue mobilized by this time was always higher than 50% of target. The following is the progress by the seventh month of respective fiscal:

• FY2019: 61%
• FY2020: 50%
• FY2021: 57%
• FY2022: 58%
• FY2023: 40%

The budget projection on revenue mobilization was too ambitious in the first place. It projected about 29.5% increase over FY2022 revised estimate for total federal receipts (revenue, inclusive of revenue sharing with subnational governments, and foreign grants). Revenue was projected to increase by 25.7% and tax revenue by 31.6% over the revised estimates. 

Revenue decreased owing to a slowdown in imports and slower than expected economic recovery. A slowdown in construction and real estate and share transactions also affected revenue mobilization. Faced with the reality of a revenue shortfall, the Finance Ministry proposed a cut in expenses, especially recurrent spending, by 20% in all tiers of government. It also plans to tighten approval of projects that were included in the budget but whose procurement process has not started.

According to news report, the government suspects that informal activities have also reduced revenue mobilization. For instance, based on business operations, some have paid VAT and customs duties, but not paid income tax.

Energy deficit in India

According to Reuters, India will likely face risks of nighttime power cuts due to delays in adding new coal-fired and hydropower despite the rapid addition of solar farms, which helped India avert daytime supply gaps. The power availability during nighttime is expected to be 1.7% lower than peak demand. Coal, nuclear and gas capacity are expected to meet about 83% of peak demand at night.

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April nighttime peak demand is expected to hit 217 gigawatts (GW), up 6.4% on the highest nighttime levels recorded in April last year. While Indians looking to beat the heat this summer will want steady power for their air-conditioners, night time outage risks threaten industries that operate around the clock, including auto, electronics, steel bar and fertiliser manufacturing plants.

After the Grid-India report, the government brought forward maintenance at some coal-fired power plants and secured extra gas-fired capacity to run to try to avert outages, another senior government official said. As much as 189.2 GW of coal-fired capacity is expected to be available this April, according to Grid-India's February note. That would be up more than 11% from last year, according to Reuters calculations based on Grid-India data. Together, coal, nuclear and gas capacity are expected to meet about 83% of peak demand at night.

Hydro power will be crucial not only to meet much of the remaining supply but also as a flexible generator, as coal-fired plants cannot be ramped up and down quickly to address variability in demand. However Grid-India has forecast peak hydro availability in April this year will be 18% below what it was a year earlier, when output was boosted by favourable weather conditions.

Around midnight through April last year, jostling for power was intense, with buyers making bids for five times more power than sellers offered, a Reuters analysis of data from the Indian Energy Exchange, the country's most liquid electricity trading platform, showed.

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Digital payments revolution in India

An interesting article in the NYT on how India's homegrown payment system has transformed commerce and helped formalize the economy. Excerpts:

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Billions of mobile app transactions — a volume dwarfing anything in the West — course each month through a homegrown digital network that has made business easier and brought large numbers of Indians into the formal economy. The scan-and-pay system is one pillar of what the country’s prime minister, Narendra Modi, has championed as “digital public infrastructure,” with a foundation laid by the government. It has made daily life more convenient, expanded banking services like credit and savings to millions more Indians, and extended the reach of government programs and tax collection.[...] It is a public-private model that India wants to export as it fashions itself as an incubator of ideas that can lift up the world’s poorer nations.

Indian officials describe the digital infrastructure as a set of “rail tracks,” laid by the government, on top of which innovation can happen at low cost. At its heart has been a robust campaign to deliver every citizen a unique identification number, called the Aadhaar. The initiative, begun in 2009 under Mr. Modi’s predecessor, Manmohan Singh, was pushed forward by Mr. Modi after overcoming years of legal challenges over privacy concerns. The government says about 99 percent of adults now have a biometric identification number, with more than 1.3 billion IDs issued in all.

The IDs ease the creation of bank accounts and are the foundation of the instant payment system, known as the Unified Payments Interface. The platform, an initiative of India’s central bank that is run by a nonprofit organization, offers services from hundreds of banks and dozens of mobile payment apps, with no transaction fees. [...]The system has grown rapidly and is now used by close to 300 million individuals and 50 million merchants. Digital payments are being made for even the smallest of transactions, with nearly 50 percent classified as small or micro payments: 10 cents for a cup of milk chai or $2 for a bag of fresh vegetables. That is a significant behavioral shift in what has long been a cash-driven economy.

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Effect of countercyclical investment on employment

An interesting paper by Buchheim and Watzinger (2023) published in AEJ: Economic Policy [15(1)] shows that investments in public buildings in Germany can quickly and cost-effectively increase employment in the short run. They can be a viable tool for counteracting an economic slowdown. 

They explore if the renovation of public buildings create jobs quickly and cost-effectively? Their paper estimates the causal impact of a sizable German public investment program, which provided 0.16% of GDP for upgrading public buildings, on employment at the county level. The program focused on improving the energy efficiency of school buildings, making it possible to use the number of schools as an instrument for investments. It also enforced tight deadlines, reducing potential implementation lags. The program was cost-effective, creating, on average, one job for one year for an investment of €24,000. The employment gains are detectable after nine months and are accompanied by an unemployment reduction amounting to half of the job creation. Employment grew predominately in the directly affected industries.

They addressed the endogeneity problem (governments may target regions that are hardest hit by the recession) by exploiting the legal structure of the stimulus bill. The bill prescribed that 65 percent of funds had to be spent on investments in the educational infrastructure, in particular on improving the energy efficiency of existing buildings. This implies that the local scope for investments was closely linked to the historically predetermined number of schools. Since the number of schools is a predetermined stock variable and thus unrelated to the magnitude of the recession in a county, it constitutes an ideal instrument for local investments. To put the cost of one job per year in perspective, the average labor costs in the construction industry was at least €45,000. The employment gains translate into a fiscal multiplier of about 1.5. 

IMF concludes 2023 Article IV Consultation and completes first and second reviews under the Extended Credit Facility

According to a press release on 28 February 2023, the IMF staff and the Nepal authorities have reached staff-level agreement on the policies needed to complete the combined first and second reviews of the ECF arrangement. Nepal would have access to about US$52 million in financing once the review is formally approved by the Executive Board. 

The IMF stated that the external audit of the Nepal Rastra Bank with the assistance of international auditors – in line with international best practices, publication of reports on both COVID-related spending and custom exemptions to enhance transparency, drafting of amendments to bank asset classification regulations, and strengthening bank supervision by launching the donor-supported Supervision Information System were notable achievements. It further notes that the monetary tightening and gradual unwinding of COVID-19 support measures helped moderate credit growth and contributed to the moderation of inflation stemming from the global commodity price shock caused by the Ukraine war. This combined with resilient remittances eased external pressures and stabilized international reserves but tax collections dampened. It recommended cautious monetary policy and expenditure rationalization while protecting high-quality infrastructure expenditure and social spending.

The ECF-supported program will help Nepal’s economy to remain on a sustainable path over the medium term with the economy projected to grow at around 5 percent and inflation at around 6 percent, while maintaining adequate levels of international reserves and keeping public debt at a sustainable level. The next priority should be given to achieving a fiscal deficit that ensures debt sustainability, while securing additional concessional financing and enhancing debt management.

The IMF projects real GDP growth to be 4.4% in FY2023, supported by recovery in tourism, agriculture sector and resilient remittances. But, Nepal remains vulnerable to exogenous shocks such as volatile and higher global commodity prices and natural hazards. So, cautious monetary policy is warranted to keep inflation at 7% targeted level and to lower pressures on international reserves. Expenditure rationalization while protecting high-quality infrastructure expenditure and social spending is also important. Structural reforms need to be pursued to establish a sustainable and inclusive long-term growth path. These include private sector development by reducing the cost of doing business and barriers to FDI. Financial instruments tailored to migrants, access to finance and financial literacy can further financial inclusion. Digitization would help in the provision of public goods. Transparency and financial oversight of public enterprises can reduce fiscal risks.