Changing composition of and destination for exports and imports of Nepal

The composition of Nepal’s export basket is changing. Some of the traditional export items like honey and garments have lost market share. Meanwhile, exports of iron and steel products as well as textiles have increased rapidly along with that of tea, ginger, essential oils n.e.s., instant noodles, medicinal herbs, large cardamom, and wool products. Overall, the share of merchandise exports in GDP declined from 10 percent in fiscal year 2003/04 to 5 percent in fiscal year 2009/10.

The composition of merchandise imports is also changing. The share of agricultural goods and textiles and clothing imports fell. The share of transport equipment, electrical and non-electrical machinery, and iron and steel increased. Notably, the share of imports of gold rose from 0.1 percent in 2003 to 11.1 percent of total imports in 2010. Gold imports began to rise after India raised its import tariff. The tariff increase may have encouraged Nepal to import gold from third countries and trade with India. In value terms, petroleum products, vehicles, machines, and iron and steel were Nepal's main imports.

Along with the changes in the export and import baskets, there have also been changes in direction of trade. On top of the flow of exports and imports over the past few years to the top destinations, it is also revealing to look at the direction of trade in 2003 and 2010 (before WTO accession and the latest year of comparable data available after 2004). While India's share in exports is increasing, the US's is decreasing, perhaps reflecting the sharp decline of Nepali garment exports following the phase out of the Agreement on Textiles and Clothing. On the other hand, Nepal's exports to some SAARC members such as Bangladesh and Bhutan have increased rapidly, but the volume of exports in absolute terms is insignificant.

With regards to imports, the share of Nepal's traditional trade partner – the EU – as an import source has declined, while the shares of the Middle East countries, in particular the UAE, have increased rapidly. India still commands the lion’s share of Nepal’s import.

Apart from India, other major sources of Nepal’s imports are China, UAE, Indonesia, Thailand, the UK, Japan, South Korea, the US, Argentina and Singapore. Imports of goods have exploded unsustainably. Between 2000/01 and 2009/10, while imports from India increased by 374 percent, imports from China, UAE, Indonesia, Thailand and the US increased by 239 percent, 1052 percent, 256 percent, 127 percent, and 318 percent, respectively. 

[The figures are based on data from UNSD, Comtrade database (SITC Rev.3); sourced from Nepal’s TPR 2012] 

Few observations:

• Sophistication of Nepali export basket is very low. The export items are still low-valued goods with high price elasticity of import demand. Nepal is losing competitiveness in its major export, i.e. garments. The government cannot promote all export items at the same time. It should focus on promoting the 19 goods and services identified in NTIS 2010.
• Trade concentration is with India is very high. The share of trade deficit with India in fiscal year 1974/75 was 78.81 percent. It decreased to 26.55 percent in fiscal year 1988/89 and then started increasing rapidly in the last two decades, reaching 65.87 percent in fiscal year 2010/11. The total trade deficit in 2010/11 was NRs 331.84 billion. Nepal is selling high amount of dollars to purchase Indian rupee, which in turn is used to purchase goods from India.
• Competitiveness of Nepali export items is going down. The main reasons are: lack of adequate supply of infrastructure, political instability/strikes, labor problems, lack of innovation by private sector, and government’s inability to implement key reforms enshrined in major policy documents. The state of trade facilitation in Nepal is pathetic, ranking 124 out of 132 countries. Nepal has the fifth worst logistics efficiency in the world. Supply-side constrains have eroded competitiveness to a great extent. The situation has reached to such an extent that some businessmen design garment items here, manufacture in Bangladesh and then import them for consumers in the Nepali market.
• Due to huge remittance inflows, Nepalis are consuming at an alarming rate. There are symptoms of Dutch Disease. Some of the imports like petroleum fuel cannot be curbed in the absence of alternative sources of energy. Simply, a Dutch disease occurs when an economy depends on one sector so much that it leads to decline in manufacturing sector. In Nepal, increasing remittances at the household level have led to high consumption demand, high imports, and appreciation of real exchange rate, resulting in the erosion of manufacturing sector and its competitiveness.
• At the same time, the subsidy given by government in diesel and LPG is destroying NOC’s balance sheet and putting strain on fiscal balance. The increase in load-shedding hours has led to substantial rise in demand for diesel, which has further widened trade deficit.
• Reviving exports with SEZs has remained a distant dream. The cash incentives for exports scheme, though a bit misplaced, should be broadened in terms of value addition and employment generation.
• Apart from addressing the supply-side constraints, the government needs to devise smart strategies to foster R&D investment, innovation, production of high-value goods and services based on our comparative advantage and endowment, and promote Nepali items in the international market (this would also require active involvement of Nepali embassies and consulates aboard). Rather than relying more on tariff and quota concessions (we need them!), Nepali exports sector need to shore up its competitiveness; both the government and the private sector need to be pro-active role on this front.

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(Relevant tweet for the figure above here)

Exports are declining, especially after 1996 (so is the contribution of industrial sector and manufacturing sector to GDP). Export of goods and services was 26% of GDP in 1997. It was 9.75% of GDP in 2010. It is expected to be 9.78% of GDP in 2011/12. Imports are ever-increasing, reaching 37% of GDP in 2010. It is expected to be 32.57% of GDP In 2011/12.
Trade deficit is ever-widening, reaching around 23% of GDP.

Resource Raj replacing License Raj in India

So argues Raghuram Rajan and explains what is happening in India and why it is failing to reform and keep up the growth momentum. He contends that as with the other major emerging markets, India’s fate is in its own hands. Excerpts:

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[…]Bharatiya Janata Party (BJP) contested the 2004 election on a pro-development platform, encapsulated in the slogan, “India Shining.” But the BJP-led coalition lost that election.

[…]that election suggested a need to spread the benefits of growth to rural areas and the poor.

[…]India’s political class decided that traditional populism was a surer route to re-election. This perception also accorded well with the median (typically poor) voter’s low expectation of government in India – seeing it as a source of sporadic handouts rather than of reliable public services. For a few years, the momentum created by previous reforms, together with strong global growth, carried India forward. Politicians saw little need to vote for further reforms, especially those that would upset powerful vested interests. The lurch toward populism was strengthened when the Congress-led United Progressive Alliance concluded that a rural employment-guarantee scheme and a populist farm-loan waiver aided its victory in the 2009 election.

But, while politicians spent the growth dividend on poorly targeted giveaways such as subsidized petrol and cooking gas, the need for further reform only increased. For example, industrialization requires a transparent system for acquiring land from farmers and tribal people, which in turn presupposes much better land-ownership records than India has.

As demand for land and land prices increased, corruption became rampant, with some politicians, industrialists, and bureaucrats using the lack of transparency in land ownership and zoning to misappropriate assets. India’s corrupt elites had moved from controlling licenses to cornering newly valuable resources like land. The Resource Raj rose from the ashes of the License Raj.

India’s citizenry eventually reacted. An eclectic mix of idealistic and opportunistic politicians and NGOs mobilized people against land acquisitions. With investigative journalists getting into the act, land acquisition became a political land mine.

Moreover, key institutions, such as the Comptroller and Auditor General and the judiciary, staffed by an increasingly angry middle class, also launched investigations. As evidence emerged of widespread corruption in contracts and resource allocation, ministers, bureaucrats, and high-level corporate officers were arrested, and some have spent long periods in jail.

The collateral effect, however, is that even honest officials are now too frightened to help corporations to navigate India’s maze of bureaucracy. As a result, industrial, mining, and infrastructure projects have ground to a halt.

Populist government spending and the inability of the supply side of the economy to keep pace has, in turn, led to elevated inflation, while Indian households, worried that no asset looks safe, have taken to investing in gold. Because India does not produce much gold itself, these purchases have contributed to an abnormally wide current-account deficit. Not much more was required to dampen foreign investors’ enthusiasm for the India story, with the rupee falling significantly in recent weeks.

As with the other major emerging markets, India’s fate is in its own hands. Hard times tend to concentrate minds. If its politicians can take a few steps to show that they can overcome narrow partisan interests to establish the more transparent and efficient government that a middle-income country needs, they could quickly re-energize India’s enormous engines of potential growth. Otherwise, India’s youth, their hopes and ambitions frustrated, could decide to take matters into their own hands.

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Sustainable development at Rio+20 and Nepal’s expectation

After hosting the Earth Summit two decades ago, Rio de Janeiro, starting June 20, is again welcoming more than 130 heads of state and thousands of people in what is expected to be the largest conference in recent times. Twenty years ago, the Rio Earth Summit emphasized on sustainable development keeping in mind the drive for rapid economic growth, rising population and environmental necessities, including conserving land, air and water. It also laid foundation for the Kyoto Protocol, established the Convention on Biological Diversity, and the Convention to Combat Desertification.

The three-day long meeting for the United Nations Conference on Sustainable Development, or Rio+20, in June will also discuss similar issues, albeit with more urgency to balance growth with environment necessities. In effect, the problems have magnified in the past two decades. UN Secretary General Bin Ki-moon argued: "Global economic growth per capita has combined with a world population to put unprecedented stress on fragile ecosystems. We recognize that we cannot continue to burn and consume our way to prosperity. Yet, we have not embraced the obvious solution: sustainable development."

After failing to decisively address the challenges of balancing growth, population and environment imperatives, Rio+20 offers world leaders an opportunity to agree on a new course toward a future that does what the world should have done in the past twenty years. It is the most important global forum to seek balance among economic, social and environmental dimensions of prosperity and human well-being.

The UN secretary-general has recommended focusing on three issues:

• creation of job-focused growth along with environment protection and social inclusion
• empowering women and young people
• smarter use of resources to minimize waste

Furthermore, he has asked governments, businesses and other coalitions to endorse Sustainable Energy for All Initiative, which aims for universal access to sustainable energy, and a doubling of energy efficiency and use of renewable sources of energy by 2030.

However, several countries that have just started to grow at breathtaking rate argue they cannot wholly afford to move onto a more sustainable pathway without compromising on their growth strategies. This might explain the reluctance to reach an agreement on emission controls during the latest UN Framework Convention on Climate Change (UNFCCC) summit in Durban, South Africa. The summit in Rio should seek to find alternative courses for growth that boosts employment generation and puts nations on a low-carbon, resource-efficient development path. With the technological innovation and workable ideas that have emerged in the past two decades, it could be entirely possible to generate "green growth" that encompasses both growth and environment concerns. It could herald an age of a ‘green industrial revolution’.

While preparation of the global plan of action—entitled ‘The Future We Want’ worked upon by the UN preparatory committee PrepCom—to be adopted at the Rio+20 is still going on behind the scene, as of now no consensus has emerged from the negotiations. The action plan has to be ready for approval before June 20. Already a coalition of international NGOs has argued that the action plan “looks set to add almost nothing to global efforts to deliver sustainable development”. The main bone of contention is over the concept of green economy and its relevance and meaning to the global South. Other disagreements include issues such as equity, sustainable consumption, sustainable development goals (SDCs), production in global South, social justice, technology transfer and trade. There is also confusion over the commitments to be made by nations and their capacity to facilitate the inclusion of SDGs in national development plans and priorities.

Secretary-General Ban has urged nations not “let a microscopic examination of text blind us to the big picture […] we do not have a moment to waste”. It is very essential for negotiators to reach a consensus on the most contentious issues well ahead of the summit. It should be comprehensive and try to incorporate almost all the concerns raised by the global South. A global pact on finding the right balance between growth and environment is long overdue. The Rio+20 summit is a historic opportunity on this regard and its outcome should not disappoint global citizens, especially on issues surrounding SDCs, climate change and gender inequality.

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Nepal will propose focusing on the following key areas of sustainable development:

• Food security and sustainable agriculture
• Water and sanitation
• Energy
• Sustainable cities
• Natural disaster
• Green job and social inclusion
• Mountain ecosystem

Nepal expects Rio+20 to:

• Renew commitment of Member States for preserving the Rio principles
• Foster implementable consensus for fulfilling the implementation gaps in the Rio declaration and other associated commitments
• Address new and emerging challenges in a fair and equitable manner based on the principle of common but differentiated responsibilities (CBDR)

Specifically, it wants developed countries to fulfill ODA commitment, ease transfer of technology, waive debt, ease trade barriers, and enhance capacity of LDCs. It expects an agreement on the Mountain Agenda adopted in 1992. It expects focus on green economy, especially support for harnessing its hydro-generation potential. It expects the Rio+20 Conference to “fully integrate the IPoA into its outcome document and underline renewed and scaled-up global commitment to achieve sustainable development in the LDCs.”

Amidst the political uncertainty and vacuum, just read that the Nepal’s Prime Minister Baburam Bhattarai is all set to fly to Rio de Janerio, Brazil, on June 18 to attend the Rio+20 summit with as many as 23 other officials.

Does democracy foster adoption of economic reforms?

Giuliano, Mishra and Spilimbergo argue that democracy has a positive and significant impact on the adoption of economic reforms, but economic reforms might not necessarily foster democracy.

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Empirical evidence on the relationship between democracy and economic reforms is limited to few reforms, countries, and periods. This paper studies the effect of democracy on the adoption of economic reforms using a new dataset on reforms in the financial, capital and banking sectors, product markets, agriculture, and trade for 150 countries over the period 1960–2004. Democracy has a positive and significant impact on the adoption of economic reforms but there is scarce evidence that economic reforms foster democracy. Our results are robust to the inclusion of a large variety of controls and estimation strategies.

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Four years of CA: Fiscal budget, GDP growth and inflation target and achievement

Total expenditure, target and achievement during the last four years of CA in Nepal. Between 2008/09 and 2010/11, total expenditure (current local prices) went up by almost 63 percent without having much impact on the productive capacity of the economy. Meantime, growth and inflation targets were consistently missed. Here is more on the four wasteful years.

The figure for inflation in 2011/12 is own estimate (based on quick calculation from the available data).

Nepali economy in the last four years of Constitution Assembly

It was published in Republica, June 3, 2012, p.8.

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Four wasteful years

After the highly charged parleys leading up to May 27 and the disappointing outcome at mid-night, it is now almost unanimously acknowledged now that our political leaders failed to fulfill their responsibilities. Economically, they wasted four precious years on our drive to prosperity and aggravated health of economic institutions.Despite lofty promises of rapid growth, which was impossible due to lack of necessary prerequisites, the hope was that the leaders would help build foundations for long term growth and promote economic institutions accordingly. Unfortunately, except some cosmetic institutional changes, the political leaders miserably failed on this front. Economic imperatives were overshadowed by selfish political agenda and cronyism, leading to squandering of around Rs 10 billion by Constitution Assembly (CA) alone and several billions under various pretexts by the parties.

The first government under the CA was led by UCPN(M). While the then Prime Minister Puspa Kamal Dahal was bragging about turning Nepal into Switzerland, his Finance Minister (FM) Dr. Baburam Bhattarai presented the first fiscal budget of the republic on September 19, 2008. It opened up a saga of lofty promises that were not in sync with our economic realities. With an expenditure plan of Rs 236 billion for 2008/09, he targeted GDP growth and inflation at 7 percent and 7.5 percent respectively, and outlined a plan to generate 10,000MW hydroelectricity in a decade.He jacked up basic salary of civil servants, provided debt-relief to heavily indebted farmers, prioritized infrastructure investment, including hydropower, and committed to enacting Special Economic Zones (SEZ) bill. Importantly, he vigorously promoted cooperatives, neglected private sector and tried to revive bankrupt state-owned enterprises by infusing substantial amount of taxpayer’s money. By the time Dr. Bhattarai left Ministry of Finance (MoF), he managed to reform revenue administration, leading to substantial rise in revenue growth. However, he failed to achieve the targets—GDP growth was just 4.53 percent and inflation 12.6 percent— and promote private sector, which was severely distressed by increasing load-shedding, labor strikes, extortion and political uncertainty. Meanwhile, the well-intentioned Youth Self-Employment Fund (YSEF) turned out to be a legitimate conduit to channel state’s resources to party cadres, and his grand plan of promoting ‘national capitalism’ tapered off quickly.

On July 15, 2009, the then FM Surendra Pandey presented Rs 285.93 billion expenditure plan for 2009/10. The size of budget was increased by around Rs 50 billion to pay for retired PLA combatants and to distribute money to party cadres under various pretexts and pet projects. While setting growth target of 5.5 percent and inflation of 7.5 percent, he managed to increase budget for education, youth employment and expansion of social welfare programs, including pecuniary incentives for inter-caste marriage of Dalits.Though he promised to generate 25,000MW hydroelectricity in two decades,he failed to allocate adequate funding and the government sidelined enacting of important regulations on this regard.

Compared to Dr. Bhattarai’s budget, Pandey’s budget was less ambitious and geared to put the house in order, especially on the eve of global economic turmoil, declining growth of remittances and highly worried banking sector due to excessive real estate loan portfolio. At the end of the fiscal year, GDP growth rate was 4.82 percent and inflation 9.6 percent. The industrial sector weakened due to persistent labor strikes, long power outages and shortage of petroleum fuel.

Following a nasty power struggle between the political parties to lead government, budget for 2010/11 was delayed by four months, which affected rural development projects in particular and macroeconomy in general. On November 20, 2010 FM Pandey presented an expenditure plan of Rs 337.9 billion, a whopping 30.4 percent increase from previous year.The big size of budget-- withgrowth and inflation targetsat4.5 percent and 7 percent respectively—was not warrantedby the weak absorption capacity of bureaucracy and local administrations, and fluid political condition. Though Pandey was pressured by the UCPN (M) to continue funding their pet projects and handouts to party cadres under various pretexts, he managed to bring a progressive, private sector-friendly, and infrastructure, employment and exports focused budget. He promised blacktopped roads up to premises of manufacturing firms employing more than 100 Nepali workers; sub-health clinic and a police post to any firm employing over 500 Nepali workers; cash incentives for exports based on value addition; and 50 percent tax rebate on earnings from exports of goods produced using local raw materials. However, before Pandey could implement this plans, Bharat Mohan Adhikari came to MoF with a thunder to introduce a supplementary budget. He was guided by UCPN (M), which helped topple Madhav Kumar Nepal’s government. The main motive was to distribute taxpayer’s money to YCL cadres and party associates under the guise of various cooperative programs and local level development projects. Adhikari’s push for supplementary budget during normal time and his deliberate attempt to overlook booking of tax evaders led to former secretary Rameshore Prasad Khanal’s resignation and widespread upbraiding of the government.At a time when the economy was facing severe distress due to decline in growth of remittances and banking woes, he created a fuss for nothing and dampened investor’s confidence. By the end of the fiscal year, growth rate was just 3.88 percent and inflation 9.6 percent.

With much reluctance FM Adhikari abandoned the plan for supplementary budget and presented a full budget, which was leaked beforehand, for this fiscal year (2011/12)on July 16, 2011. Without a solid foundation for realizing capital expenditure and revenue mobilization, he increased expenditure by 14 percent to Rs 385 billion with targets for growth and inflation at 5 percent and 7 percent respectively. Following the controversial white paper he presented few months earlier, Adhikari riddled the fiscal budget handouts and programs in favor of cooperatives.Worse, rather than giving continuity to Pandey’s programs and addressing the evolving macroeconomic challenges (low growth rate, high inflation, balance of payments deficit, ballooning trade deficit, eroding competitiveness of economy and productive capacities, slump in manufacturing sector, and liquidity crisis), he followed Maoists’ diktat by rolling out a distributive and macroeconomy damaging expenditure plan. The illogical, untimely, unfocused, visionless, and cooperative-biased budget discouraged and distracted private sector. By the end of this fiscal year, GDP growth is expected to be 4.63 percent and inflation near double-digit. Adhikari was replaced by UCPN (M)’s Barsha Man Pun, who has so far tried to implement previous projects and allay apprehension of private sector and investors. Under pressure to put finances in order, FM Pun spent most of his time cleaning the mess accumulated since 2006.

During the four years of CA there was continued supremacy of political priorities over economic imperatives. Between 2008/09 and 2010/11, fiscal budget has increased by an alarming 63 percent without having an impact on productive capacity of the economy. Despite initial optimism GDP growth remain below 5 percent;development and capital expenditures are very low;inflation is near double-digit; trade deficit is widening unsustainably; manufacturing sector growth was negative for two consecutive years and is still very low; balance of payments was negative for two years and then recovered on the back of high remittance inflows; severe petroleum and LPG shortages have frustrated consumers;long load-shedding hours are persistent; FDI is as low as US$39 million;real estate sector has tanked and banking sector is still feeling the pressure;food insecurity has intensified in the Far West;labor problems continue to blight industrial sector, and bandas continue to cripple livelihood, among others. Overall, though there were some improvements in social indicators and notable reforms with regard to attracting investment, the economy is in a much perilous state than before. Worse, it has retained the extractive institutions with distorted economic incentives. During the tumultuous and unfruitful four years, we missed an opportunity to build foundations for the economy to take off on a high growth path.

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Purpose, forms and determinants of green investment

Given the increasing realization of the impact of climate change on productivity and output, which would disrupt fiscal positions (lower revenue and higher spending), discussion is now focusing on “green investment, which is the “investment necessary to reduce greenhouse gas and air pollutant emissions significantly”. Eyraud and Clements have a simple yet resourceful piece about green investment in this issue of F&D magazine.

They argue that green investment could take the following forms:

• Less polluting investment in energy generation (wind, solar, nuclear,  hydropower or biofuel such as ethanol made from corn or sugarcane)
• Investments that reduce energy consumption (supercritical coal-fired plants, which are highly efficient electricity plants that burn less coal; efficient grids; efficiency gains in transportation—by using more fuel-efficient and hybrid cars and by increasing use of mass transit; energy-saving appliances and improved waste management; improved insulation and cooling systems)

Government support green investment primarily to

• Reduce carbon emissions and prevent climate change
• Improve energy security by diversifying the energy mix
• Foster growth by promoting competitiveness, job creation, and innovation in new industries.

Common forms of support policies for renewable electricity generation are

• Feed-in tariffs, which mandate that utility companies pay prices to green electricity producers that reflect the cost of the technology, which can be above the cost of conventional electricity generation
• Renewable portfolio standards, which require electricity companies to rely on renewables for some fraction of their energy sources

Eyraud and Clements argue that five factors determine the level of green investment:

• Real gross domestic product (GDP)—higher level of GDP tend to boost investment in green technologies; an additional 1 percentage point of GDP growth should raise green investment growth by about 4 percentage points in the long run, other factors being equal
• Long-term real interest rate—high cost of capital has a negative impact on green investment; green investment declines by about 10 percent when the real interest rate increases by 1 percentage point
• Relative price of international crude oil—higher fuel prices increases return on green investment by lowering cost of capital produced from renewables; green investment grows by an additional percentage point when there is a 1 percentage point difference between increases in crude oil prices and economy-wide inflation
• A variable representing the adoption of feed-in tariffs—high feedstock prices and overcapacity lower investment in biofuel; green investment should be two to three times larger in countries adopting feed-in tariffs, other factors being equal.
• A variable measuring whether a country has a carbon pricing mechanism (carbon tax or cap-and-trade)—environmental tax levied on the carbon content of fuels