Market players screwing up prices in the Nepalese market

At a time when price level in the Indian economy is in downslide, the opposite is going on in Nepal. This is pretty uncommon because the Nepalese market follows price trend of the Indian economy. Unfortunately, price level  in the Nepalese market is over 13 percent right now. Something fishy is going on in Nepalese food and commodity market. Who is to blame? Well, the speculators and retailers who are holding back inventories, thus creating an artificial rise in price level! The government is clamping down on these by directly intervening in the supply side of the market. Some times the market forces is detrimental if left to operate wildly and unchecked! So, the government has to tighten loose screws so that it operates as it should!

Studies by the government and other entities show that price rise is caused primarily by hoarding and black-marketeering (30%), stockists and wholesalers (20%), bandhs and strikes (10%) and the Indian market (40%).

District Administration Office raided 13 godowns of three businessmen on Saturday under Black Marketeering and Certain Other Social Offences Act, 1978. Meanwhile, the Department of Commerce got active in implementation of the price-list (wholesale and retail) in retail shops of Kathmandu.

According to Kailash Kumar Bajimaya, acting director general at DoC, “hoarding is storage of large quantity of food commodities and failure to send them back to the consumer market to make profit, creating artificial scarcity of the items.” Warehousing of the food commoditiesby agents, dealers and retailers exceeding one month without any transaction is punishable by existing law. Bajimaya said the raid conducted by the DAO was targetted at the black marketeers and DoC’s price-list campaign is to educate the consumers. He said market intervention would continue until the consumers got respite from the unethical trade practices.

The commodities market has around 25 players — at least 20 business organisations and traders, including KL Dugar, Pawan Bansal, Chandreshwor Prasad Kalwar, Pawan Kumar Agrawal and Murarka Group.

“We have asked their import/purchase papers, customs papers, VAT papers and general account,” said Surendra Prasad Paudel, administrative officer. According to Paudel, the businessmen have to show their papers and prove their innocence within a week.

Social programs and inequality in Brazil

Brazil has made improvements in reducing inequality despite growing at a good rate in recent years. Inequality, measured by the Gini coefficient, fell from 0.59 in 2001 to 0.53 in 2007. How is it possible that inequality fell despite high economic growth? The authors of this one pager#89 from IPC argue that it is because of good social policies, mainly two possible causes:

1. Improvements in education (universal admission to primary schooling and lower repetition rates). The authors estimate that the impact of improved access to education on primary income distribution was 0.2 Gini points per year from 1995 onwards.
2. Direct cash transfers from the state to families and individuals. An often cited example is a conditional cash transfer program called Bosla Familia. The authors estimate that cash transfers contributed to reductions in inequality of another 0.2 Gini points per year.

These social programs have stimulated aggregate demand, especially through an increase in consumption.

The main point is that two-thirds of the decline in inequality is explained by relatively successful social policies. The remaining third is attributed to “a virtuous cycle of increased income, expansion in domestic market and rising demand for labor.”

Few details about the remittances market in Nepal

Recently World Bank researchers presented their analysis on the remittances market in Nepal. The presentations and a policy note are very informative. This blog post draws in information from their analysis.

Around two to five million Nepalese workers are working abroad. Officially recorded new migration increased dramatically during the last decade, from 36,000 in 1999/2000 to 229,000 in 2007/08. Unofficial estimates of stock of Nepali migrants range from 400,000 in Malaysia, 300,000 in Qatar, 60,000-70,000 in South Korea, and 2 to 5 million in India. 125,000-275,000 Nepali migrants are estimated to be working in United Arab Emirates (UAE), of which half are in construction, hospitality, tourism, and security. An estimated one-third of male population are working abroad.

It constituted 17 percent of GDP in 2008 ($2.3 billion). Remittances also have large multiplier effects on sectors such as construction, cement and furniture. Migration played a crucial role in reducing poverty between 1994 and 2004. The WB estimates it to contribute between one-fifth to one-half of the decline in poverty. Within South Asia, remittances as a share of GDP is highest in Nepal.

Remittances sent by Nepali migrants from India, which is the largest migration destination, are larger than the bilateral trade deficit with India and underpin the exchange rate peg with the Indian rupee. Remittances have helped finance the trade deficit and maintain a positive current account balance over the last decade.

The onset of the financial crisis in the second half of 2008 has led to a significant decline in construction, hospitality and other sectors in the Gulf countries in which a large number of South Asian migrants are employed. As a result, the growth of remittances to Nepal has decelerated significantly in recent months and remittances flows are expected to decline modestly in 2009.

The decline in remittances (WB researchers estimate remittances would decline by a two-and-a-half percent to four percent in 2008/09 in Nepal) due to global economic slowdown will depend on projected economic growth rates of destination countries, the kind of work Nepalese migrants do and demand for such work in destination economies, and how secure their jobs are through contracts. The growth rate in Gulf countries is expected to slowdown but the good news is that remittances flows out of GCC are not correlated with oil prices. As long as infrastructure investment continues, drawing in from their large reserves, demand for migrant, cheap labor is going to increase or at least not decline. It is reported that some Gulf countries are replacing Bangladeshi workers with Nepali workers for “various reasons”. Furthermore, new countries like Libya, Romania, and Poland have agreed to take in Nepali workers. This means that demand for Nepali labor in the international market is not going to decline drastically despite the global economic slowdown.

Nepal’s remittance market is competitive and the remittance infrastructure is well-developed, with money transfer operators and banks able to deliver remittances reliably even in remote areas. But there are market inefficiencies in destination countries that ought to be addressed by policy makers. Bilateral negotiations with the authorities in destination countries can improve access of migrants to remittance services. Within Nepal, there should be efforts to encourage banks and finance companies to link remittances to consumer loans, housing loans, and small business investments. Post offices in destination countries and Nepal can play an important role in providing cheap and convenient remittance services. Mobile phone companies can also provide fast, convenient and cheap remittance services within Nepal.

The destinations of migration will likely change over time. It has nearly saturated in East Asia.The destinations that will increase in importance are the Gulf and India since these countries will grow and will need new workers. The Gulf countries have abundant financial resources to continue the construction and tourism projects (hotels, resorts, and restaurants) and investments in infrastructure which have been temporarily suspended since the onset of the current crisis. For example, Abu Dhabi, one of the seven United Arab Emirates, is building Khalifa City, which will need 150,000 new workers from abroad. India has also been relatively less affected by the current crisis and will remain an important destination, especially for seasonal migration, and also a source of migrants. In the long-term, Poland and Romania and other new members of the EU and possibly Russia are also likely to need migrant workers from Nepal.

According to data reported by Nepal’s central bank in a recent survey, 20 private commercial banks, 3 state-owned banks, 12 micro-finance institutions, the postal service, 4 other financial institutions and 36 non-financial institutions (such as Western Union, Moneygram, Prabhu, International Money Exchange etc.) are authorized to receive and deliver remittances. These commercial and state-owned banks have together 574 branches in the country, while MFIs have over 320 branches, the post office has 75 district offices and the non-financial money transfer operators have over 2,500 branches.

Commercial banks, money transfer companies and the post office are allowed to receive inward remittances. Microfinance institutions cannot send or receive remittances, but are only allowed to distribute remittances, acting as sub-agents of the firms authorized to receive inward remittances. No mobile phone operator in Nepal is authorized to send or receive remittances.

Nepalese banks typically act as distributors of remittances for partner money transfer companies. Unlike the major banks in India, very few Nepali banks promote other financial products such as savings deposits, home loans, health and life insurance to remittance senders or recipients. This may reflect relatively low banking penetration, the prevailing high levels of inflation and the uncertain macroeconomic environment, which might make Nepali banks unwilling to extend credit to retail borrowers in general, including to non-resident Nepalese.

Bringing remittances into formal (banking) channels and mobilizing remittances for savings and investment remain key challenges for Nepal. There are only 1.8 branches per 100,000 people in Nepal in 2006, compared to 4.7 in India, while ATM access is 0.28 per 100,000 people. More than 70 percent of people do not access to commercial banks. More than two-third of recipients in rural areas received international remittances (including from India) through informal channels such as hand-carry or through friends and relatives, compared to 34 percent of recipients in urban areas.

Increasing remittances have been driving real wages in the country. Agricultural wages rose 25 percent in real terms and nonagricultural unskilled wages increased by 20 percent. Meanwhile, skilled wages tripled, out-migration reduced labor supply and aggregate demand increased. With increasing remittances, income has grown and so has inequality-- a potential research area because it is not clear yet if increase in consumption fuelled by consumption (not domestically earned income) has actually increased inequality. Some argue that due to higher aggregate demand of remittance-receiving households, remittances can be linked to inequality.

The consequences of reduced remittances in Nepal are:

• Some people could fall back into poverty again. If the decline in remittances is between two to four percent, it would cost between $50-100 million to mange the additional people that fall below the poverty line.
• Reduced foreign exchange flows, leading to decline in consumption and imports. A small impact on BOP situation.
• Potential soft landing of real estate bubble as investment in real property would decline.
• Banks that are taking excessive risks in real estate market and margin lending may be strained.
• Departures would decline, putting tremendous pressure on the already stagnant domestic job market. It could fuel social tension. Note that approximately 500,000 people enter labor force each year at a time when the public and private sector are not hiring in the same rate.

What could the government do to mitigate the impact of declining remittances in the country?

• Create business environment conducive to private investment (it is the most popular recommendation but hardly realized!)
• Accelerate existing public investment and maintenance work that are labor intensive (question mark on effective implementation-- if it were possible, then with those millions of aid dollars, something substantial would have already been achieved in this sector!)
• Increase labor-intensive public and maintenance work (this sector has never been capital-intensive-- otherwise the state of Nepal’s infrastructure would not have been so dismal!)
• Start fiscally sustainable, high priority public work programs for the vulnerable (big problem in identification and demand for such work in places where vulnerable people live!)
• The banking sector might feel a pinch, leaving the central bank to encourage consolidation of an over-crowded sector (good if competitiveness and efficiency of the banking sector is further improved!)

World Trade Report 2009: Finding a balance between contingency measures and commitments

The WTO has released ‘World Trade Report 2009: World Trade Policy Commitments and Contingency Measures’  warning nations not to fall for protectionist measures despite the current global crisis. The report estimates that trade growth will be strongly negative this year-- world merchandise trade is expected to decline by 10 percent in 2009. It warns that resorting to protectionist measures to aid domestic producers may prolong and deepen the crisis.

The report argues for “trade contingency measures” that would give some policy maneuver for countries to deal with domestic pressure to prop up domestic markets affected by the crisis. This highlights the need for policy space in trade deals because of the possibility of unanticipated market conditions that are not under the purview of existing trade models and agreements. With this the WTO is arguing for some form of policy space for developing countries that would help them respond to pressing needs of their population, even if the responses are not fully in line with ‘free trade’ principles. Failure to do so in the earlier Doha Round of negotiations (remember special safeguards measures demanded by the developing countries) is holding back its passage. The report reflects a mix of ideas long argued by Rodrik, Krugman, Dixit, game theory stuff--in general, doubting the existence of a completely free international trade market and that “second-best” policies might increase overall welfare in certain conditions--, and market principles.

The delicate debate in the Doha Round of negotiations over the design of anti-dumping provisions or over the special safeguards measure on agriculture is an effort to align views on the question of balance…

The analysis of economic effects of the use of contingent measures reviewed in the World Trade Report suggests two main conclusions. First, the design of such measures should aim at limiting the circumstances when they can be used as a protectionist device. Second, the design of contingency measures should not undermine the role of trade agreements. Contingency measures should not be designed in a way that upsets the balance of a trade agreement nor which undermines governments’ objective of making a binding commitment to the private sector.

[…]the Report focuses primarily on safeguards, such as tariffs and quotas, which may be introduced to counter increased imports deemed injurious to domestic industry, anti-dumping duties which can be imposed to respond to alleged injury caused by “dumped” imports, and countervailing duties which can be used to offset foreign subsidies considered injurious to the domestic industry. The Report also discusses alternative policy options, including the renegotiation of tariff commitments, the use of export taxes, and the increases in tariffs up to their legal maximum ceiling or binding.

The contingency measures discussed in the report include safeguards measures, anti-dumping and countervailing measures, the re-negotiation of tariff commitments, the raising of tariffs up to their legal maximum levels, and the use of export taxes. These are needed because too little flexibility in trade agreements may render trade rules unsustainable. At the same time, too much flexibility may weaken the value of commitments and trade rules. An appropriate balance between flexibility and commitment is required for the success of trade agreements.

Contingency measures may be thought of as a safety valve mechanism, a form of insurance, or an instrument of economic adjustment. They may simply be there to strengthen the rule of law. They may entice governments to open their markets further than they would in the absence of these mechanisms, creating a greater quantum of openness than would otherwise be forthcoming. Or they may simply reflect the reality that we lack perfect foresight and therefore cannot write complete contracts for regulating future behaviour under any conceivable set of circumstances.

Some of the key points:

• Trade agreements define rules for the conduct of trade policy. These rules must strike a balance between commitments and flexibility. Too much flexibility may undermine the value of commitments, but too little flexibility may render the rules unsustainable.
• Governments have good reasons for signing trade agreements, but effective agreements must strike an appropriate balance between flexibility and commitments.
• Two largely complementary arguments are put forward to rationalize flexibilities in trade agreements: the “benefit” approach and the “incomplete contract” approach.
• Abstracting from terms-of-trade considerations, the economic case for employing measures of contingent protection rests on the emergence of market failures, such as negative external effects (externalities) or imperfect competition. Alternatively, political economy arguments may explain a willingness to contemplate an agreement that allows for the suspension of commitments.
• When markets are not functioning well, measures of protection can be justified in terms of a “second-best” argument.
• A categorization of the circumstances that might justify government intervention can be made on the basis of the type of external event (shock) and its sectoral/country coverage.
• Safeguards in the WTO enhance the willingness of governments to undertake commitments, but the temporary nature of such measures is crucial to the attainment of their objectives.
• In economics only “predatory” dumping results unambiguously in welfare-reducing effects for the importing countries.
• Economists have also raised some questions about provisions dealing with material injury and suggested the use of economic concepts and models in the causality and non-attribution analyses.
• Duties imposed to countervail subsidies will generally not raise aggregate welfare in the country that imposes them. Two exceptions are circumstances when a terms-of-trade argument can be made and when markets fail. Political economy considerations help to explain why governments might use countervailing duties.
• Countervailing duties can serve two main purposes in trade agreements. First, they may be used by governments to neutralize negative external effects (externalities) arising from subsidies. Second, the prospect that countervailing duties might be used could deter the use of subsidies in the first place.
• A lack of binding commitments on export taxes on the part of most members reflects the incompleteness of the WTO Agreements and provides members with a largely uncontrolled form of flexibility.
• Export taxes may be used for a variety of reasons, but generally they do not amount to first-best policy under perfect market assumptions.
• Evidence on antidumping, countervailing duties and safeguards is generally consistent with the view that these measures are tools of flexibility to confront difficult situations. The evidence is less clear for increase in applied tariffs, export taxes and the modification of tariff commitments.
• Existing empirical evidence on the economic impact of adopting measures of contingent protection shows that there are costs associated with the use of these measures, but the magnitude of these costs is uncertain.
• Restraints in the use of restrictive trade measures will contribute to a more rapid recovery in the world economy.

A review of The Return of Depression Economics and the Crisis of 2008

The following is a review of Krugman’s book The Return of Depression Economics and the Crisis of 2008 published on Trade Insight, Vol5, No2, 2009, SAWTEE. Couldn’t find text version of this article for now. Please download the PDF file or view it on full screen!

Review of Return of Depression Economics_Trade Insight_Vol5No2_SAWTEE

 

Here is the full edition of Trade Insight Vol5,No2, 2009

Trade Insight Vol5No2 2009

Nepal’s fiscal year 2009/10 budget-- Macro issues in mammoth budget

My latest op-ed is titled Budget lacks focus: Macro issues in mammoth budget. It is a review of Nepal’s fiscal year 2009/10 budget. There are many issues in the budget that need explanation. Here, I look at major macro issues only.

---------------------------------------------------------------------

Budget lacks focus: Macro issues in mammoth budget

Finance Minister Surendra Pandey presented the coalition government’s budget for the fiscal year 2009/10 using a spray gun approach to tackle almost everything but without any concrete direction and clarity. He broke Dr Bhattarai’s record by presenting a mammoth budget of Rs 285.93 billion, which is approximately Rs 50 billion higher than last year’s budget. For the sake of being distinct, the finance minister has simply morphed the Maoist government’s popular and populist programs to fit UML’s economic and political philosophy. However, unlike his predecessor, Pandey avoided setting a highly unlikely target of a double-digit growth rate.

The budget has rightly focused on the need to develop infrastructure for sustained economic growth. The increase in education budget, youth employment and expansion of social welfare programs, including pecuniary incentives for inter-caste marriage of Dalits, is definitely in the right direction. Though some of the programs are designed with good intention, they nevertheless will be used as a tool to get more votes in the next election. There are several programs that look not only implausible but also overly populist and ambitious. I will limit this discussion within the macroeconomic aspects of the budget.

As mentioned earlier, the budget is excessively big for a tiny economy that is reeling with supply bottlenecks and mounting price level. The targeted growth rate of 5.5 percent is a modest projection but will be difficult to attain if the monsoon does not favor our farmers (agriculture sector is expected to grow at 3.3 percent) and the current state of lawlessness, power crisis, undersupply of infrastructure, lack of credit to farmers and manufacturing slackness continues unabated. It will be difficult for the government to manage the economy if these issues are not addressed swiftly and decisively, something that the budget promises but is unclear about.

The Economic Survey 2009—an analytical exercise which takes stock of the economy, identifies constraints and suggests a way forward— which was released a day before the budget was announced clearly lays out the limitations of the government and carcinogenic problems that have been plaguing the economy for a long time: “A big question mark has emerged on our skill of overall economic management in a situation where the Nepalese economy entangled in the vortex of economic sluggishness amidst the double-digit price rise thereby adversely affecting the purchasing power and living standard of the Nepalese people. […] national imperative is making sufficient legal arrangements and ensuring effective enforcement of those provisions for completely banning bandas, strikes especially against transportation and movements of the people.” It is not that we do not know the problems that are restraining growth; it is just that the politicians are not able to forge political consensus to deal with these problems by rising above party lines and by forming a national agenda, irrespective of political ideology. This aspect is not addressed in the budget.

One of the biggest highlights of this budget is the ambitious revenue target. Buoyed by the success of Dr Bhattarai’s campaign to increase revenue mobilization, Pandey is overly optimistic about revenue generation. The revenue target is Rs 176.5 billion, which is more than Rs 36 billion than what the Maoist administration achieved. There are two plausible reasons to doubt if Pandey’s administration will be able to achieve this target. First, the jolt in revenue collection last year occurred primarily because of an aggressive move by the government to incriminate those who were evading taxes. Novel approaches like Voluntary Disclosure of Income Scheme and taxes on education institutions along with a reformed revenue department with incentives to perform better were enforced. This is a one-shot move and not sustainable. Second, the evaders paid lump sum as a penalty for years of tax evasion. Pretty much all the big tax evaders complied with the new ruling. Hence, the stream of tax revenue will be thinner than last year’s. Furthermore, the government has raised income tax exemption level, thus increasing disposable income of people. This will further narrow the revenue stream. A better way to create sustained revenue stream would be to hinge revenue projections with economic growth rate.

Probably the most important issue that will be looked upon closely is the impact of high deficit financing on the already high inflation rate. Inflation rate is expected to be over 13 percent in FY 2008/09. For the next fiscal year, it is projected to be 7.5 percent. Initially, the sudden rise in price level in the domestic market was triggered by rising global food, fuel and commodity prices and internal supply bottlenecks. However, this sudden, transitory price hike became a permanent stamp in the domestic market as retailers began stacking up inventories and withholding supply to the market, thus creating an artificial price rise. There is something fundamentally wrong in the system because a double-digit price level in Nepal is unexpected when the Indian economy is in deflation. The budget has done little to address these underlying issues. Hence, a drop in price level to the tune of five percentage points is very unlikely unless Nepal Rastra Bank (NRB) hikes up interest rates and squeezes credit flow. If the NRB is compelled to tackle rising inflation, which will erode purchasing power and scare away investors, then it will add one more hurdle in achieving Finance Minister Pandey’s modest growth target.

There are no concrete plans for SEZs and private sector development. The much talked about public-private partnership to finance infrastructure projects lack focus and clarity. Except for scrapping scrap tax, institute third-party insurance to reduce risks associated with supply bottlenecks and reduction in capital gains tax to 10 percent from 15 percent, which pleased investors at NEPSE, there is not much for the private sector in the budget. Nepal desperately needs to prop up its exports industry. The budget is mum on formulating a comprehensive industrial policy that would systematically and deliberately engage in aiding those institutions and sectors that would help to attain a sustained growth rate of over 7 percent for over a decade. An updated industrial policy is needed to absorb surplus labor from the agriculture sector and to successfully transition to manufacturing and service-dependent economy. Moreover, there should have been a plan to either divest or to privatize loss-making public enterprises, whose marginal cost of operation is far higher than marginal benefit to the society.

Though the determination to improve on the dismal condition of infrastructures is rightly placed, the plans laid out to move forward on this direction are not. The country needs short-term projects that would be completed in a year or two rather than mega projects that will take a few years to start construction work and a decade for completion. For instance, rather than mega hydropower projects, it would have been fruitful to aggressively go for small- to medium-size projects so that existing pressing demand could be satisfied. This would at least help to assuage the intermittent power crisis. Aiming for projects whose “study phase” would be longer than the life of the coalition government itself is just a waste of resources and time. Meanwhile, there was no need to introduce another ambitious, redundant plan to generate 25,000 MW of electricity in two decades at a time when there already was a plan to generate 10,000 MW in 10 decades.

Overall, Pandey’s budget lacks focus and direction and does not address the most pressing macro issues in the economy.

-----------------------------------------------------------------------

Here is more about the budget.

Here are the targets of the budget for fiscal year 2009/10:

Growth rate	5.5%
Agriculture sector growth rate	3.3%
Non-agriculture sector growth rate	6.6%
Total outlay	Rs 285.9 billion
Recurrent expenditure	Rs 160 billion
Capital formation	Rs 106 billion
Revenue generation	Rs 175 billion
Revenue-expenditures gap	Rs 109 billion
Foreign grant	Rs 57 billion
Foreign loan	Rs 21.6 billion
Domestic borrowing	Rs 30.91 billion

Joe Stiglitz profiled

Newsweek magazine has a profile of one of my favorite economists-- Joe Stiglitz

Stiglitz is perhaps best known for his unrelenting assault on an idea that has dominated the global landscape since Ronald Reagan: that markets work well on their own and governments should stay out of the way. Since the days of Adam Smith, classical economic theory has held that free markets are always efficient, with rare exceptions. Stiglitz is the leader of a school of economics that, for the past 30 years, has developed complex mathematical models to disprove that idea. The subprime-mortgage disaster was almost tailor-made evidence that financial markets often fail without rigorous government supervision, Stiglitz and his allies say. The work that won Stiglitz the Nobel in 2001 showed how "imperfect" information that is unequally shared by participants in a transaction can make markets go haywire, giving unfair advantage to one party. The subprime scandal was all about people who knew a lot—like mortgage lenders and Wall Street derivatives traders—exploiting people who had less information, like global investors who bought up subprime- mortgage-backed securities. As Stiglitz puts it: "Globalization opened up opportunities to find new people to exploit their ignorance. And we found them."

[…] "I was struck by the incongruity between the models that I was taught and the world that I had seen growing up," Stiglitz said in his Nobel Prize lecture in 2001. In the same speech he declared that the invisible hand "might not exist at all." The solution, Stiglitz says, is to move beyond ideology and to develop a balance between market-driven economies—which he favors—and government oversight.

Here is Krugman on Stigltiz:

Yes, Joe should be playing a bigger role — he’s an insanely great economist, in ways you can’t really appreciate unless you’re deep into the field. I’d say that he’s more his generation’s Paul Samuelson than its John Maynard Keynes: as with Great Paul, almost every time you dig into some sub-field of economics — finance, imperfect competition, health care — you find that much of the work rests on a seminal Stiglitz paper.