Export promotion works!

The number of national export promotion agencies has tripled over the past two decades. Although more countries made them part of their export strategy, studies criticized their efficacy in developing countries. The agencies were retooled, partly in response to these critiques. This paper studies the impact of today's export promotion agencies and their strategies, based on new survey data covering 103 developing and developed countries. The results suggest that on average they have a statistically significant effect on exports. The identification strategies highlight the importance of EPA services for overcoming foreign trade barriers and solving asymmetric information problems associated with exports of heterogeneous goods. There are also strong diminishing returns, suggesting that as far as export promotion agencies are concerned, small is beautiful.

More from the paper "Export promotion agencies revisited"

More on trade policy and climate change, economic crisis, and Doha Round here

Gains from regional integration in South Asia

Regional cooperation can be the key instrument to promote increased market integration in South Asia through greater flow of goods, services, capital, and ideas. This is appropriate for a region which is the least integrated region in the world, although many countries share analogous cultures and histories, as well as a passion for cricket and curry.

It is also very timely given the global downturn and the slowdown in global trade. Increased regional trade could more than compensate for the potential loss in global trade. It is estimated that increased intra-regional trade could add two percentage points to South Asia's GDP growth. This could raise South Asia's real GDP growth from 6 % to 8 % in 2010. Unlike fiscal stimulus, increased market integration and regional trade could add to GDP growth, without increasing public debt. It is the most efficient and cost effective instrument for South Asia to cope with the global downturn.

It is lagging regions and the small, land locked countries, like Afghanistan, Bhutan, and Nepal, which will benefit most from improved access to the markets of others.

More by Ejaz Ghani here. My take on the gains from regional integration for Nepal here.

Labor dispute chases away FDI from Nepal!

Exactly the kind of thing the Nepalese economy does not want right now:

Amid worsening business conditions created mainly by Maoist-affiliated workers, Varun Beverage Nepal Ltd -- the bottler of Pepsi in Nepal, has decided to halt its production and also announced that it will not make further investments any other sector in the country including, expansion of Pepsi.

The workers have been agitating since Friday demanding the removal of the newly-appointed shift engineer Shivaraj Bhandari by the management. " The workers started showing their inhumane and illogical behavior just because the management didn´t pay Rs 3,000 in advance payment to one of the workers who in fact had taken the advance amount earlier," added Jaipuriya.

Jaipuriya had earlier announced investing Rs 1 billion in various sectors including Pepsi, housing sector and the newly opened KFC and Pizza Hut outlets. With this ongoing disturbance Jaipuriya has decided to drop the decision. The company was preparing to expand Pepsi plant in the Tarai as well.

Varun Beverages has recruited more than 350 individuals as permanent employees and they draw a minimum of Rs 10,000 as basic salaries.

More here

Regional integration in South Asia and export-led growth in Nepal

In my latest op-ed I look at if regional integration in SAARC (and BIMSTEC) would be better for Nepal or from the whole WTO bloc. Given the lack of benefits so far from the world trading bloc and minute expected benefits from the Doha Round, the gains from more regional integration looks higher and promising.

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Regional Integration & Growth

Nepal is one of the most open economies in South Asia. It is also the poorest economy in the region. Achieving high growth driven by exports has been one of the major objectives for at least two decades now. The period between 1990 and 1996 saw one of the most astounding increases in exports and an impressive economic growth rate (7.9 percent in 1994). With high hopes of stimulating exports and growth, Nepal joined the WTO on April 23, 2004, becoming the first LDC to join the trading bloc through full working party negotiation process.

With this came the end of MFA in 2005, leading to a collapse of Nepali garment and textile industry, once the main driver of export-led growth. The gains from trade liberalization (economic growth and development goals) under the WTO have been pretty dismal. Exports, as a percentage of GDP, have declined to 15 percent. Meanwhile, imports, as a percentage of GDP, are ever rising, reaching 37 percent in 2008. The manufacturing sector is going downhill, registering a negative growth rate. Annual economic growth rate has stagnated below 5 percent.

Given the clear lack of benefits from the WTO regime, is there still room for export-led growth in Nepal? The answer is yes, provided that we focus on full integration into the regional markets and in signing FTAs with countries that possess potential markets for Nepali exporters. This also includes instituting right measures on trade facilitation and specialization on products that are relevant and within purchasing power of customers in targeted markets.

Even the Doha Round, for whose completion negotiations have been going on since 2001, is not favorable to Nepal. A World Bank study showed that total gains from the Doha Round would be as low as $96 billion and only $16 billion would go to developing countries. Worse, half of all the benefits that would go to the developing countries would go to eight countries (Argentina, Brazil, China, India, Mexico, Thailand, Turkey and Vietnam). For South Asia, real income gains would be about US$2.5 billion. India alone is expected to gain US$1.7 billion. There is very little, if any, at store for Nepal from the Doha Round. Worse, terms of trade, the relative prices of a country’s export to import, is expected to be negative, putting further strain on exports.

The gains from further integration into the regional markets could be more fruitful than the gains from further liberalization under the Doha Round. The booming Indian economy, with which our market is the most integrated among all the other markets, provides a huge potential for Nepali exporters. Already 62 percent of total trade takes place with India. More than 70 percent of exports go to India and over 60 percent of imports come from India. There are more than 300 million potential customers in the bordering states that Nepali exporters could cater to, provided that they produce goods based on taste, preferences and purchasing power of the customers. Furthermore, Nepal could piggyback on the success of over $15 billion software service exports industry in India, if it could work on enhancing human capital and incubating business units based on the needs of the software industry. The two economies are expected to integrate and trade even more after the recently signed trade treaty.

Charting out strategies to fully integrate with other SAARC nations would also help to stimulate investment and exports. Nepal exports more to SAARC members than it does to other nations. Nepal’s export to SAARC, as a share of its total exports, increased from 53.9 percent in FY 2003/04 to 72.5 percent in FY2007/08. Meanwhile, imports, as a share of total imports, from SAARC increased from 53.9 percent in FY 2003/04 to 67 percent in FY 2007/08. In this regard, expediting integration under SAFTA (and BIMSTEC) would produce more gains than from any other trading blocs. These two blocs (plus China) could be the most important markets for Nepali exports in the coming days. The future of export-led growth would depend on how much Nepal can capitalize from integrating with these markets with huge potential.

Note that among South Asian nations, Nepal has the highest volume of trade flows and trade intensity, the ratio of Nepal’s exports to a destination (SAARC) to its exports to the world. In 2006, it was 42.4. Nepal also has high trade complementarity, the degree to which export pattern of Nepal matches with imports pattern of other SAARC nations. For South Asia as an export destination, Nepal’s trade complementarity was 55.2 in 2006, which means that there are more favorable prospects for a successful regional trade arrangement. Focusing more on regional integration is also important to increase investment. FDI from SAARC has increased from US$3 million in FY 1998/99 to US$30 million in FY 2007/08. From other regions, excluding SAARC, FDI decreased from US$29 million in FY 1998/99 to US$ 18 million in FY 2007/08.

It should be noted that just joining regional trading blocs would not be an elixir to all the problems ailing the Nepali exports sector. One of the main reasons why the export-led growth strategy failed was because of Nepal’s lack of competitiveness in the international market. This was caused primarily due to internal labor disputes and lack of trade facilitation. Internal trade disputes in firms led to a disruption in production, a halt in manufacturing activities, an increase in labor costs, and a severe dispute over wage and permanent employment status regardless of labor competence and productivity. This was compounded by regular strikes along the main highway and energy shortage, leading to production and supply bottlenecks, and an increase in transportation costs. Add to this 50 percent higher logistics costs than average for transporting goods from Kathmandu to Kolkata port, there is a huge cost disadvantage.

If these issues are properly sorted out in time, then growth could be spurred by exports to regional markets. Nepal should focus on production of goods and services that have market potential in the regional markets, that could be exported with comparative advantage, and that are consistent with preferences and purchasing power of targeted customers.

(Published in Republica. December 2, 2009)

Does poverty affect growth?

Recent theoretical literature has suggested a variety of mechanisms through which poverty may deter growth and become self-perpetuating. A few papers have searched for empirical regularities consistent with those mechanisms – such as aggregate non-convexities and convergence clubs. However, a seemingly basic implication of the theoretical models, namely that countries suffering from higher levels of poverty should grow less rapidly, has remained untested. This paper attempts to fill that gap and provide a direct empirical assessment of the impact of poverty on growth. The paper’s strategy involves including poverty indicators among the explanatory variables in an otherwise standard empirical growth equation. Using a large panel dataset, the authors find that poverty has a negative impact on growth that is significant both statistically and economically. This result is robust to a variety of specification changes, including (i) different poverty lines; (ii) different poverty measures; (iii) different sets of control variables; (iv) different estimation methods; (v) adding inequality as a control variable; and (vi) allowing for nonlinear effects of inequality on growth. The paper also finds evidence that the adverse effect of poverty on growth works through investment: high poverty deters investment, which in turn lowers growth. Further, the data suggest that this mechanism only operates at low levels of financial development, consistent with the predictions of theoretical models that underscore financial market imperfections as a key ingredient of poverty traps.

Full paper here.

Evolution of various proposals under the Doha Round

Antoine Bouet and David Laborde, in a short IFPRI short brief, discuss tariffs rate in five different proposals that have evolved since 2001 under the Doha Round. Here are some of the points:

• In 2001 the WTO launched a highly ambitious program of multilateral liberalization. Eight years later, concluding the negotiations remains uncertain, though an opportunity still exists.
• From the onset, the negotiations were complicated due to the high number of participants (now 153 countries) and trade regimes.
• Since 2001, many proposals have been brought to the negotiating table by the EU, the US, and the G-20. Because it is politically and economically acceptable to many parties, the final December 2008 package could be the basis of an agreement.
• An evaluation of these various proposals shows that trade negotiations have been following country-strategic interests. For instance, in eight years, the agricultural market access tariff-reduction formula has grown more ambitious, but additional flexibilities have offset delivered market access.
• The December 2008 package would reduce average tariffs by 27 percent. This has to be compared to the 29 percent reduction involved by the Harbinson and Girard proposals of 2003 and the 49 percent reduction in world protection of a very ambitious 2005 US proposal. Both the G-20 and the EU proposals from 2005 were intermediate, with a cut in average applied tariffs of around 36 percent.
• The December 2008 proposal implies a reduction of agricultural protection by 6 percentage points in high-income countries and 0.5 percentage points in middle-income countries. Had the US proposal been applied, these figures would have been 12.4 and 4.7, respectively; had the G-20 proposal been applied, the figures would have been 8.9 and 1.2, respectively.
• Different scenarios imply losses for LDCs, reflecting eroded preferences and rising terms of trade for imported commodities (including food products).
• Under the December 2008 proposal, the protection faced by the agricultural exports of LDCs declines by 2.3 percentage points, while it falls by 4.6 percentage points for high-income countries. These figures are respectively 2.9 and 10.2 under the US proposal, and 2.7 and 5.7 under the EU proposal.
• Duty-free, quota-free market access given by rich countries to poor ones could boost the benefits of trade liberalization for the poorest, especially if it does not include product exemption and if the number of preference-giving countries is increase.
• South-South trade improvements will be limited in the Doha Agreement due to generous flexibilities, which allow developing countries to maintain high levels of protection.
• A very positive impact of the Doha Development Agenda is that it would reinforce binding commitments and reduce existing bound duties while also consolidating the unilateral preferences granted to least-developed countries into the multilateral framework.
• Trade negotiations have been been constrained by defensive interests.

Based on the most recent modalities package, the Doha agreement has an ambivalent impact on developing countries and does not offer enough to the poorest countries. It has to offer more in terms of market access and reduced trade costs. International cooperation needs to be extended further to other challenging areas for least-developed countries.

FDI policy and investment climate in Nepal

Ramesh Chitrakar evaluates FDI policy and investment environment in Nepal in a new ADB report (see chapter 7). The report is about intra-regional trade and investment in South Asia. Sadly, most of the chapters include South Asia as India, Pakistan, Sri Lanka, and Bangladesh (where did Nepal, Bhutan, Maldives and Afghanistan go?). It would have been really helpful if Nepal was also included in the chapter on textiles and clothing, which was Nepal's top export before 2005. The chapter dealing with Nepal has nothing new in terms of information but it is a nice aggregation of all the stuff that has been said about investment climate in Nepal in the past three years.

Here are some points from the report:

-Nepal's landlocked location, technological backwardness, and internal political conflicts have prevented it from fully developing its economy.

-To increase FDI, the government has introduced a "one-window" policy but it has not worked as there are too many procedures.

-Reducing savings-investment gap is one of the challenges of the government in terms of maintaining sound fiscal health.

Trade profile:

-Nepal's major trading partner is India (around 62% of total trade took place with India)

-Nepal's export to SAARC as a share of its total exports ranged from 53.9% in FY2003 to 72.5% in FY2007, and of this India's share ranged from 97.5% to 98.4%.

-After India, Nepal's largest export partners during FY2003-FY2007 were the US, Germany, UK, France, Italy, Canada, Japan, Bangladesh, and Spain.

-Imports from SAARC ranged from 53.9% to 67% as a share of total imports during FY2003-FY2007.

-Major countries from where Nepal imports are India, PRC, Indonesia, Singapore, US, UAE, Thailand, Japan, Malaysia, and Saudi Arabia.

-Nepal needs to diversify trade inside and outside SAARC, which is clearly its main market.

-It needs to sort out differences in trade agreements with India-- problems in sanitary and phytosanitary requirements; complex quarantine rules on agricultural products; uneven implementation and interpretation of trade treaty's measures by state governments in India; disagreements on customs clearance procedures for cross-border rail operations (Banlabandh Marg is of little use) [some of these issues have been addressed in a recently signed trade treaty between India and Nepal but some issues on CVD remain)

-To integrate fully in the WTO system, Nepal has to address its domestic and border regulatory constraints (red tape, public service delays, labor laws, and industrial relations)

-Textile and carpet sector has been hit hard by the end of MFA.

-Nepal's proximity to the PRC and India offers opportunities for trade.

Lack of competitiveness arises from geography, policy, and institutions; low productivity and poor business climate due to government instability, inefficient government bureaucracy, corruption, and inadequate supply of infrastructure; high transportation and energy costs, rigid and formal labor market, poor work ethic of the labor force, poor industrial relations, domestic conflict...

-limited backward linkages and unable to keep up with technological developments

Infrastructure: by mid-March 2007, total road length reached 17609 kms, of which 5222 kms were metaled, 4738 kms graveled, and 7649 kms fair-weather roads; 47 airports, with four under construction; costly and unreliable infrastructure, high transportation and transaction costs

Resource endowments: water and hydropower high potential; forest covers 42.4% of landmass and provides 79% of total energy consumption and more than 90% rural household energy needs; labor force is about 1.1 million but skilled labor force lacking with serious brain drain problem, low labor costs...

RTAs: SAFTA is expected to be beneficial as it offers a huge market access; it covers more than 4000 items, most of which are nontradable; need to bring services under SAFTA; Nepal has a special agreement with the PRC for reduced tariffs no trade with Tibet; member of BIMSTEC, which is expected to be finalized by 2017; has preferential access to the EU under the Everything But Arms initiative; not much hope from the WTO…

FDI: first concerted effort to attract FDI came in 1987 with the passage of the Industrial Policy and Industrial Enterprise Act; joint ventures but telecommunications, hydropower, and air transportation were not opened up; in 1992 it introduced the Foreign Investment and Technology Transfer Act and established Investment Promotion Board; then came the one-window policy act; double taxation agreements were signed with India, PRC, Austria, Korea, Mauritius, Pakistan, Sri Lanka, Norway and Thailand with more coming; investment protection agreements with France, Germany, and the UK.

-the flow of FDI has been pretty dismal; flowed mainly in tourism sector and manufacturing

-57 countries had made investments in Nepal by mid-November 2007, of which 39.3% of investments in terms of project costs, 36.4% in terms of total fixed costs, and 44.5% in terms of total FDI were made by SAARC countries (mainly from India).

-some firms closed due to hostile labor relations and unstable political environment with poor regulatory structure

-lately the government has opened up all sectors to FDI except for defense, cigarettes, bidi (a small hand-rolled, often flavored, cigarette), and alcohol

-100% repatriation of equity invested, dividends obtained from foreign investments, and amount received as payment are allowed

-No legal impediments in registering mortgages or repossessions... but, some of the incentives offered in 1992 are being rolled back like reinvestment allowance in the form of deductions from taxable income of up to 40% of investment in expansion or modernization (withdrawn in 2002) and corporate tax rebate of 10% for high local content was removed.

-Priority sectors include services, medicinal herbs, vegetable and flowering seeds production, honey production, hydropower, petroleum exploration, and natural gas exploration

-Business unfriendly legislations: the Labor and Trade Union Act enacted recently permits strikes and requires unions to be affiliated with political parties [it was a disaster decision!]; Bonus Act requires that workers get 10% of yearly profits as bonus regardless of improvements in productivity; Electricity Act has limited bonuses of workers to 2% of yearly profits in the hydropower sector; industrial strikes by labor unions are a major constraint; 50% of the manufacturing workforce is composed of casual workers, who earn the same wage as permanent workers, but who have less job security and fewer fringe benefits.

-Customs and transshipment delays can account for as much as 55% of the logistics costs of sending certain types of goods from Kathmandu to Kolkata, instead of 25% on average for other international routes; it also delays travel time by about 3 to 8 days

-SEZs projects were initiated in 2003 to attract FDI and achieve high economic growth; SEZs at various stages-- Bhairahawa EPZ (under construction); Birgunj, Panchkhal, and Nuwakot SEZs (pre-feasibility studies carried out); clothing processing zone to be established in Simara; studies for more SEZs in Nepalgunj, Kailali, and Kanchanpur.

-Bilateral investment treaties agreements with France (1983), Germany (1986), the UK (1993), Mauritius (1999); no such agreements with India, the US, and PRC; investment agreements in the pipeline with India, Belarus, Qatar, Russia, Sri Lanka, and Thailand; SAFTA and BIMSTEC offer opportunities; double taxation agreements and prevention of fiscal evasion with several countries

-In 2007, total employment provided by approved FDI projects exceeded 180,000 with manufacturing other than textile and clothing accounting for around 35% of this total, followed by T&C with around 20%, and tourism with 9%; No domestic firms have been displaced by foreign manufacturing, tourism, or financial firms.

Constraints: small domestic market and infrastructural problems due to geography (landlocked and mountainous); low labor productivity leading to higher production costs; delays at customs and transshipment to India's Kolkota port; high costs of transport and power; a rigid and formal labor market; lack of labor-employer cooperation; weak policy and institutions in the areas of taxation, investment, and trade promotion; conflict; poor work ethic of the labor force, corruption; weak trade facilitation

FDI potential: access to markets in India and China, India has guaranteed duty-free access to most Nepalese manufactures and an agreement is due with China to designate Nepal as a tourist destination; abundance of natural resources (agriculture sector has high potential; has five climate zones); low tariff rates and a liberal foreign exchange regime and accessibility of the bureaucracy; potential sub-sectors: agriculture, and agro-based industries, flowers and flowering plants, Pashmina (third-largest export item with a share of 10.4% of overseas exports in FY2007), tourism, health and health education, IT, freight forwarding, nursing homes, construction; could piggyback on $10 billion software export industry of India.