Update on the Nepali economy—ADB version

The latest Asian Development Outlook 2011 has a 4-pager update (authored by Yubraj Acharya, ADB Nepal Resident Mission) on the Nepali economy. It states that political uncertainties, unfavorable weather, and weakening remittances from abroad impacted economic growth in last fiscal year.  It projects growth rate to fall below 4 percent in FY2010/11, reflecting the “protracted post-conflict transition process”.

The ADB estimates Nepal’s GDP growth rate to be 3.8% in FY2010/11 and 4.0% in FY2011/12 (assuming favorable monsoon and weather). Inflation is estimated to be 10% and 8% in FY2010/2011 and FY2011/12, respectively. Current account balance (share of GDP) is expected to be negative 0.5%. The GDP growth projections of the World Bank and the ADB are pretty much similar. Earlier, the WB projected that Nepal’s real GDP growth to be 3.7% and 4% in 2011 and 2012, respectively.

The ADB is hopeful that tourism and more vibrant construction activity will modestly boost growth in FY 2011/12. Meanwhile, agricultural sector is expected to grow by 4% in FY2010/11, up from 1.3% in FY2009/10. This is expected to have some push on GDP growth rate as the performance of the agricultural sector has a heavy weight on growth in Nepal. But, delay in completion of the transition, high food and oil prices, and the impact of the unrest in the Middle East (primarily hitting remittances inflows) are the major risks to the economy.

The higher growth rate in FY 2009/10 (4%) than that in FY 2008/09 (3.8%) is attributed to increased economic activity in small industrial sector (thanks to fewer political strikes) and the expansion of services sector. Deceleration in the growth rate of remittances and excessive lending to real estate led to liquidity crunch in the banking sector.

The ADB notes that high food-inflation in India and low domestic crop production was the main source of high inflation in the economy. These are two of the causes. The report misses to mention the role of high global food and fuel prices starting 2008 as the main source of inflation that has remained sticky ever since. The other factors that are having a drag on domestic prices are supply bottlenecks due to extended periods of bandas and strikes, leading to shortage of essential items. Additionally, hoarding, black marketeering, deliberate withholding of supplies and inventory, and agricultural trade hurdles imposed by our neighbors contributed to keeping prices higher even after the normalization of market forces in the domestic economy. Here is an article that details why there is such a high level of sticky prices in Nepal.

Anyway, the report notes that exports are decreasing due to low productivity and infrastructure bottlenecks, leading to eroding competitiveness. It should also be noted that protracted energy crunch, labor militancy, and supply side constraints are also weighing heavily on the loss of exports. Imports surged more last fiscal year because of high gold imports, which has become a hot investment commodity after the squeeze in real estate market. The widening trade deficit and decelerating growth rate of remittances pushed current account deficit to 2.7% of GDP last fiscal year from a surplus of 4.2% of GDP the year before.  The official reserves declined by US$113 million and Nepal drew US$42 million from IMF’s Rapid Credit Facility to offset external shock.

The ADB expects that further monetary tightening will not happen as real estate activity is already slowing down and the expected moderation of price levels in India will put less pressure on prices in Nepal.

Nothing major new or enlightening stuff to guide policymaking is in the brief report. But, it is a good rundown of the state of major macroeconomic variables and how the events of last year impacted them.

Growth, inflation and poverty in Asia

Asia and the Pacific is poised to grow at 7.8% in 2011 and 7.7% in 2012, according to Asian Development Outlook 2011.The projected growth rates are lower than the 9% posted in 2010, but the ADB projects that the region will continue its firm recovery from the global economic crisis.

But, inflation remains a major worry. It argues that inflation will need to be carefully managed using a mix of policy measures, including more flexible exchange rate management and coordinated capital controls, rather than simply relying on tighter monetary policy. After expanding at 4.4% in 2010, consumer prices are set to accelerate further to 5.3% in 2011 before easing back slightly to 4.6% in 2012.

South Asia will maintain its recent robust economic performance with forecast growth of 7.5% in 2011 and 8.1% in 2012, following a 7.9% expansion in 2010. India's 2010 performance was particularly strong and broad-based, even with fiscal consolidation and monetary tightening, and the economy is set to strengthen further to post 8.2% growth in 2011 and 8.8% in 2012. Pakistan's devastating floods weighed on its growth performance, while the end of the conflict in Sri Lanka continued to help underpin its economic expansion. In January, the World Bank projected South Asia’s real GDP growth accelerated to an estimated 8.7 percent in FY2010-11 from 7.0 percent in FY2009-10, buoyed by very strong growth in India, which represents 80 percent of regional GDP. It projected South Asia to grow by 7.7% and 8.1% in 2011 and 2012, respectively.

More findings from the report (sourced from Real Time Economics blog):

• Should food and oil prices rise 30% in 2011 and not fall too sharply in 2012, economies of developing Asia (China, Hong Kong, India, Indonesia, South Korea, Malaysia, Philippines, Singapore, Taiwan, Thailand) would together see a 0.7 percentage point hit to growth.
• The same scenario of 30% increases in 2011 would add 1.7 percentage points to inflation. The projected impact would be highest in India and Singapore in 2011, where inflation would rise by more than 2 percentage points each. Oil, rather than food, would have a bigger impact on inflation.
• ADB calculates that for every 10% increase in local food prices, the percent of poor people in Asia, calculated as living on less than $1.25 a day, goes up 2 percentage points, to 29% of the population. That’s an additional 64 million people living in poverty because of higher food prices.
• Should local food prices go up 30%, that would increase Asia’s poor to nearly a third of the overall population, or 1 billion people.
• South-South cooperation: Strengthening economic links between countries in the South can create new global growth that can take up the slack left by cooling demand from industrialized countries in the North, according to a special chapter on “South-South Links”. Much of the growth in South-South trade has been driven by "Factory Asia", where intermediate goods sourced from the region are assembled in the People's Republic of China and other local manufacturing hubs before being exported to final destinations in the United States and Europe. South-South trade between Latin America, Africa and the Middle East has grown rapidly but still remains comparatively small.
• India’s growth: India's economy will remain robust over the next two years although growth is expected to moderate in FY2011 as slower external demand and tighter fiscal and monetary policies weigh on expansion, and as high oil prices remain a threat. Improved agricultural output, strong private consumption, robust investment, and a pickup in exports supported growth in FY2010. Gross domestic product in the year to March 2012 (FY2011) will expand by 8.2% down from an estimated rate of 8.6% for FY2010. For FY2012, growth is expected to bounce back to 8.8% as investment and overall economic activity pick up and as planned reforms move forward. At the same time, continued inflationary pressure, a pullback in private investment and structural obstacles present challenges going forward. Fiscal and monetary policies will also remain less accommodating than in the past as the government follows its fiscal consolidation road map and the Reserve Bank of India acts to anchor inflation expectations. The government needs to tackle structural constraints including the poor agriculture supply chain and farm productivity. A positive start has been made with programs to remove production and distribution bottlenecks for farm products and these steps should continue, the report says. Transforming manufacturing by reducing infrastructure bottlenecks and investment hurdles linked to labor regulations, land acquisition and environmental clearances should also be addressed.
• China’s growth: Slowing investment and exports will see growth in the People's Republic of China (PRC) moderate in 2011 and 2012.the economy is likely to expand by 9.6% this year and 9.2% in 2012. It grew by 10.3% in 2010, on the back of a strong recovery in exports and a rebound in investment and consumption. Fixed asset investment will remain a key driver of growth over the next two years, the report says, although the rate of expansion is set to decelerate slightly from past levels due to the winding back of fiscal stimulus measures and tighter monetary policy. However, a moderation in export and industrial output growth will offset this somewhat as demand from major markets remains sluggish and as tax rebates on some export products expire. The inflation rate, which averaged 3.3% in 2010, will pick up to 4.6% in 2011, lifted by abundant liquidity and higher food and commodities prices, before easing back to 4.2% in 2012 as commodity prices level off. The report notes that the PRC's rapid shift from a low to middle income economy over the past three decades has been accompanied by widening income gaps, widespread environmental damage and underdeveloped services. To support inclusive and sustainable growth, the Government will need to undertake broad policy adjustments such as increased public service spending, more financial sector liberalization, develop capital markets to help small enterprises and the self-employed access credit, and increase the role of the private sector.

Impact of climate change on poverty

Since a large chunk of the population in developing countries depends on agriculture sector for their livelihoods, they are the most vulnerable to the effects of climate change. They depend more on agriculture and other climate-sensitive natural resources for income and livelihoods. Calculating the impact of climate change on poverty is difficult due to complexities involved in the analysis. Mainly three methods are used by researches, according to Skoufias, Rabassa, Olivieri and Brahmbhatt (2011) in a latest economic brief: (i) economic growth models incorporating climate change impacts to work out various scenarios of how climate change affects the path of poverty over time; (ii) sector-specific channels through which climate change affects poverty, the intensity and heterogeneity of such impact, and appropriate policy responses; (iii) explore the impact of current climate variability on poverty and then the impacts of increased variability on future poverty.

The authors use three growth scenarios and estimate its impact on poverty using the Regional Integrated Model of Climate and the Economy (RICE) developed by Nordhaus (2010). The three scenarios are baseline scenario with a world without climate change, business as usual (BAU) scenario, and optimal abatement (an emission abatement path with full participation by all countries that maximizes global intertemporal economic welfare).

In a no climate change scenario, annual global per capita output growth rate would be 2.2% up to 2055, contributing to more than halving the world poverty rate at $2 a day level to 14.1% by 2055. Under BAU scenario with climate change, world GDP in 2055 would be 1.5% lower than in the baseline and the estimated number of poor people in 2055 would be modestly higher by 10 million (with most of the poor living in Africa and South Asia). Under the optimal abatement scenario, the expected number of poor people would rise by 9 million by 2055. This is because unlike in adaptation measures that benefit poor countries, most of the benefits under optimal abatement of emissions would accrue to higher-income countries.

This is the overall impact of climate change on poverty at the global level. However, its impact in and within countries is different. The heterogeneity of climate change impacts on poverty are linked to geographical location and specific household characteristics (if households are net producers or consumers of agricultural goods; income sources; types of assets owned; ability to adapt; and ability to access credit or safety nets).

Assuncao and Chein (2009) estimate that, on average, agricultural output per hectare could decrease by 18% by 2040 as a result of climate change, but at the municipality level, the impacts could range from a decease of 40% to an increase of 15% in Brazil.

Meanwhile, in India, increased mean surface temperature could lead to a 13% reduction in agricultural productivity by 2040 (Jacoby, Rabassa and Skoufias 2011). But, this would decrease average per capita consumption of rural households by only 6% as they derive more income from their labor endowment. For the Indian rural population as a whole, climate change could increase rural poverty between 1 and 6 percentage points by 2040 when compared to counterfactual of zero warming. Also, climate change’s impact falls more heavily on the poor than the rich. The authors also find that autonomous adaptation by Indian households (changes in cropping patterns, input use, and technology) reduces the average long-term loss in per capita consumption from climate change by about half (with weather shock the decline in per capita consumption is 11%; with autonomous adaptation, it is 6%).

The importance of core inflation

Larry Meyer quoted in The Economist’s Free exchange blog post about the importance of core inflation (general prices excluding energy and food prices). He argues that headline inflation tomorrow will converge to core inflation today. So, it is important to also focus on core inflation today to see where headline inflation will go in the future:

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“Why do we, as forecasters, and the FOMC in its own forecasts, focus on core inflation? The question should not be whether I buy groceries and gas, but whether headline or core inflation is a better measure of where headline inflation is likely to settle once overall prices have adjusted to the higher prices of energy and food. As forecasters, we want to know not only what (headline) inflation is today, but also, and much more importantly, where headline inflation is likely to be tomorrow (the medium term). Identifying a measure of underlying inflation gives us a good head start...

Our thesis, and the FOMC’s position, is that headline inflation converges to core, that is, headline inflation tomorrow will fall towards core inflation today. Whether or not this is a valid thesis is an empirical question...If you test whether higher oil prices raised core inflation over the 1970s and early 1980s (or in samples that include this period), the answer is a definitive “Yes” (higher oil prices pass through to core inflation). In this case, core inflation tomorrow will converge to headline today. However, if you test this hypothesis over the subsequent period, from the mid-1980s to today, the answer is “No” (no pass-through). In this case, headline tomorrow will converge to core today. This is the basis for our forecasts...

The Fed has built credibility over the last two decades: Long-term inflation expectations are stable, have been stable for more than a decade, and are likely to remain so. This means that spikes in food and energy prices do not get translated into expectations of higher inflation down the road and, thus, do not lead to a generalized increase in prices, today or tomorrow. So the critical question is whether inflation expectations are well anchored today—we believe that they are—and, more importantly, whether they are likely to remain so...”

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Per capita growth and children undernutrition

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“Lawrence Haddad, the director of the Institute of Development Studies at Sussex University, reckons that every 3-4% increase in a developing country’s income per head should translate into a 1% fall in rates of underweight children. In India the rate has barely shifted in two decades of growth. Per person, India eats less, and worse, than it used to. Mr Haddad calls the country the world’s Jekyll and Hyde: economic powerhouse, nutritional weakling. Over a third of the world’s malnourished children live there.”

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More in The Economist

Indian population at a glance, Census 2011

The Indian government has released provisional Census 2011 data. According to Census 2011, India has a population of 1.21 billion, up from 1.02 billion in 2001. Literacy rate in India is 74.04. Male literacy rate is 82.14 percent and female literacy rate is 65.46 percent. Population densticy is 382 persons per square kilometer. The sex ratio (females per 1000 males) is 940.

India's Census 2011
Population	Absolute
Total	1,21,01,93,422	1.21 billion
Males	62,37,24,248	623.72 million
Females	58,64,69,174	586.46 million
Decadal population growth, 2001-2011	Absolute	Percentage
Total growth	18,14,55,986	17.64
Males	9,15,01,158	17.19
Females	8,99,54,828	18.12
Population density (per sq. km.)	382
Sex ratio (females per 1000 males)	940
Population in age group 0-6	Absolute	% of total population
Total	15,87,89,287	13.12
Males	8,29,52,135	13.3
Females	7,58,37,152	12.93
Literates	Absolute	Literacy rate
Persons	77,84,54,120	74.04
Males	44,42,03,762	82.14
Females	33,42,50,358	65.46

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Links of interest (2011-03-30)

• Rameshore Khanal, an honest civil servant working as finance secretary of Nepal, resigned due to undue pressure from Deputy Prime Minister and Finance Minister Bharat Mohan Adhikary and his cronies (including businessmen who were about to be charged for tax evasion).  God knows how much Adhikary and the political parties are being paid by the crooked businessmen to oust Khanal from the finance ministry. This is corruption and dirty lobbying at its height. The morale of civil servants will further go down. The optimal solution right now is to take moral responsibility by Adhikary, resign immediately, and recall Khanal without any preconditions. He should also apologize to Khanal and to the nation for discouraging an honest and dignified civil servant from working to his fullest capacity. Meanwhile, Khanal writes on his facebook profile: “Paid Civil Service is not the only place where one can work for Change, Change for Good. There is a wider civil society where we can work together. We can work collectively for a change that our country needs.”
• South Asia and food crisis (About 75% of South Asia’s poor live in rural areas and agriculture sector employs about 60% of the labor force. With global food and fuel prices rising again, South Asia will be affected disproportionally. Regional inflation is already high and countries have limited fiscal space to maneuver.)
• Managing the food crisis in South Asia
• Exchange rate and trade regimes (Results suggest that both currency unions and direct pegs promote bilateral trade in Africa vis-à-vis more flexible exchange rate regimes, and that their effect is almost double for the region than that for an average country in the world sample.)
• Climate Change Risks and Food Security in Bangladesh
• The Middle East political crisis and remittances flows to South Asia (The small share of South Asian workers and limited remittance flows from Libya, Egypt, and Tunisia mean that direct and immediate impacts on remittance flows to South Asian countries overall will be limited. Gulf States employ more than 11 million expatriate workers, an estimated 8 million or more from South and East Asian countries. Saudi Arabia, the U.A.E, and Qatar are top destination for South Asian migrants and are main sources of remittance inflows.)

• Urgent actions needed to prevent recurring food crisis: Seven proposed initiatives by Shenggen Fan, Maximo Torero, and Derek Headey are as below:

1. Effective policies and technology investments to minimize food–fuel competition.
2. Social protection, especially social safety nets, for the most vulnerable groups.
3. Transparent, fair, and open global trade.
4. A global emergency physical grain reserve.
5. Policies and investments to promote agricultural growth, in particular smallholder productivity, in the face of climate change.
6. Investments by national governments in climate change adaptation and mitigation using the full potential that agriculture offers.
7. An international working group to regularly monitor the world food situation and trigger action to prevent excessive price volatility.