Size of shadow economy in Nepal

In terms of ranking, Nepal has 76th largest shadow economy (p.31) among the 120  countries considered by Schneider, Friedrich, Andreas Buehn and Claudio E. Montenegro (2010). The size of Nepal’s shadow economy is equal to about 37.5 percent of GDP, according to new estimates in WDR 2011. It is increasing since 2002. The average size of informal economy in South Asia is 34 percent of its GDP.

The latest WDR 2011 notes: “Shadow economies are a near universal phenomenon throughout the world. The shadow economy is commonly defined to refer to all market-based legal production of goods and services that is deliberately concealed from public authorities. The empirical method used in this paper is based on the statistical theory of unobserved variables, which considers multiple causes and indicators of the phenomenon to be measured, i.e. it explicitly considers multiple causes leading to the existence and growth of the shadow economy, as well as the multiple effects of the shadow economy over time. In particular, we use a Multiple Indicators Multiple Causes (MIMIC) model – a particular type of a structural equations model (SEM) – to analyze and estimate the shadow economies of 162 countries around the world. These estimates over the period 1999 to 2006/2007 suggest that shadow economies accounted for as much as 35 percent of official gross domestic product, on average, in 98 developing countries, 38 percent in 21 Eastern European and Central Asian countries, and 18 percent in 25 high-income countries in 2006. The major driving force toward informal economies seems to be high taxes (direct and indirect), combined with labor market regulations, the quality of public goods and services, and the condition of the “formal” economy. Across a broad set of countries, the model suggests that reducing taxes followed by a reduction in fiscal and business regulation will enhance of the appeal of work in the formal sector. However, the relative importance of these driving forces differs significantly across country groups.” [Source for WDR 2011: Schneider, Friedrich, Andreas Buehn and Claudio E. Montenegro (2010), Shadow Economies all over the World: New Estimates for 162 Countries from 1999 to 2007, Background paper for the World Bank study of the informal sector in Central, Southern Europe and the Baltic countries (Task number P112988).]

Mr. Cooperative-Distributor Finance Minister Adhikari’s White Paper

Finally, rather than following the media about news concerning white paper brought out by the Finance Minister (FM) Bharat Mohan Adhikari, I read the white paper itself (sorry, no English version yet). After widespread opposition from pretty much all fronts (except the UCPN(M) party), Adhikari eventually dropped the idea of bringing out a supplementary budget. But, as a reporter from Kantipur daily argued (sorry, couldn’t find the online link!), the white paper is a clever ploy to incorporate all the stuff that were to be in the supplementary budget and is largely along the UCPN(M)’s diktats. This might be an alternative to the supplementary budget Adhikari was talking about.

At the outset, let me argue that the white paper, which will form the basis for the upcoming budget of an expected size of over Rs 350 billion, is heavily distorted towards promoting cooperatives in any form and in any sector where specifics of financial flow can’t be precisely tracked. Private sector development appears as a halfhearted initiative left at the backburner of the entire initiative. If the upcoming budget comes up in line with this white paper, then FM Adhikari can safely be called Mr. Distributor. The budget might be a one-sector inclined cooperative budget at the cost of private sector and the crucial investments needed in sectors that are the binding constraints to growth in our economy. I can envision a slew of moral hazard issues with this kind of expenditure plan.

Aim of the white paper

• To redistribute economic sources and resources so that it is not concentrated on the hands of few people. To give priority to domestic private and public enterprises to ensure an independent, self-reliant and progressive economy.
• To induce socio-economic transformation by rolling out scientific land reform and ending feudalistic land distribution.
• To give priority to local communities while exploiting the country’s natural resources and to encourage farmers to increase production. Marginalized communities, women, children, elderly, and handicapped to be cared of and to be imparted scientific knowledge and given education and training.
• To overhaul existing economic and social structures, which are major constraints to economic development. To decrease poverty and inequality, production would be increased and poor people’s reach to it will be ensured.
• Public, cooperative and private sectors would be the drivers of progressive, prosperous, modern, justified, and inclusive New Nepal.

Good in the white paper

• A renewed focus on agriculture sector and land reforms (yet these are lofty goals that have been with us for a long time). Plenty of programs to boost agriculture production and distribution of food in food deficit areas. Demarking agricultural land and incentivizing people to produce food there. Discouraging real estate expansion in agricultural land. Food security is given priority.  A lot of support programs to increase agriculture production in some VDCs and communities. Various kinds of agriculture cooperatives (animal, vegetable, fishery, herbs, etc) are given priority.
• Protection of forests and promotion of forestry sector, especially entrepreneurs in this sector. Also, irrigation projects (small, medium and large) are to be promoted.  Increase fertilizer subsidies (hope there won’t be much leakages) and promotion of organic manure and fertilizers using byproducts from animal shed.
• Encouraging cooperatives of small farmers so that their combined land can be used to produce one product by using tractors, power tiller, and other small scale machinery and techniques. This could increase production and productivity, if it works as intended.
• Promotion of tourism sector. Commitment to book all tax evaders. Establishment of Infrastructure Development Fund with the involvement of private sector. Loads of big infrastructure projects.
• Tax break (both VAT and income tax) for the first 15 years if agriculture, vegetable, herbs and fruit processing plants are established in hilly region. Herbs Center to be established in Nepalgunj. Cardamom Development Center to be established in eastern hilly region.
• While acknowledging that high inflation is negatively affecting the people and even farmers, it argues that low food production, and political instability and uncertainty are driving general prices upward. It promises stronger market supervision against manipulation of prices. However, it never touches the issue of how black marketeering, deliberate withholding of inventory, and manipulation of prices by agents other than producers, wholesalers and retailers are contributing to push up general price level. (Note that on an average a 10 percent increase in food prices increases inflation by one percentage points.)
• Acknowledges that the rise in imports is unsustainable. Import of petroleum products constitute 17% of total imports and it is expected to rise further as power crisis intensifies. Almost 98 percent (up from 61% in FY 2065/66) of the the existing export earnings is being used to import petroleum products. Ease imports of petroleum products (but HOW?). Is the government ready to reform Nepal Oil Corporation (NOC) by breaking its monopoly and monopsony powers in the petroleum market? I guess NO because of the political and union pressures.
• Power generation (chiefly hydroelectricity) is given priority, but the details are dodged to a body that is to be formed to address the “energy crisis”.
• Increasing migration to urban areas and abroad for jobs is draining labor force in rural areas. Policies to address them are outlined but they might not be enough to provide enough incentives for youths to stay back in the villages. Expansion of youth self employment program could produce a number of entrepreneurs (mind you, like in other programs there will be some mis-utilization of this fund for sure).
• Providing food products at discounted prices from government depots. (Well intentioned, but media reports show that the price of rice set by Nepal Food Corporation is expensive than the price of rice in the market, especially after the construction of rural roads.)
• Addressing water shortage problem in Kathmandu and constructing overhead bridges. Also, funds allocated for feasibility study of various infrastructures such as city metro, railways, fast track roads, hydroelectricity, tunnel roads and more. Cooperatives are also to be promoted to work in these areas (but, one wonders how can cooperatives find massive amount of money required for even small infrastructure projects, especially low capacity community hydropower projects?).

Bad and ugly in the white paper

• The economic problems are not fully examined. Some of the major macroeconomic problems are not even mentioned there. It acknowledges that GDP growth rate will be 3.5%, below the target of 4.5%. Similarly, inflation would be 10%, higher than the expected 7%. It does not mention that we are running a BoP deficit, primarily due to increasing balance of trade deficit and a slowdown in the growth rate of remittances. It does not mention the fact that the industrial sector’s growth is one of the lowest in decades. So is the case with FDI and the reasons for low economic growth rate. The underlying causes of these are not even mentioned.
• The whole aim of the paper is to make grounds for massive redistribution of taxpayers’ and donor’s money in the name of cooperatives (whose nature and scope is as broad as the sky!). It will be reflected in the upcoming budget. This was the most prized aspect of the budget rolled out by former FM Babu Ram Bhattarai of UCPN(M) party. This is not only be continued but will be massively expanded by FM Adhikari. Any argument that aids the case for a huge cooperative sector is explored and included. Now, who is playing the music and who is dancing to it? You guess!
• Cooperatives are seen as a solution to the macroeconomic problems faced by the country. It is not a good idea. Even balance of trade deficit is being considered to be addressed by promoting cooperatives.
• The issue of power crisis is mentioned and solution is easily alluded-- as if everything in there will work-- to a recent decision by the cabinet to declare “energy crisis” and give a governing body sweeping powers that transcend the domain of several line ministries and Nepal Electricity Authority (NEA). The fact is that despite having so much potential for high rate of return, investors, both domestic and foreign, are disinclined to invest in this sector. The reason: unfair PPA agreements, disruption of already ongoing projects by villagers and workers who are usually incited by political parties, and threat to disruption of investment (especially Indian) by the UCPN(M), which sees India as the chief foe that is not letting Nepal grow and become prosperous. To a large extent, it has become a self-fulfilling prophesy in the Maoist party and the answer of last resort to all the pinning questions faced by its leadership.
• There is more emphasis on domestic production and domestic consumption. It is fine for the agriculture sector. But, it is not quite the right policy for non-agriculture sector. Some of the goods and services that we don’t and can’t produce should be imported and these are the goods and services on whose imports taxes have to be decreased to ease pressure on general price level. For those that can be produced but cannot compete with international prices, the market should not be distorted outright, but enough incentives should be given to domestic producers to produce the goods and services at a competitive price so that consumer welfare is not compromised.
• There is no mention of NTIS 2010. How can exports be promoted without even making policies in line with NTIS 2010, our main export promotion document and strategy? No strategies to support the entire supply/value chain involved in making an exportable product is outlined.
• Distribution of taxpayers’ money to sections of population (marginalized, conflict-stricken, women, dalits, …) without even creating benchmark for who qualifies and until when, i.e. no sunset clause. Are we going to distribute money to them for life or for a certain period so that they have incentives to get on their own foot for living? Okay, I get the idea of supporting this section of population. But, not forever. It has to end as some point of time so that there is no moral hazard problem in this well-intentioned policy move. It might well turn up into an easy way to dole out massive amount of state resources to party cadres and political activists. A better and productive way could be to blend these support programs with employment generation scheme like NREGA. Similarly, the programs of providing support for shallow tube well, irrigation, fertilizers and canals could be blended with rural employment generation schemes.
• Sloppy slogans like “Increase production, become self-independent”; “One Village, One Product”. Slogans alone won’t do any good. Did “Your village, build yourself” produce any significant result (other than increase in development expenditure as money was easily doled out to VDCs, but never tracked if it was properly used). Massive leakages occur when effective supervision is not there. Also, capture of such money by the elites is a typical phenomena in developing countries.
• Virtually no new programs and incentives for the private sector, which is left cold and dry by FM Adhikari. No sign of including the private sector even in infrastructure building, apart from the Infrastructure Development Fund.
• Resurrection of sick industries, especially small and medium ones. For what purpose? It will drain state resources for unproductive purposes.

The other parties, who are not on board with the current shaky and ineffective coalition government, should pressure FM Adhikari to correct the seemingly faulty policies and not let him easily distribute hard earned taxpayers’ money. We should have investment in productive sectors and activities. Short term band aid to the existing problems of low production, exodus of youths, and unemployment is not as sustainable solution to a prolonging crisis. We should bring about structural transformation in the sense that our economy relies less on agricultural sector and more on non-agricultural sector, but at the same time we produce enough to at least feed our population. Higher productivity in the agricultural sector should be the norm, not higher production and rerouting human and financial resources to this low wage sector.

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UPDATE (2011-04-18):  Here is an excellent editorial on the same issue published in Republica national daily. Some of the crucial issues (among them the very rationale for bringing out a white paper) I forgot to touch upon are discussed in the editorial.

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“The white paper on economy that the government unveiled this week seems nothing more than a smart aleck which will not do any good to the yawning economy. In fact, the government, knowingly or unknowingly, has abused the term “white paper”, as governments come up with such a paper after achieving stability following a war or long conflict or undergoes a sea change in governance system.

Thus, bringing such paper is rare worldwide and when done, it becomes an authoritative document shedding lights on all dimensions of the country’s economy, development and social status prevalent so far. However, the government has unveiled the paper even though the country has not undergone any such major changes that compel the government to release a white paper explaining the real status of the economy.

What was really disturbing was that the paper was full of plans and policies the government was eager to adopt, but it was less focused on presenting realistic summation of existing situation of the country’s economy and development,which are the essential components of a white paper. Judged by its contents, we believe it is merely a ‘concept paper’ and not a white paper as said.

And, in the parliamentary system and procedures we have adopted, the State’s plans, policies and programs are tabled at the parliament and widely debated before getting parliamentary endorsement. So, the ‘newly invented’ practice of announcing government policies and programs through a white paper is an unacceptable attempt of undermining the supreme right of the legislator that in the long run will weaken the parliamentary system.

In this context, what should be made out of the white paper that the government unveiled this week? Sadly, we think it carries no meaning at all. It only misleads the people, who are tired of the messy politics and weak law and order situation.

We believe that the government’s sole motive behind unveiling such a deceptive white paper is to hide its series of failures. Despite much commitment to take the ongoing peace process to a logical end and completing the peace process, the Maoist-UML government has not managed to induct even a Home Minister and given the cabinet a full shape. Even after two months in office, it has done nothing tangible to take the peace process and the constitution drafting process ahead, nor has it managed to deal with major economic problems, like taming high inflation and accelerating development works.

It has not devised any programs to revive the hope of the people. In such a situation, through the paper the government seems to be trying to be perceived as doing better by at least engaging the people with shallow promises. But, we think such a ploy will only add to people’s disenchantment. Hence, we urge the government to concentrate on making tangible progress on the ground, rather than making false promises."

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Interesting stats from WDR 2011: Conflict, Security and Development

Below are some of the interesting facts and figures from World Development Report 2011: Conflict, Security and Development:

• No low income fragile or conflict-affected country has yet achieved a single Millennium Development Goal. Violence is the main constraint to meeting the MDGs. 
• Poverty rates are 20 percentage points higher in countries affected by repeated cycles of violence over the last three decades.  Every year of violence in a country is associated with lagging poverty reduction of nearly one percentage point.
• 1.5 billion people live in countries affected by organized violence, either currently or recovering from political violence, fragility and/or high levels of homicide.
• People living in countries currently affected by violence are twice as likely to be undernourished and 50 percent more likely to be impoverished. Their children are three times as likely to be out of school.
• 42 million people (roughly equivalent to the entire population of Canada or Poland) are displaced today as a result of conflict, violence or human rights abuses. Of these, 15 million are refugees outside their country and 27 million are displaced internally within their own country. 
• Countries with recent human rights abuses are far more likely to experience conflict than countries with a strong history of respect for human rights. Each one-step deterioration on the five point Political Terror Scale - which measures arbitrary detention for nonviolent political activity, torture, disappearances, and extrajudicial killings - resulted in a more than 43 percent increase in the risk of civil war in the following five years.
• Countries with weak government effectiveness, rule of law, and control of corruption have a 30 - 45 percent higher risk of civil war, and significantly higher risk of extreme criminal violence than other developing countries.
• 90 percent of civil wars in the 21st century occurred in countries that already had a civil war in the previous 30 years.
• The global trade in cocaine and heroin, which are largely produced in countries affected by conflict and violence, is valued at $153 billion. The drug trade is the largest income component of global organized crime and is roughly comparable to the global total of official development assistance (ODA, which equaled $110 billion in 2010).
• It took the 20 fastest reforming countries in the 20 century between 15 and 30 years – a generation – to raise their institutional performance from very fragile to more resilient levels.  Specifically, it took 17 years on average to reduce military interference in politics and 27 years to reduce corruption to establish rules-based controls against corruption.
• Over the last 20 years, on average, a country with 20 years of violence experienced twice the volatility in aid flows of a country that did not experience violence. Revenue volatility has considerable costs for all governments, but particularly for fragile situations where it may derail reform efforts and disrupt institution building. 
• Maritime piracy is estimated to have direct economic costs of between $5.7 billion and $11.2 billion, including ransoms, insurance and re-routing. Global efforts to contain and deter it are estimated at between $1.7 and $4.5 billion in 2010.
• The economic spillover effects for countries affected by conflict are often huge. Countries lose an estimated 0.7 percent of their annual GDP for each neighbor involved in civil war.
• What drives people to join rebel movement and gangs?  In surveys conducted in six countries and territories affected by violence, the main reasons cited for why young people become rebels or gang members are very similar—unemployment predominates for both. This is not necessarily the case for militant ideological recruitment.
• What are citizens’ views on the drivers of conflict? In surveys conducted in six countries and territories affected by violence, involving a mix of nationally representative samples and subregions, citizens raised issues linked to individual economic welfare (poverty, unemployment) and injustice (including inequality and corruption) as the primary driver of conflict.

Story of Nepali migrants in the Middle East

Political instability in Nepal, too many unemployed youths, few opportunities for unskilled and low skilled labors, and the government’s apathy toward this group of population are forcing youths to do anything to go abroad for jobs. There risks of being swindled by agents and being deported are there, but they take a gamble. Eventually, some of them land in worse condition than they were in Nepal. The remittance inflows is keeping the economy afloat, but how long can this last, especially amidst the political turmoil in the Middle East?

Indecisive Finance Minister Bharat Mohan Adhikari

My latest op-ed is about the discussion surrounding budget (supplementary or/and full budget) in Nepal. The finance Minister is indecisive on the timing and nature of the budget itself. As with most of the former finance minsters, there isn’t anything remarkable in his tenure so far. But, he has done worse by creating confusion over budget, triggering the resignation of finance secretary, wavering on tax evasion scandal, and not taking into confidence the officials of his own ministry. Read the full article for more discussion. By the way, no op-ed pieces for the next two months.! :)

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Indecisive Finance Minister

Barely three months are due for the next fiscal year to start, but Deputy Prime Minister and Finance Minister Bharat Mohan Adhikari is still undecided about the possibility of supplementary budget. On April 3, during the Public Account Committee hearing, responding to lawmakers’ question about the budget muddle, he argued that the decision to quash or bring a supplementary budget was uncertain as of then, but a full-fledged budget for the next fiscal year would be prepared by May 3. While the officials at the Ministry of Finance (MoF) are perplexed at Adhikari’s arbitrary decisions and indecisions at the same time, Finance Secretary Rameshore Prasad Khanal resigned due to differences over supplementary budget, tax evasion scandal, and transfer of officials in the ministry.

As a citizen concerned about the future of the nation, one should ask why and for what purpose do we need supplementary budget. Or are there alternatives at this point in time? Adhikari argues that the coalition is looking for “alternatives to supplementary budget to deal with the new economic challenges.” Given our macroeconomic fundamentals, the progress of the already announced budget by former Finance Minister Surendra Pandey, and the state of development expenditures, let us be assured that no new economic challenges have emerged since the last fiscal year. In fact, we are in the same economic mess that we have been in since 2008. It is very likely that Adhikari is looking for alternatives not to address the economic woes, but, is bowing to pressures, to allow UCPN (Maoist) to freely dole out taxpayers’ money to their disgruntled political base.

Therefore, rather than procrastinating on the nature or existence of supplementary budget, Adhikari should have the guts to openly pronounce that even a discussion about supplementary budget is a distraction from addressing the major macroeconomic challenges faced by the economy. Period.

So far, Adhikari has failed to be a competent finance minister. He is chiefly responsible for creating an unnecessary situation where an honest civil servant like Khanal had to resign, reducing morale of the rest of the few competent and honest civil servants. To retain trust, if any remains in him, from civil servants and donor community, Adhiarki should not fail again by succumbing to the UCPN (Maoist)’s party-centered pressure to bring out a distributive supplementary budget in one form or the other. It does no good to the country, but to the few political cadres and parties.

The confusion surrounding supplementary budget has bewildered and diverted focus of MoF officials who are just preparing to review the performance of this fiscal year’s budget and to iron out budgetary allocations for next year. The officials who are responsible for preparing budgetary allocation based on priorities set by National Planning Commission and ruling parties are unaware of the deliberations on supplementary budget taking place at residences of political leaders. This is nothing less than trying to willfully play with tax payers’ money and state coffers. The value addition of such an expenditure plan is negative because only few will reap direct or indirect benefits from this.

Media reports indicate that left leaning political economists and analysts are preparing the expenditure and revenue plan without knowledge of concerned government officials. This comes out of desperation to show party cadres that something is being done by their leaders in power. Worse, the Maoist party duped its followers with grandiose promises that are next to impossible to fulfill in reality. The latest move might be an avenue to placate disgruntled political base, who are increasingly getting frustrated with the way party leaders like Pushpa Kamal Dahal have been hoodwinking them by promising them bounty that country’s economy cannot afford. What could be better way of silencing mounting grudges than by doling out money to political cadres at the cost of development and welfare of poor people!

Let us be very clear about the consequences of supplementary budget or its alternatives, which reports indicate are largely distributive in nature. It means Adhikari and coalition government are planning to allocate money to favorable “model” districts, VDCs and political organizations and cadres under various disguises such as priority development projects, self employment schemes, and social security/welfare. This will keep their political base happy for the time being, but will drain state resources and donors’ money. Worse still, internal and external loans to finance their political agendas will have to be burdened by future generations as per capita debt mounts on top of the already high rate.

Honestly, if Adhikari is concerned about the existing state of our economy and welfare of citizens of which approximately 78 percent live below $2 dollar a day, then he should unconditionally take responsibility for the fiasco at MoF, openly come out against supplementary budget or its alternatives, speed up tax evasion investigation by giving every tooth it needs, and aggressively work to bring out sustainable policies that will address the major macroeconomic challenges of our economy. Letting down the morale of a few honest civil servants amidst hundreds of dishonest ones sends a wrong message to the ones who are thinking of being honest and those that are aspiring to join civil service for the sake of this country.

Meanwhile, while preparing budget that will draw in expenditures from the tax payers’ pocket, all the established procedures (which definitely do not include preparing budget at political leaders’ residences without the knowledge of MoF officials) should be fulfilled. Adhikari has failed to do it and to stand by the very civil servants he is supposed to work with.

Our problems are clear, but positions of our political parties to address them are not. We are facing balance of payments crisis, ballooning trade deficit, high and sticky prices, impending financial disaster, eroding competitiveness of our products, declining exports, ailing industrial and manufacturing sectors, frequent labor disputes, industrial insecurity, stagnation in job creation and economic growth, acute power crisis, and lack of adequate infrastructures.

On top of this about 3.7 million people are at risk of food insecurity, and people are reeling under high fuel and food prices. Any new policies that will increase consumption expenditures (instead of investment spending) will further fuel prices, which will affect the poorest lot the most. Tackling these problems requires a fundamental shift in the way we allocate budget and prioritize sectors and projects.

Rather than addressing these problems, a budget designed to dole out money to party cadres and to favor political bases will further exacerbate them. Neither supplementary budget nor alternatives to it will address them in a matter of just three months. Adhikari most probably knows it pretty well, but is too feeble to not succumb to the UCPN (M)’s pressure. He should acknowledge that his indecisiveness and feebleness should not put taxpayers’ money at risk and drain state’s coffers to fulfill selfish political agendas.

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[Published in Republica, April 10, 2011, p.6]

Trade profile of South Asian LDCs

Trade profile of South Asian LDCs, 2008
LDC	WTO membership	Final bound tariff	Avg. applied tariff	Share in world exports		Share in world  imports
				Goods	Services	Goods	Services
Afghanistan	Process of accession	-	5.6	0	-	0.02	-
Bangladesh	Founding member	169.2	14.4	0.1	0.02	0.14	0.1
Bhutan	Process of accession	-	21.9	0	0	0	0
Maldives	Founding member	36.9	20.4	0	0.02	0.01	0.01
Nepal	Acceded in 2004	26	12.7	0.01	0.01	0.02	0.02

Source: World Trade Profiles, WTO (2009)

Despite having low average tariffs and liberal trade regimes, South Asian LDCs’ shares in global trade remain very low. Maldives graduated from the LDC club in 2010.

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.