FDI, approved industries and employment in Nepal, 1989/90-2010/11

Here is a chart that shows total FDI inflows to Nepal, number of industries/firms and employment generation. Also, it shows the share of investment and employment of top ten FDI origin countries, and India’s agriculture investment share in total Indian FDI inflows.

Total FDI inflows from approved industries in 2010/11 was Rs 10.05 billion and approved industries/firms were 209 (total employment target was 10,887). Of this India’s share in foreign investment was 69.72 percent and share in total employment was 30.07 percent. Meanwhile, China’s share in foreign investment was 11.81 percent and share in total employment was 28.16 percent.

The total FDI approved in agriculture was Rs 367.12 million with employment target of 1337. The highest FDI approved was in manufacturing at Rs 6.134 billion, followed by tourism at Rs 1.184 billion. Of total Indian investment, share in agriculture was 1.55 percent in 2010/11, 81.73 percent in 2008/09 and 21.49 percent in 2007/08.

In the figure above, you can clearly see the surge in FDI immediately after liberalization of the economy in the early 1990s. It declined for the next two years and then increased for two years. The onset of Maoist insurgency and its gradual intensification led to decline in FDI up until 200/01, which it increased and then the total FDI inflows have been erratic up until 2004/05. Both FDI and employment generation are in upward trend since then. That said, the dent in 2008/09 might be because of the impact of global financial and economic crises.

If you are wondering about how Nepal stands wrt FDI inflows to regional nations, then the figures look disappointing. FDI inflows to Nepal in 2010 was just $38.99 million. In contrast, India’s was $24.64 billion. The latest (2011/12) FDI inflows to India  was a record FDI of $46.8 billion.

So, what are the main constraints to FDI inflows to Nepal? Some of them are:

• Political instability/strikes
• Lack of appropriability of returns to investment
• Militant trade unions
• Inadequate supply of infrastructure (power and road network)
• Policy inconsistency
• Increasing cost of doing business

For solutions, read this. (The hope is that the newly formed Nepal Investment Board will encourage investors to come to Nepal. Btw, does anyone have any idea about NIB’s website?)

• Political stability (if it can be achieved!)
• Taming labor militancy and smoothening industrial relations
• Policy consistency on key issues related to investment regime and sectoral support
• End of syndicates, which foster uncompetitive practices and charge high fares
• Credit at low interest rate to key sectors where we enjoy comparative advantage consistent with our land, labor and capital resource endowment
• Emergency measures to supply power for at least two shifts in manufacturing plants
• Fast track endorsement of investment plans and lowering cost of doing business in Nepal
• Enactment of SEZ bill
• Industrial security

[Update 2012-07-06: FDI from approved industries has been updated.]

Will flat cash incentives for exports work in Nepal?

The FNCCI, following a strong lobby by GAN, has asked the government to extend at least two percent cash incentives to all exports, irrespective of value addition and destination. Currently, the government offers two percent of total export revenue as cash incentive if there is 30-50 percent value addition, three percent for 50-80 percent value addition and four percent for over 80 percent value addition.

The main purpose of cash incentives scheme is to increase exports and reduce trade deficit. Just by giving cash incentives won’t achieve this because the cash incentives received by exporters will hardly be reflected on the price of final exported items. Cash incentives are given after goods are exported and they do not necessarily boost price competitiveness. As of now it is a misplaced export incentive with too much bureaucratic hassles to claim cash (plus incongruous with other policies’ emphasis on domestic value addition together with employment generation).

Quick comments:

• Cash incentives won’t be directly reflected on the price of final exported items. Hence, it won’t directly boost price competitiveness. It might just compensate the lost revenue due to high cost of production arising from exogenous factors to the firm/sector in question (e.g. load-shedding and cost of diesel, strikes, bandha).
• Conditioning cash incentives on value addition is one hook for not letting the scheme be inefficient. It should be further linked to employment generation as well, i.e. offer such incentives to those strategic sectors that have both high value addition and high employment generation. See this presentation for more on this.
• Cash incentives or other export promotion measures should be designed keeping in mind the factors/determinants that boost competitiveness of manufacturing sector: government forces (education policies, energy policies, economic, trade, labor, financial and tax policies, science and technology policies, manufacturing and infrastructure policies); capabilities (innovation, technology, process, infrastructure); market forces (demographic, macroeconoimc environment); and resources (human, materials, energy, financial).
• Fundamentally, export incentive packages that increase productive capacity and address binding constraints to exports growth work more often than simply doling out cash based on certain value addition criterion. The same amount of money can be used to construct roads up to manufacturing plants or to provide credit and concessional loans to emerging entrepreneurs or to subsidize insurance premium during transportation of goods to the nearest port in India or to construct the much needed special economic zones. These measures will help enhance our exports and add to productive capacities more than the cash incentives.
• Cash incentives as of now is unlikely to alter Nepal’s export destinations and composition of export basket.
• Competitiveness of Nepali export items is going down. The main reasons are: lack of adequate supply of infrastructure, political instability/strikes, labor problems, lack of innovation by private sector, and government’s inability to implement key reforms enshrined in major policy documents. The state of trade facilitation in Nepal is pathetic, ranking 124 out of 132 countries. Nepal has the fifth worst logistics efficiency in the world. Supply-side constrains have eroded competitiveness to a great extent. Cash incentives for exports won’t directly address these problems. If these issues are resolved (by both government and private sector), then you won’t need cash incentives to boost competitiveness  (if it can!) and exports and to reduce trade deficit.

Infographic: The two sides of food crisis – food shortage vs. food wastage

Created by: PublicHealthDegree.com

More here

Improved highways and performance of firms

Saugato Dutta finds that firms along the Golden Quadrilateral, a major highway project in India, reported decreased transportation obstacles to production, reduced average stock of input inventories (by about a week's worth of production), and a higher probability of having switched the supplier who provided them with their primary input. Firms in cities where road quality did not improve displayed no significant changes.

Here is the abstract of the paper:

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India's Golden Quadrilateral Program, a major highway project, aimed at improving the quality and width of existing highways connecting the four largest cities in India. It affected the quality of highways available to firms in cities that lay along the routes of the four upgraded highways, while leaving the quality of highways available to firms in other cities unaffected. This feature of the project allows for a difference-in-difference estimation strategy, where status on and off the improved highways, and distance from them, are used as treatment variables. This strategy is implemented using data from the 2002 and 2005 rounds of the World Bank Enterprise Surveys for India. Firms in cities affected by the Golden Quadrilateral highway project reduced their average stock of input inventories by between 6 and 12 days’ worth of production. Firms in cities where road quality did not improve showed no significant changes. The reduction in stocks of input inventories also varied inversely with the distance between the city in which a firm was located and the nearest city on an improved highway. Firms on the Golden Quadrilateral were also more likely to have switched the supplier who provided them with their primary input, suggesting that they saw reason to re-optimize their choice of supplier after the arrival of better highways. Consistent with these findings, firms on the improved highways reported decreased transportation obstacles to production, while firms in control cities reported no such change.

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Two oil survey/exploration companies pulling out of Nepal

Texana Resources Company and Cairn Energy are stopping survey work citing “force majeure”, which “frees a party from fulfilling an obligation in the event of circumstances going beyond its control.” The reason given by the two companies: bureaucratic hurdles and lack of cooperation from the government.

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The Houston-based Texana flashed its plans on June 1 while Cairn, a Scottish oil and gas company, did so on June 8. Officials at the Department of Mines and Geology confirmed that the two companies had announced their plans to stop work. This is not the first time that Texana and Cairn have invoked force majeure. They have halted work in the past citing volatile political and security situation.

Both have already spent millions of dollars in Nepal on preliminary surveys and were now all set for a 'seismic operation,’ which determines whether the surveyed areas contain commercially viable quantities of oil. To date, Texana has spent US$3 million and Cairn US$20 million in the country. The two companies pay an annual fee of US$ 50,000 per 'block’ to the Nepal government. They have also deposited US$ 400,000 each as bank guarantees.

Six years later, Cairn received a licence to explore five other blocks--Block 1 (Dhangadhi), Block 2 (Karnali), Block 4 (Lumbini), Block 6 (Birgunj) and Block 7 (Malangawa).

But trouble started brewing in December 2011 when Texana applied to the Department of Mines to transfer its rights and obligations to the Canada-based Patriot Petroleum Corp. Texana and Patriot had signed a sales and purchase agreement under which Texana would assign to Patriot all its interests under a petroleum agreement for exploration of Block 3 (Nepalgunj) and Block 5 (Chitwan).

Clause 64 of the Nepal government and Texana agreement allows the US-based company to transfer its project to any other company, and the government has to endorse it within 60 days of request. Till date, the Department of Mines has not approved Texana’s application.

Cairn had asked the department to amend its work plan one-and-a-half-years ago in order to address a request for a new work plan, which is yet to be endorsed. “Our decision to declare force majeure is primarily based on the government's delay in endorsing our work plan amendment,” said Bharat Gyawali, the local representative of Cairn.

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I smell corruption here! Btw, in 2010, FDI inflows to Nepal was just $38.99 million.

Changing composition of and destination for exports and imports of Nepal

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

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

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

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

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

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

Few observations:

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

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(Relevant tweet for the figure above here)

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

Resource Raj replacing License Raj in India

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

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

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

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

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

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

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

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

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

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

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

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