The strict lockdown to contain the spread of SARS-CoV-2 and supplies disruptions are wreaking havoc on the economy. It is going to push many vulnerable households below the absolute poverty line and will likely increase inequality. According to the latest projections, gross domestic product growth will fall sharply to 2.3 percent in the fiscal year 2019-20, much lower than the 7.1 percent last fiscal and the government’s pre-Covid-19 target of 8.5 percent.
A sudden lockdown, coupled with the lack of contingency plans to smoothen consumption, supplies and housing, has inflicted appalling hardships on migrant workers and the poor and vulnerable. Similarly, businesses are facing financial stress or are outright bankrupt. The economy urgently needs a fiscal relief package for the vulnerable population and micro, small and medium enterprises (MSMEs), followed by a recovery package after the spread of Covid-19 is largely contained. However, effective last-mile delivery—that actually reaches the intended beneficiary households and businesses—is a huge challenge due to weak accountability and targeting mechanisms.
During the lockdown, over 90 percent of economic activities have come to a grinding halt. The latest projections show that the agricultural, industrial and services sectors are projected to grow by 2.6 percent, 3.2 percent and 2 percent, respectively. These numbers are drastically lower than the growth these sectors experienced last fiscal year.
The economy was already weak before the lockdown and social distancing measures were implemented. For instance, a delayed monsoon, shortage of fertilisers, use of substandard seeds and an armyworm invasion dented agricultural output before the Covid-19 pandemic. The pandemic exacerbated the situation through agricultural inputs crunch (such as workers and fertilisers), especially to harvest winter crops, connect to agricultural markets, and prepare for summer crops.
Similarly, weak capital spending and the lack of an investment-friendly environment affected industrial output before the pandemic. The Covid-19 outbreak in Nepal happened to exacerbate the situation as it hit in the second half of the fiscal year—the period when a majority of economic activities occur. No wonder, mining and quarrying, manufacturing and construction activities are expected to contract in the current fiscal year. Work from home norms do not apply to these activities and productivity losses will continue to linger for some quarters.
Within the services sector, a deceleration of remittance income and decline in imports were already affecting retail and wholesale trade, which has the second-largest share in the GDP. After the pandemic, this sub-sector is expected to grow by just 2.1 percent, down from 11.1 percent last fiscal. Travel and tourism-related activities such as hotels and restaurants, and transport, storage and communications are expected to contract. Other services activities that are badly hit are financial intermediation, real estate and business activities, and education. Note that casual workers and informal sector firms, mostly MSMEs, are concentrated in the services sector.
Overall, consumption has been subdued, and fixed public and private investments are contracting. The government’s 2.3 percent growth estimate for the fiscal year might itself be a bit optimistic because it assumes that the affected economic activities, except for international tourism-related activities, will start to pick up pace from mid-May. But this is highly unlikely, owing to the uncertainties over Covid-19 contagion, unfavourable external factors (decline in remittances and foreign direct investment), difficulty to quickly reverse the dispersal of workers, and supply disruptions.
This crisis will increase the fiscal deficit because of lower than expected revenue mobilisation and nominal GDP growth, and higher than expected expenditure needs. Inflation may rise, but not to the extent seen during previous crises as depressed consumer demand will somewhat counteract cost-push inflationary pressures arising from a shortage of goods and services. Similarly, a decline in exports as well as imports, and deceleration of remittance inflows might have a net effect of reducing the current account deficit. However, foreign exchange reserves will fall. This is not good, as it jeopardises external sector stability.
Importantly, since a large proportion of the households are clustered just above the absolute poverty line, an income shock due to the Covid-19 will push many of them below the poverty line. It will also potentially widen inequality because the poorest households are disproportionately affected. Note that over 62 percent of the employed workforce is in the informal sector and about 85 percent of them are employed informally—that is, those who do not have paid annual leave or sick leave benefits and whose employers do not contribute to their social security. Social protection problems, as well as unemployment, are going to exacerbate as mass internal layoffs and returning migrant workers increase in the coming weeks. The unemployment rate was already over 11.4 percent and the labour underutilisation rate, which includes unemployed, time-related unemployed and potential labour force, was even higher at 39.3 percent.
Crisis response
Given the enormity of the emerging health, social and economic problems, a well-coordinated and synchronised relief and recovery package is of urgent need. Extraordinary circumstances require exceptional measures, but the government’s economic response has been ordinary at best.
A detailed relief and recovery package is missing. The immediate-term focus should be to stabilise aggregate demand and to lower the burden on workers due to unemployment and income shock. These are best done through the expansion of social protection measures and easing regulatory as well as liquidity constraints faced by MSMEs. After Covid-19 pandemic subsides and is largely contained, a full economic recovery package is required to help struggling businesses and workers. This is also a time to think of import-substituting production and the diversification of sources of economic growth and poverty reduction.
Further, although the fiscal space is already tight, thanks to expansionary redistributive budgets in the previous years, there should be no confusion about financing Covid-19 related measures by tweaking expenditure allocation. Of course, revenue mobilisation will be lower than projected and so will be spending. But, a repurposing of the recurrent budget (especially those allocated to use of goods and services) and capital budget (allocated for vehicle purchase, consultancy, land acquisition and some civil works) is still possible. The government can issue bills and bonds as planned and raise the required money for immediate needs.
It can be used to expand unemployment and other social security-based direct cash transfers, boost healthcare spending, provide relief to farmers, subsidise food and daily essentials, guarantee credit on additional working capital for MSMEs, subsidise employee retention, cover the short-term interest on loans taken by MSMEs, expand insurance coverage, and pay premium perks for frontline workers, among others. Similarly, the government can use funds related to social security, foreign employment welfare, constituency development, and prime minister employment scheme. It could also use funds lying idle at various autonomous authorities. These measures do not necessarily jeopardise fiscal sustainability.
Moreover, the government can request the Asian Development Bank and the World Bank—the largest multilateral lenders to Nepal—to repurpose existing assistance towards the government’s new immediate and medium-term priorities. It can also seek additional concessional loans, given the enormity of the crisis and the fiscal burden in the next few years. Multilateral lenders have rapid disbursement facilities for emergency assistance and policy-based loans for budget support to help the government’s agenda.
Finally, the government could issue a pandemic bond and request the central bank to purchase it under a special one-off mechanism. For instance, the central bank can repurchase government bonds from the market and return the funds to the government’s account when they are due. Or it can perpetually roll it over.
