Will Nepal graduate from LDC category by 2022?

[This blog post is adapted from the issue focus of Nepal’s Macroeconomic Update, August 2013, published by the ADB.]

---

GRADUATION FROM LDC CATEGORY

Background

The government’s recently approved approach paper to the Three Year Plan (TYP) FY2014-FY2016 envisions uplifting Nepal from the current Least Developed Country (LDC) category to a developing country status by 2022. In the previous TYP FY2010-FY2013, the government had targeted graduation by 2030. The rapid increase in the country’s per capita gross national income (GNI) as well as significant progress on key social indicators has encouraged the government to aim for this ambitious target, which is incidentally in line with the Istanbul Programme of Action (IPoA), 2011-2020, an outcome of the United Nations Least Developed Country (UNLDC) IV meeting held in Istanbul on 9-13 May 2011. The IPoA aims to enable half (24 out of the 48) of the LDCs meet the criteria for the graduation by 2020. It also recommends LDCs to integrate the IPoA into their national and sectoral development programs and strategies.

LDCs are low-income countries suffering from the most severe structural impediments to sustainable development. They benefit from special support measures from the donor community and preferential treatment in trade agreements. They get preferential market access to developed countries and are provided special non-reciprocal treatment in regional and bilateral trade agreements. The European Union provides duty-free access to imports of all products from LDCs under its ‘Everything but Arms’ (EBA) initiative. Furthermore, the Enhanced Integrated Framework (EIF)—a multi-donor, multi-agency program—assists LDCs in boosting their trade related capacities, including operational support to national implementation arrangements related to trade strategy, preparing and updating the Diagnostic Trade Integration Study, and supporting activities on mainstreaming trade. Meanwhile, the bilateral donors have pledged to provide official development assistance (ODA) equal to 0.7% of their GNI. Some donors such as Japan even provide concessional loans with a 0.01% interest rate and a 40-year repayment period (including a 10-year grace period). Similarly, multilateral development banks provide grants and concessional lending to LDCs.

Criteria and Process for Graduation from LDC Status

Graduating from the LDC category requires progress on three indicators relating to the income-generating capacity of a LDC, its stock of human capital, and its structural vulnerability to exogenous shocks. Specifically, the following criteria are considered[1]: (i) Low-income criterion (based on a three-year average estimate of per capita GNI [World Bank Atlas method[2]] higher than $1,190); (ii) progress in Human Assets Index (HAI), which comprises (a) nutrition (percentage of population undernourished), (b) health (mortality rate of children aged five years or under), and (c) education (gross secondary school enrolment ratio and adult literacy rate); and (iii) progress on Economic Vulnerability Index (EVI), which comprises (a) population size, (b) remoteness, (c) merchandise export concentration, (d) share of agriculture, forestry and fisheries in gross domestic product (GDP), (e) share of population living in low elevated coastal zones, (f) instability of exports of goods and services, (g) victims of natural disasters, and (h) instability of agricultural production.

After determining threshold levels for each of the criteria every three years, the Committee for Development Policy (CDP) reviews the progress made by LDCs and recommends a country for graduation[3] from the LDC category provided that the country is eligible at two successive triennial reviews. At least two of the three criteria or per capita GNI higher than twice the threshold (and with a high probability that it will be sustained) must be met to be eligible for graduation. Following the recommendation by CDP and subsequent endorsement by the UN Economic and Social Council (ECOSOC), the UN General Assembly (GA) takes note of it[4], three years after which a country will graduate from the LDC category. So far, Botswana, Cape Verde and the Maldives are the only countries that have graduated from LDC category. Samoa is set to graduate in January 2014. While Tuvalu and Vanuatu are recommended for graduation, Angola and Kiribati met the criteria for graduation once and will be reviewed again in 2015.

The latest thresholds for graduation from the LDC category are (i) per capita GNI of $1,190 or more, (ii) HAI of 66 or more, and (iii) EVI of 32 or less. At least two of the three criteria must be met to qualify for graduation. Alternatively, a country also qualifies for graduation if its GNI per capita is $2,380 or more, irrespective of its HAI and EVI scores. The graduation thresholds are usually 20% above the per capita GNI threshold for inclusion, 10% above the HAI threshold for inclusion, and 10% below the EVI threshold for inclusion. 

Prospects for Graduation

Although Nepal has already met the EVI criterion, it still has to either increase its per capita GNI by US$770[6] or HAI score by 6.17 before 2015 to be eligible for consideration for graduation. This is because eligibility conditions should be fulfilled during two successive triennial reviews, and the CDP will now review the progress only in 2015. After the review, Nepal will have to sustain the progress through 2018, the next triennial review, only after which the CDP will recommend for graduation. It will then be endorsed by ECOSOC and the UN GA takes note of it (between one and three years). Then only can Nepal graduate by 2022, provided that a transition strategy is prepared for implementation and the thresholds do not change.[7] An alternative path for Nepal’s graduation would be for it to increase its per capita GNI by US$1,960 well before 2022, irrespective of its progress on the HAI and EVI threshold requirement. Overall, substantial efforts would be needed for Nepal to graduate from the LDC category by 2022 particularly in the income front. Nevertheless, an encouraging certainty is that the country will be making clear and substantial progress towards graduation.

Post-LDC Graduation Scenario

The post-graduation scenario will also remain challenging, mostly arising from the implications of the loss of LDC status and associated benefits such as development assistance and preferential treatments in international trade. The concessional lending as well as market entry preferences accorded to Nepali exports in several developed and emerging economies will most likely be eroded. Therefore, prior to the graduation, Nepal needs to strengthen the pre-requisites required to support a stable and high growth rate and continue the momentum on the social development front. It calls for: (i) full and productive utilization of the available development assistance and trade preferences to tackle supply-side constraints, promotion of high value exports, and search for niche markets abroad; and (ii) reorientation of the ongoing structural transformation to strengthen the industrial sector’s and high value production’s contribution to GDP, which will help stabilize the growth rate, raise the income level and create high paying jobs.

The available resources and assistance to tackle the most binding constraints to economic activities have to be effectively utilized with an objective to sustain high growth and rapid poverty reduction. Meanwhile, the challenging task is to make the GDP growth more responsive to industrial sector growth and the high value agriculture production and services activities instead of the less productive and low value agriculture and service sector activities. At the core of it, political stability and good governance are the necessary conditions to effectively make this happen. Overall, the challenges to adequately meet the pre-requisites for high growth and a sustained development path in the post-graduation era are: (i) structural bottlenecks (low quality human resources and deficient skills, weak backward and forward linkages, fragmented value chains, negligible research and development investment, distorted labor market characterized by high minimum wages and low productivity, and policy inconsistencies, among others); and (ii) supply-side constraints (the lack of adequate supply of electricity, transport bottlenecks, lack of raw materials leading to high import content of manufactured goods, inadequate supply of key inputs to boost productivity, and political disturbance, among others).

There is also a need to reorient the ongoing process of structural transformation, especially considering the production disruption caused by the decade-long civil conflict, the exodus of migrant workers, and Nepal’s accession to the WTO. The shift of workers and economic activities to less productive services sector activities instead of the industrial sector being a focal point for their absorption is not normal and doesn’t contribute much to creating a strong foundation for the economy to take off on a high and inclusive growth path in the post-LDC graduation era.[8] The low value added activities such as real estate and housing; wholesale and retail trade; hotels and restaurants; transport and storage, among others constitute almost 34% of GDP, which is equal to that of the agriculture sector’s share of GDP. The manufacturing[9] sector’s share is only about 6.2% of GDP. In fact, the wholesale and retail trade, which is mostly based on imported goods, is larger than mining and quarrying; manufacturing; electricity, gas and water; and construction combined (i.e. the industry sector). Nepal’s industrial sector has been consistently underperforming; and for its income level, though the services sector’s contribution to GDP is relatively high, its impact on growth and employment generation is low (Figure 4). Furthermore, the increase in per capita income as countries get richer is initially associated with the expansion of industrial sector and then after a certain income level, its contribution starts to moderate. However, even with one of the lowest per capita incomes in Asia and the Pacific, Nepal’s industrial sector’s contribution seems to have tanked and have been consistently declining (second chart in Figure 4).

Figure 4: Sectoral value added, per capita GDP and structural transformation

Note: The first three charts agriculture, industry and services sectors valued added (% of GDP) to the log of per capita GDP of China, India, Nepal, Bangladesh, Japan and South Korea over 1960-2012. The last chart shows the evolution of sectoral value added with respect to log of per capita GDP. It shows that the decline of agriculture sector is accompanied by the increase of services sector while the industrial sector is already declining.

Source: NRM staff estimates based on data from World Development Indicators.

A meaningful structural transformation to sustain a high and sustainable growth in the post-LDC graduation era would require beforehand a strong industrial sector and high value added agriculture and services sector activities, with an employment centric strategy to absorb the surplus labor. To promote higher productivity, high value-added production and high income generation, the agriculture sector requires adequate and appropriate commercialization, provision of necessary infrastructure and technology to link with the industrial sector, and promotion of agribusiness activities such as agro-processing, storage, and warehousing, among others. Similarly, for high productivity and value added services sector activities, there needs to be strong backward and forward linkages with the industrial sector along with the narrowing of skills gap required in the market, increase in R&D investment to promote innovation, and investment in education and health sectors to boost the capacity of the economy to sustain progress and prosperity. This would partly position and help sustain the industrial sector as an engine of inclusive growth.[10]

Conclusion

A high and sustainable growth and development in the post-LDC graduation era would require the effective utilization of the current resources to create the pre-requisites for the economy to take off on a high, inclusive, employment-centric and sustainable growth path. Furthermore, there is a need to reorient the ongoing structural transformation to ramp up industrial sector activities and to promote higher value and productive agriculture and services activities.

---

Notes:

[1] These are reviewed every three years by CDP. The latest review was done in 2012. The next triennial review will take place in 2015.

[2] The Atlas method is used by the World Bank to estimate the size of economies in terms of gross national income (GNI) in US dollars. According to the World Bank, ‘a country's GNI in local (national) currency is converted into US. dollars using the Atlas conversion factor, which uses a three-year average of exchange rates to smooth effects of transitory exchange rate fluctuations, adjusted for the difference between the rate of inflation in the country (using the country's GDP deflator), and that in a number of developed countries (using a weighted average of the countries' GDP deflators in SDR terms). The resulting GNI in U.S. dollars is divided by the country's mid-year population to obtain the GNI per capita.’ For more: http://go.worldbank.org/IEH2RL06U0

[3] Inclusion in the LDC category requires lower thresholds for all the three criteria: GNI per capita of $992 or less, HAI of 60 or less and EVI of 36 or more. All three criteria must be met.

[4] It is expected that the recommendation for eligibility by CDP, the endorsement by ECOSOC and the UN GA taking note of it happen within three years. It might take longer if the UN GA delays taking note of the endorsement by ECOSOC.

[6] Based on data from the 2012 triennial review, which used 2008-2010 average GNI per capita (US$420). The latest three year average (2010-2012) GNI per capita of Nepal is US$616.7 (Atlas method), which means GNI per capita has to increase by at least US$573 to reach the respective threshold for graduation.

[7] For more, see http://www.unohrlls.org/en/ldc/164/

[8] Asia 2050: Realizing the Asian Century provides strategies on how to avoid the middle income trap as per capita income rises along with economic advancement. See: ADB. 2011. Asia 2050: Realizing the Asian Century. Manila: Asian Development Bank.

[9] According to industrial classification, manufacturing is a part of industrial sector, which also comprises of mining and quarrying; electricity, gas and water; and construction.

[10] For this to happen, the country needs to tackle head-on the binding constraints to industrial sector growth, including amicable resolution of labor disputes to create a win-win situation for both workers and employers, and the promotion of FDI to not only increase investment but also to impart critical knowledge and expertise on advanced technologies, innovations, and entrepreneurship.

Food price insulation measures and poverty

Anderson, Ivanic and Martin (2013) argue that food price reducing measures in 2008 (export restraints and reduction in import protection) added substantially to the spike in international food prices, and increased poverty by 8 million.

Abstract of the paper:

---

This paper has two purposes. It first considers the impact on world food prices of the changes in restrictions on trade in staple foods during the 2008 world food price crisis. Those changes -- reductions in import protection or increases in export restraints -- were meant to partially insulate domestic markets from the spike in international prices. The authors find that this insulation added substantially to the spike in international prices for rice, wheat, maize, and oilseeds. As a result, although domestic prices rose less than they would have without insulation in some developing countries, in many other countries they rose more than they would have in the absence of such insulation. The paper's second purpose it to estimate the combined impact of such insulating behavior on poverty in various developing countries and globally. The analysis finds that the actual poverty-reducing impact of insulation is much less than its apparent impact, and that its net effect was to increase global poverty in 2008 by 8 million people, although this increase was not significantly different from zero. Since there are domestic policy instruments, such as conditional cash transfers, that could now provide social protection for the poor far more efficiently and equitably than variations in border restrictions, the authors suggest it is time to seek a multilateral agreement to desist from changing restrictions on trade when international food prices spike.

---

Improved competitiveness of Nepali economy in 2013

According to the Global Competitiveness Report 2013-2014, Nepal’s ranking in economic competitiveness improved to 117 (out of 148 countries) in 2013 from 125 (out of 144 countries) in 2012. In South Asia, Pakistan has the lowest ranking (133), followed by Nepal. India has the best ranking (60), followed by Sri Lanka (65), Bhutan (109) and Bangladesh (110).

The main reason for the improvement came from better ranking in macroeconomic environment (rank 41 from 56 last year) and health and primary education (rank 88 from 109 last year). The ranking in other pillars of competitiveness has deteriorated, especially labor market efficiency, in which Nepal is ranked 127 out of 144 countries. The worst ranking is in infrastructure (144 out of 144 countries).

The overall message is that while Nepal’s macroeconomic management has improved, which had positive impact on overall competitiveness, the quality of infrastructure relative to other countries has deteriorated. The reasons behind the improvement in macroeconomic management are very weakly related to the strengthening of the economic fundamentals. It has more to do with robust revenue growth hinged to remittance-fueled imports, the inability of the government to spend budget in time (thus low borrowing), rise in national savings due to high remittance inflows, etc.

Within macroeconomic environment, Nepal ranks as follows:

• Gross national savings (% of GDP): 14
• Public debt (% of GDP): 47
• Budget balance (% of GDP): 37

Within infrastructure, Nepal ranks as follows:

• Quality of overall infrastructure: 132
• Quality of roads: 126
• Quality of railroad infrastructure: 121
• Quality of air transport infrastructure: 131
• Quality of electricity supply: 144
• Mobile telephone subscriptions/100 population: 135
• Fixed telephone lines/100 population: 116

Competitiveness is defined as “the set of institutions, policies, and factors that determine the level of productivity of a country”.The ranking is based on global competitiveness index, which comprises of 12 categories – the pillars of competitiveness – which together gives a picture of a country’s competitiveness landscape. The pillars are: institutions, infrastructure, macroeconomic environment, health and primary education, higher education and training, goods market efficiency, labor market efficiency, financial market development, technological readiness, market size, business sophistication and innovation. 

Nepal is still a factor-driven economy but its macroeconomic environment is better than that of other factor-driven economies. Its labor market efficiency is below the standard of other factor-driven economies. Nepal still has a long way to go to become an efficiency-driven and then innovation-driven economy.

In the survey result included in the same report, respondents identified government instability as the top problematic factor for doing business. The others are corruption, inefficient government bureaucracy, inadequate supply of infrastructure, policy instability, and restrictive labor regulations, among others. 

Remittances recap

Chami and Fullenkamp neatly summarize the impact of remittances in the latest edition of Finance & Development magazine (highly recommended for those who are unaware of it).

Excerpts from the article:

---

[…]remittances can provide much-needed fiscal space—which allowed some countries to increase spending, lower taxes, or both, to fight the effects of the recent global recession.­

[…]governments can sustain higher levels of debt when the ratio of remittances to domestic income is high—which reduces country risk.

[…]By expanding the tax base, remittances enable a government to appropriate more resources and distribute them to those in power. At the same time, remittances mask the full cost of government actions. Remittances can give rise to a moral hazard problem because they allow government corruption to be less costly for the households that receive those flows. Recipients are less likely to feel the need to hold the authorities accountable, and, in turn, the authorities feel less compelled to justify their actions.

[…]Because remittances increase household consumption, fluctuations in remittance flows can cause changes in output in the short term. But a shock that reduces economic output is also likely to induce workers abroad to send more remittances home, which then has the effect of reducing output volatility.

[…]remittance flows increase the simultaneous occurrence of business cycles in remittance-sending and remittance-receiving countries.

[…]Remittance inflows can also facilitate the financing of investments by improving the creditworthiness of households, effectively augmenting their capacity to borrow. Remittances may also reduce the risk premium that lenders demand, because they reduce output volatility.­

[…]But if remittances are perceived to be permanent income, households may spend them rather than save them—significantly reducing the amount of flows directed to investment. […]many households save part of the remittances by purchasing assets such as real estate, which generally doesn’t increase the capital stock.

[…]evidence from the Philippines and from Mexico suggests that receiving remittances leads to increased school attendance. However, that extra education would likely have little effect on domestic economic growth if it simply makes it possible for the recipients to emigrate.­

[…]Remittances enable recipients to work less and maintain the same living standard, regardless of how the distant sender intended them to be used (say, to increase household consumption or investment). Anecdotal evidence of this negative labor effort effect is abundant, and academic studies have detected such an effect as well. Thus, remittances appear to serve as a drag on labor supply.

[…]remittances may enhance the efficiency of investment by improving domestic financial intermediation (channeling funds from savers to borrowers).[…]remittances may help GDP growth when the financial markets are relatively underdeveloped because remittances loosen the credit constraints imposed on households by a small financial sector.

[…]remittances can lead to real exchange rate appreciation, which in turn can make exports from remittance-receiving countries less competitive.

[…]When a positive effect of remittances on growth is found, it tends to be conditional, suggesting that other factors must be present for remittances to enhance economic growth. For example, some studies have found that remittances tend to boost economic growth only when social institutions are better developed.

­[…]unequivocally good for recipient households because they alleviate poverty and provide insurance against economic adversity.

[…]governments will have to strengthen or facilitate the channels through which remittances benefit the overall economy while limiting or weakening others.

[…]he government can take advantage of its increased borrowing capacity to finance improvements in infrastructure. One potential use would be to upgrade a country’s financial system at all levels, including improvements in the payment system, availability of banking services, and financial literacy.

[…]Policymakers must design programs that are responsive to the needs of individual households and that give recipients the proper incentives to use remittances productively. Promoting the acceptance of remittance income as collateral for private loans used to finance productive investments is one way to direct remittance income into growth-enhancing investments.­

---

For those interested, my earlier paper on remittances in Nepal is also along these lines and contextualized by keeping Nepal in perspective.

Economic growth and its determinants in the future

Dani Rodrik, in a new working paper titled The Past, Present, and Future of Economic Growth, argues that economic growth in the future hinges on (i) stable macroeconomic framework; (ii) economic restructuring and diversification; (iii) social protection; (iv) investment in human capital and skills;and (v) regulatory, legal and political institutions.

Excerpts from the paper below:

---

The future of growth is unlikely to look like its recent past. It may well be that the six decades after the end of World War II will prove to have been a very special period, an experience not replicated before or after. The rate of convergence between poor and rich countries is likely to fall considerably from the levels seen during the last two decades. Developing countries will probably still grow faster than advanced economies, but they will do so in large part because of the slowdown in growth in the advanced economies.

Ultimately, growth depends primarily on what happens at home. Even if the world economy provides more headwinds than tailwinds, desirable policies will continue to share features that have served successful countries well in the past. These features include a stable macroeconomic framework; incentives for economic restructuring and diversification (both market led and government provided); social policies to address inequality and exclusion; continued investments in human capital and skills; and a strengthening of regulatory, legal, and political institutions over time. Countries that do their homework along these dimensions will do better than those that do not.

Beyond these generalities, however, the main policy implication is that future growth strategies will need to differ from the strategies of the past in their emphasis, if not their main outlines. In particular, reliance on domestic (or in certain cases regional) markets and resources will need to substitute at the margin for reliance on foreign markets, foreign finance, and foreign investment. The upgrading of the home market will in turn necessitate greater emphasis on income distribution and the health of the middle class as part and parcel of a growth strategy. In other words, social policy and growth strategy will become complements to a much greater extent.

---

Manufacturing sector and the path to prosperity

The manufacturing sector’s role in structural transformation, high wages, job creation and stimulus to growth is pretty well-known as most of the advanced economies have taken off by first strengthening their manufacturing (and overall industrial) sector. However, most low income and emerging Asian economies have seen their services sector widen and manufacturing sector shrink, leading to low to modest growth and income rise—ultimately slowing productivity and structural transformation. Here is more on the importance of manufacturing sector and structural transformation.

Reiterating the importance of manufacturing sector, a latest ADB report asserts that it is impossible to bypass the manufacturing sector on the path to prosperity. It states that no economy has reached high income status without reaching at least 18% share of manufacturing in total employment for a sustained period.

Excerpts from the report:

---

The report notes that one group of economies—Hong Kong, China; Japan; the Republic of Korea; Singapore; and Taipei,China—rapidly industrialized to become high income countries, while another group of economies, including the People’s Republic of China (PRC), Malaysia, and Thailand, are transforming more slowly.

Other developing Asian nations, such as Bangladesh, India, Pakistan or the Philippines, are changing even more slowly, have created few manufacturing jobs, and are shifting from agriculture into services.

Services are the largest share of developing Asia’s output and agriculture remains the largest employer, providing an income for 700 million people.

Regional diversity means Asia’s economies require different policy priorities to promote transformation. Modernizing the agricultural sector is a key task in developing Asia, in particular for low income countries.

For middle income economies heavily dependent on labor-intensive sectors or currently bypassing industrialization, the focus should be on upgrading their industrial base. For these nations, good quality education is essential for industrial diversification and reducing the path-dependency nature of structural transformation.

For small island economies, industrialization may not be cost effective, and the future lies in becoming competitive in certain service sector niche markets.

---

For economic transformation, the report observed the following:

• Agriculture needs to be modernized by deploying infrastructure, introducing technological improvements, developing agribusiness, and increasing linkages to global value chains.
• Industrialization is a step that, in general, is difficult to bypass on the path to becoming a high-income economy.
• The service sector is already the largest source of employment and this trend will continue.
• Basic education of high quality matters for industrial upgrading and, in general, for the development of new industries that can compete internationally.
• Although it is important for countries to exploit their comparative advantages, some form of government intervention may be necessary and unavoidable to expedite economic transformation.

[Nepal’s structural transformation is going to be slow as the industrial sector is already tanking. The projections for 2040 show: (i) projected growth rate of income per capita of 4.1%; (ii) share of elasticities of income per capita of –0.19 and –0.10 for output and employment, respectively; (iii) agriculture share of GDP about 20.1%; and (iv) share of agriculture employment in total employment of about 49.9%.]

Unusual Structural Transformation: Is Nepal stuck in a low growth trap?

The sectoral value addition and its movement against per capita GDP in the chart above indicates that high growth in Nepal won’t be sustained unless the industrial sector is strengthened along with the promotion of high value agriculture production and services activities. Else, growth will continue to be determined by the monsoon (agriculture sector) and remittances-backed consumption demand of mostly imported goods (low productive, low value added services sector activities such as wholesale and retail trade, real estate and housing, among others).

Interesting observations:

• While the decline of agriculture sector is accompanied by the increase of services sector in Nepal, it is the opposite in India and South Korea, where the decline of agriculture sector was accompanied by rise of industrial sector. The intersection of these trends occurred at US$323 per capita GDP (in 1972) in South Korea and US$ 465 per capita GDP (in 2001) in India. This probably reflects the early industrialization drive along with steady accumulation of human and institutional capitals in South Korea. 
• Services sector tends to grow consistently in both India and South Korea. However, there is a sharp increase in India circa 1980.
• In China, though the decline of agriculture sector is accompanied by the increase of services sector, the industrial sector contribution is mostly higher than the contribution of agriculture and services sectors.
• In Nepal, the decline of agriculture sector is accompanied by the increase of services sector (mostly low-value added activities like real estate, retail and wholesale trade, transport, etc— the demand for which is directly related to the remittance-backed consumption demand of imported goods traded in these sectors, implying that employment generation and domestic value addition are pretty low). Meantime, the industrial sector is continuously tanking. The intersection between decline of agriculture sector and increase of services sector occurred at around US$219 per capita GDP. It was circa 1998, the time when Nepal benefited favorably for a short time period from the Nepal-India trade treaty of 1996 (no value addition requirement in manufacturing goods exported to India). However, this was also the time when the Maoist insurgency started to heat up, forcing large number of people to migrate out of rural areas. Meantime, the inclement investment climate led to closure of many firms in the industrial sector, resulting in loss of jobs, high value production and productive activities. Consequently, those who migrated to urban areas and new entrants to the labor force either opted to seek employment overseas or engage in low value added, low paying services sector activities domestically. The high inflow of remittances has further fueled this process.
• While in high growth and emerging countries, industrial sector plays a focal role in sustaining the transition from low value added production and productivity to high value added production and productivity, this whole feature is missing in Nepal’s case. Hence, the transition from low value added and low productivity agriculture production to low value added and low productivity services sector activities. This is resulting in a low growth trap, that too sustained by remittances-backed consumption demand of imported goods and the resulting trading activities. There is little domestic value addition and growth multiplier.

Overall, the message is that the ongoing structural transformation of Nepali economy appears abnormal and the economy is stuck in a low growth trap (mostly below 5%) sustained by robust remittance inflows and the monsoon. The only way to break free of it is to tackle head-on the binding constraints to economic activities, especially in the industrial sector.