Poor cash-rich Nepal

Nepal is not poor, it is just poorly governed. At no time has this been more true than today.

A spurt in remittances and a slowdown in imports has meant that Nepal’s foreign exchange reserves have hit an all-time high of $14 billion. Just in the past seven months, diaspora dollars totalled $6.35 billion – a 21.6% increase over the same period last year. The trade deficit has declined, and the balance of payments situation is improving.

So why are we not celebrating? The problem is that while the macroeconomy is on a firm footing, the same statistics also point to a deep malaise within. Imports are down because purchasing power has declined, and banks are not lending, this means government revenue has also fallen drastically. Most remittance money is spent on household expenditure, much of it again to pay for imports.

All this means investment fell by 11% in 2023 after growing by nearly 4% the year before. Tighter financing conditions post-Covid and global factors following the Ukraine war have impacted both public and private investment.

“Nepal’s economy grew at 1.9% fiscal year 2023. Is that too low? Yes, very low. Are we in an economic crisis? No. But we are stuck in a situation where aggregate demand is low. Nepal is in a crisis of low economic growth,” says economist Sameer Khatiwada.

Indeed, banks have money to lend and borrowing rates have gone down, but there is no demand from the private sector because a large chunk of the middle class has left the country.

And that is the irony: Nepalis are migrating abroad in droves, but fewer consumers back home means less economic activity, which in turn pushes more people out. Nearly a million young Nepalis left for jobs and study overseas last year. More than 400,000 left on work permits in the first seven months of this fiscal year. Some 3,000 leave every day.

The economy could pick up in 2024 and 2025, with increased demand, increased hydropower output, and rising tourist arrivals. But sustaining growth year-on-year relying solely on remittance and hydropower is not possible.

Remittances were the main reason for poverty reduction, raising living standards, improving access to health, nutrition and education. Nepal is set to graduate from LDC status by 2025.

Nepal’s economy is suffering a form of ‘Dutch Disease’ where high income from one source paradoxically keeps other sectors of the economy down. Remittance growth has increased savings, but there is nowhere to invest it except to speculate on the real estate bubble, which has burst.

Economist Khatiwada says we have to go beyond the symptoms to the disease: “Nepal is caught in a trap of low productive capacity, lack of competitiveness, lack of foreign investment and lack of business dynamism.”

So, what is the way out? Experts recommend more competition in the private sector and promoting industrialisation by leveraging areas where Nepal has a comparative advantage like the service sector, information technology and exports of high-value niche products.

“We were complaining when our foreign exchange reserves were low, and now we are complaining when reserves hit the roof. Our biggest problem is that we are sitting on all that money instead of investing it,” says Sujeev Shakya of the Nepal Economic Forum.

He adds: “We have to allow Nepali companies to invest outside, and reap the low-hanging fruits like energy and ICT. Nepal exported $900 million worth of software last year.”

If there was some hope the change in the coalition government last week would bring solutions, those have fizzled. Finance Minister Barsaman Pun is Prime Minister Dahal’s left-hand man and Dahal’s disagreement with former coalition partner Sher Bahadur Deuba of the Nepali Congress to sack its finance minister Prakash Sharan Mahat was one reason behind the Maoists switching to the UML.

Finance Minister Pun is already under a cloud for his alleged involvement with a gold smuggling ring, and he has reportedly been brought in with the express purpose of passing a budget that would be favourable to cronies. There are indications he will raise taxes on certain brands of electric vehicles, ostensibly to increase government revenue.

With the new government’s priorities so centred on personal and partisan gain, there is little time to solve the other crisis: underspending of the development budget. There is money for infrastructure and service delivery, we just cannot seem to spend it. Only 25% of the annual development budget has been spent in the past seven months of this fiscal year.

Delays in infrastructure and connectivity have further undermined economic growth and job creation.

Underspending is directly related to corruption. Public procurement is lubricated by kickbacks, and delays are caused by rival cronies with political patronage. The focus is on low-cost bidder and not on the technical quality of bids. Contractors abandon half-finished projects by bribing officials.

In short, Nepal’s crisis of low economic activity is directly related to governance failure and lack of accountability of high elected officials. The new coalition has a chance to set things right at the third Nepal Investment Summit on 28-29 April in Kathmandu. But experts do not pin much hope on it.

“No matter how many laws and regulations we revise to make doing business easier in Nepal, unless we have better infrastructure we will not be able to attract foreign investors to Nepal. Second, soft infrastructure such as skills and quality of the workforce is also a critical ‘pull’ factor,” says Khatiwada.

Shakya takes a broader view: “It all really comes down to our mindset. We think of Nepal as a small, poor country but it is a potential $100 billion economy. We must have that imagination, must take risks, reform how we do business, break away from commission-oriented, rent-seeking approach.”