Current State of Nepali Economy

Chandan Sapkota

Annapurna Post, 12 January 2014

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Presentation Outline
Economy at a glance

Macro economy
External sector Sophistication of products Binding constrains to growth Investment climate

Major economic challenges for CA II

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Economy at a glance

Low growth, low job opportunities, fledging industrial sector, high prices, low savings, high imports and consumption, and remittances-fueled impact-less investment cycles; But, bright spots are emerging

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Pre-reformed panchayat (Import substitution era) Reformed panchayat (Structural adjustment era) Constitutional monarchy (Economic liberalization) Maoist insurgency (Reform policies in paper, WTO accession) Post-revolution (Sweeping changes underway, BFIs growth) Growth below 5%, low employment High consumption High recurrent but low capital expenditure; might have exp growth>revenue growth Low investment, saving, and FDI Trade deficit unsustainable Inflation creeping up, food and fuel insecurity Remittance economy Manufacturing sector going downhill Financial sector troubles Poor investment climate due to load-shedding, labor problems, political instability, policy inconsistency and implementation paralysis Good development: Poverty and inequality down, forex reserves up, investment in infra
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Average annual growth rate (%)

4.99
4.62 4.33

3.91

3 2.60

0 1971-1979 Pre-reformed panchayat 1980-1991 Reformed panchayat GDP 1992-1996 Constitutional monarchy 1997-2006 2007-2010 Maoist Post revolution insurgency

GDP per capita

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Macro economy

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Per Capita GDP

7 718 6 Real per capita GDP growth rate (%) 5 4 3.46 3 300 400 706 717 700 600 500 Nominal per capita GDP (US$) 800

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1 0 FY2006 FY2007 FY2008 FY2009 FY2010 FY2011 FY2012R

2.27

200 100 0 FY2013P

Nominal Percapita GDP (US$) (right axis)

Real per capita GDP growth

GDP growth rate declining after reaching 6.1% in 2007/08 Expected to increase in 2011/12 , thanks to high agriculture production (particularly paddy, which contributes 21% to agri GDP, production to increase by 13.7%) Per capita GDP is rising; Nominal GNDI is expected to be US$931 in 2011/12 Official unemployment rate is 2.1%. Real unemployment rate estimated to be around to 46% Rural population: 83% of total population
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Sectoral Contribution of GDP

100%

90%
80%
49.7 50.9

70% 60% 50% 40% 30% 20% 10% 0% FY2006 FY2007

34.1 33.0 16.2 16.1

51.5

51.2

49.5

47.7

49.4

50.33

16.2

15.3

14.6

14.9

14.3

14.35

32.3

33.5

35.9

37.4

36.3

35.32

FY2008

FY2009

FY2010

FY2011

FY2012R

FY2013P

Agriculture sector

Industry sector

Services sector

Contribution of agri sector coming down (around 40% in 1992/93) Industrial sector , which is the most important in terms of employment and sustainable growth, is weakening Services sector is absorbing labor from agriculture sector (apart from those migrating abroad for work) and is the largest jobs provider. Contributes over 50% to GDP. Structural transformation???
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Unusual structural transformation

Graduation from LDC category to developing country status by 2022? Stuck in a low growth trap? 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. The intersection between decline of agriculture sector and increase of services sector (circa 1998) occurred at around US$219 per capita GDP.
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Contributions to growth
Sectoral contributions to growth
5 4 3 2 1 0 FY2011 FY2012R FY2013P 3.8 4.5 3.6 9 8 7 6 5 4 3 2 1 0 -1 -2
Manufacturing (Share of GDP) GDP growth rate (basic prices) Manufacturing (growth rate) 7.59 7.48

Manufacturing sector in Nepal

7.34 6.97 6.34 6.20 6.28 6.17

CBS Agriculture
Services

Industry
GDP growth at basic prices

Manufacturing sectors contribution to GDP declining. It has negative growth rate in 2007/08 and 2008/09 Agriculture sector growth bumped up GDP growth rate. But, its decline didnt have similar effect. Why? Services sector is pretty much providing base for whatever growth we have. Sustainable growth of over 5% is not possible without robust industrial sector (mainly manufacturing) and high value, high productivity agri and services activities. It is also the source of stable employment and income opportunities. Interface between agriculture and industrial sector: agro-processing or linking agri and industrial sector.
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Saving, Investment and Consumption

45 40 35 Savings and investment 30

Share of GDP

92 91 90 89 88 87 Consumption

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20 15 10 5 0 FY2009 FY2010 FY2011 Gross domestic saving Imports of goods and services FY2012R FY2013P Gross national saving Gross fixed capital formation Final consumption expenditure Exports of goods and services

86 85 84 83 82

Domestic saving is extremely Consistently high investment but output?? Foreign direct investment was about US$103.6 million in 2013. Consumption is very high at around 90% of GDP. Domestic production down; remittances up; imports up
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Fiscal sector (% of GDP)

20 1.0 0.0
15.2

Overall budget balance FY2010 FY2011 FY2012 FY2013R

15

-1.0 -2.0

10

-3.0 20

Tax revenue)
11.9 13.4 12.9 13.8 15.3

3.1

15 10 8.8 9.8 10.5

0 FY2006 FY2007 FY2008 FY2009 FY2010 FY2011 FY2012 FY2013R

5 0

Total expenditure

Recurrent

Capital

FY2006

FY2008

FY2010

FY2012

Total expenditure higher than total revenue Filled by foreign aid (grants and loans) and domestic borrowing Inflation is still high (will rise further due to the impact of high petroleum products and market distortions) Budget surplus in FY2013. Very low capital expenditure.

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External sector

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Export, Import and Trade Deficit

Exports is declining, especially after 1996 (so is the contribution of industrial sector and manufacturing sector to GDP). Exports 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.
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Export Markets

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Export and Import Destinations in 2010

India is the most important trading partner; relatively favorable market access

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Major Export and Import items

Major export items: Textiles, iron & steel, agriculture items Major import items: Fuels, electrical machines, transport equipment Income from merchandise exports is less than the total amount of money needed to import petroleum fuel Most of the import items are pretty much price inelastic to demand (thanks to remittances)
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Balance of payments (% of GDP)

30 25.5 20

10

5.1 0.4 Export (fob) Import (cif) Merchandise trade balance Services balance

3.4 Current account

4.1 0.6 Capital account 0.7 Financial account Balance of payments

6.3

Oil import

Remittances

-10

-20

-30 -32.2 -40

-27.1

FY2011

FY2012

FY2013

Current account balance negative in FY2010 and FY2011 Remittances is the balancing variable Exports underperforming Imports ballooning

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Remittances and Migrants

500 450 400 Migrants (thousands) 350 300 25 Remittances (% of GDP) 30

20

250
200 150 100 50 0 FY2005 FY2006 FY2007 FY2008 FY2009 FY2010 FY2011 FY2012 FY2013

15

10

Overseas migrants

Remittances (% of GDP)

Remittance inflows: $4.9 billion in FY2013 (25.5% of GDP) Total number of migrants in FY2013: 453,543 (on average, 1054 each day) Benefits: BoP surplus, decline in poverty and inequality, increase in purchasing power (55.8% of households) Costs: Laxity in real policy reform and implementation, sectoral bubbles, symptoms of Dutch Disease, inflation, consumption binge, high imports, increase in wage premium (or reservation wage) of casual labor

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Remittances, Poverty and Inequality

80 70 60 50
41.8

Poverty headcount (%) in Nepal

CBS (National poverty line), 2010 figure cannot be compared with previous years
67.97

WB (US$ 1.25 a day)

53.13

40
30.8

30 20 10 0

25.2

24.82

2010

2003

1995

Poverty headcount rate at 25.2% (without a change in consumption basket , the decline was even dramatic) Inequality decreased (Gini index 32.94 in 2010/11 from 41.4 in 2003/04) What caused?
Mostly remittances (bumped up income) -- nominal per capita consumption of the poorest households increased by 165 percent while that of richest households increased by 66 percent only Average household income of the poorest and richest 20 percent households increased by 297 percent and 133 percent respectively. Government policies? Roads, Education, Healthcare??? 2014-01-12 @csapkota 19

Product sophistication

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Product Sophistication and Income Per Capita

The sophistication of production is associated with income level of countries. Sophistication of Nepals production and exports is low. Reasons? Both endogenous and exogenous factors
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Product Space

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Sophistication of Nepals exports

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Sophistication of Indias exports

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Sophistication of USAs exports

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What Determines Manufacturing Competitiveness?

Strong government initiatives: power outages labor problems access to finance inadequate supply of infrastructure policy inconsistency policy implementation paralysis Manufacturing capabilities: R&D innovation Market condition:
macroeconomic uncertainty Market distortions

Resources: lack of industrial raw materials high cost of finance

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Binding constrains to growth

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What is Holding Back Growth?

Inadequate supply of infrastructure (road network, communications, electricity, irrigation , storage, etc). During conflict infrastructures were destroyed, which reduced productive capacity of our economy. The poor quality of existing infrastructure and a virtual absence of linkages between production and manufacturing sites in the hilly and mountainous regions has not only stymied structural transformation and impeded a shift to new productive activities, it is also leading to a skewed spatial distribution of agents (firms and labor) and assets in the economy. Clustering of firms in urban centers (Kathmandu, Pokhara, Biratnagar, Birgunj and Terai region) due to conflict. These are also the places with relatively low transportation costs and high potential for economies of scale.
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Inadequate supply of infrastructure is the most binding constraint to growth at present. But, this does not mean other constraints are irrelevant. Policy to tackle this constraint head-on will create the biggest bang for a buck.
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Nepals Infrastructure and Per Capita Income

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Investment climate

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Political instability is the major constraint to doing business in Nepal. Next biggest constraint is loadshedding, followed by labor problems. Many industries , including MNCs, have closed down. Capacity utilization of firm is 54 percent. Labor productivity growth was negative in manufacturing, retail and services sectors. Number of electrical outages in a typical month averaged 52 (average duration was 6.5 hours), inflicting loss of about 27 percent of annual sales. Approximately 15.7 percent of firms owned or shared a generator, which satisfied 24.6 percent of electricity demand by firms.
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Major economic challenges for CA II

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Economic tasks for CA II

1. 2. 3. 4. 5. 6. 7. 8. Management of migration and remittances Fiscal management (timely and full budget) Load-shedding reduction Meaningful structural transformation Export competitiveness Labor disputes Taming high inflation Good governance
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Thank You!

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