Nepal’s growth model basically follows the familiar theme of estimating the investment requirements to achieve a projected rate of growth based on some assumption about the capital-output ratio. Higher growth rate will require higher investment that will have to be financed either by internal and external sources. Internal sources will include both public and private sources while the external sources could include borrowing on concessional terms as well as multilateral aid and grants. Since the savings rate of a poor country tends to be low and not enough for the projected growth rate the gap has to be filled by foreign , grants, loan or investments so that the availability of foreign exchange does not become a major constraint. This is the basic model used in planning and projecting the growth rate of the economy . It draws its inspiration from the Domar model constructed as a guide to the recovery of countries devastated after World War II. In the context of developing countries it was further refined with the inclusion of foreign exchange balance that could become a constraint to growth.
Remittance based growth
Over the last two decades Nepal’s growth rate has hovered around 4 percent with fluctuations ranging from slightly negative to plus seven percent depending upon monsoon, natural calamities and political crisis. However since the last three years growth in GDP has risen by slightly over two percent over the historical trend. In the mean time the structure of the economy has also changed: contribution of agricultural , industry and the service sector is now 25, 19, and 51 percent respectively. The growth rate of the agricultural sector has been sluggish and has remained in the range of two to three percent between2005 and 2015. Manufacturing sector has declined; its contribution was 10 percent a decade ago and now stands at 6 percent. Service sector has experienced relatively fast growth made possible by expansion of education, health services, tourism, retailing and allied services. Kathmandu, the capital of the country boasts many shopping malls, and some urban infrastructure inadequate as they are but still considered as the sign of a “modernizing” society.
Nepal’s modernization drive has so far been sustained by two forces. First the government’s effort to raise revenue remains impressive; Nepal’s tax-GDP ratio is around 25 percent and is the highest in South Asia, significantly higher than India and Bangladesh. Second ,while Nepal has a huge trade deficit with export earnings covering only seven percent of imports it is financed by remittances in the current account and aid and loan in the capital account so that foreign exchange reserves remain comfortable and enough to finance nine months of imports.
Remittances has emerged as one of the main pillars of the economy. A growth model based on remittance financed imports has increased government revenue that could have been used or infrastructure development and expansion of the industrial sector; but Nepal has not been able to achieve this goal. While the tax-GDP ratio remains impressive the rise in the regular expenditure has increased rapidly and the gains in revenue from rising imports are being increasingly used for government consumption rather than investments. The Nepali state including its security apparatus has expanded quickly and the cost of governance claims most of the increasing revenue with little left for capital formation. Thus reliance on foreign aid, grants and loan continues to be the principal source of public investments.
The upside of increasing reliance on remittances is two fold. First it has eased the pain of governance since resources for an expanding civil service and the new paraphernalia associated with a federal system are now available without having to worry much about new sources of revenue based on rising productivity of new industries and agriculture. Second, it has helped decrease the percent of people living below the poverty line because remittance has become a new source of income for the poor in both rural and urban areas. Third, remittance has fuelled an increase in consumption and has led to the growth of financial intermediation that now include over two dozen banks and other financial institutions. The downside of a remittance based economic growth is its sustainability over time. While the service sector has expanded the contribution of manufacturing to GDP has declined by almost half over the past decade. Productivity in agriculture remains stagnant; Nepal that once exported food grain has now become a net importer and the quantity continues to increase every year. Overall the economy is loosing its competitive strength in the region and is being transformed into a nation relying on its earnings from export of unskilled manpower for importing manufactured and other essentials including food.
Nepal has so far failed to leverage on its labor remittances to increase the productivity of the economy so that it remains competitive in the region. It is a failure that is intertwined with a political platform that is democratic and yet not able to rise above partisan interest at the operating level. When there is conflict between the values of resource efficiency and partisan interests the later have tended to dominate.
For the political class in the country remittances had two distinct advantages. First, it has been an easy way to address the youth unemployment problems since there is now an outlet for income generation to around half a million young men entering the labor force every year. It reduced chances of political turmoil because of rising unemployment. Second it has become a source of revenue to enrich the ruling class. Naturally Nepal government has always been on the look out for new work destinations for its youth in different parts of the world.
The coved 19 has exposed the dangers of relying heavily on remittances as a strategy of economic development. The world wide economic downturn caused by the pandemic has many countries requesting Nepal to take back its citizens since job losses are rising. Decreasing remittances since the last two month has already forced the government to cut on imports and with it a decrease in the the revenue of the government.
A Threat and an Opportunity
The COVID-19 is both a threat and an opportunity to the Nepali economy It is no longer going to be business as usual. The easy way to development based on remittances and sharply rising import with little focus on exports had created an illusion of prosperity that was short on new technology, entrepreneurship innovation and effective governance. The country is therefore at a critical juncture and the future path it undertakes will determine both the trajectory of economic growth and the stability of the political system.
How will the country chart its course in the future? There are a few possibilities that can be considered. First, there is the option pursuing the present model hoping that once the COVID-19 crisis is over in the next few months labor export will resume, remittance flow will increase and once again it is again business as usual. This will require no changes in the present structure of governance and the norms and values associated with development thinking. It will call for very little sacrifice on the part of the ruling class which will continue its adherence to political values of putting partisan interest as the most important consideration in governance. However, the viability of such a model which implies status quo does not look good. In this situation it is only a question of time before the society revolts against the state which even if elected in a democratic election will find itself increasingly weak and feeble.
The second alternative for the Nepali elite is to transform itself so that the gap between form and content of governance remains within certain boundaries that are broadly consistent with the requirements of economic development under a democratic framework as envisaged in the constitution. This is where the Nepali state has failed so far and it can not afford to remain that way in the post COVID-19 era. Roughly it would mean the following:
There has to be a new willingness and commitment to performance based governance based on specific criteria on resource accumulation, utilization and distribution for enhancing the competitive strength of the national economy so that it is at least at par with other countries in South Asia.
Public policies will have to focus to facilitate and promote public-private partnership, private investment, competition, innovation, and the promotion of digital technology on a massive scale both for internal efficiency and IT related exports.
Change in both values and structures of governance so as to reduce its transaction cost for the efficiency of investments and encouragement to foreign entrepreneurs to invest in Nepal have to be carried out on a priority basis.
Incentive focused public policies to revitalize the agriculture sector based on secure private ownership of land and production supported by collective ventures of various kinds to concentrate on processing, transportation, marketing and new technology adaptation will have to be launched on a nation wide scale.
Incentive focused public policies to encourage local government as social entrepreneurs as well as facilitators in the establishment of agro-storage, agro processing and agro industries must be launched .Various strategies for local level collaboration between the local government and local people in the promotion of new economic enterprises, educational institutions and health provision should be a part of the new vision with incentives from the central and the Province government.
The post COVID-19 era in Nepal will have to make a break with the way we handle our economy and politics. It is not going to be easy because corruption and misuse of power is embedded in the system. The flow of remittances had helped to hide its worst features but that option may no longer be available in the future. For the ruling elite ignoring corruption under a veil of political rhetoric will no longer remain an option as in the past.
Economic development is a rational process and certainly not an automatic event that will take place even when the ruling establishment continues to ignore the basic logic of resource management. Democracy and periodic election do provide legitimacy to rule but it is not sufficient to assure that the state will be effective in achieving its goals. The willingness to institutionalize the decision making process at all levels while erecting guard rails to stop it from being used for the enrichment of the few at the cost of the many remains the greatest challenge . In the future we will have to define a new “narrow corridor” (Daron Acemaglu and James Robinsin The Narrow Corridor 2019) to take us forward so that a state that maintains minimum decency, honesty and functional efficiency works hand in hand with an alert society that is not willing to accept a new form of neo feudalism in the name of democracy. It is becoming increasingly clear that in the post COVID-19 era the people will want to take their seat around the table; sitting on the ground with the hope of collecting a few broken crumbs under the table will no longer be acceptable.
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