Up, up and away

  • The trade deficit keeps growing showing that interventions have been misplaced
- Bijendra Man Shakya

Jun 30, 2014-

Nepal’s ballooning trade deficit has been a serious source of concern for both policymakers and traders. Between the years 2003 and 2013, the deficit kept swelling consistently at an average rate of 20 percent annually and reached Rs 461 billion last year, a six-fold increase during the period. As of the first 10 months of the current fiscal year, it had reached a whopping Rs 500 billion. Even during the heyday of economic reform in the 1990s, the economy had not experienced such a runaway trade imbalance. The deficit rose three-fold in the 10 years following trade liberalization. As a percentage of the country’s Gross Domestic Product (GDP), the deficit is even more worrying. During the last 10 years, it surged from less than one-fifth of the GDP to one-third.

The trade deficit problem is not a rare phenomenon. Many countries, irrespective of the level of their economic development, struggle with this problem as trade imbalance figures are politically sensitive statistics. For some countries, it is disturbing to their macro-economic indicators as the size of the deficit continues to enlarge for a long period. Nepal’s unbroken trade deficit streak for such a long time could result in unstable macro-economic indicators and prevent it from attaining the targeted growth rate of 7 percent required to graduate from a least developed country to a developing country in the next eight years.

There are two pertinent questions with regard to the country’s trade imbalance. First, why has the trade imbalance been growing so fast and constantly of late? Second, what has kept the situation from improving? Regarding the first question, most economists would agree that remittance induced imports have a special bearing in it. There is a casual link between the inflow of remittance and the flood of imported goods. This is indicated by an abrupt change in the receipt of remittance from a growth rate of about 8 percent in 2004-05 to an unexpected growth of 49 percent a year later. Since then, it has been climbing at an annual rate of 24 percent.

Correspondingly, imports swelled from less than 5 percent in 2004-05 to an average annual growth rate of 16 percent in the succeeding years. In 10 years, the value of imports increased by about six times to Rs 547 billion. In contrast, the value of exports could not match galloping imports, hovering at less than 5 percent during the same period. The export value increased by only less than one-half in 10 years to Rs 86 billion. Hence, it is not inappropriate to blame unrestrained imports and lethargic exports for the unbearable rise in Nepal’s trade imbalance.

So why hasn’t imports been controlled and exports stimulated to prevent the situation from deteriorating further? With regard to regulating imports, the foreign exchange mechanism was expected to do it as the country has adopted a liberalized trade and exchange regime. But this did not happen since the Nepali rupee is pegged to the Indian rupee and an uninterrupted flow of remittance kept the Nepali rupee from sinking. This situation spurred imports. In this respect, the flow of remittance has been both a vice and a virtue for the Nepali economy.     

While a mechanism to regulate imports is not readily available and it has not been working effectively under the free market system, interventions to promote exports have not been inspiring at all. The export sector has not succeeded in breaking free from long-standing problems related to product diversification and supply capacity.

Four years ago, a cash subsidy programme had been launched to promote exports. It produced no notable results since exports to India were excluded from the incentive scheme. How can one expect to remove the trade imbalance without cutting the deficit with India which makes up more than 50 percent of Nepal’s overall trade deficit?

Likewise, the government’s pet programme — Nepal Trade Integration Strategy (NTIS) which prioritized selected export sectors — has fallen flat as it is biased against other export sectors. This programme has been mired in controversies since the very beginning. Therefore, the country needs a holistic approach that embraces an improved investment climate without prejudice to enable domestic products to compete with imports promote export oriented sectors. This is the only way to slash the trade deficit in the long run.

(Shakya specializes in the economics and trade interests of Nepal and the LDCs.)

Published: 01-07-2014 09:26

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