Executive Summary

Trade and Services in Nepal: Opportunities and Challenges

Services are the fastest growing component of international trade. Trade liberalization would be incomplete without liberalization of the services sector in the sense that with rapid expansion this sector has proved to make significant contribution in the growth of Gross Domestic Product (GDP). Statistics shows that the share of services in GDP has increased from 65 percent to 72 percent in developed countries during 1990-2005, while same for developing countries; it has increased from 45 percent to 52 percent. The remarkable growth rate of service sector has resulted into many structural changes and has been an important driver for higher economic growth rate. This sector provides an average employment of 70 percent in developed nation while 35 percent of total employment in developing countries. This sector has thus exhibited a growing importance in overall output, employment, trade and investment. It has helped in compensating the volatility in other sectors. Since there still is the lack of internationally comparable statistics on services especially among the SAARC member countries at the regional level, there has been no comprehensive analysis on the prospects and challenges in facilitating services trade in the region. The developing countries lack adequate empirical evidences to link any significant increase in FDI flows after the finalization of General Agreement on Trade in Services (GATS). However, although the manufacturing sector has also shown upward trend in growth, its performance is less steady than services sector. The revealed comparative advantage (RCA) index for services has increased and is close to 2 in post2000 period, compared to 1 in case of goods. The service sector includes promising sectors like tourism, the financial services, Engineering, labor, health services, education and the telecommunications services sector and so on. International trade in services is defined by the Four Modes of Supply of GATS. (Mode 1) Cross border trade, which is defined as delivery of a service from the territory of one country into the territory of other country; (Mode 2) Consumption abroad this mode covers supply of a service of one country to the service consumer of any other country; (Mode 3) Commercial presence - which covers services provided by a service supplier of one country in the territory of any other country; and (Mode 4) Presence of natural person which covers services provided by a service supplier of one country through the presence of natural persons in the territory of any other country. Countries have right to decide freely on where to liberalize on the basis of sector-bysector, including which specific mode of supply they want to cover for a given sector. Most of the service trade such as IT-enabled services and tourism (labor-intensive) are significant part in the economy of many low-income countries. IT, Health, education and engineering services contribute to a healthy, well trained workforce. These service sectors are a key part of the investment climate, and can have a much wider impact on business performance. The services help increasing growth and productivity possible and therefore can be expected to contribute to overall social development objectives. Services account for more than 60 percent of global FDI, increasing from $870 billion to $5.9 trillion from 1990 to 2004. As services are the fastest-growing component of the total economic output and the largest component of foreign direct investment (FDI), this sector is the future of developing countries. It is the major source of employment. A University of Michigan study estimates that liberalization of services would produce more than twothirds of the global economic welfare gain from the elimination of trade barriers. In the context that service sector is expanding and contributing significantly to countrys GDP,

this paper briefly reviews the status of selected service sectors. The review include, state of service sector in Nepal; an assessment of the existing policies in service trade; identifying the opportunities and challenges in service trade; exploring the complementarities in trade in services; recommending appropriate policies with special reference to: growth, equity & poverty alleviation expanding trade opportunities promote inclusive growth and gender mainstreaming

This study has mainly relied on the secondary sources of information which includes the NRB bulletin, Economic Survey of Nepal, International Trade Union Center (ITU) data base, WITTS data of the World Bank and UNCTAD. A desk review of existing policies on trade in services was comprehensibly done. However, limitations were observed in accessing disaggregated service sector data. To identify the additional problems, which are not usually reflected in available literature, a focus group discussion with the private sector, government and think tanks were conducted to seek primary source of information. Even though service sector is growing and expanding in Nepal, it has been severely constrained by the overall growth rate of the economy. While its adjoining Neighbors China and India, have registered a remarkable growth rate in last decades, Nepals growth rate has been erratic and low. A new World Bank report has painted a gloomy economic progress for Nepal projecting country's GDP growth to remain at 3 percent in 2010 and 4 percent in 2011. However, different estimates are now available but the average variations in the growth projections made by number of agencies stand between 0.5 per cent 1 per cent. China had a runaway growth of 13.0% in 2007; 9.6% in 2008. During the third quarter of 2010, Chinas growth expanded to 9.6%. India retained 9.4% and 7.3% respectively during the same period. The Gross Domestic Product (GDP) in India expanded at an annual rate of 8.80 percent during 2010. From 2004 until 2010, India's average quarterly GDP Growth was 8.37 percent reaching an historical high of 10.10 percent in September of 2006, which shows a sign of steady and sustained growth (http://www.tradingeconomics.com/Economics/GDP-Growth.aspx?Symbol=INR). Nevertheless, given the declining share of agriculture sector and a stagnant industrial sector, the service sector in Nepal owes a significant importance. Its contribution has increased significantly from almost 35% in 1980 to 51% in 2008. The contribution in employment is 20 percent. Among the service sector, the share of restaurant and hotel; transport and communication; finance and real estate; community and social sectors are significant. Statistics reveal that financial intermediation, Real estate, Health and Social work and education are the fastest growing services sector in Nepal. Financial intermediation has increased with an average growth rate of 18.46% during the same period recording a growth rate of as high as of 24.35% in FY 2006. Health/Social work and Education sector registered an average growth rate of 9.38% and 7.78%. The wholesale and retail trade has poorest growth record registering negative growth rate on average (2005-2008). The trade in service in Nepal is growing over periods. The total services trade amounted to Rs. 58694.1 million in FY 2004/05 while it increased to Rs. 125928.3 million in FY 2008/09; a more than double increase in total volume of trade in services during the period of 5 years. The Export of the service was 30374.9 million in 2004/05 which increased to 62221.1 million in 2008/09, nearly a double increase in export of services.
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The import of services also recorded more than double increase during same period. For example, import of trade in services increased from 2819.2 million in 2004/05 to 63707.2 million in 2008/ 09. The recent statistics shows that the share of export of services in GDP has increased from 5.15 percent in 2004/05 to 6.28 percent in 2008/09. Share of Import of Services has also increased from 4.80 percent in 2004/05 to 6.43 percent in 2008/09. The total services trade as share of GDP has increased from 9.96 percent in FY 2004/05 to 12.70 percent in 2008/09. Unlike merchandise trade where two third of total trade in concentrated with India, India shares around one third of services trade. The share of trade in services with India is found decreasing over the years from 31.80 percent in 2004/05 to 26.60 percent in 2008/09 but the share of countries other than India has been increasing over the years. The share was 68 percent in 2004/05 which increased to 73 percent in 2008. The average share of this category stands as high as of 70 percent during 2004-2009. Like total trade, share of India in total export of service trade is small and declining. The share was 17.50 percent in FY 2004/05 while it decreases to 10.87 percent in 2008/09 recording an average share of 14 percent during the period. The export of services trade is increasing with third countries. The share was almost 85 percent in 2004/05 which reaches to nearly 90 percent in 2008/09, showing prospects for trade diversification in service sector. The different heads of export of services include transportation, travel, communication services, insurance services, government services, and labor services. Travel has been a dominant sector in the export arena. Other services following travel are government services, labor services and other service categories. The export of travel services was 34.45 million on 2004/05 while it increases to 44.94 million in 2008/09 recording an average of 34.47 percent during the same period. Transportation and Communication services have actually recorded a decline in export over the years. Likewise, the major imported services are the transportation, travel and other service categories. The share of transportation and travel categories only account nearly three-fourth of total import services. The share of transportation on import was 37.44 in FY 2004/05 which increases to 42.47 percent in 2007/08. Likewise, share of Travel has increased from 34.22 percent to 38.08 percent during the same period. The insurance services are also substantial accounting nearly 3.30 percent of total import of services. The focus on consumer satisfaction as a function of performance relative to the consumers expectations is new dimension in service trade that has been recommended in the present study. The reviewed literature has shown consumer satisfaction service is a value-added service in which the service contents exceed the consumers expectations and add more value to the consumers benefit. Government policies, social changes, business trends, development in IT sector, etc. have influenced shaping services markets. This has greater ramifications in consumption patterns and competitive strategy. The message is opening up service trade means increased competition, which stimulates innovation. It means organizations dealing with service sector must focus rather sharply on marketing strategy to survive and grow among other experienced competitors. In recognition of the increasing contribution of service trade in national economy, it is advisable to distinguish between trade in goods and trade in services from policy perspective. This can be done by placing them on a scale from tangible-dominant to intangible-dominant. There are some potentially ambiguous products to differentiate between the goods and services and therefore, Lovelock and Wirtz (2005) suggested economic taste by drawing a line of whether more than half the value comes from the service elements? The answer for example, is to disaggregate the cost of food in Hotel
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Annapurna or Yak & Yeti, which accounts for roughly 20-30 percent of the price of the meal. The higher value is added by food preparation and cooking, table service, restaurant & environment and facilities such as parking, toilets, gardens etc. To sum up, in the context of globalization of the trade in services, the impact needs to be assessed linking the market economy with growth, equity and inclusive growth. The policy practitioners should make sure if the increases in social sector productivity benefit customers at the expense of workers or increases income of the workers through employment by lowering the costs? The uncertainties of smooth implementation of the ongoing trade-facilitation measures have continuously been threatened by Nepals prolonged political transformation. Major publications identify the unresolved issues in labor laws, property rights & market access complexities as the binding constraints in doing business in Nepal. Given the early settlement of Nepals fluid political transformation process by overcoming the transitory stage as early as possible, there is a great hope that Nepal would achieve inclusive growth balancing growth and equity.