Economic Situation and Management of External Debt in Nepal

Presented by

Professor Tarun Das Institute for Integrated Learning in management, New Delhi, India
Formerly, Economic Adviser, MOF and Planning Commission, Govt.of India
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Contents
1. Economic Background of Nepal 2. Current Economic and external Debt Situation 3. Economic Outlook and Risks 4. Major Observations and Conclusions

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External Debt in Nepal- Tarun Das

1.1 Economic Background-1

1. Any economic prospect of Nepal need to be considered in the background that Nepal lies in a specific geo-political situation between the two economic giants of the world India and China. 2. Nepal is a Least Developed Land Locked Country (LLDC) and one of the poorest country, but it has direct access to the sea of humanity in the either side of its border that constitutes the largest market in the world.

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1.2 Economic Background-2

3. Nepal is committed to the so-called LPG (viz. liberalization, privatisation and globalisation). 4. Foreign aid accounted for more than half of the development budget. 5. Govt priorities focused on the integrated development of agriculture, industry, transport & telecom. 6. Agriculture is principal economic activity, employing 80% of the population and providing 37% of GDP. 7. Nepal made significant progress in exploiting basic resources such as tourism and hydroelectricity. 8. Progress in Indo-Nepal Economic co-operation.
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1.3 Economic Background-3

9. Progress in Regional Economic co-operation. 10. Nepal became full-fledged member of WTO on 23 April 2004. 11. Similarly Nepal is now a member of two regional trading arrangements; South Asian Free Trade Agreement (SAFTA) and BIMST-EC. 12. The signing of SAFTA framework treaty in 6 January 2004 and BIMST-EC free trade area on 8 February, 2004 has been a landmark in the economic history of Nepal as these would help to integrate the Nepalese trade and economy at the regional and trans-regional level.
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1.4 Economic Background-4

13. Nepal is currently an observer to the Bangkok Agreement. This is a regional preferential trading arrangement encompassing South Asia, South East Asia and Far East, with the membership of six countries viz. China, India, Sri Lanka, Bangladesh, Lao PDR, and South Korea, with collective population of around 2.5 billion. 14. Currently, more than 1500 products have been bought under the preferential trading arrangement. This agreement is based on positive list approach following the product-to-product negotiations. 15. These Free Trade Agreements (FTAs) are supposed to enter into progressive stages of free trade including a common currency in South Asian ESCAP-Nepal Lecture-3 6 called rup. External Debt in Nepal- Tarun Das

2.1 Economic Growth and Financial Sector

1. Nepal s economic growth has been adversely affected by the recent political conflicts. 2. Real GDP growth rate declined from 5% per annum in 1990s to only 2% during 2000 2005. 3. Inflation remained low except 6.6% in 2004-05. 4. International reserves were adequate. 5. Despite significant progress in management and credit evaluation practices, the share of nonperforming assets in NBL and RBB remained high. 6. Broad money growth slowed from 12 percent in 2003/04 to 8 percent in 2004/05
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2.2 Trends of growth, money supply and inflation (per cent)

Items 1.Real GDP Growth 2.CPI inflation rate 3.Deficit (% of GDP) 4.M3 (% of GDP) 5.Credit (% of GDP) 2000 2001- 2002- 2003 2004-01 02 03 -04 05 5.6 3.4 4.5 15.2 18.8 -0.6 3.5 4.3 4.4 9.2 3.4 6.1 1.6 9.8 12.0 3.4 2.0 1.0 12.7 9.3 2.5 6.6 0.9 8.0 13.3

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2.3 Trends of budgetary operations (per cent of GDP)

Items 1.Total revenue 2.Total expenditure 3.Current exp. 4.Capital exp. 5.Overall deficit
2000 2001- 2002- 2003 2004-01 02 03 -04 05

11.4 11.5 17.5 17.2 11.1 6.4 4.5 11.5 5.6 4.3

12.3 12.2 16.0 15.5 11.4 11.2 4.6 1.6 4.3 1.0

13.0 16.0 11.7 4.3 0.9

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2.4 Balance of Payments (US$ Million)

Items 1.Current A/C 2.In percent of GDP 3.Overall balance 4.Official reserves 5.Rupees per US$
2000- 2001- 2002- 2003 200401 02 03 -04 05

162 2.9 38

106 1.9 -39

16 0.3 93

59 0.9 235

226 3.1 24

1020 1048 1178 1471 1507 74.7 78.0 74.8 74.1 70.0

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2.5 Fiscal Situation

1. Overall fiscal deficit of Nepal remained manageable in 2004/05, despite revenue shortfalls (due to weaker economic growth, continued excise leakages and delayed excise duty refunds from India) and expenditure over-runs due to higher civil service wages and allowances, and security-related expenditures. 2. Overall deficit at 1% of GDP was significantly lower than budget target at 2 percent of GDP. 3. External loans fell short of the budget target, as assistance from the World Bank, ADB and donors dwindled. The domestically financed deficit was also lower than budgeted (at percent of GDP).
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2.6 External Trade

1. Nepal's major exports are carpets and garments accounting for 70% of total goods exports. Trade with India rose rapidly after conclusion of the 1996 bilateral trade treaty, and now accounts for 50% of all exports and 47% of all imports. 2. Nepal's principal export destinations include India (50%), United States (22%), Germany (8%), United Kingdom (3%), and France (2%). 3. Principal imports of Nepal consist of gold, machinery, equipment, POL and fertilizers. 4. Major sources of imports in 2004 were India (47%), China (10%), UAE (9%), Singapore (4%) and Saudi Arabia (4%).
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2.7 Current Account Balance

1. The current account and overall balance of payments remained in surplus. 2. Despite disruptions related to the insurgency and the elimination of textile quotas, total exports rose by 10% in 2004/05, mainly due to rise in exports to India by 30% percent. 3. Import growth was stagnant due to weak economic activity. A 35% increase in oil imports was offset by a 6% decline in non-oil imports. 4. Remittances continued to be buoyant, and the current account surplus increased from 1% of GDP in 2003/04 to 3% of GDP in 2004/05. 5. International reserves increased to US$1.5 billion (7 months of imports) at end 2004/05.
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2.8 India, Nepal, Bangladesh and Vietnam are categorized as Less Indebted Low Income Countries
Severely Indebted: Either PV/XGS > 220% Or PV/GNP > 80%
Low Income: PC-GNP less than $765 Middle Income : PC-GNP between $766 and $9385

Moderately Indebted: Either 132% <PV/XGS< 220% or 48% <PV/GNP< 80%

Low Income: PC-GNP less than $765 Middle Income : PC-GNP between $766 and $9385

Less Indebted: Both PV/XGS< 132% and PV/GNP< 48%

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Low Income: PC-GNP less than $765 Middle Income : PC-GNP between $766 and $9385
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2.9 External Debt Indicators of South Asian countries in 2003

Coun ry and Rank n resen Va ue V/ G V o er s of presen of ex erna deb ra o expor s va ue of ex erna deb (US$ b on) (per cen ) ra o (% ) 1. nd a 100.3 19 106 29.7 41 189 2. ak s an 3. Bangladesh 12.8 25 128 4. Srl Lanka 8.4 51 110 5. Nepal 2.1 38 131 6. Bhu an 0.4 74 252 7. Maldives 0.2 35 41

ndeb edness and nco e Class f ca on Less/ Low odera e/ Low Less/ Low odera e/ Middle Less / Low Severe/ Low Severe/ Middle

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2.10 Nepal- External Debt Indicators ($ Million)

Year
EDT LTD PG Use of IMF ce Short-term d GNI XGS
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1980 205 156 156 42 7 1958 272

1990 1640 1572 1572 44 24 3640 447

2000 2846 2805 2805 12 29 5514 1456

2003 3253 3176 3176 11 66 5843 1873

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2.11 Nepal- External Debt Indicators ($ Million)

1980 TDS
Interest

1990 70 29 41 846 354 -289

2000 103 31 72 1825 987 -131

2003 113 31 82 2016 1286 171

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8 5 3 419 272 -39

Pr.Rep MGS RES BCA

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2.12 - Nepal External Debt Indicators (%)

/ / / / / R /
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1990 75 10.5 2.9 1.8 0.3 132.7

1999 367 45.1 15.7 6.5 0.8 21.6

2000 195 51.6 7.1 2.1 0.6 34.7

2003 174 55.7 6 1.7 0.5 39.5

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2.13-NepalExternal Debt Indicators (%)

1990 RES/ EDT 132.7 RES/ MGS (m 7.8 Short/EDT 3.4 Conc/ EDT 76 Multi/EDT 62

1999 21.6 5 1.5 89 77

2000 34.7 6.5 1 98 86

2003 39.5 7.7 2 97 84

Pub/EDT
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99

99

98
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External Debt in Nepal- Tarun Das

2.14-Nepal-Currency Composition of External Debt (%)

Yen US$ Multiple Others Total

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1990 8 50 31 11 100

1999 8 50 33 9 100

2000 9 39 42 10 100

2003 11 43 36 10 100
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3.1 Economic Outlook and Risks

1 2 Nepal's growth prospects are contingent on political stability and improved security. Continuation of structural reforms along with political stability and better security conditions can lead to a distinct improvement in agricultural, manufacturing and service production, tourism earnings and government activities. This will help Nepal to achieve growth rates around 5 5 percent in the near and medium term. With the rupee peg, inflation is expected to broadly follow price developments in India, which are moderate and under control
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3.2 External Sector Outlook 1. Export growth is projected to average 8 percent with diversification of Nepalese exports beyond traditional sectors. 2. Both oil and non-oil imports are projected to pick up with improved economic activity. 3. Consequently, the BOP surplus is projected to decline in the near term. 4.Trade deficits could be covered by remittances and aid. 5. International reserves are projected to remain around 6 7 months of imports of goods and services.
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4.1 Conclusions and Recommendations

1. Nepal is presently passing through a critical political and economic juncture. 2. Authorities may be complemented for maintaining macroeconomic stability and implementing reform program under a difficult economic-political environment. 3. They are advised to resolve political and economic uncertainties and make progress toward sustained peace and security, which are essential steps for poverty reduction and private sector led growth.
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4.2 Poverty Reduction Strategy

1. Authorities are advised to continue with the policies envisaged under the Nepal's Poverty Reduction Strategy Paper (PRSP) accepted by the Fund-bank. 2. PRSP is an appropriate framework to address key constraints on growth, macroeconomic stability, and reduction of poverty. 3. This would help mobilize external assistance and lay the foundation for possible debt relief under the HIPC Initiative and the Multilateral Debt Relief Initiative.
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4.3 Fiscal Policies-1

1. Nepal has made significant progress on revenue mobilization, expenditure prioritization, social sector spending and containment of budget deficit. 2. But, there are concerns that security-related expenditure needs remain high, and development spending is low relative to budget targets, especially in conflict-affected areas. 3. There is a need to increase fiscal transparency, improve public expenditure management systems and monitoring, contain contingent liabilities and address donors concerns about the quality of spending.
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4.4 Fiscal Policies-2

4. Authorities should make all efforts to improve tax administration, widen tax base and to increase revenue collections. 5. They should also raise spending on infrastructure and social sectors to achieve PRSP goals. 6. Administrative pricing of petroleum products may be replaced by an automatic pricing mechanism to improve the financial conditions of the Nepal Oil Corporation and to avoid additional burden on the budget.

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4.5 Financial Sector Reforms

recover non-performing assets from the willful defaulters in order to improve the balance sheets of the NBL and RBB, reduce contingent liabilities for the budget and pave the way for their privatization. 2. The legal framework for financial sector activity can be further improved through amendments to the Banking and Financial Institutions Ordinance. 3. NRB may be encouraged to enhance financial sector supervision, and raise its internal audit and accounting standards. Authorities are also advised to move forward with implementation of strong anti-money laundering and combating the financing of terrorism regime.
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1. In the banking sector, efforts should be made to

4.6 Agricultural Reforms

Given the importance of agriculture and the high level of rural poverty, there is need to initiate progressive agrarian reforms such as: (a) providing complementary inputs to land and (b) improving rural infrastructure to promote commercialization and market access for agricultural products.

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4.7 Trade and Exchange Rate Policy

1. The exchange rate peg to the Indian rupee remains appropriate, as it enables the economy to benefit from close ties with India and helps to keep inflation at low levels. 2. The level of the peg should be monitored and reviewed in the light of Nepal's growing integration with the world economy through its membership in the WTO and regional trading arrangements. 3. External competitiveness should be enhanced through structural reforms and infrastructure investments to lower transactions and transportation costs. 4. Despite concessional nature of external debt, the exchange rate risk is high due to steady depreciation of rupee in terms of dollar.
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4.8 Public Sector Reform

1. The pace of public enterprises and governance reforms need to be accelerated to improve their efficiency. 2. It is desirable to proceed decisively with the liquidation of unviable loss-making enterprises and encourage privatisation mechanisms such as share sales and management contract. 3. The regulatory framework needs to be strengthened and labor markets be made more flexible to create an enabling environment for private sector participation.
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4.9 External Debt Recording System

1. There is an urgent need to improve external debt data recording system for better policy formulation and monitoring, and full implementation of the IMF Technical Assistance recommendations on monitoring and management of external debt. 2. Nepal provided inaccurate information related to the second disbursement made in November 2004 under the IMF Poverty Reduction and Growth Facility arrangement due to weaknesses in its debt recording system. As a result of this misreporting, the disbursement was non-complying. 3. Although the arrears have now been cleared, it is essential to put in place proper debt recording system and to improve capability.
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4.10 Implications for Public Debt Managers

 World is a global village  Knowledge and ICT are the most valuable assets  There are wider choice of resourcesdomestic/ foreign, debt/ equity/ portfolio etc.  Management of domestic debt and non-debt creating financial flows are integral parts of management of external debt.  Managers have to manage greater RiskCurrency, exchange rate, interest rate, commodity prices, markets  Emphasis on decentralisation, consultation and risk sharing.
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4.11 Need to strengthen Systems for

 Management information system (MIS)  Asset-Liability Management (ALM)  Good governance  International best practices for financial audit and accounting, and management of external and internal debt  Identification, measurement, monitoring, assessment, mitigation, unbundling, sharing and management of risk  Performance Audit  Policy Audit
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Thank you Have a Good Day

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