Nepal: Risk Assessment
Country Risk Rating
Business Climate Rating
- Remittances from expatriate workers sustain consumption, the main driver of growth
- Dynamic services sector, especially tourism
- Financial and technical support from India and China
- Considerable international solidarity
- Heavily dependent on the agricultural sector and vulnerable to weather events
- Isolated and difficult access to many of the country’s regions
- Vulnerable to natural disasters
- Economy strongly affected by the earthquakes of April and May 2015
- Weak productivity in the secondary sector
- Infrastructure shortcomings, recurrent electricity, and fuel shortages
- Recurrent political difficulties and violence
Growth Expected to Benefit from Reconstruction Efforts
Despite its impact on dividend repatriation and wage conversion by expatriate Nepalese workers, India’s demonetization of notes – representing 87% of the money in circulation (November 2016) – did not prevent the Nepalese economy from growing strongly in 2017. The government’s ambitious objective of 7.2% growth during the 2017/18 tax year notwithstanding, the Nepalese economy is expected to slow in 2018. Consumption will continue to be the main growth driver (76.2% of GDP for the 2016/17 tax year) and it should continue to benefit from significant remittances from expatriate workers (27% of GDP). Growth momentum will, however, be limited by the inflationary tensions associated with high transport costs and by the high prevalence of poverty.
The Nepalese government launched its “Vision 2030” program to reduce the poverty rate from 23% to 5% by 2030. However, it will take a long time to implement, given the persistent political instability and uncertainty, and with the government still vague about the details. Furthermore, the reconstruction efforts following the 2015 earthquakes are expected to continue. These efforts are focused on transport infrastructure, severely damaged by the disaster, in order to improve the still weak connectivity of this isolated country. Investments will also be directed towards hydroelectricity, which is largely underexploited. However, progress is slow, with project implementation often hampered by bureaucratic inefficiency. Following the almost total interruption of bilateral trade triggered by disagreements with India over the new 2015 constitution, the resumption of trade with India (65% of Nepal’s external trade) should, as in 2017, benefit growth. Finally, at the sector level, activity will benefit from favorable, but output from the agricultural sector, which represents a third of GDP and employs 68% of the population, will remain low.
Slight Worsening of the Fiscal and Current Account Balances
The budget for the 2017/18 tax year continues the spending plans from the 2016/17 budget, whose implementation was hampered by the structural weaknesses of the country’s administration. This is because the parallel operations of the National Planning Committee and the Ministry of Finance make budget implementation tricky: a substantial proportion of spending takes place at the end of the year, and as a result, budget implementation is poorly organized and of a poor quality. Spending, which is likely to represent 25.3% of GDP by the end of 2018, should still be focused on hydroelectric projects and transport infrastructure. Rising revenues will not offset these reconstruction efforts and the fiscal balance is set to continue to show a slight deficit for the second year in a row. However, the public debt burden will continue to ease. The country will still benefit from financial support from the international community, and donations (12% of state income during tax year 2016/17) will help limit the use of borrowing.
With regard to external accounts, Nepal will remain strongly dependent on China and India, as two-thirds of its total imports come from these two neighbors. The country has a significant trade deficit due to the pervasiveness of imports of numerous products. Despite substantial remittances by expatriate workers and the substantial rebound in tourism revenues, higher imports of capital goods needed for the reconstruction effort and the weak competitiveness of Nepalese products on the international market are expected to result in a worsening current account balance.
Slow Political Stabilization
After another period of political instability, a new coalition was formed in August 2016 between Pushpa Kamal Dahal (Communist party), Prime Minister for the first nine months, and Sher Bahadur Deuba (Nepalese Congress, center-left), Prime Minister since June 2017. The two parties must organize local, provincial and central elections by the end of 2018, which raises hopes of greater political stabilization. However, the power-sharing arrangements are fragile and subject to tensions between the parties. Political equilibrium in the country will, therefore, remain precarious, and the risk of another period of instability and violence cannot be ruled out, especially with several minorities denouncing the decision to split up some provinces under the 2015 Constitution. The business climate is therefore still poor.
With regard to external relations, the aid sent by China and India after the earthquake reflects the rivalry between the two powers for influence over Nepal. Tensions in 2015 with India seem to have lessened but could be revived over the question of the Nepalese Madhesi minority, which opposes the 2015 Constitution and is supported by India because of its cultural and historical proximity.