Nepal: Risk Assessment
Country Risk Rating
Business Climate Rating
- Expatriate remittance flows (23% of GDP) support household consumption, the main driver of growth
- Strong agricultural sector (26% of GDP in 2021 and 80% of employment)
- Financial and technical support from India and China
- Recipient of vast sums of regional aid (in particular from the Asian Development Bank) and international aid
- Landlocked, poor accessibility, dependence on Indian ports
- Lack of infrastructure, electricity and fuel shortages, undiversified export basket (clothing and agriculture)
- Heavy dependence on the Indian economy through imports (65% of total imports), exports (57% of total exports) and a currency peg
A slow and fragile recovery
After economic activity collapsed at the height of the COVID-19 pandemic in the first half of 2020, which caused the transport, tourism, and education sectors to shut down almost completely, Nepal gradually recovered, despite a new and particularly devastating wave in July 2021. This economic rebound is expected to continue into 2022.
Wholesale and retail trade, transport, and financial services initially drove the recovery, while favorable monsoons boosted agricultural production. In 2021, tourism (10% of GDP) was at a standstill. In 2022, growth should be driven mainly by services (60% of GDP), thanks to a recovery in the hotel and tourism industries, by agriculture, which government investment programs in irrigation will boost, and by industrial activity, in areas including textiles, carpets, cigarettes, and cement.
On the demand side, private consumption (80% of GDP) will remain the main driver of the recovery, thanks to improved household confidence (strengthened by continued employment aid measures), the ongoing vaccination campaign (by September 2021, 19.5% of the population had been fully vaccinated) and the resumption of expatriate remittance flows, which are expected to pick up notably due to an upturn in employment in Qatar and Malaysia, where the majority of Nepalese expatriates work. Private investment (23% of GDP) began a rebound in 2021 that should continue, thanks to government support programs, especially for the sectors hardest hit by the crisis, and to relatively low (subsidized) interest rates. However, the rebound is threatened by the health and political uncertainty of the coming months. Public investment should also pick up, as it is a priority for the Nepalese government. In this regard, a national project bank has been created to improve the management and implementation of public investments. All projects above NPR 500 million (USD 4 million) must be evaluated before funding to target the country’s needs.
Deficits widen with the recovery
The current account deficit widened in 2021 and is expected to continue on this trend in 2022 as imports recover faster than exports and remittance flows. Imports will be driven by firmer domestic demand, particularly in the construction sector, and by the prices of commodities such as oil (+40% between January and September 2021), Nepal’s main import. Exports will also pick up, to a lesser extent, in response to the recovery in global demand, particularly for agricultural products, which account for 30% of Nepal’s exports (palm oil, soybean oil, cardamom, etc.). Exports will remain below pre-crisis levels until international tourism recovers fully. The current account deficit is financed partly by international financing, which has increased because of COVID-19, and by the central bank’s foreign exchange reserves, which remain high (over ten months of imports), allowing the currency to stay pegged to the Indian rupee.
The budget deficit is expected to persist. Government revenues will remain insufficient, while spending will continue to be necessary to support the economy, including measures to facilitate market access for smaller companies, fund vaccination campaigns, and finance numerous public investments. As a result, public debt will increase in 2022 but remain manageable.
A country on the brink of political crisis
Political uncertainty has increased since December 2020. The then Marxist-Leninist prime minister, K.P. Sharma Oli, who had been in office since 2018, dissolved parliament in response to tensions within his majority, an alliance of Marxist-Leninists and Maoists. Tens of thousands of the prime minister’s supporters took to the streets to express their support for him. The Supreme Court overturned the dissolution decision and reinstated parliament in February 2021, precipitating a split in the two-party majority coalition. In May, after trying for a second time to dissolve parliament, Oli lost a confidence vote. After a final attempt by the prime minister in July 2021, the Supreme Court finally removed him from office. It appointed the prominent opposition leader, Sher Bahadur Deuba, a Nepali Congress (NC) party member, in his place. The new prime minister-designate, who will be taking up the post for the fourth time, faces many challenges, which include strengthening agreement within his party and between the different parties, and, most importantly of all, ensuring that the next local, provincial, and federal elections, scheduled for November 2022, are duly held. Nepal may face a political and constitutional crisis if the elections are delayed.
Geopolitically, the new prime minister is reversing the trend of his predecessor to pursue a gradual realignment toward India and away from China. The country remains a disputed zone of influence between the region’s two giants: it is the third-largest recipient of Indian aid. It is also part of China’s Belt and Road initiative.