Economic headwinds! or a Policy Trap ?

Despite acknowledging the need to address conflict-related problems, the state has prioritized a policy centered on distribution, overshadowing productive policies.

The Nepalese economy is currently grappling with a policy trap that has been exacerbated by prolonged inconsistent government practices. This predicament necessitates more than a single budgetary intervention to improve the economy. Several complex issues have emerged, such as the allocation of a larger portion of the budget to interest payments on loans rather than capital investments, and a situation where current expenditure surpasses revenue.

The economy appears to be ensnared in a policy trap, with clear repercussions evident in the upcoming year's budget. The term "policy trap" refers to a situation in which a particular policy or set of policies, initially implemented with good intentions, inadvertently lead to negative consequences or unintended outcomes that make it difficult to change or reverse the policy. The budget deficit is growing due to rising current expenditure and reduced revenue. This deficit will lead to an increase in domestic debt, which will, in turn, impact the monetary market. The budget deficit has already reached a staggering 271 billion. Its implications have already manifested in the form of expanding domestic debt, as a larger deficit corresponds to a larger debt. Throughout the remainder of the year, public spending will expand, further exacerbating the current deficit and increasing the demand for loans.

To extricate itself from this constricted fiscal space and structural issues, Nepal urgently requires a substantial policy leap, which is hinted at in the budget. However, there is no apparent indication of this leap in the allocation of resources. The existence of numerous contradictions further complicates the problems at hand. These predicaments have been instigated by erroneous policies implemented in recent years. The current budget acknowledges this, but regrettably, there are no signs of improvement. Perhaps the finance minister lacked sufficient time for adequate planning. Nonetheless, major policy reforms are direly needed to rectify the situation. While the budget does outline programs for policy reform and cost reduction, their effective implementation and integration into various aspects remain elusive. Additionally, it is concerning that the government, despite declaring expenditure cuts, has disproportionately reduced capital expenditure, indicating a lack of efficiency in resource allocation.

The economy's descent into the policy trap can be attributed to government practices since 2006, and its effects are now intensifying. This situation arises from a focus on distribution-oriented programs rather than emphasizing production. Despite acknowledging the need to address conflict-related problems, the state has prioritized a policy centered on distribution, overshadowing productive policies. Popularity has taken precedence, and policies implemented during certain disasters have compounded the issues. Following the earthquake, the government resorted to loans for reconstruction and engaged in competition for subsidies, thereby entangling the nation in a policy trap.

Presently, the prevailing circumstances require taking loans to secure loans, curbing development and construction budgets, while simultaneously witnessing an increase in general expenses. The upcoming year's budget is predicated on this concept, as the consequences of the current year's budgetary missteps will burden the subsequent year. The current finance minister has made commendable efforts to address these challenges, and it is crucial to efficiently implement the budget. Although a 6 percent increase in the economy is the right approach to combat economic sluggishness, it appears that the required investment to achieve this may be inadequate.?

Now arises the question of how much investment Nepal should make in order to achieve the targeted 6 percent growth. It is estimated that approximately 700 billion rupees in value addition are required for the nominal GDP. The contribution will naturally be one-fourth from the agriculture sector and one-half from the burgeoning service sector, with the remaining one-fourth consisting of approximately 200 billion to be added by another sector. Assuming an incremental capital-output ratio of 5, a total investment of 1000 billion is necessary to attain the desired growth rate.

Given Nepal's economic system is entangled in a web of domestic debt, further exacerbating internal debt does not seem prudent. Doubts persist regarding the implementation of measures such as allowances, refraining from vehicle purchases, and halting construction, while the finance minister faces the formidable task of normalizing the deviations in the current year's budget from the tax system.

Mitigating the policy trap, the country certainly needs a comprehensive approach. This includes analyzing policies, involving stakeholders, using evidence-based decision-making, strengthening institutions, coordinating policies, investing in human capital and infrastructure, promoting private sector participation, seeking regional and international cooperation, and adapting policies to changing circumstances. These actions will help Nepal overcome the current imbroglio and achieve sustainable economic development.

(Views expressed here are personal.)