Nepali Times
Interview
Power cuts, labour and insecurity impacting on economy


MIN RATNA BAJRACHARYA
Alexander Pitt, the resident representative in Nepal of the International Monetary Fund (IMF) speaks to Nepali Times about the impact of the global recession, the regulatory role of the Nepal Rastra Bank and the banking sector.

Nepali Times: The Finance Ministry says revenue generation is up sharply. What is the IMF's take on this, especially its impact on the macro-economy, and capital flight in particular?
The IMF has long supported the government in raising more revenues to enhance the government's ability to invest, and reduce dependency on external funds. Nepal's tax income as a share of the economy has been quite low by international standards: around 9.5 per cent of GDP on average in the past five years. The ministry's successful efforts show that a large potential of additional tax revenue has so far remained untapped. The challenge now is to put these additional funds to good use by executing growth-enhancing investments, primarily in infrastructure.
The impact on capital flight is naturally difficult to gauge, as numbers are hard to come by. However, the continued balance of payment surpluses and reserve accumulation of the Nepal Rastra Bank suggest that this is only a limited problem. Also, capital flight has many reasons, and I don't think that taxation is the main issue here. Tax rates are relatively low in Nepal.

Despite everything, Nepal's macroeconomic indicators are sound. What would you attribute this to?
Nepal's solid macroeconomic position is largely due to two factors. First, remittances, which supply large amounts of foreign exchange, and second the government's cautious fiscal policy, with low domestically financed deficits. These two factors enable the Nepal Rastra Bank to maintain the peg to the Indian rupee, which is an important anchor for stability, and keep public debt at manageable levels.

How worried are you about stagnant GDP growth and inflation?
I am not very worried about inflation, despite current high levels. Historically, Nepali and Indian inflation have moved closely together and with the decline in Indian inflation we can expect to see a decline in Nepal as well. However, there are a number of structural factors that impede a rapid reduction of inflation as observed in India. The most important of these is the pervasive carteling of economic activity in Nepal, for example in the transport sector. These cartels need to be broken.

Regarding GDP, we of course would like to see higher growth, and we are worried that a substantial part of GDP growth comes from the real estate and financial sectors, which are prone to instability. We would like to see growth to be broader based, on productive investments in agriculture, industry, and services at the same time.

There are dire predictions of the bursting of the real estate bubble and its impact on the banking sector. Is this the IMF's assessment as well?
The IMF is very concerned about the development of real estate prices and the financial sector's exposure to them. The prices of these assets have been fueled by continued inflows of remittances - though structural factors such as continued rural-urban migration also play a role - and can decline at any time. That would create difficulties for those banks, development banks and finance companies that are highly exposed, but could also represent an opportunity for consolidation of the financial sector, if handled well by the authorities.

What do you think will have a bigger impact on the country's economy; the ongoing global and regional financial crisis or local issues like power, labour and security?
I think the local problems that you have mentioned have a much larger impact on Nepal's economic performance than the global financial crisis. We have not seen the impact of the financial crisis in the numbers yet. For example, remittances are so far holding up well, though that could change, and the financial sector is largely insulated from international capital markets. In contrast, the power shortages, labour conflicts and insecurity are very real and have an immediate and discernible impact on the economy and jobs. Addressing these issues at a fundamental level, that is, not with quick ad-hoc fixes, should be the government's highest priority, and would, incidentally, also go a long way to cushioning any effects of the global crisis that may yet unfold.

Would the IMF like the Nepal Rastra Bank to take its regulatory role more seriously?
We would like the NRB to play a strong regulatory and supervisory role, and to some extent that is happening. Already the Rastra Bank is using moral suasion to reduce exposure to the real estate sector, and it has introduced prompt corrective action policies to address banks' weaknesses. However, more could and needs to be done. In particular, stronger supervision of the risk profile of individual banks is necessary. The Rastra Bank should also develop a strategy to consolidate the financial sector into fewer but stronger financial institutions. A tightening of monetary conditions - higher interest rates - would also help in this regard, and would also assist to contain the rise in real estate prices. Lastly, the two state-owned banks, Rastriya Banijya Bank and Nepal Bank Limited, need to be guided towards a sustainable solution. We are open to how this solution should look like, but their current situation is not satisfactory, as they are not meeting the minimum capital requirements prescribed by the NRB.



LATEST ISSUE
638
(11 JAN 2013 - 17 JAN 2013)


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