BIKASH DWARE BAILOUT: Prime Minister Bhattarai discusses the nature of the impending budget with industrialists and economists at a meeting in Singha Darbar last week.

Twenty years ago, Nepal's economy looked like it was headed in the right direction. The Foreign Investment Promotion Board was created and legislations like Foreign Investment and Technology Transfer Act 1992 were introduced to promote foreign direct investment (FDI). It worked: there was a spurt in investors and Nepal got much needed private capital required to run the economy.

Nepal almost looked like it was replicating the success of the smaller tiger economies of south-east Asia. However, the institutions created to facilitate investments were heavily politicised. The Nepali private sector nervous about competition from FDI players, started to lobby for protectionism. Political instability and the conflict eroded investors' confidence further.

Last year, total FDI into Nepal totalled only Rs 10 billion, a mere 0.12 per cent of the total flows to South Asia. With a low savings rate of 10 per cent of GDP, and quarter of the national budget dependent on foreign aid, FDI contribution becomes paramount for Nepal's economic development. Research shows that economic development through investment is more sustainable than development through aid, as the spill-over effects of foreign technology and management techniques grow with increased foreign investments.

Political stability and an enabling business policy environment are major determinants of investments in an economy. However, the absence or shortage of these factors does not necessarily make a country totally uninviting for investments. Large domestic markets, sufficient economic and infrastructure development or high natural resources endowment are other factors that can equally attract investment.

Unfortunately, political and institutional risks are the major concerns of investors interested in Nepal. The Department of Industries has become the one-window agency for delays and rampant corruption. Inconsistent policies, information gaps, shifting rules, and constant rotations in civil service personnel confuse and frustrate investors. An increasingly politicised and militant labour, corruption, the extortionist attitude of bureaucrats, and a crippling energy shortage have all affected investment.

But despite the challenges, foreign investors in Nepal have been earning a return of investment of 30 per cent and above on average, which to an extent compensates for the risks. Amongst the top 10 tax payers of Nepal in 2010-11, six (Surya Nepal, Gorkha Brewery, Ncell, Nabil Bank, Standard Chartered Bank, and Everest Bank) have been foreign investments.

Under the Immediate Action Plan 2068, (Ministry of Finance) for Economic Development and Prosperity, the government aims to make Bilateral Investment Promotion and Protection Agreements (BIPPA) and Double Taxation Avoidance Agreements (DTAA) with various countries including China and South Asian nations. The BIPPA agreement with India promises investors of both countries that the government will not nationalise the foreign investment projects and also pledges national and most-favoured nation treatment thereby reducing expropriation risk.

Labour issues have bedevilled just about every foreign investment venture in Nepal, and are now being addressed by the Ministry of Labour and Transportation Management through a revision of three existing labour laws: Labour Act 1992, Trade Union Act 1992, and Bonus Act 1996. Under the proposed new laws, workers' demands have to be linked to productivity, and in case of unlawful strikes, there is a provision for no pay, and lawful strikes will see salaries slashed by half.

Nepal has an adequate regulatory environment: not too restrictive but not too insufficient and can be constructively worked around. It offers low barriers to trade and few restrictions on operations, which is good news for foreign arms in increasing the efficiency of existing economic activity. Small investors with a budget of even a million dollar, who would get lost in bigger economies, can thrive in the healthcare, education, bio-diversity, IT, and high-end tourism sector of Nepal. And not just Greenfield investments, even mergers and acquisitions of existing ventures provide an equivalent opportunity.

Nepal must take advantage of its geography, and learn from the economic miracle happening south of the border in Bihar. And it isn't fair to blame just the government for not being able to provide a conducive investment climate. Its efforts have been defeated repeatedly by the monopolistic attitude of the private sector.

Puja Tandon is the co-founder of beed, an international management consulting and advisory services firm.