AT A GLANCE
In 2018, the World Bank came up with its Country Partnership Framework (CPF) covering the five-year period of FY2019-2023. Coincidentally, this came at a time of historic transformation in Nepal, as a new government took up office in February 2018. The signing of the Comprehensive Peace Agreement in 2006 ended a 10-year conflict that came at a significant cost of lives and foregone economic development. Since then, Nepal has gone through lengthy and complex transitions towards a new Constitution in 2015 that set in place a federal structure. By the end of 2017, elections were successfully held at the federal, state, and local tiers. There is a newfound optimism for greater political stability, inclusion, good governance and sustainable growth. The new federal structure presents unprecedented opportunities for Nepal to reset its development storyline, as outlined in the Systematic Country Diagnostic (SCD). At the same time, the shift to federalism poses new challenges and source of fragility, given the heightened popular aspirations and expectations. Key challenges include the need to clarify the functions and accountabilities of the federal, state, and local governments; deliver basic services and maintain infrastructure development; create a conducive environment for the private sector; and address governance weaknesses that may worsen in the early years of the new federal system.
A new government, backed by a historic majority in Parliament, completed a year of office on February 15, 2019. The government was preceded by elections for all three tiers (local, state and federal) of the state architecture defined by the new constitution, marking a protracted but successful conclusion of a political transition that began with the signing of the Comprehensive Peace Agreement in November 2006. State governments largely mirror the coalition at the center. At the sub-national level, funds, functions and functionaries hitherto managed by the central, district and village authorities are moving to the seven new states and 753 local governments for which new legislation, institutions and administrative procedures are being formalized as constitutionally prescribed. Meanwhile, the central level authority is being streamlined with a focus on oversight. These exercises at state restructuring are expected to result in improved outreach and service delivery but will likely take time before they become fully operational.
Significant adjustments need to be made to the government structure. They include amending over 400 existing acts, restructuring the civil service at all levels, devolving fiscal management, and determining the division of funds, functions, and functionaries between various levels of government.
In contrast to the frequent changes in government that characterized Nepal’s decade-long transition to federalism, the new government enjoys a historic super-majority in Parliament. Along with new constitutional checks and a far fewer number of political parties, there is a much greater degree of optimism for stability in the coming days. However, state restructuring on this scale is uncharted territory for Nepal and smoothening the transition from the previous unitary system to the new federal one will remain a daunting task. The new system, in principle, provides opportunities to decentralize development benefits and make service delivery more effective and accountable. However, the risks of jurisdictional overlap between the three tiers of government, lack of clarity and coherence between policies and devolved powers, and duplication of efforts will remain high during the coming few years. Key aspects of the new system require further definition and may continue to be contested by different population groups.
RECENT ECONOMIC DEVELOPMENTS
GDP growth is estimated at 7.1 percent in FY2019, marking three consecutive years of over six percent growth. On the supply side, growth was driven by the services sector, particularly, retail, hotel, and restaurant subsectors, which received a boost from an uptick in tourist arrivals and remittance-fueled private consumption. The agricultural sector contributed an additional 1.6 percentage points to growth, supported by good monsoons and increased commercialization and availability of agricultural inputs. On the demand side, private investment and consumption were the main drivers, contributing 4.9 percentage points each to overall growth.
Given good agricultural production and the peg to the Indian rupee, inflation in FY2019 (4.5 percent) remained below target (5.5 percent). Credit growth reached 19.3 percent, exceeding deposits growth, and led to a rise in the banking sector’s credit-to-core capital plus deposit ratio (which at 75.2 percent remained just below the 80 percent regulatory limit).
The current account deficit remained high at 7.7 percent of GDP in FY2019, driven by a persistent trade deficit. The latter narrowed marginally from 37.5 percent to 37.1 percent of GDP as goods import growth slowed down, reflecting lower import demand for industrial supplies (such as cement clinker) and capital goods. A part of the trade deficit was financed by remittances, which were sustained at the same level as last year (25 percent of GDP). Remittance inflows in FY2019 were supported by the depreciation of the Nepali rupee against the USD and the increased use of formal remittance channels. The remaining external deficit was financed through borrowings and by drawing down foreign exchange reserves, which fell to USD 9.5 billion in July 2019, equivalent to 7.8 months of imports.
Delays in the enactment of Federal, Provincial, and Local Civil Service Acts and in the establishment of provincial civil service commissions adversely impacted the hiring of new staff at the subnational levels. These delays together with the limited technical capacity of existing staff led to significant underspending of the budget, reducing the fiscal deficit from 6.7 percent of GDP in FY2018 to 1.9 percent in FY2019. With public debt at 30 percent of GDP, Nepal remains at low risk of debt distress.
The estimated poverty headcount ratio (at the USD 1.90 per person per day international poverty line) was 9.3 percent in 2018, down from 15 percent in 2010. At a higher line of USD 3.20 a day for Nepal, 41 percent of the population was poor in 2018, a 10 percentage-point decrease from 2010. Despite the declining poverty trend, vulnerability remains high in Nepal. Almost 10 million people, or close to 32 percent of the population, are estimated to live on incomes between USD 1.90 and USD 3.20 a day (2018). Climate related shocks, such as floods and earthquakes, further increase vulnerability.
Last Updated: Oct 15, 2019