Ways To Tackle Trade Imbalance

The gross domestic product (GDP) is the sum of consumption, investment, government purchases and net exports, with net exports denoting the excess of exports over the imports of goods and services. So, the trend, direction, and size of net exports would exert significant impact on the GDP and generate deep implications for the economy. Nepal’s trade performance has witnessed an unfavourable trend over the decades. In recent years, this has been deteriorating considerably deteriorating. During the first 11 months of the fiscal year 2022/23, exports and imports respectively constituted 8.8 per cent and 91.2 per cent of the total merchandise trade. They were at 9.5 and 90.5 respectively during the corresponding period in the fiscal year 2021/22. 

Besides, the annual net exports/GDP ratio for Nepal has always been negative and also accelerating over the period. Such ratio was in the range of minus 10-20 per cent during 2001/02 to 2006/07, minus 20-30 per cent during 2007/08 to 2016/17, and minus 30-40 per cent during 2017/18 to 2021/22, according to Nepal Rastra Bank. Nepal’s exports of goods and services as per cent of GDP saw a consistent decline, with 6.8 per cent in 2022, 8.8 per cent in 2012, and 17.7 per cent in 2002, states the World Bank's data. At the same time, Nepal’s imports of goods and services as per cent of GDP saw a consistent increase, with 42.6 per cent in 2022, 29.2 per cent in 2012, and 28.5 per cent in 2002, resulting in the trade balance/GDP ratio at -35.8 per cent in 2022, -20.4 per cent in 2012, and -10.8 per cent in 2002. 

Rising trade deficit/GDP ratio  Nepal’s exports ratio at 6.8 per cent in 2022 has been one of the lowest in the world, with Yemen at 6.1 per cent, Burundi at 5.0 per cent, Gambia at 4.6 per cent, and Sudan at 1.6 per cent having exports ratio lower than that of Nepal. Even the least developed countries, according to the UN classification, experienced trade balance/GDP ratio at -9.2 per cent in 2022, -6.9 per cent in 2012, and -7.6 per cent in 2002. Hence, in comparison to other countries, Nepal’s trade deficit/GDP ratio is growing at a menacing rate and in an unsustainable manner. 

The overall performance of the external sector has remained far from satisfactory which has raised concerns for the prospects of soundness, stability, and sustainability of the external sector. These concerns are quite valid given the fact that Nepal, a least developed country with narrow production base, low comparative advantage, volatility in exports, excessive dependence on essential imports, and ever-rising debt financing requirements, needs to carefully manoeuvre its economic development trajectory by optimising the associated benefits of globalisation as well as by coordinating and sequencing the policies and strategies in such a way that the favourable macroeconomic effects including the external sector viability are well ensured. 

As compared to most of the countries around the world, the import-dependence of the Nepali economy is ever widening while the rates of growth of production, productivity and exports have been weakening. Thus, serious endeavours are needed toward right-sizing Nepal’s widening trade imbalance besides utilising the foreign trade and payments mechanism for the all-round interest and sound development of the economy. Directive principles of Nepal’s constitution envisions developing an independent, self-reliant, and prosperous economy in a sustainable manner by attaining rapid economic growth and development through maximum mobilisation of the available means and resources in the economy. 

The State Policy also envisages diversifying and expanding markets for goods and services while promoting exports through development and expansion of industries based on identified areas of comparative advantage. There is a policy of protecting and promoting domestic industries and resources as well as according priority to domestic investment based on Nepali labour, skills, and raw materials for the development of the national economy. It also seeks to encourage foreign capital and technological investment in areas of import substitution and export promotion.

Moreover, there is a policy of enhancing agricultural production and productivity while protecting and promoting the rights and interests of the farmers through land management based on land utilisation policy as well as commercialisation, industrialisation, diversification, and modernisation of agriculture. Likewise, as citizen’s fundamental right, every citizen shall have the right relating to food. Besides, every citizen shall have the right to food sovereignty in accordance with the law. Despite such constitutional provisions, the performance of Nepal’s agriculture, trade, industry, and commerce sectors is not desirable, which poses greater challenges in the area of economic management in the days to come.

The 15th development plan (2019/20-2023/24) has envisaged for the development of sectors having comparative advantage like the agriculture, medicinal herbs, hydro-power, tourism, raising production of goods and services together with managing imports, expanding and diversifying product-wise and country-wise destinations, maintaining balance of payments and external sector balance, and maintaining and managing foreign exchange reserve. Nepal has traditionally been facing serious imbalance in the net export of goods and services. This has given rise to persistent current account deficit which has also reduced domestic savings. This has also resulted in the occasional balance of payments deficits, reduction in the import capacity of the foreign exchange reserves, related liquidity problems in the economy, and engendered macroeconomic risks, especially hurting the investment climate, production, productivity, and employment in the country. 

Nepal needs adequate and appropriate homework for rejuvenating the economy and making the external sector sound and sustainable. Cutting excessive consumption of public and private sector can provides a viable remedy. Although it will be painful to bear the macroeconomic and microeconomic effects of such a move, in the long-term interest of the economy and for the interest of the future generations, there will be no other alternative except for tightening the belt and making optimal utilisation, especially focusing on investment of the resources available in the economy. 

Productive allocation

Making most productive allocation, use of the resources and creation of an enabling environment for the private sector investment should be national priority. Faster rise in wages and prices of domestic inputs would make the domestic inflation exceed that of the world inflation, causing exporters’ incentives to decline. The government needs to plan and undertake sensible, well-targeted projects with prospects of high returns. Among the stabilisation tools, the real exchange rate should be made positive through effective control on inflation while expenditure would have to be streamlined and rationalised through sound fiscal and monetary policies that also control inflation. 

In an open economy, the solution of the problem would comprise preventing or reversing the appreciation of the real exchange rate of the currency. Exports and domestic production should be encouraged as the priority sector of the economy. Increasing amount of banking sector’s resources should be channelled toward these sectors. The subsidy scheme for the exports should be raised, simplified, effectively administered, coordinated, and properly evaluated, thereby building the foundations of external sector's viability and sustainability. 

(Basyal is the former Executive Director, Nepal Rastra Bank, Economic Research Department.)