BoP deficit may lead to crisis in forex reserves

BoP deficit may lead to crisis in forex reserves
eKantipur.com, 4-Jan-08

The continuing deficit in the country's balance of payments (BoP) may lead to a crisis in foreign exchange reserves, say monetary economists.

“The declining trend should provide a wake-up call to policy makers to devise ways to deal with it,” said Dr Raghav Dhoj Pant, a monetary economist. “It is a very worrisome situation, and if not dealt with immediately, it could go out of control.”

The data compiled by the Nepal Rastra Bank (NRB) shows that the BoP registered a deficit of Rs 3.61 billion in the first four months of the current fiscal year. During this period, the foreign currency reserve slipped down 1.2 percent to Rs 163.12 billion. There was a surplus of Rs 180.8 million in the BoP during the same period last year.

The country held enough foreign exchange to finance imports for 8.1 months during the period under review ended mid-November. However, during the same period in the previous year, the foreign exchange reserve was adequate to pay for imports for 8.7 months.

Pant said past experience in Nepal shows that once the reserve goes into a decline, the downward spiral begins to accelerate. “We cannot rule out this scenario now, as capital flight is on the rise,” he said. An official at the NRB said exports were falling and widening the trade deficit, thereby causing a big hole in the BoP. Exports decreased by 6.3 percent in the past the four months.

“The major reason behind the shortfall is that new investments are not coming in,” said the official. He said the government must chalk out a strategy to lure investment, both domestic and foreign, to boost exports. “Otherwise, stemming the deficit may not be achievable,” he said.

Pant also suggested that the government review its pegging system with the Indian rupee. “Our fixed exchange rate is not sustainable and justifiable as the Indian economic growth rate is way above Nepal's,” he added.

But, the NRB official said the pegging system has more benefits for Nepal. “As we do not have a strong export base, it is not the right time to depreciate our currency,” he said.

“As long as we have enough dollars to buy Indian currency, it does not have any impact on the economy.”

In recent periods, the central bank has faced a serious crunch of Indian currency. It bought Indian currency equivalent to Rs 26.87 billion, selling US$ 420 million.