Inflation woes

ekantipur, 12-Mar-09
BISHWAMBHER PYAKURYAL

A country where almost 48 percent of the children below age five are underweight and 75 percent of the pregnant women are anaemic largely because of inadequate dietary intake, escalating food prices are a serious policy challenge. Households that are net buyers of food are hit hard by an increase in food prices. The Household Budget Survey 2008 conducted by Nepal Rastra Bank shows the average monthly expenditure of rural households to be Rs. 11,942, out of which food accounts for 44.09 percent. Since there is a strong link between the expenses of the poor and food price fluctuations, this expenditure pattern shows that Nepal's low-income groups are facing a severe economic hardship because of food price inflation.

In the past, when the inflation rate in India was high, panchayat bureaucrats used to blame India for exporting its inflation to Nepal. The domestic policy was not very often questioned. It is, therefore, a matter of surprise why the government now keeps quiet instead of informing the people that despite India's inflation being at a historic low and food prices showing a declining trend, the country has failed to import India's lower inflation rate.

The inflation rate in India has come down to a 15-month low of 3.36 percent for the week ended mid-February, 2009. This has happened because of cheaper food items and manufacturing products due to an economic slowdown in the Indian economy. Therefore, as there was a fall in the overall wholesale price index-based inflation, there has been an overall fall in the inflation rate.

Nepal's year-on-year consumer inflation remains at 14.4 per cent. The 14 plus percent rate of inflation has remained stable since the last quarter of the fiscal year 2007/08. This price rise has been driven by a significant rise in food and beverages prices (18.3 percent) and high prices in the non-food and services group. Bandhs, infrastructural difficulties and high transportation costs are, of course, responsible. But how is it possible that Nepal's high price economy is inelastic to India's low level inflationary regime under open border informal economic practices?

There is plenty of literature available on the Indo-Nepal informal trade. A study conducted by Nepali and Indian scholars shows that informal trade from India to Nepal stands at US$ 196 million and from Nepal to India at US$ 193 million. Interestingly, this situation shows that tariffs and quantitative restrictions between the two countries are not barriers. If this was the case, it would have been inevitable for Nepal's imported goods to be made accessible at much lower prices.

The Nepalese people have been denied moderate food prices for both domestic products and Indian imports. Compensating the loss from the trade in goods has also not been possible for the last few years. Statistics released by the Central Bureau of Statistics shows the manufacturing production index declining by 1.4 percent in 2007/08 compared to a growth of 2.6 percent in the previous year. Recent evidence shows that despite some successes in creating supporting infrastructure, trade in manufactured goods is going through difficult times in most South Asian nations. In 2007/08, the merchandise trade deficit widened by 22.2 percent to Rs. 165.3 billion compared to an increase of 19.2 percent in the previous year. Nepal's alarming trade deficit with India is largely because of a decline in the export of vegetable ghee, textiles, chemicals, rosin and readymade garments.

Nepal's policy has failed to link export trade with other sectors such as agriculture, forestry and tourism. There are incomplete legal and institutional reforms. No alternative schemes have yet been brought out to address the declining trade and competitiveness of readymade garments after the expiry of the Multi-Fibre Agreement. Nepal still faces inadequate and poor infrastructure and underutilization of the existing dry ports.

The success of a trade policy is reflected in its impact on government revenues, the well-being of the people and strength in creating an investment environment. As trade has not been directed towards this end, the Three-Year Interim Plan's objective to reduce the trade deficit by 15 percent of GDP seems difficult to achieve.

South Asia's future in trade in services has recently been presented in a regional work entitled Trade in Services in South Asia: Opportunities and Risks of Liberalization. Edited by Saman Kelegama of the Institute of Policy Studies, Colombo, the publication offers an overview of the state of the service trade in the region. Economic growth advances when the service sector grows. In the 10 years from 1993-2003, South Asia's exports of commercial services increased fourfold, i.e., from US$ 7.9 billion to US$ 29 billion. Currently, the service sector provides more than 60 percent of the GDP in many countries. Its contribution to the GDP in South Asia ranges from 32.48 percent in Nepal to 58.1 percent in India.

India's share in world service exports has increased from 0.5 percent in 1995 to 2.3 percent in 2005. In Pakistan, service trade has been growing faster than merchandise trade. In Sri Lanka, key sectors of the service economy are linked to foreign competition by carefully assessing the impacts of liberalization on the economy. Bangladesh has seen a growth in the service sector for the last three decades. This sector has grown faster than the overall GDP in the past decade.

After its accession to the WTO, Nepal has liberalized the service sector rather aggressively with the participation of the private sector including the foreign sector. Given a strong institutional foundation to discourage anti-competitive practices, Nepal has potential in tourism, higher education and health services. The Maldives has visible advantages from the service sector largely from tourism. Bhutan has begun to explore the possibility of benefiting from the service sector. Tourism and electricity are their major service exports.

As trading in manufacturing goods is not performing well, and trading services especially in tourism, health, education and labour can be attractive for consumers beyond SAARC, there is a strong need to develop advanced service infrastructure to boost the region's share in the global service trade.

To ensure benefits from service trade, Nepal should learn to grasp offensive and defensive interests through multi-sectoral dialogue and debate with different stakeholders. As regulation in health, education, finance and environment is crucial, it is important to correctly understand the difference between over-regulation and effective regulation.

A large part of the service trade data is intangible. Serious home work needs to be done to analyse it to develop common interests in the region. A notable challenge South Asia faces is striking a balance between the medium-term hazards of increased unemployment and the longer-term benefits of increased competitiveness. Achieving this goal would mean formulating a viable policy on trade in services for sustainable development.

The author is a professor of economics at Tribhuvan University.