Nepal: the challenge of translating peace into prosperity

• Author: Ari Aisen/Edimon Ginting
• Position: IMF Asia and Pacific Department
• Pages: 12

Page 12

On November 21, the seven-party alliance government of Nepal and the Communist Party of Nepal (Maoist) (CPN-M) signed a comprehensive peace accord that marked the official end of an 11-year armed insurgency and provided for arms management and an interim government and legislature in which the CPN-M would participate in the lead-up to constituent assembly elections in June 2007.

Over the course of the insurgency, there was a heavy loss of life. Nepal's real GDP growth also fell from the trend rate of 5 percent to 2 percent during 2000/01-2005/06, with political instability shaving off an estimated ¾ of 1 percentage point a year from growth (see chart).

The country, however, was able to maintain macroeconomic stability. Inflation remained in the single digits, anchored to price developments in India through an exchange rate peg to the Indian rupee. The fiscal position also stayed broadly satisfactory, with low overall and domestically financed fiscal deficits. The revenue-to-GDP ratio rose, but development spending was constrained by weak implementation capacity at the local level, especially in the conflict-affected areas. Remittances played an important role in offsetting low export growth and lower aid levels and allowed the country to maintain external balance. And, aided by strong remittances, solid wage growth, urbanization, and a decline in the dependency ratio, the poverty rate fell to 31 percent in 2003/04 from 42 percent in 1995/96.

Challenges ahead

The peace accord holds the promise of a new beginning for Nepal, but the root causes of the insurgency-low growth, pervasive poverty, and a perception that economic policies and institutional structures have not delivered adequate growth and equity-still need to be addressed.

Higher growth will require raising productivity across economic sectors. In agriculture, Nepal needs to vigorously implement its 20-year Agricultural Perspective Plan. This plan provides complementary inputs and rural finance for better irrigation, fertilizers, and farm machinery, and improved infrastructure to promote commercialization and market access for agricultural products.

In manufacturing, Nepal must boost competitiveness- through investments in infrastructure and an improved climate for doing business-and reduce transportation and transactions costs. It also has scope to exploit more fully Nepal's comparative advantage in sectors such as hydropower and tourism.

At the...