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Analysis, Economics

Nepal feels the heat of the cooling Indian economy

While there is a legitimate fear of the slowing growth having trickle-down effects, Nepal may benefit in the short term.


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Updated: September 4, 2019

The Indian economy may be nearing a recession if the current ‘crippling slowdown’ doesn’t reverse course. India’s gross domestic product quarterly growth rate for April-June 2019 was only 5 percent, the lowest on yearly comparison for the quarter in six years. It was the first quarter of India’s fiscal year 2019-20.

The 5 percent growth rate compared to other developed economies, among which the best performers are barely touching 3 percent, is no way dismal in itself. The only one among the top ten economies of the world that is expected to grow faster than India is China with 6.2 percent, which also is a downward revision from the 7 percent previously estimated. However, there are numerous concerns regarding the Indian scenario. The world is gripped by the fear of a potential global recession amidst multi-axis political tensions: heightened tension in the Gulf region because of US economic sanctions on Iran; the US-China tariff war; worsening uncertainty in Europe regarding Brexit and, above all, the tension between India and Pakistan since the former revoked Kashmir’s special status on August 5. India is the sixth-largest economy and the third-largest consumer market in the world. Its slowdown automatically shrinks global consumption and exacerbates global economic woes. The hope of reversing the currently experienced downward spiral anytime soon appears bleak considering that the Indian political leadership’s focus lies away from the economy, for example, due to a preoccupation with the Kashmir issue.

Intentional manipulation

The Narendra Modi-led government, returned to power with a renewed and strengthened mandate for a second term in office, is facing the brunt of the criticism. This is because it did not heed the predictions on the slowdown made by economists and their prescriptions thereof. At the centre of attention is Arvind Subramanian’s paper, India’s GDP Mis-estimation, published in June. The main findings of his article are: ‘First, a variety of evidence—within India and across countries—suggests that India’s GDP growth has been overstated by about 2.5 percentage points per year in the post-2011 period. That is, instead of the reported average growth of 6.9 percent between 2011 and 2016, actual growth was more likely to have been between 3.5 and 5.5 percent. Cumulatively, over five years, the level of GDP might have been overstated by about 9-21 percent.’

Many eyebrows were raised on these assertions, as this Harvard economist was also the chief economic advisor to the Modi government till as late as June 2018. His conclusions were initially dismissed as being politically biased, since they came immediately after he deserted the government before his tenure expired. But now his predictions have been vindicated. The revelation of such a deliberate overestimation of growth figures by none other than top-notch insiders in government like Subramanian caused an irreparable trust-deficit among investors. The country ideally should have been able to reap the benefits of political stability, with Modi’s party receiving a thumping mandate to govern for the next five years.

One of the chronic problems in the Indian economy has been a substantial amount of non-performing assets in its banking system. In March 2019, the non-performing assets stood at INR4,000 billion—9.3 percent of total banking assets. What’s more, 90 percent of the non-performing assets were held by public sector banks. In India, more than 85 percent of banking services are still provided by the public sector.

Perceived political meddling in the Reserve Bank of India (RBI), the central monetary authority, is another reason for the trust deficit in the system. In 2016, the government didn’t extend the term of then RBI governor Raghuram Rajan. Instead, it picked deputy governor Urjit Patel for the job. The Indian prime minister himself allegedly picked Patel. But he, too, left prematurely in 2018, allegedly due to policy differences with the government. The current governor, Shaktikanta Das, is a little known face in the financial fraternity. The actual economic outcome of some of the very drastic political adventurisms by Modi, like the demonetisation of the INR1000 and 500 currency notes in November 2016, remains highly contested.

The Modi government’s courage to implement the long overdue goods and services tax (GST) two years ago was widely appreciated. But it now faces several hiccups related to access to technology and digital literacy. As a cumulative effect of all these factors, manufacturing growth slumped to 0.6 percent in the first quarter of this fiscal year from 12.1 percent in the same quarter last fiscal year. The automobile sector is the hardest hit, causing the redundancy of more than a quarter-million employees.

Impact on Nepal

Despite the pseudo-nationalist demagogy of Nepali politicians, Nepal effectively remains a satellite economy of India. The Nepali rupee is pegged with the Indian currency. Nepal shares an 1800 km long open border with India, with 27 trading points, literally hundreds of crossing points and a free flow of people from both sides. In the last fiscal year that ended on mid-July 2019, 64.6 percent (Rs63 billion) of Nepal’s export and 64.7 percent (Rs918 billion) of import was with India. More than 90 percent of Nepal’s international trade goods pass through India.

As such, the impact of any development in the Indian economy is directly transmitted to the Nepali economy through more than one channel. The adverse effects travel fast. One natural consequence of economic distress is the devaluation of Indian currency against the convertible foreign currency, which correspondingly impacts the exchange rate of Nepali currency. This, in turn, puts additional pressure on the import-dependent economy. Balance of payments and foreign exchange reserves will soon dwindle. If the Indian slowdown is accompanied by uncontrolled inflation, we will be importing it along with two-thirds of our goods imports from India. Low-paid Nepali workers in India may face lay-offs, while the Nepali labour market is likely to face oversupply due to an increased inflow of Indian migrant workers.

Nevertheless, if the Indian price situation remains under control, Nepali consumers may also benefit. Nepalis will be able to buy cheaper personal vehicles and other durables. This is because Indian industries may have to reduce prices to clear their stocks. Similar price dynamics apply in agricultural products as the downturn is often accompanied by reduced demand in the domestic market. If Nepal can work to increase export, the devalued currency may prove to be a boon, at least in the short run.

Dr Achyut Wagle holds PhD in economics and is currently professor (adjunct) at Kathmandu University School of Management. He is Nepal’s seasoned eco-political analyst, writing for The Kathmandu Post since its very early days.



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The Kathmandu Post
About the Author: The Kathmandu Post was Nepal’s first privately owned English broadsheet daily and is currently the country's leading English-language newspaper.

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