The Global Recession and Consequences of Inaction for Nepal

(Courtesy: Dr. Dolittle)

“The bullet that kills you never takes you between the eyes. It always hits you in the temple.” - Jeff Wacker, EDS Futurist.

Metaphorically speaking, the “bullet” aimed at Nepal’s “temple” is economic in nature whereas the “bullet” that has Nepalis enthralled, is political. Unless Nepal’s Maoist-led government veers away from its populist economic policies and takes concrete measures to hedge against global economic realities, the Nepali nation-sate (its current government, the constitution making process, and the few gains that have been consolidated from the on-going peace process), are at immediate risk.

The highly interconnected nature of the global economy implies that the effect of global trends (both positive and negative) have global implications. The degree of such implications vary in terms of location, timing, duration and intensity, but any suggestion that Nepal is insulated because of its lack of global connectivity is naive and without analytical foundation.

The obvious impact of a global economic slowdown for Nepal will be noticeable reductions in annual remittances. Employees of Nepal’s financial services sector often refer to remittances as the very “lifeblood of the Nepali economy.” Evidence that corroborates such suggestions are well documented and beyond refutation. When mixed with the unregulated growth in Maoist-backed market interventions (specifically through Maoist labor unions), the net result is bound to be amplified negative distortions on the Nepalese economy.

More succinctly, the systematic closure of private Nepali enterprises are eroding the little shielding the Nepali economy has against the global recession. Nepal produces unskilled labor and that’s about it. Nepal’s net exports are negative - the country imports nearly all essential commodities (raw materials, fuels, agricultural goods, etc.). This requires constant access to foreign currency which Nepal had little to begin with and will have even less as foreign discretionary spend goes down and increasingly populist policies crowd out international private investment.

Assuming that Nepal’s Maoist government continues down its populist path, the country is left with two sources of foreign currency (over the short-to-medium-term): that which is generated by Nepali laborers abroad and that which is generated via loans and grants from the international Donor Community. The latter comes at incremental cost to future Nepali generations and the former, is shirking as the lagging effects of the global recession hit Nepal.

To put matters in perspective, less money from abroad means less money in Nepali families’ pockets, less consumption, more unemployment and all the cascading socio-political consequences that follow. The Nepalese economy may not be prone to mortgage-backed securities or complex collateralized debt obligations but fundamentally, the country’s only lucrative enterprise - the financial services sector - runs on variations of collateral backed loans. Examined from this viewpoint, when the means to service existing loans are jeopardized by the unavailability of sustained cash flows, there will be resounding impacts on the country’s only profitable sector - financial services - with networked consequences for every other sector across the Nepalese economy.

As an example, the supply of land in Nepal’s urban centers is limited but this should not fool anyone into thinking that the demand for property is unlimited (or that prices will continue to rise irrespective of the external environment). The Nepali banking sector’s practice of extending loans is based on personal affiliations - credit terms are offered based on who one knows as opposed to any reliable mechanism that reflects creditworthiness. Lending terms often include collateralized assets which in theory can be repossessed by the lending institution. In practice however, re-possession of collateralized assets entails additional costs to the lending institution in terms of contractual enforceability and legal complications over extended time periods. Such complications render the cost of repossession unduly high which ultimately, encourages moral hazard.

So when emerging middle-class families that rely on remittances to service some portion of their mortgages find their cash-flows reduced, Nepal’s financial services sector will be forced to reduce its margins. This means re-forecasted revenue streams, reduced profitability and damper future prospects with feed-back effects on the broader Nepalese economy. Under such circumstances, housing projects, land prices and those who derive sustenance from related sectors will all be negatively impacted.

Nepal’s unregulated stock market is likely to be another victim of the global recession. The story here would be a variation of the same theme - less capital inflow means less discretionary spend for Nepali consumers which in the case of the stock market, means less capital chasing after the same (or more) assets and eventually, deflated or collapsed asset prices. Most private and institutional investors abroad have some capacity (with their respective governments as lenders of the last resort) to absorb and eventually recover from near-collapsed markets. A similar destruction of wealth (although it impacts a miniscule part of the Nepali population directly) would have dire consequences beyond Nepal’s market alone - the very core of the open market system and the applicability of democracy would come into question.

The example of Nepal’s stock market is further complicated by the manner in which insider trading is so engrained within the system. In Nepal, a handful of individuals essentially collude to drive stock prices in a certain direction after which the “herd mentality” takes over. There is hardly any regulation, oversight, or governance over securities fraud so the average middle class Nepali investor is exposed to a lot more risk and a lot less legal recourse, should asset prices rapidly deteriorate.

Given the susceptibilities the Nepali economy is exposed to, the current government must do more to hedge against multiple worst-case scenarios such as the ones described above. Although it is standard practice for low probability, high impact risks to receive reduced priority during decision making processes, according similarly reduced priorities to elevated risks in plain sight is inadvisable.

Nepal’s fragile coalition government and its actors may want to take a step back from dodging the perennial “political bullet” (aimed between its eyes) and allocate slightly more resources to figuring out how to sidestep the imminent “economic bullet” (aimed at its temple). Politics for once should take a backseat to more urgent matters because for the common Nepali, it matters less who is in power and more whether his/her economic future is secure.