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Ashesh Shrestha

About Ashesh Shrestha

Ashesh Shrestha is an independent researcher. He has an Economics background and is interested in Monetary economics and Public finance.

Fiscal Framework of Nepal: An overview

This article was originally published in The Himalayan Times on June 24, 2018.

In order to ensure optimal outcome from the federal structure, it becomes imperative to have a proper fiscal arrangement at place. In a system with multiple tiers of government, power and responsibilities, especially regarding fiscal matters should be allocated among various levels of governments. The success of federalism is heavily dependent upon the way in which the powers and responsibilities are assigned to these governments. Principally, the literature on fiscal federalism emphasize on determination of expenditure responsibilities followed by revenue assignments. Tax assignment should be followed by assignment of the expenditure responsibilities as tax assignment is generally guided by the spending requirements at different orders of government. The basic principle that guides the allocation of expenditure responsibilities is the “efficiency principle”. Each expenditure headings should be analysed and allocated in such a way that efficient provision of public services could be ensured.

Scholars with primary focus on “efficiency principle”, have designed a revenue- expenditure framework in order to ensure efficient provision of public services. No countries have exactly replicated such design, however, the design has provided a basic outline for assignment of revenue and expenditure among various levels of government in federal countries. Nepal is no exception. Nepal’s fiscal framework does not exactly match the design provided by the scholars, but we can see similarities. Issues of national and international importance such as defence, international trade, foreign affairs, citizenship and migration have been allocated to federal government. Policies affecting the entire nations such as fiscal and monetary policies are also exclusively handled by the central government. States have responsibilities of managing land, irrigation and drinking water supply, transportation, higher education, intra-state commerce, and state-level electricity. Local government is assigned to look after health, sanitation, local market management, local road, rural road, agriculture road, and irrigation.

The constitution has provided grounds for assignment of revenue rights among three tiers of government. Federal government can levy customs duty, excise- duty, Value Added Tax (VAT), corporate income tax, personal/ individual income tax and remuneration tax. States have exclusive right to levy Agro-income tax, whereas local government can levy wealth tax, house rent tax, land tax and business tax. House and land registration fees, motor-vehicle tax, entertainment tax and advertisement tax are jointly levied by state and local governments. Similarly, on the non-tax revenue headings, passport fee, visa fee, gambling and casino fees are prerogative of federal government. Service charge/fees, tourism fee and fines are jointly collected by federal, state and local governments. The revenue assignment is made in such a way that federal government is able generate higher percentage of the total revenue, which is estimated to be about 70 percent. The rest is generated by states and local government.  As large share of revenue goes to central government’s coffer, vertical fiscal imbalance is inevitable. Additionally, as individual states and municipalities do not have same revenue base, horizontal fiscal imbalance can also be predicted.

In order to overcome horizontal and vertical fiscal imbalances, like other federal countries, Nepal has also made arrangements for inter-governmental fiscal transfers. Intergovernmental Fiscal Arrangement Act, 2017 has made provision of revenue sharing and fiscal- equalisation grant as two medium of fiscal transfers. It has been provisioned that the revenue generated out of Value added tax (VAT) and Excise is shared in 70- 15-15 percent basis among federal, state and local governments respectively. The distribution of these funds among the state and local governments are made by taking population, total area of the respective jurisdiction, Human Development Index (HDI), and low development indicators as the parameters. The weightage given to these parameters are 70 percent, 15 percent, 5 percent and 10 percent respectively.

Furthermore, sub-national government are also entitled to fiscal equalisation grant whose main aim is to reduce horizontal fiscal imbalances. The fiscal equalisation grant are distributed by the federal government to the sub-national governments on the basis of gap between need of expenses and capacity to generate revenue, Human Poverty Index, social and economic discrimination indicators, and indicators of infrastructure availability. The weightage assigned to these are 60 percent, 15 percent, 15 percent, and 10 percent respectively.

In addition to fiscal equalisation grant, there is also provision of conditional grants, complementary grant and special grant. The conditions for distribution of conditional grant is prescribed in the National Natural Resource and Fiscal Commission Act, 2017. The criteria for providing complementary grants and special grants have also been specified in the same act.

Ashesh Shrestha

About Ashesh Shrestha

Ashesh Shrestha is an independent researcher. He has an Economics background and is interested in Monetary economics and Public finance.

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Major challenges faced by carpet industry- High labour cost and labour related issues

One of the major challenges faced by enterprises in Nepal is caused due to labour related issues. Due to the sectorial bargaining of the trade unions, the wage rate of labour has increased manifolds in the past. This sectorial bargaining which increased the wage rate is binding to all the firms in the industries including cottage and small. So, the wage rate of the labourers has been increasing in a regular time interval but labour productivity has remained the same. This trend has specifically inhibited the growth of carpet industry. Many cottage and small firms in the carpet industry have been forced to employ the labourers informally as they are unable to pay this increased wage to the formal labourers. Labour costs in Nepal are the highest in all of South Asia, with a total annual cost per worker of U.S Dollar (USD) 1,889, compared to a cost in Sri Lanka of USD 1,619, Pakistan of USD 1,052, India of USD 943, and Bangladesh of USD 789. Between October of 2010 and October 2011, labour costs have increased by 35% for carpet manufacturers in Nepal.

Ashesh Shrestha

About Ashesh Shrestha

Ashesh Shrestha is an independent researcher. He has an Economics background and is interested in Monetary economics and Public finance.

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Reducing the Cost of Doing Business to Boost Private Investment and Economic Growth

Many economists of the 20th century spent their life working on theories of economic growth. They have explained their growth models in varying ways and from different angles. The technicalities in these theories might vary but if we carefully examine, we can find a common aspect in all of them. They agree to each other on the fact that higher level of economic growth cannot be attained without high level of investment. The growth in the level of investment increases the level of income and employment, directing the country towards the path of economic prosperity. Continue reading

Ashesh Shrestha

About Ashesh Shrestha

Ashesh Shrestha is an independent researcher. He has an Economics background and is interested in Monetary economics and Public finance.

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Obtaining Tax Clearance Certificate in Nepal

The infographic depicts the process of obtaining tax clearance certificate from Inland Revenue Office.  A taxpayer has to go through a number of steps before he finally obtains tax clearance certificate. Out of all the steps, some of the steps seems redundant and they can be clubbed into a single step without affecting the efficiency of the entire system. For example the Dues section checks if any previous dues are left or not. If previous dues are left, the tax payer has to go the bank and pay the due amount, and present a photocopy of the payment slip at tax office. Again, the Tax payment Unit, verifies if the self- assessed tax amount payable by the tax payer is correct or not. If the self- assessed amount is lesser that the amount to be actually paid, the tax payer again has to go to the bank and pay the remaining amount and bring a photocopy of the payment slip.

Here, we can see that if a taxpayer has his previous dues left and if his/her self- assessed tax amount falls short of what is actually to be paid, he/she has to go to the bank twice. If checking previous dues and correcting the self- assessed tax amount can be done in a single step, the taxpayer would be spared from having to visit bank twice for similar purpose. This will reduce total time required to pay taxes and will also make tax payment process more easy and convenient.

Currently, a taxpayer has to allocate an entire day for obtaining tax clearance certificate (given no previous dues are left and self- assessed tax amount is correct). But, if previous dues or left and/or self- assessed tax amount is incorrect, it can take up to 2- 3 days to obtain tax clearance certificate. The large amount of time required for just paying taxes and obtaining tax clearance certificate has increased the cost of doing business. Therefore, it is essential to reduce the number of processes and time involved in obtaining tax clearance certificate so that entrepreneurship would not be discouraged.

Ashesh Shrestha

About Ashesh Shrestha

Ashesh Shrestha is an independent researcher. He has an Economics background and is interested in Monetary economics and Public finance.

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Managing Nepal’s Economy

This article was originally published in The Himalayan Times on 18 Feb, 2018.

The last budget of the Nepal government in the financial year 2017/18 allocated the highest expense of the government to the recurring expenditure on administrative functions. A stalwart figure of NPR 499.15 billion which made for 39% of the total budget was spent on general public services. Without doubt, with the formulation of 7 state governments and 753 local governments this figure would enormously increase in size. However, sources of revenue do not seem to be expanding in tandem with the gigantic increase in expenses required to meet the requirements of the new federal system of governance. The International Monetary Fund projections for Nepal capped at about 3.2% (GDP growth, 2022) do not seem promising and thus coffers are expected to be covered up mostly with the help of foreign loans (since remittances have also been declining in the past few months). One other way in which a percentage could be met with is foreign investments.

But what would make foreign investments flow in the country? The answer could potentially be found in Nepal’s unique approach of managing its macro economy. For starters, the value of currency depends on the position of its neighbour, India’s currency, with which it is pegged. The same projection by IMF predicts India to be a much accelerated economy of projections of about 8.2% (GDP growth, 2022). This in turn is likely to keep the dollar value of Indian Rupee at a steady rate, if not appreciating in value which in turn keeps the Nepali rupee stronger in the international currency market. So, how do we capitalise the situation? The answer to some extent lies in Central Bank’s interest rates game. If the currency is kept at a slowly appreciating value in the international market, the central bank could either increase or decrease rates with the following consequences.

One of the prime responsibilities of the central bank is to maintain price stability. As we can foresee rising government expenditure will lead to a significant rise in aggregate demand in the economy, inflation then would seem inevitable. In order to control high inflation, central bank will have to tighten its monetary policy, and thus increase the interest rate. However, with higher interest rate, the cost of borrowing increases which in turn would reduce private sector investment in the economy. The reduction in private investment could adversely affect the economic growth of the county, which is a negative consequence of the rise in interest rate.

But, apart from maintaining price stability, there is another positive side which is a consequence of the interest rate hike. With the rise in interest rate, return on capital will increase which would induce more capital inflow into the country. Furthermore, given the rising strength of the Indian economy and Nepal’s fixed exchange rate regime with India, we can assume the expectation of the foreign investors regarding the future value of the Nepalese currency to be on a positive trend. This would complement the higher interest rate in bringing more capital in the country.

However, in order for the above phenomenon to materialize, it could take a considerable amount of time. Additionally, there are chances that things might not move as explained above as numerous other variables come into play which have not been accounted for. Therefore, hiking the interest rate might turn risky as private investments are crowded out and economy may move towards the downward direction. Considering this fact, the central bank could instead opt for an expansionary monetary policy and, keep the interest rate from increasing further. This would leave the private sector investment unaffected and would save the economy from plunging. But again, with this policy, we can expect significant rise in inflation rate. Given, the constant rate of interest (unchanged rate of return on capital) and higher expected rate of inflation, the owner of the foreign capital inside the country can easily anticipate a reduction in the real value of their capital. This would induce them to take the capital out of the country reducing the level of foreign investment in the country.

Both of these options have positive and negative aspects. Before implementing any of these policies, it is necessary to look into the responsiveness of private investment with respect to interest rate and, behaviour of the foreign capital with respect to interest rate and inflation. For instance, if private investment is highly responsive to the change in interest rate and foreign capital inflow is relatively less responsive to the change in interest rate, extremely tight monetary policy is not desirable. In this case, high increase in the interest rate will crowd out private investment but will not cause an increase in inflow of foreign capital, thus hampering the economic growth.

However, this comes with a cautionary note. For a first, this is not to indicate cent percent likelihood of the situation as described above. Multiple factors influence the likelihood of either or neither of these situations taking form. And secondly, considerable amount depends on the Indian economy being strong, even though projections and policies favour a booming Indian economy, yet still they are projections and should be taken with a cautionary approach. Thus, while the above could be taken into consideration through economic conjecture, a blanket promise of the same is not advocated through the above article.

Ashesh Shrestha

About Ashesh Shrestha

Ashesh Shrestha is an independent researcher. He has an Economics background and is interested in Monetary economics and Public finance.

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PAN Registration Process in Nepal

We can observe from the infographic that an entrepreneur who wishes to obtain PAN registration certificate for his/her business has to go through three desks and six steps before he/she finally gets a PAN certificate. Out of the entire procedure, it seems that we can remove at least two steps without hampering effectiveness of the registration process but making it more efficient, instead. Firstly, after entering information provided by applicant into the computer system and issuance of the submission number, it seems unnecessary to take it back to the Tax Officer for corroborating information provided by the applicant with the information entered into the computer. This process could be reduced if entry is done carefully enough at PAN registration desk. If this could be achieved, PAN certificates could be printed at second step itself. Thus, the applicant would not have to go to Tax Officer (third step) and again come to PAN registration desk (Fifth step), reducing the process to four steps from six. This makes the registration process faster and more efficient.

In order to make PAN registration process easier, the number of documents that need to be submitted by the applicant could also be reduced. PAN registration is a secondary registration. A business initially has to get registered at Office of Cottage and Small Industry, Department of Industry, Office of the Company Registrar or Commerce Office before applying for PAN registration. Hence, documents such as Citizenship certificate, Estate ownership document/ rental contract and Location map of the proposed industry/trading business have to be presented during the primary registration as well. If there was a proper co-ordination between the primary registration agencies and Inland Revenue Offices, applicants would not have to go through the redundant process of submitting the same documents again.

It is really disappointing that in the world where technological advancement has reached great heights, our government agencies still does not have any mechanism by which information could be shared digitally. Now, the task of submitting same document again might not be a laborious one but it would at least liberate entrepreneurs from submitting same documents at multiple places. This could also be a small step towards digitization of all the government works which would make government’s service delivery more efficient.

Ashesh Shrestha

About Ashesh Shrestha

Ashesh Shrestha is an independent researcher. He has an Economics background and is interested in Monetary economics and Public finance.

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