A STUDY ON TRADE IN GOODS

Submitted to

NEPAL'S ACCESSION TO THE WTO PROJECT
(NEP/96/010) UNCTAD/UNDP/HMG Nepal

Submitted by Bhubanesh Pant

Kathmandu, Nepal April 2002

Preface The enforcement of the Uruguay-Round agreements since the beginning of 1995 has posed many challenges to the least developed countries (LDCs). On the internal (domestic) front, these include imperatives to make adjustment in the domestic production and trade regime to stay active in the international market characterized with tough competition. On the external side, the challenges emanate from the issues related to the WTO framework itself. This study has been undertaken to strengthen the capacity of His Majesty's Government of Nepal (HMG) to negotiate commitments in the goods sector. The study attempts, among others, to a) compare the WTO agreements with Nepal's legislations on industry and trade; b) suggest an indicative optimum level of protection for domestically produced and potentially domestically produced goods; and c) and indicate Nepal's stance in goods sector in WTO accession and prescribe policy recommendations for industrial development as well as export expansion in the context of WTO membership. I am grateful to Mr. Prachanda Man Shrestha, Joint Secretary, Ministry of Industry, Commerce and Supplies for his valuable suggestions during the research period. This report could not have taken its present form without the invaluable advice and comments provided by Dr. Posh Raj Pandey, National Programme Manager of Nepal's Accession to the WTO Project. I owe my gratitude to him. I am very thankful to the officials of various ministries and departments of His Majesty's Government of Nepal as well as individuals of the private sector for their worthy comments during the course of this study. The institutions that provided support materials and access to some invaluable data included the project office of Nepal’s Accession to WTO, Nepal Rastra Bank, Trade Promotion Centre, National Planning Commission, Central Bureau of Statistics, Ministry of Industry, Commerce and Supplies, Department of Customs, Federation of Nepalese Chambers of Commerce and Industry, Tribhuvan University Library, the documentation cell of the UNDP, and the Kathmandu offices of the World Bank and the Asian Development Bank. I am grateful to all of them. Finally, I would like to express my sincere appreciation to UNCTAD/UNDP for financing this crucial study. Bhubanesh Pant

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CONTENTS Acronyms Executive Summary Chapter 1 Introduction 1.1 Globalization and WTO 1.2 Constraints of LDCs 1.3 Nepal’s Accession, Industry and Trade 1.4 Objectives, Sources and Study Limitations Review of Industrial and Trade Sector 2.1 Introduction 2.2 Industrial Sector Review 2.2.1 Objectives and Trends 2.2.2 Comparison of Manufacturing Sector with Other Countries 2.2.3 Estimates of Productivity Level 2.2.4 Estimates of Productivity Growth 2.2.5 Public Enterprises and Privatization 2.2.6 Industrial Policy and Industrial Enterprises Act, 1992 2.2.7 Foreign Invest and Technology Transfer Act, 1992 2.2.8 Impact on Employment and Poverty 2.3 Trade Sector Review 2.3.1 Objectives and Trends 2.3.2 Trade Policy of 1992 2.3.3 Trade Liberalization and Its Impact on Employment 2.3.4 Nepal-India Trade and Trade Treaty and SAARC 2.4 Conclusions WTO Agreements and Nepal’s Industrial and Trade Laws: A Comparison 3.1 Introduction 3.2 Relevant Agreements, Acts, and Policies 3.2.1 Technical Barriers to Trade 3.2.2 Customs Valuation 3.2.3 Preshipment Inspection 3.2.4 Import Licenses, Safeguards, Subsidies & Countervailing Measures, and Antidumping 3.2.5 Trade-related Investment Measures 3.2.6 Trade-related Aspects of Intellectual Property Rights 3.2.7 State Trading Enterprises 3.2.8 Rules of Origin 3.2.9 Sanitary and Phytosanitary Measures 3.2.10 Other Related Acts 3.3 Conclusions Page No. 6 7 11 11 11 12 13 14 14 14 14 18 19 19 20 21 22 23 24 24 29 30 31 32 35 35 35 35 36 38 38 41 43 44 44 45 46 46

Chapter 2

Chapter 3

3

Chapter 4

Tariff Binding under WTO 4.1 Introduction 4.2 Nepal’s Current Tariff System 4.3 Tariffs and WTO Provisions 4.3.1 Classification of Tariffs 4.3.2 Tariff Binding: Process and Approaches 4.3.3 Tariff Escalation and Market Access 4.4 Tariff Binding Options 4.5 Methodology for Computing Effective Protection Rates 4.6 Results of Effective Protection Rates 4.6.1 Manufactured Products 4.6.2 Potential Products 4.7 Tariff Offers Industry and Trade Sector: Bottlenecks and Remedies 5.1 Introduction 5.2 Industry-related Bottlenecks and Remedies 5.2.1 Industry Potential and Infrastructure Problems 5.2.2 Skill-related Problems 5.2.3 Public Enterprises, Privatization and Role of Industrialists 5.2.4 Foreign Direct Investment 5.2.5 Technology 5.2.6 One Window System 5.2.7 Taxation 5.2.8 Data Problems and Studies on Comparative Advantage 5.3 Trade-related Bottlenecks and Remedies 5.3.1 Commodity and Market Diversification 5.3.2 Transit Difficulties 5.3.3 Tariff Determination and Valuation 5.3.4 Paucity of Legal Framework 5.3.5 Absence of Effective Institution 5.3.6 Quality Standardization 5.3.7 Development of Export Processing Zones 5.3.8 Lack of Trade Data 5.3.9 Lessons from Experiences of SAARC Countries 5.3.10 Government/Private Sector Dialogue 5.4 Conclusions Policy Issues on Trade in Goods 6.1 Introduction 6.2 Special and Differential Treatment 6.3 Import Protection and Export Protection 6.4 TRIMs 6.5 TRIPs 6.6 Competition Policy 6.7 Trade Policy and Strategic Alliance 6.8 Rural Industrialization and Small and Medium Enterprises 6.9 WTO, Poverty and Employment 6.10 Conclusions

49 49 49 50 50 50 51 52 53 54 54 57 58 60 60 60 60 61 61 62 63 63 64 65 65 65 65 66 67 67 67 68 68 68 69 69 74 74 74 75 75 76 77 77 78 79 70

Chapter 5

Chapter 6

4

Chapter 7

Conclusions and Recommendations 7.1 WTO Agreement and Nepal’s Laws 7.2 Tariff Binding 7.3 Recommendations for Industrial and Trade Sectors 7.3.1 Industrial Sector 7.3.2 Trade Sector 7.4 Policy Issues

82 82 83 83 83 84 85 87

Selected References

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ACRONYMS BOP CBS CIF DCSI DOC DOI FDI FNCCI GATT GDP GNP GSP HMG IEA IMF IPR IRD ITC LDC MFN MOF MOFA MOICS MOST NPC NRB OGL OWC PSI QR R&D SAARC SAFTA SAPTA SDT SITC SPS UNCTAD UNIDO TBT TEU TRIMs TRIPs VAT
WIPO

: : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : : :
:

balance of payments Central Bureau of Statistics cost, insurance and freight Department of Cottage and Small Industry Department of Customs Department of Industry foreign direct investment Federation of Nepalese Chambers of Commerce and Industry General Agreement on Tariffs and Trade gross domestic product gross national product Generalized System of Preferences His Majesty’s Government of Nepal Industrial Enterprises Act International Monetary Fund intellectual property right Inland Revenue Department International Trade Centre least developed country most-favoured nation Ministry of Finance Ministry of Foreign Affairs Ministry of Industry, Commerce, and Supplies Ministry of Science and Technology National Planning Commission Nepal Rastra Bank Open General License One Window Committee preshipment inspection quantitative restriction research and development South Asia Association for Regional Co-operation South Asian Free Trade Area South Asian Preferential Trading Arrangement special and differential treatment standard international trade classification sanitary and phytosanitary United Nations Conference on Trade and Development United Nations Industrial Development Organization technical barriers to trade twenty foot equivalent unit trade-related investment measures trade-related aspects of intellectual property rights value-added tax
World Intellectual Property Organization

WTO

:

World Trade Organization

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EXECUTIVE SUMMARY Nepal is currently in the process of accession to the World Trade Organization (WTO). WTO accession process and negotiations are intricate and the commitments to conform to the rules and disciplines of WTO Agreements have far-reaching repercussions on the trade and industrial development of the country. The objectives of this study are to a) assess the contribution of the industrial and trade sectors to the national economy; b) compare the WTO agreements with Nepal’s legislations on industry and trade; c) recommend figures for tariff offers based on effective rate of protection and other considerations for domestically produced or potentially domestically produced goods; d) spell out major hurdles that hinder the competitiveness of the country’s industrial and trade sectors and suggest measures to tackle them; and e) highlight some core issues relating to trade in goods that should be considered by the policymakers of Nepal in light of the country’s accession to the WTO in the future. Part 1 of Chapter 2 examines the roles of the industrial and the trade sectors and their contribution to the Nepalese economy. The share of manufacturing in GDP increased from 6.8 percent in 1990/91 to 9.7 percent in 1999/2000 while the growth-rate of value-added of the manufacturing sector were 17.68 percent and 13.01 percent, respectively in 1990/91 and 1999/2000. Nepal’s per capita manufacturing value-added was among the lowest industrial producers in the world in 1997. The technology level of manufacturing was among the lowest in Asia. Nepalese firms have lower productivity, on average, than their international competitors. The privatization of public enterprises is also discussed as all of these enterprises have disclosed absence of professional competence, making them unproductive and loss accumulating. The contributing factors to this state of affairs include a) regular intervention by the government in their daily affairs; b) appointment of government bureaucrats to manage them who rarely fulfil their responsibilities; c) acceptance of government subsidies as easy money by the public enterprises; d) the absence of a link between the survival of the public enterprises and their performance; and e) very low capacity utilization. The aim of the Industrial Policy of 1992 was to develop the industrial sector through the operation of market forces so that industries could be promoted where comparative advantages prevailed. This objective has not been attained to the desired extent. The Foreign Investment and Technology Transfer Act 1992 was enacted in line with open and liberal economic policies. A traditional attraction of Nepal, that is, cheap labor, is become less important in investment decisions. The second part of Chapter 2 deals with the trade sector. During the ten-year period (1990/911999/2000), there has been no noticeable change in the composition of exports to both India and overseas. There has also not been any major shift in markets with regard to exports. The top major trading partners in the export front for 1999/2000 have been India, USA, Germany and United Kingdom. The export/import ratios, which measure the degree of trade-off between exports and imports, has slightly risen after 1996/97, indicating that the country’s dependence on imports is gradually

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declining. The share of manufactured good exports has increased slightly from 80 percent in 1990/91 to 81.3 percent in 1999/2000. The Trade Policy of 1992 aimed at promoting sustainable growth by undertaking open and liberal policies, and by allowing wider private sector participation. However, certain measures incorporated in the Trade Policy have not been implemented such as the setting up of Export Processing Zone and the Nepal Trade Promotion Organization, among others. It was during the mid-1980s that Nepal embarked on its trade liberalization programme. The speed of Nepalese liberalization is guided by the pace of liberalization in India and the geopolitical realities of the country. In Chapter 3, most of the country’s industrial and trade polices and laws are examined and found in conformity with the WTO provisions. Nevertheless, some amendments may be necessary. • With respect to the Agreement on Customs Valuation, there is no guideline for executing the transaction value. However, there is a new provision in the Finance Act, which will be passed very soon, that calls for the adoption of the underlying principle of WTO in valuation of customs purposes. Nepal currently does not use the services of preshipment inspection and it does not maintain any TRIMs. The country maintains import licensing only for restricted goods, and licensing is automatic. Presently, there prevails no system of anti-dumping or any legislation to that effect, and no countervailing duty regime and no safeguard regime in effect in the country. Most of the subsidies, given in the Industrial Enterprises Act (IEA), 1992, are permissible. Still, there are subsidies that promote the use of domestic goods and that are not in line with WTO provisions. In terms of TRIPs, the present Acts on patent, design, trademark, and copyright demands an amendment and the prevailing terms of protection and enforcement will have to be extended. No discrimination exists in terms of Rules of Origin. The country has detailed legislations for management of the sanitary and phytosanitary regime. However, to impart more transparency to the SPS regime, Nepal should formally subscribe to Codex Alimentaire.

• • • • • • •

The effective rate of protection for some manufactured goods and some potential manufactured goods are computed in Chapter 4. An indicative level of protection is also suggested for these goods based on the effective rate of protection and other factors, including a) impact of tariff changes on the macro-economic indicators such as GDP and the balance of payments (BOP); b) effect of tariff changes on custom revenues; c) concessions granted to LDCs; c) suggestions from the business community; and d) the fact that credibility to the liberalization process can be demonstrated to the international community by binding tariffs at levels in proximity to the prevailing rates. Chapter 5 discusses the problems of both the industrial and trade sectors and attempts to provide guidelines to rectify these problems. The major problems of the industrial sector consist of sub-optimal exploitation of industrial potential, infrastructure bottlenecks, complications relating to privatization of public enterprises, inadequate foreign investment, poor functioning of the one window system, arbitrary assessment of taxes, scarcity of skilled manpower, data limitations and limited studies on comparative

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advantage. On the trade side, the constraints include lack of commodity/market diversification, difficulties in transit, improper and inconsistent method in tariff determination and valuation, paucity of strong legal framework, lack of quality standardization, absence of export processing zones, and lack of regular government/private sector dialogue. The recommendations for the industrial sector are as follows: • • • • • Only those industries should be opted for promotion that are competitive in international markets, and possess comparative advantage and higher domestic value-added. Some amendments need to be incorporated in the Privatization Act that should include more private sector participation in the privatization committee and a comprehensive and clear formulation of privatization regulation and guidelines. Simplification and transparency of the registration procedure is required with regard to foreign investment. The rules relating to recruitment of expatriates, visa requirements, repatriation procedures of income, and consultancy fee, among others, should be simplified. The One Window Committee’s authority should be expanded in order to take decisions relating to providing infrastructure facilities and support services and coordinating the issues concerning customs and tax. Detailed studies to assess the comparative advantages and competitiveness of industrial products should also be conducted.

The recommendations for the trade sector include the following: • • • • The major focus should be on the identification of new exports and new markets for sustainability of exports. The Export-Import Control Act 1957 should be amended or a new Foreign Trade Act in line with the WTO provisions should be enacted. With regard to the transit problem, the major remedy is to sort out solution with the Government of India for quick functioning of Birganj Container Terminal. There is a need to examine effective rates of protection when fixing tariff rates. A permanent Tariff Commission should be established to provide effective assistance to the Government and the private sector in fulfilling obligations of WTO rules and various regional cooperations. The Nepal Trade Promotion Organization (NTPO) should be set up as envisaged in the Trade Policy of 1992. It is necessary to strengthen the Department of Quality Standard and fix a minimum benchmark for export quality as per international standard. Finally, there must be an ongoing dialogue between the Government and the private sector on issues relating to industry and trade.

• • •

Chapter 6 examines various important issues on the WTO provisions as they relate to the pursuit of industrial and trade policy objectives by LDCs in general and Nepal in particular. It also discusses some major issues relating to trade in goods in the background of the country’s accession to the WTO in the future. The intensification of competition is likely to marginalize the country and increase market concentration. In order to respond to the threat of marginalization in the global economy, Nepal should undertake this task from three perspectives. One, the country should assess its productive potential as well as its comparative advantages, and identify new export products in order to expand the productive base, diversify exports and build up a more secure and stable source of

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income. Two, Nepal should participate more actively in regional trade groupings such as SAARC. And three, strategic alliances with developing and industrialized country firms could assist the country in attaining market penetration. Nepal should prescribe selective, performance-related and time-bound protection of infant industries. Such protection should be employed strictly as a transitional provision to address market failures and promote learning and capacity-building for future competitiveness. In terms of export promotion, the focus should be on reducing fiscal and procedural constraints on exports, trade facilitation, and generic policies to make the country more competitive such as infrastructure development and an appropriate exchange rate policy. The WTO rules are ownership-neutral. Policies such as subsidies and local content protection do not distinguish between foreign affiliates and domestic enterprise. The important point is the ‘trade effect’ of the instrument. This implies that if Nepal wants to apply a particular policy to foreign-owned firms, it must first find a provision in the Agreement that permits the use of the policy. Then, it can apply it to a foreign firm as long as there is no ‘trade effect.’ The implementation of the TRIPs could make the transfer of technology to Nepal more costly. The liberalization of the investment and technology transfer regime will increase the financial marginalization of Nepal. Still, as Nepal does not possess comparative advantage in innovation, attempts to develop certain sectors within the WTO imply that they will have to depend largely on the transfer of technology from foreign countries. WTO plays an instrumental role in promoting competition. Nepal, especially after being a WTO member, should be concerned about the restrictive business practices of the MNCs, which set up affiliates in their economies. Thus, the policymakers should consider developing some sort of competition laws that address the source of the problem directly. The policymakers should also recognize that the tools and timing of competitive exposure for small and medium scale enterprises need to be selective. In this respect, there are several strategies involved that should be borne in mind. These include, among others, the following: a) support of infant industry, but for a limited period; b) promotion of activities that possess long learning benefits but generate considerable external benefits; and c) rapid liberalization of activities that would bring in new technologies to permit firms to utilize existing capabilities to reach competitive levels without further need for protection. Nepal could create non-agricultural employment by associating agro-enterprises and available human resources with industrial occupation in order to develop rural-urban linkages. It is also important to develop micro-enterprises and informal sector at the grassroots level, generate intermediate goods as their forwarded linkages, and link them to medium and large-scale industries with comparative advantages. Chapter 7, the concluding chapter, highlights the important and relevant portions of the study.

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Chapter 1 Introduction 1.1 Globalization and WTO Trade is crucial to developing and least-developed countries (LDCs) for a variety of reasons. One, it is often the principal mechanism of achieving the benefits of globalization. Countries win when they gain market access for their exports and new technology through international transfers, and when heightened competitive pressure improves the allocation of resources. Two, the continuing reallocation of manufacturing activities from industrial to developing and LDCs provides many opportunities for expanding trade both in goods and in services. Finally, the growth of trade is firmly buttressed by international institutions. The World Trade Organization (WTO), established in 1995 on the legacy of the General Agreement on Tariffs and Trade (GATT), is the primary institution in generating a commercial environment suitable to the multilateral exchange of goods and services. 1.2 Constraints of LDCs The WTO is intended to generate new trading opportunities for the benefit of all countries. Still, almost all of the LDCs encounter difficulties in the identification of such opportunities. Thus, the risk of increased marginalization from the global economy seems to be rather high for the LDCs, as they are often equipped with weak supply capacities and a limited ability to use new economic opportunities and enhance their export potential. The problems of industrial development are also quite severe in LDCs since most of them are still in the rudimentary stages of development, as are their factor and product markets, because of their weak structural features. They do not have the necessary resources, infrastructure, institutions, skills and organizational and innovative capabilities necessary for developing their enterprise sector. Evidence in industrial development discloses that LDCs’ enterprises, especially those in the manufacturing sector, are ill-equipped to take advantage of the opportunities arising from a more liberal domestic and international economic environment. It would, thus, be difficult for them to cope with the challenges of competitiveness and development associated with globalization. LDCs are trapped in a vicious circle whereby the existing production structure can lead to little diversification and export earnings in the absence of new investment. However, this demands significant amounts of foreign exchange and imports. Export growth is thus hindered by the low availability of imports, which cannot be augmented due to inadequate export earnings and capital inflows. Thus, one of the paramount development challenges facing LDCs would appear to be how to establish the necessary export capacity to produce goods and services on a competitive basis. There has been very little progress in terms of export diversification. There is a growing recognition that FDI can be an important factor in economic development and in the integration of countries into the global economy. LDCs have taken steps to enhance their

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capacity to attract FDI, for example, by creating a better policy and regulatory environment, and by setting up investment promotion agencies. Despite this, however, they have made limited progress in attracting FDI flows. Owing to weak technical and management capabilities in LDCs, exporters cannot adhere to the increasingly complex and detailed specifications demanded by importers from developed countries with regard to quality, size, delivery time, and packaging, among others. Considering the new intensive competitiveness in global markets, LDC exporters require a better understanding of elements of their production costs to be able to undertake realistic and crucial price negotiations with buyers. The LDCs risk being further marginalized in the liberalized global economy unless they can adapt to the new competitive international environment. For this, they will need to a) improve their domestic supply response, b) improve market access, and c) strengthen their capacity for participation in the multilateral trading system, including accession to WTO by those LDCs that are not WTO members. 1.3 Nepal’s Accession, Industry and Trade Membership of WTO allows countries to put forward their trade and economic interests through effective participation in multilateral trade negotiations, thus obviating the need for a series of periodic bilateral trade agreements with trading partners. But, WTO is more than simply a trade organization: its influence spreads beyond trade negotiations and it has a growing impact across a wide spectrum of trade-related issues. Nepal did not take initiative to become the member of then global trading regime—GATT, predecessor of WTO, until 1989 following a trade dispute with India. However, the dispute lasted for 15 months, and new treaties were signed in 1990. Hence, the urgency for Nepal to become a WTO member so as to be protected under GATT Article V on transit rights diminished. It, thus opted for the Observer status, and did not convert that into an application to join the WTO until 1997. The Government, since then, has been undertaking steps gradually as per the accession process. Various factors and conditions seem to have contributed to the importance attached by the Nepalese policymakers on WTO accession. In the past, long and open border with India restricted the country’s flexibility in framing and implementing independent economic policies. Consequently, Nepal had been subjected to negative spillover effects of inward looking and inefficient industrial system in India. But this gradually changed in the early 1990s when India embarked upon bold trade liberalization programmes, including the drastic lowering of barriers to imports of capital goods and other inputs into production. Subsequently, Nepal also started to capitalize on the opportunity to open up as carried out by India. Nevertheless, a lot more needs to be done. Industrial development has taken a very slow pace in Nepal. In the 1990s, policies were framed and implemented to make the local industries competitive through liberalization of imports as well as making them efficient for exports. Priority was accorded on entrusting the leadership of private sector in the industrial sector as well as on the privatization of government-owned enterprises. But the results have not been very satisfactory. A variety of constraints such as its land-locked situation and poor resource endowment, underdeveloped physical, social and institutional infrastructure, and paucity of skilled manpower have obstructed the development

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efforts of the country. Moreover, as about 80 percent people earn their livelihood from agriculture and the contribution of the manufacturing sector to GDP is about 10 percent, some concrete measures need to be taken urgently to develop this lead sector by both the Government and the private sector. A sound policy implemented weakly will not generate any positive return. Nepal’s exports consist of selected commodities such as garments, carpets, pulses and vegetable ghee and its markets are also limited, the major ones being India, USA, Germany and the United Kingdom. One important challenge of the country is to devise and implement appropriate policies for the promotion, production, development, expansion and diversification of exportable goods to cope with the adverse balance of payment situation. Additionally, concrete policy measures to ensure unrestricted and tariff-free access of Nepalese goods to markets of neighboring and developed countries should be accorded greater attention. 1.4 Objectives, Sources and Study Limitations Against this background, the objectives of this study are to: • • • • • study the trend and composition of manufactured and exportable commodities and evaluate the impact of the various industrial and trade policies on the Nepalese economy; review the WTO Agreements and identify the areas of contradiction and compatibility of the Agreements with the industrial and trade polices and other related laws of Nepal; suggest an indicative optimum level of protection for some domestically produced and potentially domestically produced manufactured goods; identify the principal bottlenecks for the competitiveness of the country’s industrial and trade sector and formulate appropriate policies for its development; and highlight some core issues relating to trade in goods that should be considered by the policymakers of Nepal in the light of the country’s accession to the WTO in the future.

The project office of Nepal’s Accession to WTO provided the principal sources for this study. There were other institutions that provided support materials and secondary data including the Nepal Rastra Bank, Trade Promotion Centre, National Planning Commission, Central Bureau of Statistics, Ministry of Industry, Commerce and Supplies, Department of Customs, Federation of Nepalese Chambers of Commerce and Industry, Tribhuvan University Library, the documentation cell of the UNDP, and the Kathmandu offices of the World Bank and the Asian Development Bank. The major limitation of the study was the lack of data as a result of which the effective protection rates were computed using a very simple method.

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Chapter 2
Review of Industrial and Trade Sector 2.1 Introduction Industrialization has a significant part to play in the long-term development of the country. It is one of the best training grounds for skill development and also an important source of structural change and diversification; and it can raise the flexibility of the economy and reduce dependence on external forces. It also provides employment, foreign exchange, and domestic savings. The dynamism of international trade during the past two decades in particular, and its growing influence on international economic relations, has increased attention, especially in LDCs, on its contribution to economic growth. The link between trade, development and growth is a symbiotic one. Trade allows specialization based on comparative advantage, and assists countries to upgrade production processes and increase value-added through a more efficient use of resources. Increased competition that accompanies specialization and productivity growth has been instrumental in cementing the linkages between trade and growth. Also notable has been the process of market liberalization that has opened up trading avenues for new countries and products. This chapter attempts to evaluate the roles of the industrial sector and the trade sector and their contribution to the Nepalese economy. Side by side, the major policies linked to these sectors as well as other important issues are examined. 2.2 Industrial Sector Review 2.2.1 Objectives and Trends The contribution of the industrial sector to the GDP has hovered around 10 percent in Nepal. Although import substitution policy with high protection was adopted till the 1980s, the domestic industries could not expand and become competitive. The objectives of the Ninth Plan (1997-2002) were to a) increase contribution of industrial sector in domestic production, b) increase the earnings and reserves of foreign exchange through the identification of commodities of comparative advantage, c) increase the production of processed goods through the arrangement of necessary infrastructure, and d) increase the income and purchasing power of people residing in rural areas in contribution of industrial sector in domestic production, through the cottage and small scale industries. However, most of these objectives have not been fulfilled to the desired extent and the Plan’s target of attaining 14 percent (in terms of industrial sector’s contribution to GDP) at the end of the Plan is unlikely to be met.1 Industries in Nepal comprise of the following: • • • manufacturing industries (industries that produce goods by employing or processing raw materials, semi-processed materials, by products or waste products or any other goods); energy-based industries (industries producing energy from water resources, wind, solar, coal, natural oil, gas, bio-gas or any other sources); agro and forest-based industries (industries whose income is based on agriculture or forest products such as integrated sericulture and silk production, horticulture and fruit

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• • • •

processing, fishery, diary industry, tea gardening and processing, herb processing, vegetable seed farming, tissue culture, rubber farming, and forestry related businesses such as lease-hold forests, etc.); mineral industries (mineral excavation or processing thereof); tourism industries (tourist lodging, motel, hotel, restaurant, resort, travel agency, trekking, golf-course, etc.); service industries (workshop, printing press, consultancy, hospital, public transportation business, educational and training institution, etc.); and construction industries (road, bridge, ropeway, railway, and residential complex construction and operation, among others).

The focus of this chapter is on manufacturing industries. The share of manufacturing in GDP went up from 6.8 percent in 1990/91 to 9.7 percent in 1999/2000, an increment of more than 40 percent.2 Similarly, the growth rate of value-added of the manufacturing sector were 17.68 percent and 13.01 percent, in 1990/91 and 1999/2000, respectively. These are all depicted in Table 2.1. A high growth rate of manufacturing valueadded indicates an increasing performance of the primary factors of production, and vice-versa.
Table 2.1 Manufacturing Sector’s Contribution to the Economy Fiscal Year 1990/91 1991/92 1992/93 1993/94 1994/95 1995/96 1996/97 1997/98 1998/99 1999/2000* Average *Provisional Source: CBS. % of GDP at Factor Cost 6.80 8.85 8.84 9.32 9.31 9.38 9.21 9.31 9.19 9.69 8.99 Growth rate of value-added 17.68 31.99 6.23 12.31 1.96 9.04 7.06 3.42 5.29 13.01 10.80

Manufacturing sector is critical to the pursuit of sustained growth due to its potential to promote technological capacities, advance the diversification of production and exports, add value to exports, and foster intersectoral and inter-industry linkages. As Table 2.2 shows, there is no significant change in the structural pattern between 1991/1992 and 1996/97, particularly with regard to food, beverage and tobacco, wood and wood products, paper and paper products, and chemicals, rubber and plastic products. The most significant change was noticed in textile group in which there was a drastic fall in the number of carpet industries between 1991/92 and 1996/97, mainly due to the ban by Germany of carpets manufactured with utilization of child labor in the manufacturing process. There was also a fall in the composition of non-metallic mineral manufacturing companies during the 1990s owing to a slack in construction works and a subsequent fall in demand of constructionrelated goods. An increment in the proportion of manufacturing establishment of fabricated metal products is ascribed to the emergence of different types of electronic industries between 1991/92 and 1996/97.

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Table 2.2 Structure of Manufacturing Output Sectors Food, Beverage & Tobacco Textile, Wearing Apparel and Leather Wood and Wood Products Paper and Paper Products, Printing and Publishing Chemicals, Rubber and Plastic Products Non-metallic Mineral Products Basic Metal Industries Fabricated Metal Products Other Manufacturing Establishments Total Source: CBS. 1986/87 21.23 23.08 10.03 5.31 6.81 24.49 1.02 7.01 1.02 100 1991/92 17.37 39.85 9.32 4.26 5.90 16.60 0.35 5.48 0.87 100 (in percent) 1996/97 19.65 29.26 9.41 5.54 6.77 17.51 0.62 9.51 1.72 100

The overall manufacturing index went up by 8.7 percent in 1999/2000 compared to 1998/1999. This is illustrated in Table 2.3. Among the products that increased significantly in 1999/2000 compared to 1998/1999 were sugar, tea, vegetable ghee, synthetic textiles, plywood, paper, bricks & tiles, iron rod & angles, and dry cell battery. The production of the following commodities fell considerably in 1999/2000 compared to 1998/99: bidi, jute goods, process leather, plastic goods, and steel utensils. Details are provided in Table 2.4.
Table 2.3 Index of Manufacturing Production (1986/87=100) Major Industry Group Food Manufacturing Beverage Industries Tobacco Manufacturing Manufacture of Textiles Leather & Leather Products Footwear Manufacturing Wood & Wood Products Paper & Paper Products Manufacture of other Chemical Products Manufacture of Rubber Products Manufacture of Plastic Products Other Non-metallic Mineral Products Iron and Steel based Industries Manufacture of Cutlery, Hand Tools except Machinery Equipment Manufacture of Electricals, Industrial Machinery Apparatus, Appliances Overall Index Source: MOF Weight 1990/91 1991/92 1992/93 1993/94 1994/95 1995/96 1996/97 1997/98 1998/99 1999/2000 % 19.25 190.25 209.50 218.90 251.22 284.52 302.39 309.47 684.42 865.46 944.82 3.92 179.95 207.41 233.78 178.03 216.00 233.73 257.53 243.88 271.71 305.70 20.11 113.49 118.22 132.94 116.31 125.08 135.39 133.15 136.78 126.99 111.80 18.14 95.44 86.05 92.70 109.41 101.68 132.10 146.44 166.71 158.82 160.77 2.34 114.04 55.45 67.78 63.96 82.92 88.32 86.52 91.50 79.18 24.22 0.41 833.88 1264.46 680.17 578.51 566.12 536.36 454.55 454.55 500.00 537.19 2.02 17.47 30.01 25.98 34.46 32.30 31.84 35.67 18.27 19.73 41.56 0.85 232.87 235.66 248.81 300.29 325.49 424.68 498.53 582.01 714.62 1471.36 6.05 0.65 1.27 16.85 3.07 3.17 1.90 100.00 120.25 221.44 423.26 93.05 132.08 60.74 91.68 129.72 118.21 212.38 368.96 129.11 172.69 49.20 154.22 141.70 131.71 142.30 215.26 120.96 174.59 86.20 90.30 143.68 125.34 98.37 212.08 137.02 205.58 79.57 90.79 150.25 156.98 93.10 203.93 140.52 275.32 68.61 134.44 164.07 214.16 98.80 219.03 138.06 265.09 54.20 170.31 179.97 230.62 99.91 226.59 121.90 310.72 56.03 219.43 185.36 264.97 120.82 191.24 87.45 264.24 22.10 209.06 255.14 279.55 131.56 201.66 98.85 308.69 18.41 207.40 292.46 316.82 113.67 117.22 104.21 380.21 12.16 273.13 317.83

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Table 2.4 Production of Manufacturing Commodities Major Industry Group Food Manufacturing Noodles Biscuits Squash Sugar Tea Animal Feeds Vegetable Ghee Beverage Industries Soft Drinks Beer Liquor Tobacco Manufacturing Cigarette Bidi Manufacture of Textiles Cotton Clothes Synthetic Clothes Jute Goods Leather & Leather Products Processed Leather Footwear Manufacturing Shoes Wood & Wood Products Plywood Straw Board Paper & Paper Products Paper Manufacture of other Chemical Products Soap Detergent Powder Matches Manufacture of Rubber Products Slippers Manufacture of Plastic Products Plastic Goods Other Non-metallic Mineral Products Cement Bricks & Tiles (Govt. Sector) Iron and Steel based Industries Iron Rod, Angles etc. Manufacture of Cutlery, Hand Tools except Machinery Equipment Steel Utensils Agricultural Tools Manufacture of Electricals, Industrial Machinery Apparatus, Appliances Wires/Cables a. GI/HB Wires b. ACSR Conductor/PVC Cable Dry Cell Battery Source: MOF Unit M.T. M.T. Th. Litre M.T. M.T. M.T. M.T. Th. Litre Th. Litre Th. Litre Mil. Sticks Mil. Sticks Th. Metre Th. Metre M.T. Th. Sq. Ft. Th. Pairs Th. Sq. Ft. M.T. M.T. M.T. M.T. Th. Gross Th. Pairs M.T. M.T. Th. Piece M.T.
1990/91 1991/92 1992/93 1993/94 1994/95 1995/96 1996/97 1997/98 1998/99 1999/2000 1774 5538 908 44548 1249 10574 12638 12042 10386 2626 6691 224 5421 16484 11170 14174 1009 268 402 6341 2176 5534 848 55365 1476 21682 12242 13410 12329 3022 6963 245 7207 11445 17639 6892 1530 645 336 6417 2304 6497 1651 64416 1636 15141 11790 12953 14382 3477 7846 247 7139 12795 18199 8424 823 411 574 6775 2775 6278 1816 34044 1993 18000 20233 14507 14900 2100 6894 165 5619 16657 19315 7950 700 570 714 8177 4043 6789 1934 49227 2351 19500 20800 20592 16776 2500 7430 150 5060 14700 20187 10306 685 450 831 8863 4947 6057 2200 67051 2457 21999 19583 23954 18315 2608 8067 120 5160 18123 29908 10977 649 383 936 11564 4908 6868 2300 63374 2561 24000 20663 25783 21497 2800 7944 100 4000 18183 39585 10754 550 476 958 13575 4458 9113 2400 67206 2275 22452 67218 25626 13933 3100 8127 160 3329 18685 51432 11372 550 70 825 15848 6079 11810 2534 75512 2339 22893 86975 25636 18753 3345 7315 548 2678 17811 49328 9841 605 102 840 19459 6021 9129 2379 114247 7395 22755 88715 26211 21725 3847 6584 234 2630 24248 33130 3010 650 590 1048 40065

20057 490 1091 9752 5604

20903 723 942 9353 4885

22970 756 1081 6267 2850

20648 681 1113 4332 2808

23477 2400 1176 4100 2700

25111 6378 1316 4351 2900

29014 7000 1246 4400 3000

39086 4337 1951 5321 2532

47704 3422 1930 5794 2670

49631 4814 2241 5006 1552

135897 237327 247891 315514 326839 309466 226681 139080 190588 32625 34915 27290 23545 23449 25911 32414 28250 22866 45631 59661 60316 71023 95118 91583 107346 91291 106646

205835 25153 131354

M.T. M.T.

265 113

159 735

275 1329

347 150

300 120

240 60

250 40

100 -

83 -

55

M.T. K.M. Th. Nos.

6217 20842 10350

15522 20469 12789

6574 11930 12373

5023 7514 17102

12000 8000 17603

13574 9723 25597

19904 11496 28674

18228 10319 28965

21449 8812 22728

21395 11088 43374

It should be noted that Table 2.4 consists of products that are not only meant for domestic consumption, but also for exports. Notable among them are noodles, vegetable ghee, beer, cotton/synthetic clothes, jute goods, processed leather, shoes, plywood, paper, soap, slipper, and plastic goods.

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2.2.2 Comparison of Manufacturing Sector with Other Countries3 2.2.2.1 Manufacturing Level The industrial output per head of population is the prime indicator of industrial development. Nepal’s per capita manufacturing value-added figured at US$ 18 per day in 1997 (1990 prices), which was among the lowest industrial producers in the world together with African countries such as Nigeria and Tanzania ($12-15). This figure was lower than that of Bangladesh ($22). It was a third of that of Pakistan ($59), a fourth of that of India ($75), and a sixth of that of Sri Lanka ($116). Manufacturing value-added per employee for Nepal was US$2,000 per annum in 1996-97, one of the lowest in the world. It was half the level of Sri Lanka and India. The primary cause could be attributed to the absence of adequate capital, particularly in small and medium industries, which recruited the majority of manufacturing workers. The average growth rate in manufacturing labor productivity was about 3 percent per annum between 1986 and 1996, similar to the rate of India, Pakistan and China. 2.2.2.2 Manufacturing Output Share and Technologocial Level The manufacturing sector formed 9 percent of total GDP in Nepal in 1997 which was about half of that of Pakistan, Bangladesh, India, Sri Lanka. As in many other countries, the manufacturing sector soared at a more rapid rate than the rest of the economy in Nepal. Consequently, this sector’s share in GDP went up by 3 percentage points over the period 1985-1997, a rate of structural transformation analogous to that of India and Sri Lanka, and faster than Pakistan and Bangladesh. Manufacturing industries are grouped into three categories in order to judge and compare the technological capabilities of production in different countries. They are: a) higher technology industries such as pharmaceuticals, chemicals, office and computing equipment, consumer electronics (and parts), communication equipment, motor vehicles and other transport equipment (and parts), and machinery; b) medium-technology industries such as rubber and plastic products, cement, petroleum refinery products, basic metals and simple fabricated metal products; and c) low-technology industries such as food, beverages, tobacco, textiles, garments, footwear, wood products, furniture and paper and printing. In Nepal, the technology level of manufacturing was among the lowest in Asia. The share of higher technology industries in Nepal was 9 percent in 1997, which was less than a third of that of Pakistan (29 percent). On the other hand, the share of medium-technology industries including rubber, plastic, cement and basic metals was 17 percent of total manufacturing. Lastly, 74 percent of the industrial output of Nepal was attributed to low-technology industries, the highest in Asia with Sri Lanka (75 percent) in 1997. This was in sharp contrast to most countries, particularly in Southeast Asia, where the production of lower technology industries declined in importance in favor of higher technology industries.

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2.2.2.3 Labor Costs and Labor Productivity Labor costs per employee in medium and large-scale manufacturing in Nepal was placed at about US$ 400 per employee per annum in 1996, which was half the labor cost per employee of China and Indonesia ($900) and a third of that of India ($1,300) in 1997-99. It, thus, seems that the country is well-positioned to attract labor-intensive industries from this perspective. During the 1990s, labor productivity rose by more than 4 percent per year. This led to a fall in labor costs per unit of gross output, from 9.5 percent to 7.4 percent between 1990 and 1997, and a corresponding increase in labor competitiveness of Nepalese manufacturing as a whole. Still, this ratio was higher than that of Indonesia, Philippines, India and Thailand (5.8-6.7 percent), even though there were rapid real wage increases in these countries. 2.2.3 Estimates of Productivity Level A study has estimated a frontier production function using a representative sample of 225 firms surveyed in 19994. The mean efficiency score is computed at 0.52 compared to the average score of 0.7 for developed countries. The difference could be attributed to the greater heterogeneity in efficiency among firms in Nepal than in more advanced countries. Moreover, Nepalese firms have lower productivity, on average, than their international competitors. The study shows that micro and small firms are least efficient, with mean efficiency score of 0.45 and 0.46, respectively. Large and very large firms possess higher total factor productivity, with mean efficiency of 0.56 and 0.58, respectively.5 The largest firms, that is, those employing more than 500 persons, are 25 percent more efficient than small firms, that is, those with less than 50 employees. There exist some significant differences in average efficiency across sectors, and between size classes with each sector. For instance, the most efficient sector is pharmaceuticals and the least efficient is metal, the efficiency differential between these two being 27 percent. The above study concludes that in addition to optimal capacity utilization and inadequate infrastructure, the crucial determinants of enterprise productivity are various ‘learning mechanisms’ such as worker training, foreign ownership, foreign licensing, and technical assistance agreements, together with exporting, which are highly correlated with inflows of foreign know-how. 2.2.4 Estimates of Productivity Growth6 2.2.4.1 Labor Productivity Labour productivity almost doubled in overall manufacturing from 1986/87 to 1996/97. There were high levels of investment during this period, which brought about a positive impact on labour productivity through increased capital labor ratios. At the sectoral level, 19 of the 44 manufacturing sub-sectors registered labor productivity below the national average for total manufacturing in 1996/97. Among them were public sector-dominated industries (that is, jute manufacturing and sugar) and export-oriented industries (that is, carpets and rugs, knitting and wearing apparel). 2.2.4.2 Total Factor Productivity Total factor productivity is the output growth net of the weighted average inputs growth, where the weights are the value shares of each input.

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After the introduction of liberalization programs, manufacturing output soared by 8 percent per year (1987/88-1996/97) as compared to about 2 percent per year in the pre-liberalization period (1972/73-1986/87). However, much of the growth emanated from factor accumulation rather than total factor productivity growth. The import-substitution industries disclosed better productivity growth performance than exportoriented industries. The better performance of the former after the undertaking of liberalization programs seems to be partly attributable to the elimination of import controls and easy availability of imported inputs, resulting in increased capacity utilization in most industries. Although at higher absolute levels of efficiency, the majority of export-oriented industries including knitting mills, jute manufacturing, carpets and rugs and apparel, registered an absolute fall in total factor productivity growth. Apart from the fall in capacity utilization, a responsible factor was the ‘easy’ market conditions provided by the GSP and Multifibre Arrangement under which these industries were functioning. The estimates of sources of output growth indicated that in the post-liberalization period growth in intermediate inputs was accountable for about 58 percent of output growth as compared with only 3 percent in the pre-liberalization period. Yet, the contributions of capital and labor input plummeted during this period. The share of capital input fell from 126 percent to 40 percent, while the share of labor went down from 27 percent to about 4 percent in the post-liberalization period. Excluding a few industries, growth in capital contributed more than labor to output growth. In the post-liberalization era, factor accumulation rather than productivity growth was responsible for output growth of 8 percent. This implies that liberalization in trade and investment policy alone does not guarantee higher productivity when there are no reforms in factor markets and there is an absence of efficient institutions and infrastructure. In the post-liberalization era, among the import substitution industries, total factor productivity growth was higher in those that experienced relatively low protection in the pre-reform era, the exceptions being distilleries, canning and preserving fruits, and radio and television. Total factor productivity growth was lower in the highly protected industries including the manufacturing public enterprises such as sugar, cement, textile and jute manufacturing. Among the manufacturing public enterprises, only drug and medicine, which previously was granted a low level of protection, registered an improvement in productivity. With regard to the privatized industries, the improvement in productivity was noted in paper and jute industries, but productivity deteriorated in footwear manufacturing. In the post-reform era, the export-oriented industries to register productivity growth were leather and leather products and jewellery. Traditional export-oriented industries, such as wearing apparel and carpet and rugs, revealed an absolute decline in productivity together with jute manufacturing. 2.2.5 Public Enterprises and Privatization Although public enterprises did play an important role in the social and economic development of the country by providing goods and services in a regular basis, their financial positions continue to weaken and return to government investment continue to diminish. For instance, the

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Government has made an investment of Rs. 17,943.4 million as equity and Rs. 53,298.9 million as loan capital aggregating Rs. 71,242.3 million on 39 public enterprises so far7. However, in 1999/2000, the contribution made by these enterprises amounted to only Rs. 357.8 million to the government treasury as dividend, which is only 1 percent of the share investment. The operating profit went down by 21 percent from Rs. 3,026.2 million in 1998/99 to Rs. 2,397.1 million in 1999/2000. Nearly all of these enterprises have divulged absence of professional competence, making them unproductive and loss–accumulating. The contributing factors to this state of affairs include a) regular intervention by the government in their daily affairs; b) appointment of government bureaucrats to manage them who very rarely fulfil their responsibilities; c) acceptance of government subsidies as easy money by the public enterprises; d) absence of a link between the survival of the public enterprises and their performance; and e) very low capacity utilization. Moreover, the management of public enterprises has become very politicized (as they are taken to represent employment centres by politicians), undermining the institutions’ autonomy. This has raised their vulnerability to questionable practices, which subsequently has been facilitated by the lack of proper accounts, auditing and accountability. It was at the end of the 1970s that the Nepalese policy-makers realized the limitations of the government and the need to mobilize the private sector towards the market as the economic regulator. The Seventh Plan (1985/86-1989/90) reiterated the intention of removing excess government control on the day-to-day affairs of public enterprises. However, it was during the Eighth Plan (1990/91-1995/96) period that the majority of the public enterprises were privatized. The Ninth Plan (1996/97-2001/2002) underlined the following objectives of privatization: a) to enhance the effectiveness and productivity of government resources through efficient utilization; b) to make the government slowly assume the role of facilitator by encouraging and motivating the private sector for participation in economic development; c) to assist in maintaining economic stability by enforcing financial discipline and relieving the government progressively from the burden of financing corporation deficits.8 Though the Plan’s targets were to privatize 30 public enterprises, so far only 16 enterprises have been privatized, and that too, most of them during the earlier plans.9 Privatization has proven to be an arduous exercise during the Ninth Plan. Thin markets for domestic capital, adverse economic conditions, vested interests, and the resistance of trade unions and civil servants have retarded this process. One principal problem relates to the great number of employees in the public enterprises. During 2001/2002, among the various public enterprises under the process of privatization, process has been initiated to hand over the Nepal Tea Development Corporation to the private sector under the contract. However, care should be taken so that the public enterprises are not passed on not to the monopolistic private sector, but to the competitive private sector. With regard to efficiency, productivity, and equity considerations, the competitive private sector is superior to public sector and the monopolistic or oligopolistic private sector. This aspect has to be fully considered by the policymakers in Nepal.

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2.2.6 Industrial Policy and Industrial Enterprise Act, 1992 The Industrial Policy of 1992 was a major departure from the previous policies. It focused on developing the industrial sector through the operation of market forces so that industries could be promoted where comparative advantages prevailed. The other significant changes in the Policy included the following: a) lowering in licensing interventions to facilitate entry and to promote competition; b) more liberal income tax incentives and facilities for both domestic and foreign investors to promote industrial investments, and c) establishing of new or strengthening of existing supporting institutions. In the area of licensing, excluding a few negative list comprising industries related to defense, public health and environmentally sensitive areas, all industries have been delicensed, and now they need only to register with the Department of Industry. Liberal concessions have been given in income tax. Cottage and export–oriented industries have been exempted from all types of taxes. Manufacturing industries, barring cigarette, bidi, alcohol and saw mill industries have been provided a 5–year tax holiday while the priority industries have been given a 7–year tax holiday. Further, incentives are being provided to promote spatial distribution of industries even in remote areas. Facilities have also been granted to industries issuing shares at the stock market, ploughing back earnings into investment, investing in pollution control, engaged in skill and technology development, utilizing domestic raw materials and generating large–scale employment. However, experiences show that not all the objectives of the Industrial Policy 1992 have been fulfilled. For instance, the one-stop service delineated in the policy seems never to have materialized. As it functions today, the service seems to be limited to an entry point for providing tax and duty drawback refunds only. Once through the window, firms have to run around for their files through the Department of Industry (DOI), the Department of Customs (DOC), Federation of Nepalese Chambers of Commerce and Industry (FNCCI), and the Ministry of Finance (MOF), which ultimately releases the tax refunds after approval from each agency. Again, there are considerable delays in receiving duty drawback refunds, which is acquired by applying to the One Window Service10. Moreover, the Export Promotion House, as envisaged in the Industrial Enterprises Act, has not yet taken shape.11 2.2.7 Foreign Investment and Technology Transfer Act, 1992 Foreign direct investment (FDI) is frequently viewed as instrumental in promoting industrial growth and foreign trade, particularly in host countries that maintain relatively open economies, stable macroeconomic conditions, limited restrictions on foreign exchange transactions, and protection for private property rights. Specifically, under such favourable conditions, FDI by multinational firms tends to foster export-oriented production following underlying comparative advantage factors, such as the relative abundance of low-wage labor in developing countries. Nepal has been emphasizing foreign investment by lifting the control on foreign investment and providing many facilities. The Foreign Investment and Technology Transfer Act 1992 was enacted in line with open and liberal economic policies. The aim of the Act is to attract and bring in foreign investment in the form of equity participation, direct investment in the domestic production, reinvestment of the earnings derived from such investment, and transfer of technology, among others. Barring products such as defense related, cigarettes, bidi and alcohol, foreign investment up to 100 percent in small, medium and large-scale industries is permitted.

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Moreover, the Act stipulates that industries set up with foreign investment are also entitled to enjoy all the facilities and incentives including income tax facilities provided to national investor under the Industrial Enterprises Act. Despite shrinking global flow and worsening law and order situation of the country, Nepal cleared the highest numbers of FDI proposals in 2000/2001. During the period the DOI approved 93 new foreign investment proposals as opposed to just 68 during 1999/2000. Manufacturing sector, comprising 49 project proposals, continued to be the major attraction for the aspirant foreign investors.12 In general, however, Nepal does not possess significant attraction for foreign investors. One traditional attraction, that is, cheap labor, is being less important in investment decisions. Multinational corporations looking to invest not only take for granted the presence of state-of-the art FDI policy frameworks and a range of business facilitation measures, but also seek a combination of cost reduction, larger markets, and ‘created assets’ that can help them maintain a competitive edge. Created assets include communications infrastructure, marketing networks, technology, and innovative capacity and are critical for enabling firms to maintain their competitiveness in a rapidly changing world. Most of these facilities are lacking in Nepal. 2.2.8 Impact on Employment and Poverty Poverty is a widespread phenomenon in Nepal. Though there is a lack of dependable data as regards the magnitude of poverty, it is estimated that 42 percent live in absolute poverty. The country’s development is obviously impossible without the participation of such a huge section of population in the development process. Hence, all the sectoral programmes, including those on industry and trade, have been directed towards poverty alleviation in the Ninth Plan that has a target of bringing down the poverty ratio to 32% at the end of the Plan.13 According to the Ninth Plan, employment for the poor would be generated through intensive farming programmes, increased construction, establishment of refinery and industrial districts and promotion of employment opportunities in other non-agriculture based activities. Thus, as development of the industrial sector is crucial in alleviating the twin problems of growing unemployment and poverty, the contribution made by cottage industry and Micro Enterprises Development Program, among others, seem to be quite remarkable. These and some other issues are briefly highlighted below. The cottage industry plays a crucial role in generating employment for the large number of people in the agricultural sector and in relieving population pressure on agriculture. It also mobilizes local skills to produce goods that can be substitutes for imported goods, thereby enhancing national productivity and foreign exchange earning. These industries can also have a positive impact in mitigating the problem of rural poverty. Development and promotion of cottage and small industries based on indigenous raw materials skills utilization and transfer of appropriate technology is of much significance. Altogether 10,127 cottage and small industries with the total capital investment of Rs. 10,340 million were registered in 1999/2000 to provide additional employment to 79,618 people. The Micro Enterprise Development Program was initiated in 1998 in phases in ten districts to support the Ninth Plan's goal of poverty alleviation. The primary aim of this program is to develop employment opportunities through the creation and development of micro enterprises for the rural poor living below the absolute poverty line. The target is to create 6,000 micro

23

entrepreneurs in five years, out of which 70 percent would be women. Feasibility studies in ten districts, household survey of 18,183 households, and identification of 11,252 prospective participants has been undertaken as of mid-March, 2001. During the same period, training was imparted to 3,273 people in the creation of micro enterprises out of 4,862 selected participants. During this period, 1,769 micro enterprises were set up and loans equivalent to Rs. 5.88 million has been provided to 965 micro entrepreneurs. Although the above discussion shows the positive role of institutions in mitigating poverty and unemployment, one of the goals of the industrial sector, that is, to absorb a surplus of manpower from other sectors of the economy, has not been attained to a large extent. The Census of Manufacturing Establishments of 1996/97, for instance, which covered all manufacturing establishments engaging ten or more persons, revealed that there were 3,557 establishments that provided gainful employment to 187,316 persons. The previous census of 1991/92 had, however, disclosed that there existed 4,271 establishments providing gainful employment to 213,653 persons. Moreover, about 40 percent of the establishments had their capacity utilization in the range of 40-60 percent in 1996/97.14 2.3 Trade Sector Review 2.3.1 Objectives and Trends The Ninth Plan lays down the following objectives with regard to trade: a) maximum utilization of commerce sector for the overall economic development of the country and expanding the benefits of foreign trade to the rural areas; and b) diversification of trade and strengthening of backward linkages to make export trade stable. These objectives have hardly been met. During the ten-year period 1990/91-1999/2000, total trade increased from Rs. 30,614 mil. to Rs. 158,589.8 mil. During this period India’s share in the total trade of Nepal increased from 29.0 percent to 40.1 percent, while the share of overseas trade plummeted from 71.0 percent to 59.9 percent. If just the last two years are compared, that is, 1998/99 and 1999/2000, there was a growth of 28.7 percent in total foreign trade. Moreover, total trade with India soared by 42.3 percent and trade with other countries rose by 21 percent in 1999/2000 compared to 1998/99. These are all depicted in Table 2.5. Total exports increased from Rs. 7,387.5 million in 1990/91 to Rs. 51,623.0 million in 1999/2000. Between 1998/99 and 1999/2000, exports surged by 44.7 percent. Exports to India went up by 80 percent while exports to other countries rose by 25.3 percent. Nevertheless, the share of third countries in total exports remained higher at 56.2 percent at 1999/2000, although this figure stood at 79.0 percent at 1990/91. On the other hand, total imports catapulted by 22.2 percent in 1999/2000 compared to 1998/99, aggregating Rs. 106,966.8 million. Imports from India and third countries soared by 27.4 percent and 19.2 percent between 1998/99 and 1999/2000, respectively. Similarly, as illustrated by Table 2.5, share of India in total imports stood at 38.3 percent while that of other countries remained at 61.7 percent in 1999/2000, compared to figures of 25.5 percent and 74.5 percent, respectively in 1990/91. Trade deficit during 1999/2000 went up by 6.7 percent compared to 1998/99, and reached Rs. 55,343.8 million. This was ascribed to the 14.8 percent rise in deficit with third countries despite 6.5 percent decline in deficit with India.

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Table 2.5 Direction of Trade (Rs. in million)
Fiscal Year 1990/91 1991/92 1992/93 1993/94 1994/95 1995/96 1996/97 1997/98 1998/99 1999/2000* • Total Trade India Overseas Amount % Amount % Share Share 8875.3 29.0 21738.7 71.0 12695.5 14173.8 19444.3 22740.2 28081.0 30079.5 36125.4 44650.4 63546.8 27.8 32951.0 25.1 42308.3 27.4 51419.9 28.0 58578.5 29.8 66254.0 25.9 86110.4 31.0 80390.1 36.2 78551.2 40.1 95043.0 72.2 74.9 72.6 72.0 70.2 Export Import Grand India Overseas Total India Overseas Total Total Amount % Amount % Amount Amount % Amount % Amount Share Share Share Share 30614.0 1552.2 21.0 5835.3 79.0 7387.5 4674.5 25.5 13650.4 74.5 18324.9 45646.5 56472.1 70864.2 81318.7 94335.6 1450.0 1621.7 2408.9 3124.3 3682.6 5226.2 8794.4 10.6 12256.5 9.4 15644.8 12.5 16884.5 17.7 14514.9 18.5 19198.5 23.1 17410.3 32.0 18719.1 35.1 23145.6 43.8 29004.3 89.4 13706.5 11245.5 90.6 17266.5 12542.1 87.5 19293.4 17035.4 82.3 17639.2 19615.9 96.6 19881.1 24398.6 76.9 22636.5 24853.3 68.0 27513.5 27331.0 64.9 35676.3 32119.7 56.2 51623.0 40928.1 35.2 20694.5 32.0 26663.5 33.0 34535.4 30.8 44063.6 32.8 50055.9 26.6 68700.1 30.7 61671.0 36.7 55405.6 38.3 66038.7 64.8 68.0 67.0 69.2 67.2 73.4 69.3 63.3 31940.0 39205.6 51570.8 63679.5 74454.5 93553.4 89002.0 87525.3

74.1 116189.9 69.0 116515.5

63.8 123201.6 12530.7 59.9 158589.8 22618.7

61.7 106966.8

Provisional Source: NRB and TPC.

An evaluation of commodities according to SITC grouping displays insignificant changes in the composition of goods exported in 1999/2000 compared to 1998/99. Accordingly, miscellaneous finished goods, classified finished goods, and food items and animals are major items in descending order in the composition of export items. The shares of these items in total exports stood at 41.7 percent, 31.0 percent, and 10.4 percent, respectively. This is disclosed in Table 2.6. Similarly, in terms of imports, the major contributors are classified finished goods, machinery & transport equipment, and chemicals and drugs, which accounted for 31 percent, 18.9 percent, and 14.5 percent of total imports, respectively, in 1999/2000.
Table 2.6 Trade by SITC Grouping (Rs. in million) SITC Group Food & Live Animals Tobacco & Beverage Crude Materials & Inedibles Mineral Fuels & Lubricants Animal & Vegetable Oil & Fats Chemicals & Drugs Classified by Materials Machinery & Transport Equipment Miscellaneous Manufactured Articles Not Classified Total Exports Food & Live Animals Tobacco & Beverage Crude Materials & Inedibles Mineral Fuels & Lubricants Animal & Vegetable Oil & Fats Chemicals & Drugs Classified by Materials Machinery & Transport Equipment Miscellaneous Manufactured Articles Not Classified Total Imports * Provisional Source: NRB. 1990/91 1991/92 1992/93 1993/94 1994/95 1995/96 1996/97 1997/98 1998/99 1999/2000* 986.5 11.2 312.1 0.0 201.9 17.7 4312.3 0.1 1545.7 1941.6 1862.9 1163.4 13.0 13.2 12.8 437.4 531.8 432.4 0.0 0.3 160.3 176.4 138.4 19.6 28.7 212.1 7557.2 10298.3 10912.6 0.3 1.2 6.4 3576.4 4352.2 6415.1 1562.7 1946.6 2661.7 3123.2 3724.5 11.3 9.7 14.9 22.8 50.0 485.5 768.7 663.5 487.1 469.9 1.3 1.4 20.9 0.5 214.1 251.3 312.6 2136.3 3597.2 302.3 640.4 1353.4 1968.5 2804.0 9260.3 10455.7 11028.6 11637.1 13539.6 37.1 35.2 59.6 58.0 97.8 5765.8 5772.2 6540.3 8059.6 11392.8 27513.5 4929.0 799.5 6976.2 9537.3 2025.8 11077.3 32601.6 16734.7 35676.3 7619.5 846.1 6246.7 8737.5 3329.0 12476.4 25638.0 18063.7 5390.9 110.4 526.8 2.0 3605.6 4075.8 16013.7 384.2 21513.6 51623.0 10734.7 941.2 7232.0 9113.9 4445.9 15464.6 33408.8 20227.4

1.4 0.2 0.1 0.5 7387.5 13705.8 17266.5 19293.4 17639.2 19881.1 22636.5 1820.5 2947.5 3024.7 4084.8 4464.0 4785.8 5400.5 257.0 288.3 469.3 367.6 500.9 508.6 590.7 2013.4 3415.7 3977.0 3122.3 3347.9 4865.9 5487.1 2278.3 3644.7 3834.1 4837.0 4717.1 5549.3 7160.3 741.7 801.8 1085.1 1457.2 2056.0 2830.9 2327.6 3051.1 4615.3 5265.0 5541.4 7193.2 8686.8 8504.2 5950.8 8599.9 11633.1 19147.4 25300.6 28129.7 44741.9 5990.8 5892.5 7701.7 10037.5 13027.6 15301.1 13794.9

1120.7 1547.6 2185.9 2884.5 3057.2 3794.6 4016.4 3974.0 4302.4 5320.2 2.0 186.7 29.7 91.1 15.0 1.8 1529.8 346.6 266.0 78.1 23226.3 31940.0 39205.6 51570.8 63679.5 74454.5 93553.4 89002.0 87525.3 106966.8

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In terms of product diversification, the major items exported to India consisted of vegetable ghee, tooth-paste, jute goods, pulses, oil cake and cardamom in 1999/2000 as illustrated by Table 2.7. These items accounted for 33 per cent of total exports to India. In 1990/91, however, jute goods, live animals and rice bran oil were the prime exports to India, accounting for 37.8 percent of total exports to India. Vegetable ghee and tooth-paste have been the two new exportable items for the last two years. By looking at the trend of exportable goods to India, it can be observed that no uniformity has been maintained in their export intensity. Fluctuations in the annual export of various commodities can be visualized clearly. This implies that there are hardly any commodities that are stable to be exported to India. Exceptions include jute goods, ginger, and oil-cake. Garments and carpets formed 81.9 percent of total exports to overseas countries in 1999/2000 compared to 87.1 percent in 1990/91 to overseas countries. In other words, Nepal’s export trade to overseas countries was based on these two commodities as the fluctuation of export of these two commodities affected the total exports. Other principal items included pulses, hides and skins and paper and paper products as revealed by Table 2.8.
Table 2.7 Export of Major Commodities to India (Rs. in million) Description Vegetable Ghee Toothpaste Toilet Soap Cardamom Mustard & Linseeds Herbs Ghee Dried Ginger Pulses Kutch Live Animals Ginger Oil Cake Catechu Rice Bran Oil Salseed Oil Jute Goods Total Other Grand Total * Provisional Source: NRB and TPC. 1990/91 92.3 5.8 21.3 27.6 29.4 77.0 5.8 178.1 73.4 78.1 93.1 136.4 33.9 272.3 1124.5 427.7 1552.2 1991/92 113.7 72.7 22.4 22.6 21.9 14.3 10.1 158.6 84.6 67.7 101.0 94.0 191.4 975.0 475.0 1450.0 1992/93 108.8 149.6 24.0 43.6 30.7 6.3 5.6 152.9 73.9 99.7 46.5 120.3 2.5 176.4 1040.8 580.9 1621.7 1993/94 130.8 91.3 28.1 46.5 23.1 183.0 4.8 173.4 73.8 110.0 4.6 99.5 242.0 1210.9 1198.0 2408.9 1994/95 197.9 105.8 64.8 41.7 49.6 76.9 401.5 3.2 181.2 90.9 105.6 7.5 121.2 47.5 231.1 1726.4 1397.9 3124.3 1995/96 309.2 171.0 48.0 40.5 35.4 47.2 314.7 4.2 176.3 137.3 103.4 27.1 129.3 0.1 453.2 1996.9 1685.7 3682.6 1996/97 1997/98 384.5 187.6 35.2 52.6 90.0 46.5 510.7 6.2 183.4 140.7 104.1 55.4 106.2 0.4 565.1 2468.6 2757.6 5226.2 823.5 194.3 9.5 50.9 167.0 41.5 198.8 7.4 163.2 167.2 124.4 69.7 95.4 720.2 2833.0 5961.4 8794.4 1998/99 3146.4 1291.4 728.3 19.2 31.4 39.2 41.1 281.2 11.3 54.1 151.7 165.0 117.3 106.7 3.7 871.7 7059.7 5471.0 12530.7
1999/2000*

2710.7 2262.9 108.2 29.0 43.1 17.5 56.8 957.2 10.1 24.5 139.6 214.9 199.0 45.0 51.9 1103.8 7974.2 14644.5 22618.7

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Table 2.8 Export of Major Commodities to Other Countries (Rs. in million) Description Pulses Medicinal Herbs Woolen Goods Nepalese Paper & Paper Products Hides & Skins Carpets (Hand Knotted Woolen) Readymade Garments Handicrafts Total Other Grand Total * Provisional Source: NRB and TPC. 1990/91 1991/92 1992/93 1993/94 1994/95 1995/96 1996/97 1997/98 1998/99 1999/2000* 169.9 1.2 21.9 210.6 3733.0 1350.3 86.9 1144.3 4.5 46.8 218.0 7048.1 3254.5 176.5 1043.0 3.5 19.9 243.6 9594.2 3930.3 84.7 164.3 3.5 25.4 222.6 9534.1 5943.2 91.5 55.4 7.2 50.2 416.5 7718.1 5139.3 145.4 348.7 8.1 47.3 387.6 8163.9 5374.8 81.8 528.3 18.0 66.4 288.5 8880.0 5955.0 142.1 858.3 14.3 82.7 417.3 8485.3 7015.4 135.0 915.7 9.6 121.5 270.5 9802.0 9701.9 173.5 87.1 13.6 168.4 181.9 9841.9 13924.9 208.5 24426.3 4578.0 29004.3

5573.8 11892.7 14919.2 15984.6 13532.3 14412.2 15878.3 17008.3 21000.1 261.5 363.8 725.6 899.9 982.6 1786.3 1532.0 1710.8 2145.5

5835.3 12256.5 15644.8 16884.5 14514.9 16198.5 17410.3 18719.1 23145.6

Almost one-third of the country’s GDP is spent to satisfy annual import requirements, which are quite volatile in nature, and primarily consist of development goods, machinery and equipment, consumer items, petroleum products and industrial raw materials. However, gold import has been the largest item for some years now after petroleum products. These practices do not reflect the true current account situation of the country. Import figures of some individual commodities from India and overseas are presented in Tables 2.9 and 2.10, respectively. It can be visualized that compared to exports, imports are diversified and several commodities possess similar shares of total imports in the top rung, especially with regard to imports from overseas.
Table 2.9 Imports of Selected Commodities from India (Rs. in million) Commodities Textiles Raw Cotton Threads Vegetables Milk Products Rice Tobacco Chemicals Cement Electrical Equipments Medicines Writing and Printing Papers Agri-equipment and Parts Vehicle and Spare Parts Machinery and Spare Parts Source: TPC. 1990/91 680.7 23.4 220.7 94.9 249.4 375.8 189.4 869.4 81.0 606.1 784.3 1991/92 1068.6 94.0 228.8 106.2 206.5 144.1 253.4 468.5 124.6 1036.1 104.8 1155.7 805.0 1993/94 1650.5 25.1 526.7 241.6 353.4 196.1 230.8 387.3 326.4 1532.3 176.3 257.8 1709.1 1029.1 1994/95 164.6 18.1 553.0 271.2 297.4 391.4 310.9 208.0 525.8 514.6 1752.9 236.6 1853.5 1853.5 1253.9 1995/96 1944.4 40.6 775.6 276.7 422.9 422.9 338.7 549.0 898.9 540.1 1930.8 247.9 285.2 1764.7 2151.0 1997/98 1594.4 28.6 885.9 364.4 473.7 428.6 489.7 1442.6 953.4 592.9 2359.1 417.6 334.4 2063.7 1805.1 1998/99 2398.4 541.0 838.1 366.3 488.3 1884.6 610.4 1679.0 1545.4 696.8 2909.9 518.8 595.4 3022.4 1995.2 1999/2000 3348.8 564.9 1461.6 434.0 464.3 2705.5 426.4 2082.0 1190.6 479.4 3008.5 473.2 747.1 2610.1 2540.3

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Table 2.10 Imports of Selected Commodities from Overseas (Rs. in million) Commodities Machinery and Parts Fertilizers Raw Wool Transport Equipment Aircraft & Spare Parts Electric Goods Chemical Polythene Granules Telecommunication Equipment & Parts Edible Oil Copper Wire Rod, Scrapes & Sheet Palm Oil Computer & Parts Gold Betel nut Petroleum products Source: TPC. 1990/91 1907.6 940.0 1226.2 462.9 199.9 466.5 108.0 285.9 122.9 207.5 1602.6 1991/92 935.4 1294.4 2022.1 738.0 206.7 409.1 101.9 413.0 178.4 303.1 3341.0 1993/94 1495.7 1373.0 1750.4 853.0 487.5 765.4 252.7 604.2 868.3 848.1 228.3 449.9 708.7 7678.3 12.6 4999.9 1994/95 1140.8 1439.5 1359.5 1289.6 455.2 1151.6 679.2 1323.9 1420.6 265.2 478.6 1157.6 12692.0 550.4 5609.3 1995/96 1997/98 1998/99 1999/2000 1642.3 2977.9 3833.8 1481.5 1126.6 1971.6 2333.6 1485.9 1680.4 1707.3 2630.9 1457.5 649.5 1337.5 1000.9 2503.2 1438.7 2323.3 810.2 1211.6 1225.0 1150.5 1082.4 1968.6 1280.8 1029.9 2003.4 984.7 1638.4 334.6 580.1 624.3 466.7 430.5 758.1 1113.9 475.8 642.2 12618.3 15977.2 8024.2 225.9 1741.0 547.8 6102.4 10010.5 12442.1 3199.3 1900.0 1382.8 1707.8 1875.7 3262.7 800.1 1605.3 947.9 1020.7 1297.6 1619.9 886.7 7919.3 715.8 15738.3

There exists a geographical concentration in Nepal’s exports, the top four major trading partners in 1999/2000 being India, USA, Germany and United Kingdom. Analogously, on the import front, the major trading partners have been from India, Switzerland, China and Singapore. Between 1990/91 to 1999/2000, trade deficit soared by almost two and half times. However, when comparing 1998/99 and 1999/2000, it has gone up by 6.6 percent to reach Rs. 55,343.8 million. In comparison to 1998/99, net income from services totaled Rs. 26,445.7 million with a decline of 12.4 percent, but net transfers increased by 6.0 percent leading to a net saving of Rs. 23,368.2 million. Current account deficit in 1999/2000 aggregated Rs. 5,627.4 million after adjusting Rs. 49,813.9 million of service and net transfer receipts. In aggregate, the following conclusions can be derived relating to the foreign trade position of the country: • • • • • There do not seem to be marked behaviour in the composition of exports, particularly with regard to overseas countries. There has not been any significant change in the markets with regard to exports. The export/import ratios, which measure the degree of trade-off between exports and imports, have been slightly going up after 1996/97, implying that the country’s dependence on imports is slowly taking a downward trend as shown in Table 2.11. Table 2.11 indicates that contribution of exports to the GDP has been rising since 1996/97. The contribution of imports is much more standing at almost 30% in 1999/2000, compared to the exports figure of less than 15 percent.15 The past decade (1990/91-1999/2000) discloses that the share of manufactured good exports in total exports has risen only slightly from 80 percent in 1990/91 to 81.3 percent in 1999/2000. Similarly, the share of primary good exports has fallen slightly from 20 percent in 1990/91 to 18.7 percent in 1999/2000. The primary goods are exported primarily to India, and the manufactured goods to overseas countries.

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Table 2.11 Some Indicators of Trade

Fiscal Year

Export/ Import Exports as % of Imports as % of Deficit as % of Ratio GDP GDP GDP 0.32 0.43 0.44 0.37 0.28 0.27 0.24 0.31 0.41 0.48 6.36 9.46 10.44 10.07 8.40 8.30 8.40 9.49 10.81 14.13 20.00 22.04 23.71 26.92 30.33 31.10 34.70 30.71 26.53 29.27 13.64 12.58 13.27 16.85 21.93 22.80 26.31 21.22 15.71 15.14

Manufactured Exports as % Total exports 79.54 81.38 85.03 90.95 87.11 85.03 83.86 79.03 78.02 81.34

Primary Exports as % of total exports 20.46 18.62 14.97 9.05 12.89 14.97 16.14 20.97 21.98 18.66

1990/91 1991/92 1992/93 1993/94 1994/95 1995/96 1996/97 1997/98 1998/99 1999/2000 Source: MOF and computation.

2.3.2 Trade Policy of 1992 The Trade Policy of 1992 focused on promoting sustainable trade to enhance the national economy by undertaking open and liberal policies, and by allowing wider participation of the private sector. It also accorded priority to new product development, trade diversification, reduction in imbalances and coordination with other sectors of the economy. These objectives highlighted outward orientation with particular stress on export development. Another pertinent aspect was the stress on sustainability, which was previously not given due accord. Two other factors were given importance. One, trade would not be considered merely as one of the sectors of the economy but it would basically be used to attain trade–led growth. Two, the role and importance of the private sector were clearly recognized. The salient features of the policy were: a) minimal role of public sector; b) undertaking of liberal and dynamic trade policy and procedures; c) stress on production and export of quality goods and services, d) simplification of tax procedures, and d) strengthening of institutional development. The export policy acknowledged the need for a conducive formulation of macro–economic policies. The export strategies included, among others, the following: a) making the Nepalese currency partially convertible finally leading to its full convertibility; b) delicensing of exports except those banned or under quantitative restriction (QR); c) implementation of duty drawback system by devising suitable mechanisms; d) setting up of Export Processing Zone; e) exemption from all charges and income tax on exports; f) simplification of procedures; and f) strengthening of export capability through proper development of infrastructure, backward and forward linkages, and institutional and manpower development, and improvement in product marketing and promotion activities. In the import sector, the major strategies consisted of the following: a) linking imports with exports; b) delicensing of imports, except for those on the quantitatively restricted list or in the auction system; c) reducing transit costs; and e) simplification of procedures.

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The principal characteristics of the new policy were the following: a) the policy was based on the premise of the need to do away with cumbersome licensing procedures and to make trade more competitive; and b) tariff would be employed to protect domestic industries and to either control or encourage economic activities and QR will be slowly phased out. However, the majority of the measures announced in the Trade Policy of 1992 have not been implemented to the desired extent. For instance, neither the Export Processing Zone (EPZ) nor the Nepal Trade Promotion Organization has been set up. 2.3.3 Trade Liberalization and Its Impact on Employment The policymakers in Nepal have based their trade liberalization policies on a set of two hypotheses: a) liberalization of industrial and trade policies will boost industrial efficiency by providing greater access to imported intermediate inputs, capital goods, and technology, exposing local producers to both internal and international competition, thereby forcing them to lower costs, and removing curbs on the growth and size of firms so as to exploit the scale economies; and b) improvement in efficiency and the subsequent reduction in costs will stimulate domestic demand and enable Nepal’s industrial goods to compete abroad, thereby relaxing demand-side constraints on industrial growth. It was after the balance of payments crisis in mid-1980s, that Nepal initiated on the trade liberalization programme under the Economic Stabilization Programme supported by the 18– month stand–by arrangement reached with the IMF in 1985.16 The system of import quotas from third countries was dismantled and the import license auction system was introduced in July 1986. Then with the completion of Economic Stabilization Programme, the country undertook the three-year Structural Adjustment Programme supported by the IMF and the World Bank in 1987. Trade reforms were expedited in the early 1990s with the introduction of the partial convertibility in the current account on March 1992. This replaced the system of administrative control over import by the market mechanism. In line with this, the government slashed down the items put under the import auction licenses from 88 to 43 and put all other items under the Open General License (OGL). In 1992, it further reduced the number of eligible items to 12. Simultaneously, the convertibility ratio was also raised to 75:25 from the earlier 65:35. The partial convertibility system attempted to provide a built-in device to bring about a favourable impact on the current account and the BOP position. It also assisted in loosening the grip of bureaucracy on economic activities and promoting open competition in the market.17 In order to achieve the full benefits of integrating the Nepalese economy with the world economic system, the government announced the full convertibility of current account transaction on February 1993. This automatically implied that entire volume of trade would be conducted on the basis of the market exchange rate. The number of items put under the import auction was further cut down to six. Later in July 1993, the new budget abolished the import auction license system altogether. Keeping only a few items under licensing, the government put all the items under the OGL. With this, the government completely did away with quantitative restrictions on imports. As a result, the trade regime in Nepal is now more liberal and open. With regard to tax on exports, there is no tax other than export service fees charged on exports. Even such fees have been progressively reduced from a high of 2 percent until 1993/94 to 0.5

30

percent by now. The Value-added Tax was introduced in 1997, under which exports are zerorated. Under the zero rating, all the input taxes, whether domestic and imports, are refunded. This measure is expected to have a desirable impact on exports. According to current rules and regulations, an excise tax can only be applicable to domestically produced good such as molasses, panmasala with or without tobacco, wine, beer and other alcoholic drinks, cigarettes and cigar tobacco, and cars, jeeps and pickup vehicles. The import of these same goods that are subject to excise tax in Nepal are subjected to an equalizing duty equal to the excise tax that is applicable on national goods. The aim of this measure is to provide the same treatment to national and imported goods. Excise tax varies from 15 to 40 percent for some specific goods. With trade liberalization, there have been considerable rationalization and simplification, even with regard to customs tariffs.18 However, one point is clear. The speed of Nepalese liberalization is guided by the pace of liberalization in India and the geo–political realities of the country. Hence, full liberalization of the Nepalese trade regime in a short period may neither be attainable nor be desirable. Nonetheless, policy commitments need to be realized, and for this substantial improvements may be warranted in the bureaucratic and administrative sectors, including removal of impediments and barriers such as procedural delays. With respect to the impact of trade liberalization on employment, it has been found that liberalization has had some positive effect on employment growth in tradable, export-oriented sectors such as garments, carpets and pharmaceuticals19. As these sectors also possess the highest technical efficiency, it shows that economic resources are being reallocated in the ‘right’ direction. Firms situated in Kathmandu were found to be growing faster than firms from other regions of the country in the 1990s. Firms that were set up after 1990 have grown most rapidly. These new firms appear to be contributing much to employment growth. Moreover, women are at a disadvantage in the manufacturing labor market, as demonstrated by their less than 14 percent share in total employment and much lower wages and allowances received in comparison to their male counterparts for similar occupations. 2.3.4 Nepal-India Trade and Transit Treaty and SAARC Trade between Nepal and India is guided by the Nepal-India Trade Treaty first signed in 1991 and later modified in 1996. The treaty was further renewed on March 3, 2002. Unlike the Treaty signed in 1996, the present one has the provision of value addition, and quantitative restriction on Nepalese goods. According to the treaty, Nepalese products with 25 percent value addition slab on material and labor content on the first year and 30 percent from the second year onwards would enjoy duty free and quota free access to the Indian markets. The percentage of value addition would be computed taking the export price as the base. Analogously, provisions relating to safeguard measures in case surge in export from other of the countries took place are also incorporated. Moreover, four Nepalese items would now be permitted to enter free of basic customs duty into the Indian market on a fixed quota basis. These four items include vegetable ghee, acrylic yarn, copper products and zinc oxide. 100,000 tons of vegetable ghee would be permitted to enter India each year free of basic customs duty, as well as 10,000 tons of acrylic yarn, 7,500 tons of copper products, and 2,500 tons of zinc oxide.

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The ten-year trade figures in Table 2.3 indicates that India’s share in Nepal’s trade has been rising, especially during the last four years, but overseas trade still accounts for more than half of both imports and exports. Herein lies the significance of transit facilities for Nepal. With regard to the Nepal-India Transit Treaty signed between the two countries on January 5, 1999, there is the provision of the automatic renewal of the transit treaty every seven years. Under this Treaty, India provides port facilities at Calcutta and Haldia for the country’s trade with overseas countries. Fifteen transit routes to Calcutta/Haldia are specified. Nepal can also utilize the facilities at Bombay Port (including the Jawaharlal Nehru Port Trust) and Kandla Port for thirdcountry trade. Moreover, import insurance is needed only for the sensitive goods. The provision that tariffs insurance of imported goods can be provided in bank guarantee ‘legally binding’ undertaking is expected to facilitate the Nepali importers. The godown facility at Calcutta airport and the provisions permitting Nepali importers to hand over the original copy of Custom Transit Declaration at the Indian customs should ease the import and export of goods. With respect to South Asia Association for Regional Co-operation (SAARC), Nepal has been taking a host of measures for promoting the country’s trade in this region. The agreement on South Asian Preferential Trading Arrangement (SAPTA), which took off in December 1995, attempts to reduce tariffs and non-tariff barriers among the SAARC member countries. The third round of trade negotiations have been finalized under which more than 5,000 items have been covered for preferential tariff concession. The SAPTA is considered to be a step on the path to creating the South Asian Free Trade Area (SAFTA). Before operationalizing SAFTA, an array of complex issues need to be resolved, such as rules of origin, identification and dismantling of non-tariff measures, a mechanism for the compensation of revenue loss, implementation timetable, monitoring mechanism, and protection of bilateral agreements. There exist no mechanism in SAARC at present for ensuring that targets agreed to are strictly pursued. The initial target of the South Asian nations to activate the SAFTA by 2001 did not materialize; neither did the signing of the draft treaty as envisaged. However, the statements made by the South Asian leaders in Kathmandu on January 6, 2002 have raised hopes that the SAFTA would, after all, materialize sooner or later. The first action will be finalizing the text of the Draft Treaty Framework by the end of 2002. Nepal’s export to the SAARC member countries soared by 64 percent to Rs. 22,794 million in 1999/2000 from Rs. 13,876 million in 1998/99, India accounting for 99 percent of this share. On the import front, the imports from SAARC countries aggregated Rs. 41,822 million in 1999/2000, a rise of 25.3 percent from Rs. 33,418 million in 1998/99. India again occupied the lion’s share of 98 percent.20 2.4 Conclusions Industry is a principal sector for the economic development of a country and to enhance industrial investment, private sector participation has to be expanded. Strengthening of policy and institutional framework consistent with the liberal and market oriented economy is required. A sound policy implemented weakly will never generate expected returns. There is a need to divert the major proportion of agriculturally dependent population to the nonagriculture sector to solve the growing problems of unemployment and underemployment. Public sector initiatives alone will not be adequate and active participation of the private sector is a must.

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With regard to trade, it is imperative to develop the competitive capacity of the trade sector to sustain balance in the foreign trade through qualitative and quantitative expansion of traditional and new exportable items as well. Trade performance not only depends on the limited range of questions such as tariffs and QRs, export taxes and subsidies that are normally considered the core of trade policy. It is also governed by the long-term factors such as the country’s economic infrastructure, including the skill of the labour force, as well as by related short-term influences such as investment policy and the rate of exchange. Overall macroeconomic stability is a prerequisite for sustained improvement in trade performance.

____________________ Notes The figures for the industrial sector’s contribution to the GDP were 9.53 percent and 10.17 percent, respectively, for 1998/99 and 1999/2000. For details, see NPC (2001) 2 Manufacturing refers to the process of physical and chemical transformation of components or materials into new products. See CBS (2000) for details. 3 This section is based on UNIDO (2002). 4 See World Bank and FNCCI (2000) for details. 5 The mean efficiency is between 0 and 1. 6 This portion is based on UNIDO, op.cit. 7 Out of 43 public enterprises in Nepal, data for Hetauda Textiles Industry, Nepal Transport Corporation, Rastriya Beema Sansthan and Bhaktapur Brick Factory were not available. See Ministry of Finance (2001a) for more details. 8 See NPC (1998) for more on the objectives of privatization. 9 It is to be noted that only the privatization of Agriculture Tools Factory (through sale of shares) and Bhaktapur Bricks Factory (through lease) were carried out on May, 1997 and August, 1997, respectively. For details, see Ministry of Finance (1999). 10 There are examples that show that firms pay 1 to 10 percent of the refund to corrupt government officials to receive refunds. 11 An Export Promotion House refers to a company, firm, or co-operative body set up as prescribed with the goal of gathering the products of the industries established in the country and exporting them to foreign countries. 12 See “FDI Approvals Surge to a Record Level” The Kathmandu Post, July 22, 2001. 13 Recently, the NPC conducted a mid-term review of the Ninth Plan and found that, from 42 percent, poverty level had been slightly reduced to 38 percent. Given this, it is very unlikely that the target level of 32 percent would be achieved by the end of the Plan. For details, see The Kathmandu Post, September 7, 2001. 14 These figures have been taken from CBS (1998). Number of persons engaged is the sum of number of employees, number of working proprietors and active business partners (male and female) and number of unpaid family and other workers (male and female working for at least 1/3 of normal working hours). Here, establishments are those where more than ten persons are engaged. Again, according to another census survey of 1999/2000, there are 43,671 small manufacturing establishments, defined as establishments where less than ten persons are engaged. The total number of persons engaged in these establishments aggregated 121,270. 15 The computations are based on real exports, real imports, and real GDP. 16 Even before the liberalization era, measures such as bonus system, dual exchange rate system and export subsidy were introduced to boost exports. However, as they failed to generate intended impact on exports, they were removed. In 1987, export duty drawback system was introduced under which exporters
1

33

could get a refund of duties, which included both import taxes and sales tax paid on imported inputs. The bonded warehouse scheme introduced in October 1988 was an alternative scheme to the duty drawback system and assisted the carpet industry to get a refund of taxes paid on its imported raw materials. 17 However difficulties did emerge: a) people attempted to acquire their approved import requirements at the official rate and not at the market rate; and b) as the commercial banks possessed considerable convertible currency balances, the Nepal Rastra Bank had to intervene regularly to purchase and sterilize a segment of these balances so that that there would be no appreciation of the Nepalese currency. 18 The country’s tariff regime will be discussed at length in Chapter 4. 19 See World Bank and FNCCI, op.cit., for details on results of the survey. 20 These data are given in TPC (2000).

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Chapter 3 WTO Agreements and Nepal’s Industrial and Trade Laws: A Comparison 3.1 Introduction WTO members agree to comply with rules and disciplines of the multilateral agreements, which have a direct impact on their industrial and trade policies. The accession process is a unilateral method implying that all requests and demands are made by WTO members to the acceding country. The acceding country should conform to the rules of the Uruguay Round agreements and it is not entitled to request additional benefits or concessions in excess of those stipulated in the agreements. It is essential for the acceding LDCs to prepare or adapt existing laws and regulations for compliance with obligations established in the various agreements, such as the Agreement on Technical Barriers to Trade, the Agreement on Customs Valuation, and the Agreement on TRIPs, among others. The transitional periods prescribed for in the Uruguay Round agreements allow for time to make domestic adjustments as long as early advantage is taken of these provisions. Against this background, this chapter attempts to a) review the relevant provisions of the WTO agreements and b) identify the areas of contradiction and compatibility of such laws, rules and regulations with the industrial and trade policies and relevant laws of Nepal. 3.2 Relevant Agreements, Acts and Policies 3.2.1 Technical Barriers to Trade The Agreement on Technical Barriers to Trade prevents the Members from utilizing national or regional technical requirements/standards as (unjustified) technical barriers to trade. The Agreement accords emphasis on international standards relating to all types of products including industrial and agricultural products (except food items, which come under the SPS measure). The notion is that disciplining the standards will reduce the degree of discretion and flexibility in standards. The Agreement calls for Members to furnish country-wise treatment in respect of technical laws to imported commodities and to make sure that technical laws shall not be more trade restrictive than necessary to meet a legitimate objective. Members shall also give affirmative consideration to embracing as equivalent regulations of other Members. The domestic and non-government entities will be spurred to pursue acceptable standard practices. Members shall make sure that an Enquiry Point is established which is able to respond to all pertinent queries from other Members and interested bodies. Members of developing countries shall be entitled to devise technical laws taking into consideration their specific development, financial and trade requirements. Nepal relies more on standards than on technical regulations. There exist a limited number of technical regulations that are applied to raw wool, cement, iron bars, mineral water, and LPG cylinders. Nepal’s Standards (Certification Mark) Act, 1980, sets up the Nepal Standard Council and Nepal Bureau of Standards and gives them authority to settle and identify measures stipulated by indigenous and expatriate organizations and issue licenses. Where there exist commodities or

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methods other than pharmaceuticals and foodstuffs included by the pertinent Acts, the Government has the authority beneath this Act to lay down criteria taking into account the importance of public health and security. Global standards have been pursued in all these instances. Supplementary criteria for weights and norms are also to succeed globally stipulated criteria. The Enquiry Point is represented by the Bureau of Standards; hence, it should be given this status through an improvement in the Act. No other adjustment occurs essential in the rules and methods. Yet, to make the criteria and rules more transparent, Nepal should officially subscribe to ISO. With this, the country would be able to discharge in good faith its responsibility under the Agreement on Technical Barriers to Trade. 3.2.2 Customs Valuation The Agreement on Customs Valuation has come into focus as sometimes, it is apprehended that the exporter and the importer may collude to display a lower value for the imported product with the aim of having a lower liability for customs duty on the importer. To prohibit such a trend, the customs officials in the importing country should be able to probe extensively into the value of the good. The ‘transaction value’ is the main foundation for customs value as explained in Article 1 of this Agreement. This value is the price actually paid for, or if no actual payment has been made, the price which is payable. The transaction value is normally depicted in the invoice of the product. Article 1 is to be perused together with Article 8, which furnishes, among others, for modifications to the price actually paid or in instances where some exact components, which are supposed to create a portion of the value for customs purposes, are incurred by the buyer but are not incorporated in the price actually paid for the imported commodities. According to Article 8, certain items can be added to the price actually paid or payable by the importer for the imported goods to calculate the transaction value.1 If the customs value cannot be established under the clauses of Article 1 there should be a measure of dialogue between the customs personnel and importer with a view to reaching at a basis of value under the clauses of Article 2 or 3. It may happen, for instance, that the importer has knowledge about the customs rate of identical or comparable imported commodities, which is not instantly available to the customs personnel in the port of importation. Conversely, the customs personnel may have knowledge about the import value of identical or comparable imported commodities, which is not instantly available to the importer. A system of dialogue between the two parties will allow information to be exchanged, with a prospect of fixing an appropriate basis of value for customs purposes. There are two grounds, according to Articles 5 and 6, for deciding the customs value where it cannot be settled on the basis of transaction value of the imported goods or of identical or comparable imported goods. According to Article 5, the deductive value is calculated on the basis of the unit sales price in the domestic market of the imported goods being valued or of identical or similar goods after making deductions for such items as profit, customs duties and taxes, transport and insurance, and other expenses incurred in the country of importation. Similarly, Article 6 deals with the computed value which is determined by adding to the cost of producing the goods being valued “an amount for profit and general expenses equal to that usually reflected in sales of goods of the same class or kind as the goods being valued which are made by producers in the country of exportation for export to the country of importation.”2

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If the customs value cannot be ascertained by any of the methods specified above, it can be arrived at by employing any of the previous methods in a flexible way, provided the criteria used are consistent with Article VII of the General Agreement. In Nepal, the Customs Act, 1962 presents the principle of evaluation of customs duty, the major ones of which are delineated below: a. Customs duty on commodities, which are to be imported, shall be valued on the basis of their transaction price. b. The owner of the commodities that are to be imported must hand in to the Customs Office such bills, invoices or documents disclosing their prices as are demanded by the Customs Officer in order to verify their transaction price. c. The burden of confirming the authenticity of the bills, invoices or documents handed in under Sub-section (b) shall be on the owner of the concerned commodities. d. While valuing customs duty on the basis of the transaction price of any commodity which are being imported, in case it is found that the transaction price cited by the owner of the commodities does not conform to the method of establishing the actual transaction price, the Chief Customs Authority, or a Customs Officer appointed by him, shall establish the price of the concerned commodities on the basis of the recorded price, price-list, or the prices of commodities of the same nature, and value customs duty subsequently. e. If customs duty cannot be valued because of the inability of the owner of the concerned commodities to submit the transaction price of the goods under Sub-Section (d), the Chief Customs Authority, or a Customs Officer approved by him, may fix the price thereof on the basis of the price-list or the recorded price, or the prices of other commodities of the identical nature. f. While establishing the price of commodities for the purpose of valuing customs duty, the Chief Customs Authority, or a Customs Officer appointed by him may do so on the basis of the recorded price or the price-list handed in by the producer or distributor, or the available knowledge or the recommendations of a specialist or of the pertinent institution. g. While fixing the price of commodities for the objective of customs duty, HMG may normally do so on the basis of all or any of the following: the bills or invoices handed in by the owner, the official price-list of the producer or distributor, the global market price, or the advice of a specialist on the concerned commodities or any institution or person related with the concerned industry and trade. The underlying principle of the Customs Valuation Agreement is ‘transaction value.’ Nepal’s Custom Act, 1962 as modified in 1997 furnishes for this valuation of custom duties on this basis. Hence, Nepal’s principles, rules and administrative procedures are in conformity with the clauses of the Agreement in terms of Article 22. Hence, it seems that no amendment is required in the Customs Act. However, currently, the Custom’s Rules do not furnish for in-depth guidelines for executing the transaction value. The Customs Department as such is left with insufficient supervision. It is suggested that provisions compatible with Articles 5 and 6 of the WTO Agreement on Customs Valuation, concerning the computation of customs value when it cannot be decided on the basis of the transaction value, should also be included. In this context, it should be noted here that there is a new provision in the Finance Act, which will be passed very soon, that calls for the adoption of the underlying principle of WTO in valuation for customs purposes.

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3.2.3 Pre-shipment Inspection A pre-shipment inspection (PSI) refers to an arrangement made by an importing country for the verification of an import consignment in the exporting country before the export occurs. More than 30 countries use the services of PSI to inspect goods to be imported and to verify their prices, prior to shipment in the exporting countries. The main motive behind this is to bring under control the under- or over-invoicing of imported goods and other unfair or improper practices. The Agreement on Pre-shipment Inspection tries to strike a balance between the concerns put forward by exporting enterprises in developed countries and the desire to safeguard the essential interests of developing and LDCs that consider PSI services useful. The provisions are applicable only to pre-shipment activities conducted in exporting countries that are contracted or mandated by the government3. The principal aim of this Agreement is to set down an array of principles and rules that countries utilizing PSI services and exporting countries have to follow to ensure that their activities do not lead to barriers to trade. Nepal currently does not use the services of PSI, however disputes do exist over valuation. As customs personnel have not been provided to assess shipment, these officials often employ ‘reference’ values in lieu of invoices to value imports to prevent firms from under invoicing. This contradicts the Customs Valuation Agreement of the WTO. Again, problems emerge as the reference values are usually high and often no revisions have been conducted. Hence, against this background, the country could explore the possibility of using PSI services. 3.2.4 Import Licensing, Safeguards, Subsidies & Countervailing Measures, and Antidumping GATT 1994 has a series of clauses on safeguards committed to protect domestic industries against rising imports leading to BOP difficulties and harm to industry. It furnishes prospects for amendment of tariffs, imposition of anti-dumping or countervailing duties, quota or quantitative restrictions on discriminatory or non-discriminatory basis. A series of multilateral covenants have been formulated to ensure a uniform application of protective standards. Under Article XVIII of GATT 1994 Nepal is qualified to undertake methods to execute programs and policies of economic growth aimed to augment the general living standard of her population and to take protective or other methods affecting imports, if such methods are substantiated in so far as they promote the achievement of the objectives of GATT. Contracting parties indulged in progressive growth of their economies obtain extra facilities to qualify them (a) to keep adequate flexibility in their tariff formation to be able to allocate the tariff protection needed for the protection of a specific industry and (b) to utilize QRs for BOP reasons in a way that takes full justification of the continued high level for imports likely to be produced by their economic development programs. Only one licensing system prevails in Nepal, which is applicable to goods originating in and coming from all countries. The same system is applicable also to exports from Nepal to all countries. The licensing system is automatic and fulfills the obligation of Article 2 of the Agreement on Import Licensing Procedures.4 The Treaties of Trade and Transit with India require licenses for products mentioned in the Treaties. For trade with other countries, licenses are generally not required at present. However,

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letters of credit need to be opened for the imports and exports of goods and copies of them are utilized for customs purposes. Currently, all items except a few under prohibition or QRs, are free for export or import and there exist no quotas.5 The exceptions are simply to protect public health, consumer and environment welfare and national security. The licensing system is not used to restrict either the quantity or the value of imported goods. The Export Import Control Act 1957 gives the right to the government to introduce import controls when there are BOP difficulties and in exceptional cases of governmental assistance to economic development. This is in line with Article XVIIIB of GATT 1994 Presently, the automatic licensing system has been relaxed and the submission of application for acquiring a license is not required. Nevertheless, the letters of credit opened for imports and exports must be presented at the customs office during the time of export and import. The Agreement on Safeguards permits importing countries to restrict imports of a product for a temporary period by either increasing tariffs or imposing QRs. Such safeguard actions can be applied only when it has been verified through properly conducted investigations that a sudden rise in imports (both absolute and relative to domestic production) has brought about or threatens to cause serious injury to the domestic industry. Some guidelines have been given in order to justify serious injury. They include the following: the rate and amount of the increase in imports of the product, in absolute terms or relative to domestic production; the share of the domestic market in terms of increased imports; and changes in the levels of sales, production, productivity, capacity utilization, profits and losses, and employment. As subsidies could in practice distort conditions of competition in international trade, the basic aim of GATT rules, which have been further elaborated by the Agreement on Subsidies and Countervailing Measures, is to prohibit or restrict the use of subsidies that have trade-distorting effects.6 Subsidies granted by governments in the industrial sector are categorized into prohibited and permissible subsidies. Permissible subsidies are of two types: a) subsidies which are of a general nature; and b) subsidies which, though specific are meant for i) research, ii) development of disadvantaged regions, or iii) environment purposes. Permissible subsidies are again divided into two categories: actionable and non-actionable.7 When imports of products receiving actionable subsidies lead to adverse trade effects, that is, bring about injury to domestic industry, the affected importing countries can resort to countervailing duties8. But, importing countries cannot levy these duties on products that have benefited from the limited number of subsidies that are non-actionable. Prohibited subsidies, on the other hand, include export subsidies and subsidies that aim at encouraging the use of domestic rather than imported goods. Developing countries with a per capita GNP of less than US$ 1,000, which has been listed in the Agreement and LDCs are exempted from the rule prohibiting export subsidies. The prohibition on import-substitution subsidies is not applicable to LDC members for a period of eight years from January 1, 1995.

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The Industrial Enterprises Act 1992 and amended in 1997 deals with subsidies. Some of the major ones, outlined in Article 15, include the following: • • • • • • • • • • • • • • • All cottage industries exempt from sales tax, excise duty and income tax. Income tax not to exceed 20 percent for industries other than tobacco, cigarettes, alcohol and beer producing industries. A rebate of 10 percent of the income tax for industries using 80 percent or more of indigenous raw materials in its products and supplying all its manpower from among Nepali citizens. A 50 percent income tax rebate for 7 years for national priority industry. Income tax rebates of 30 percent, 25 percent, and 20 percent for 10 years for industries set up in remote, undeveloped and underdeveloped areas, respectively (excluding tobacco, alcohol, and beer). Excise duty rebate of 35 percent, 25 percent, and 15 percent for 10 years for industries set up in remote, undeveloped and underdeveloped areas, respectively (excluding tobacco, alcohol, and beer). Sales tax and excise duty exemption for 5 years and additional 3 years for fruit-based processing and wine industries situated in particular remote areas. Reduction of upto 50 percent of the value of investment made in pollution control equipment. A 10 percent expenses of gross profit deductible from taxable income for technological development for all industries. Deduction up to 5 percent of gross income for industry donating equivalent amount to any school, college, hospital and in social activities in course of assessing the taxable income. Additional income tax rebate of 10 percent for industries employing 600 or more Nepalese citizens. No income tax on profit earned through exports. Reimbursement of custom duties and sales tax levied on raw materials imported as well as sales tax and excise duty levied on the final products in cases where industry sells its products in the Export Promotion House. Reimbursement of custom duties, sales tax, and premium levied on such product, and customs duty, excise duty and sales tax levied on raw materials, etc., utilized in such product if industry sells its product within the Kingdom. Reimbursement of customs duties, sales tax, excise duty and premium levied on production materials of intermediate goods to be utilized for the production of exportable industrial goods, and sales tax and excise duty levied on the product to the industry producing intermediate goods. Additional facilities to be granted to Export Promotion Industry and prescribed industries set up in the EPZ.

As can be noted from above, most of the subsidies provided above are permissible subsidies, which are of either of a general nature, or meant for development of remote, undeveloped and underdeveloped areas, or for environment purposes. Again, there are some prohibited export subsidies as per the Agreement on Countervailing Measures of the WTO (such as income tax exemption on profit earned through exports) from which Nepal and other countries with a per capita GNP of less than US$ 1,000 are exempted. However, there appear to exist subsidies that promote the use of domestic goods over imported goods and which is not permitted by the WTO. An example is the reimbursement of customs duties, sales tax, and premium levied on such

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product, and customs duty, excise duty and sales tax levied on raw materials, etc. utilized in such product if industry sells its product within the Kingdom. Another is the rebate of 10 percent of the income tax for industries utilizing 80 percent or more of domestic raw materials in its products and recruiting all its manpower from among Nepali citizens. These issues need to be addressed properly. The Anti-dumping Agreement (Article VI of GATT, 1994) authorizes countries to levy antidumping duties on products that are being dumped. An enterprise is said to dump a product if it exports the product at a price lower than the price of the like product in the exporting country. The impact of dumping is two-fold: a) the low prices of the imported products may be detrimental to the domestic industry which is producing like products; and b) the consumers and industrial users of the product in the importing country may procure benefit from such low prices. If a company is found to be dumping its products and if such dumping is bringing about injury to the domestic industry in the importing country, the importing member can impose a countervailing duty on the imports up to the maximum extent of the margin of dumping.9 In the background of its accession to the WTO, it is not necessary for Nepal to frame domestic laws on these measures.10 But, after completion of accession process, if Nepal wishes to utilize these measures it could frame separate antidumping, countervailing, and safeguard rules in a compatible way. 3.2.5 Trade-related Investment Measures The Agreement on Trade-related Investment measures (TRIMs) delineates GATT articles connected to the trade restrictive and distorting impacts of investment measures so as to avoid adverse effect on trade. The Agreement prohibits countries from using five TRIMs that are considered to be inconsistent with the GATT rule of national treatment and the rule that prohibits the application of QRs to imported products. These are 2 TRIMs that extend more favorable treatment to domestic products than imports (local content requirements and trade-balancing requirements) and 3 TRIMs inconsistent against the use of QRs on imports and exports (tradebalancing requirements constituting restrictions on imports, exchange restrictions resulting in restrictions on imports, and domestic sales requirements involving restrictions on exports). It should be noted that the Agreement seems to be limited in scope. It pinpoints only 5 TRIMs that are inconsistent with GATT. This is just the indicative list. It does not prevent countries from using other TRIMs. For instance, countries can impose export performance requirement as a condition for investment. They can insist that a certain percentage of equity should be in the hands of the domestic investors or that foreign investors must bring in the most sophisticated technology or must undertake a specific level or type of R&D locally. Permission is given to a developing country member for temporary deviation from this obligation in so far as it is taken care by the flexibility provided under Article XVIIIB of GATT 1994 as clarified by the Understanding on BOP Provisions. The BOP provision permits flexibility in respect of restraining the import of a product, but once a product is imported, it will have to be given national treatment. It is mandatory for members to inform TRIMs which are not in conformity with clauses of this Agreement. The period is within five years for developing countries, and within seven years for

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LDCs. The Council for Trade in Goods could prolong the transition period for developing and LDCs that reveal special difficulties in implementing the provisions. All TRIMs will be routinely informed under Article XI of GATT 1994, notification under Understanding on Notification, Consultation, Dispute Settlement and Surveillance adopted on November 28, 1979 and in the Ministerial Decision on Notification Procedure adopted on April 15, 1994 to ensure transparency. Nepal does not possess any TRIMs that need notification. The country’s investment mechanism is mainly contained in the Foreign Investment and Technology Transfer Act, 1992, which was enacted to attract technology transfer and foreign investment. The Act stipulates that industries set up with foreign investment are also entitled to enjoy all facilities and incentives. A foreign investor is permitted to repatriate the undergoing income outside the country: a) amount procured from the sale of share of the foreign investment as a whole or any part thereof, b) amount procured as profit or dividend in place of such investment, c) amount procured as payment of principal and interest on any foreign loan, d) amount procured under the agreement for the transfer of technology in such currency as agreed upon in the contract accepted by the DOI. Other facilities include: a) income tax on interest income from foreign loan is waived, and b) income from foreign technical, management services and royalty are taxed 15 percent. The Act, amended in 1996, has made 100% foreign equity participation possible in all industrial enterprises except for cottage and some specific types of industries expressly reserved for domestic investment only. Moreover, transfer of technology is possible even in case of cottage industries. The Government requires that a business enterprise set up with foreign investment or technology acquire a prior approval of the DOI. The DOI can give permission for foreign investment in an enterprise with up to Rs. 500 million in fixed assets. In case of an enterprise with fixed assets greater than Rs. 500 million, a decision of the Industrial Promotion Board is required for such permission. The question on national treatment could arise here. The Act debars foreign investment in selected areas including cottage industries, real estate business, travel and trekking agency, poultry farming, fisheries, bee-keeping, and consultancy services such as management, accounting, engineering and legal services. Hence, this Act, to some extent, attempts to limit potential competition for existing Nepalese entrepreneurs from foreign competition. Moreover, in sectors where foreign investment is not prohibited, the Act calls for a review of foreign investment proposals and negotiations on conditions before final approval. This could transmit a negative signal to foreign investors. Again with regard to employment of foreign personnel, according to Clause 22 of the IEA, 1992 (with first amendment in 1997), if any industry cannot function without domestic manpower, foreign nationals may be appointed in such a case with the prior approval of the Department of Labor for a maximum period of five years. If the appointed person happens to be a technician of a special category but not available within Nepal, such person could, with the approval of Department of Labor, be appointed for up to an additional period of five years. In aggregate, the Foreign Investment and Technology Transfer Act, 1992 amended in 1996, would be better off with some changes as issues relating to national treatment could emerge.

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3.2.6 Trade-related Aspects of Intellectual Property Rights The development of international trade could have a negative impact if the standards framed by countries to protect intellectual property rights (IPRs) differ widely from country to country. Moreover, the ineffective enforcement of such rights can boost up trade in counterfeit and pirated goods, hence destroying the legitimate commercial interests of manufacturers who possess or have acquired those rights. The Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPs), hence, underlines minimum standards for the protection of IPRs together with the procedures and remedies for their enforcement. The time for Nepal to comply with this Agreement has been extended to 2016. The structure of the Agreement is based on the existing international conventions that deal with IPRs. Its provisions are applicable to the undergoing IPRs: a) patents; b) copyright and related rights; c) trademarks; d) industrial designs; e) layout-designs of integrated circuits; f) undisclosed information; and g) geographical indications. There exist laws in Nepal that deal with procedures for acquisition and protection of patents, designs, trademarks, and copyrights. The Copyright Act, 1965 and Copyright Rules, 1989 take care of the copyrights. The Copyright Act, 1965 had one amendment in 1997 to incorporate computer software within its purview. Patent, Design, and Trademarks Act, 1965 take care of the remaining IPRs. This Act covers trans-border reputation of reputed trademarks. Two amendments were carried out in this Act in 1987 and 1991. There exist no laws pertaining to topographies, computer programs and geographical indications. In terms of the Patent, Design and Trademark Act of Nepal, the minimum protection period of patent is 7 years, whereas the Agreement on TRIPs stipulates that the minimum protection to be provided to the patent holder as being 20 years from the date of filing of application. It could be contended that Nepal’s law prescribes patent protection for a period of 21 years, if the renewal of patent is undertaken every 7 years. Nevertheless, the Agreement on TRIPs demands for a straight 20 years protection without any need to renew the patent.11 Article 23 (1) of the Patent, Design, and Trademark Act asks for a double fee for registration and renewal for foreigners. This is completely against the requirements of national treatment provided for in Article 3 of TRIPs. This provision could imply that Nepal does not provide MFN and national treatment in protection of intellectual property rights. This will have an adverse effect on the investment climate. Article 51 of the Agreement points out that in terms of border measures, Members shall, in conformity with the provisions spelled out in the agreement devise procedures to enable a right holder, who possess valid grounds for suspecting that the importation of counterfeit trade mark or pirated copyright goods may take place, to file an application in writing with the competent authorities, administrative or judicial, for the customs authorities to suspend release into free circulation of such goods. It is also mandatory for the Members to lay out the corresponding procedures relating to the suspension by the customs authorities of the release of infringing goods destined for export from their territories. There exist no such provisions in the Patent, Design and Trademark Act or the Copyright Act. The Agreement on TRIPS demands stringent actions and heavy fines against infringement or piracy. However, the provisions as per the Nepalese laws are just the opposite.

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There is room for flexibilities within the TRIPs Agreement. These include the provision of compulsory licensing, parallel imports, and definition of invention, among others. These have not been introduced in the texts of Nepalese legislation. Hence, the country requires new legislation in many areas such as patent protection of pharmaceutical and chemical products, among others. The present Acts on patent, design, trademark, and copyright demand amendments and the prevailing terms of protection and enforcement will have to be extended. Moreover, provision should be made in the legislation to deal with other aspects of the agreement, that is, acquisition and maintenance of IPR, dispute prevention and settlement and institutional arrangements. Since Nepal is a member of WIPO, the amendments should be carried out accordingly. 3.2.7 State Trading Enterprises Sometimes, governments set up state enterprises and entrust them with the monopoly function of importing and exporting. It is often thought that such enterprises may be used by governments for restricting imports and exports or for diverting imports and exports to preferred sources and destinations. All these may have distorting effects on international trade. Hence disciplines have been laid down by the Understanding on the Interpretation of Article XVII of GATT 1994 (the Understanding), which is part of GATT 1994. There are two main obligations imposed by the GATT rules on member countries with regard to state trading enterprises. One, the enterprise must make its purchases and sales only in line with commercial considerations, including factors like price, quality, availability, marketability, and transportation, among others. Moreover, the enterprise must provide the enterprises of other Members an adequate opportunity to compete for participation in purchases and sales. Two, to ensure transparency in the products imported or exported by such enterprises, member countries should inform the WTO Secretariat on their activities. In Nepal, there are some state-owned enterprises that have an instrumental part to play in the trade of crucial importables and exportables.12 Excepting the Nepal Oil Corporation (NOC), the others have not been granted any exclusive or special rights or privileges, including statutory or institutional powers through which they influence the level or direction of imports and exports. Thus, these companies make their purchases and sales on the basis of commercial consideration.13 Nonetheless, their purchases or sales denote a significant portion of trade in the respective goods and may not be ignored in evaluating the market situation of the respective goods. 3.2.8 Rules of Origin Rules of origin refer to a set of rules that determine the country in which a product will be deemed to have originated. There does not exist any problem when a product has been produced entirely in one country. A problem, however, emanates when the fabric or other principal have been imported from other countries, or when some minor operations, like sewing buttons or folding and pressing have been conducted in the country from which the product is finally exported. GATT does not incorporate specific rules for the determination of origin. This has provided the flexibility to countries to devise their own criteria to determine which country will be considered the country of origin of a particular product. A country may have general rules of origin

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applicable to all countries and all subjects in GATT 1994. It may also have some special rules of origin for preferential trade, for example, for the GSP, and for regional arrangements, like freetrade areas and customs unions of which it is a member. The main purpose of the Agreement is to require countries to use a uniform set of harmonized rules for determining the origin of goods imported on an MFN basis. There are three types of criterion to determine the country of origin of a product: a) change in the classification of the product; b) percentage of value addition, commonly called the ad valorem criteria; and c) manufacturing or processing criterion. In Nepal, the application for import calls for the importer to state the country of origin of the goods to be imported. The country is applying the rules of origin under the SAPTA agreement in order to establish whether preference should be applicable to imported goods. In case of exports, document certifying the origin of goods, export declaration form, invoice, letter of credit, and packing list, among others, have to be submitted together with the application form. Members of the FNCCI are the only authorized agencies to issue a Certificate of Origin for certifying the export of Nepalese origin goods. Thus, as the Rules of Origin comprise of simple certificate of origin for both MFN and preferential trade, there is no discrimination involved. 3.2.9 Sanitary and Phytosanitary Measures Sanitary and phytosanitary (SPS) measures are measures that are applied in order to: • • • • Protect (a) human life or health, or (b) animal life or health, from risks emanating from: additives, contaminants, toxins or disease-causing organisms in foods, beverages or feedstuffs; Protect (a) animal life or health, or (b) plant life or health, from risks emanating from: the entry, establishment or spread of pests, diseases, disease-carrying organisms or diseasecausing organisms; Protect human life or health from the risks emanating from diseases borne by animals, plants or their products, or the entry, establishment or spread of pests; Prohibit or limit other damage from the entry, establishment or spread of pests.

SPS measures could take the form of laws, regulations, requirements, procedures or decrees. Some illustrative items which these may involve are: end-product criteria; processes and production methods; testing, inspection, certification and approval procedures; and statistical methods, sampling procedures and methods of risk assessment. In Nepal, food items should fulfil the criteria as laid down by the Food Research Laboratory. The Ministry of Health prescribes the standards to be met by imported medicines. The export and import of plant and plant materials are subjected to phytosanitary measures at the border checkpoints and at Tribhuvan International Airport, Kathmandu as per the Plant Quarantine Act 1972 and Plant Quarantine Rules 1975. Moreover, the government has the authority to intercept any person, animal, animal products, and feeds suspected of carrying an infectious disease or agent at entry points. There have also been minimum standards or specifications fixed for some categories of agricultural products and animal feeds under the Food Act, 2023 (1966) and Food Rules, 2027 (1970) and the Animal Concentrate Act, 1976, respectively. For regulation of the export and

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import of pesticides in order to protect the environment and ensure sanitary measures, there is the Pesticides Act, 1991 and Pesticides Rules, 1994. The Ministry of Agriculture possesses the authority to ban and/or restrict any public pesticides that are hazardous to health. Thus, the country has detailed legislation for the management of the sanitary and phytosanitary regime, such as the Food Act, 1966 as amended in 1974, 1991 and 1992, the Animal Feed Act, 1976, the Plant Protection Act, 1972, and the Nepal Seed Act, 1988. Moreover, there are appeal procedures for persons who are not satisfied with the related measures. However, to impart more transparency to the SPS laws, Nepal should formally subscribe to Codex Alimentaire.14 3.2.10 Other Related Acts The Export-Import Control Act, 1957 was introduced primarily with the objective of controlling or prohibiting the export or import of restricted items and those announced by the government from time to time through publication. The aim of the Act does not seem to be compatible with WTO provisions. Moreover, this Act, in the present context, seems to have lost its significance as hardly anything has been mentioned about the process of registration of export-import agencies or houses, export promotion, sharing of information, finance, export incentives, institutional arrangements, and dispute settlement, among others. Hence, this Act should be amended to take account of the foregoing issues and also be compatible with the WTO provisions. Under the Company Act 1997, any individual, including any foreigner, wishing to set up a company must register with the Office of the Company Registrar. The Office scrutinizes all the applications. The Act states that the only basis for refusing a registration are: a) use of a name of an existing company; b) inappropriate name; c) illegal motives; and d) failure to satisfy necessary conditions for establishment. According to Clause 3, sub-section (2) of the Company Act, ‘any foreigner having obtained an approval under the prevailing law to carry out any enterprise with a motive of making profit by making investment within the Kingdom of Nepal may also incorporate a Company pursuant to subsection (1). Thus, the Company Act seems to be compatible with the WTO provisions. 3.3 Conclusions The country’s policies, rules and regulations are, in the majority of cases, in conformity with the WTO provisions. The major conclusions derived are the following: • With respect to the Agreement on Customs Valuation, there is no guideline for executing the transaction value. However, there is a new provision in the Finance Act, which will be passed very soon, that calls for the adoption of the underlying principle of WTO regarding the valuation of customs purposes. Presently, there is no system of anti-dumping or any legislation to that effect, and no countervailing duty regime and no safeguard regime in effect in Nepal. But, after completion of the accession process, if the country desires to undertake these measures it could develop separate antidumping, countervailing, and safeguard rules. Moreover, if the country is obliged to bind tariffs at the current levels, the only option available would be to utilize WTO sanctioned safeguard measures. Most of the subsidies, given in the IEA 1992, are permissible ones that are either of a general nature, or meant for development of remote, undeveloped and underdeveloped

46

areas, or for environment purposes. Still, there are subsidies that promote the use of domestic goods and which are not in line with WTO provisions. • • • • The country does not utilize any preshipment inspection services. The country does not maintain any TRIMs that need notification. Automatic licensing is utilized for both the import and export of goods and is in conformity with the Agreement on Import Licensing Procedures. The country’s intellectual property laws need amendment to broaden its scope to conform to TRIPs. The country should undertake these changes with respect to its obligations under WIPO. No discrimination exists in terms of Rules of Origin, as the rules consist of simple certificate origin for both MFN and preferential trade. The country has detailed legislations for management of the sanitary and phytosanitary regime. However, to impart more transparency to the SPS laws, Nepal should formally subscribe to Codex Alimentaire. This would ensure enforcement of technical, sanitary and phytosanitary standards without discrimination. The Export-Import Control Act, 1957 seems to be quite outdated and is not fully compatible with the WTO provisions. It does not specify anything relating to registration of export-import agencies, export promotion, sharing of information, finance, export incentives, institutional arrangements, and dispute settlement, among others. Hence, this Act should be amended and take account of the foregoing issues and also be compatible with the WTO provisions. An alternative is to enact a new foreign trade act as delineated in the Ninth Plan. The Company Act of 1997 ensures equal treatment for both foreign and domestic firms.

• •

_____________________ Notes These include a) commissions and brokerage, excluding buying commissions; b) costs of, and charges for, packing and containers; c) assists, i.e. goods (materials, components, tools, etc.) or services (designs, plans, etc.) provided free or at reduced cost by the buyer for utilization in the production of imported goods; d) royalties and license fees; e) subsequent proceed of any sale accruing to the seller due to the resale or use of imported goods; f) cost of transport, insurance and related charges to the place of incorporation, if the valuation is based on CIF prices by the country. 2 See ITC and Commonwealth Secretariat (1999) for details. 3 The phrase ‘preshipment inspection’ refers to “all activities relating to the verification of the quality, the quantity, the price, including currency exchange rate and financial terms and/or the customs classification of goods to be exported.” See Ibid. 4 Article 2 of the Agreement on Import Licensing Procedures stipulates that: a) automatic licensing methods shall be applied in such a way as not to have restricting impact on imports conditional to automatic licensing; and b) members notice that automatic import licensing may be indispensable whenever other suitable modes are not ready. This type of licensing may continue as long as the circumstances, which
1

47

gave rise to its introduction, continue and as long as its major administrative purposes cannot be realized in a more suitable manner. 5 Products banned for exports include a) article of archaeological and religious importance, b) conserved wildlife and related articles, c) drugs, d) articles of industrial importance, e) industrial raw materials (such as raw hides and skin, raw wool, and all imported raw materials, parts and capital goods) and f) other products (that is, mamira, and log and timber). Products under QRs are products as notified by HMG in the Nepal Gazette from time to time. Presently, there are no such restrictions. Products banned for imports include a) products injurious to health, b) arms and ammunition, and explosives (except under import licence of HMG), c) communication equipment, d) valuable metals and jewelleries (except permitted under bag and baggage regulations), e) beef and beef products and f) any other product notified by HMG in the Nepal Gazette. 6 Subsidies are benefits provided by governments to producers and exporters of products which improve their competitiveness in international trade and thus distort competition. They could take various forms: a) direct transfer of funds, e.g., grants, loans and infusion of equity, or potential direct transfer of funds or liabilities, for example, loan guarantees; b) revenue foregone or not collected, e.g., tax credits; c) provision of goods and services (other than general infrastructure), or purchase of goods. 7 If a subsidy of a Member leads to adverse effects to the interests of other Members, action can be taken against the Member. The term ‘adverse effect’ consists of three elements, any one of which, if present, is sufficient to get the action initiated. These are: a) material injury or threat of material injury; b) nullification or impairment of benefits under GATT 1994; and c) serious prejudice to the interests of another Member, or the threat of serious prejudice. Non-actionable subsidies include: a) subsidies which are of a general nature, i.e., those subsidies which are not specific to particular enterprises (industrial units) or industries (various industrial sectors); and b) subsidies which, though specific, are meant for i) research or (ii) development of disadvantaged regions or (iii) environmental purposes. For more elaboration on actionable and non-actionable subsidies, see Das (1999). 8 Countervailing duty on the subsidized product can be applied only after a thorough process of investigation, which has been prescribed in the Agreement. The investigation is carried out in order to determine: a) the existence of a subsidy which is prohibited or actionable, b) the amount of the subsidy, c) the existence of injury to the domestic industry of the affected member, and d) the existence of a causal link between the subsidy and the injury. It should also be noted that the countervailing duty cannot be greater than the subsidy found to exist, that is, the duty cannot be higher than the subsidy margin. 9 The levy of such duties is, however, subject to two conditions. First, the duties cannot be levied merely on the grounds that the product is being dumped. The importing country has to prove, through investigations carried out at national level, that increased imports are causing material injury to the domestic industry. Second, governments can initiate such investigations if a petition is submitted by or on behalf of the domestic industry claiming that dumped imports are causing material injury to producers accounting for at least 25% of total domestic production. 10 The detailed use of these measures is applied by developed countries, where tariffs are bound at low levels and who had national legislation on these trade remedies preceding GATT 1947. 11 The differences between Nepalese laws and the Agreement on TRIPs are clearly provided in Pro Public (2001). 12 These include Nepal Food Corporation, National Trading Limited, Nepal Oil Corporation, Salt Trading Corporation, Agricultural Input Corporation, Cottage & Handicraft Emporium, Nepal Coal Company and Nepal Transit and Warehouse Company, among others. 13 Nepal’s law defines petroleum products as basic needs goods. Thus, every citizen has equal right to procure the products regularly and at a rational price. The country does not possess its own petroleum products as a result of which they are only imported. The Nepal Oil Corporation was set up for the purpose of regular and general supply and for preventing consumer prices from being increased artificially.
14

See Bajwa and Karky (2000) for suggestions relating to the SPS regime.

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Chapter 4
Tariff Binding under WTO 4.1 Introduction The objectives of this chapter are to a) assess the tariff system in Nepal, b) review the WTO provisions on tariffs, c) compute the effective rate of protection of some locally produced manufactured goods as well as some potential manufactured goods through the computation of effective tariff rate and d) suggest an indicative level of tariff rate for these goods that the government could offer prior to becoming a WTO member. Protectionism is an attempt on the part of governments to erect trade barriers such as tariffs and quotas to protect domestic industries from foreign competition. There are some respectable arguments for protection. The most popular claim made for tariffs is the so-called infant-industry argument. Protection can be an effective means of stimulating the development of an industry that is well suited to a country (in terms of potential comparative advantage), but that would find it impossible to get started unless it is protected from imports. Over time, suitably protected, such an industry is able to procure internal economies of scale (that is, lower costs through exploiting a larger domestic market) and take advantage of various external economies (a well-trained labor force or the ‘learning-by-doing’ effect). Eventually, the new industry is able to become equally or more efficient than its older competitors. The tariff can then be dismantled, leaving behind a viable and competitive industry. Such temporary protection of industries does not conflict with the aim of free traders, that is, maximum specialization on the basis of comparative advantage. It is only through the temporary equalization of competitive conditions that the industry is able to reach the stage of development that allows it to fully realize its potential. There are problems, however. Industries are frequently selected for protection not on the basis of a favourable comparative advantage but for nationalistic reasons (for instance, diversification of the economy); ‘infant industry’ becomes a slogan to justify protection without regard to merit. The protection afforded may be over-excessive and continue for longer than is required. 4.2 Nepal’s Current Tariff System Since the early 1990s, Nepal has been slowly moving from a highly protective tariff regime towards a liberal tariff structure. During the 1980s, imports were subject to multiple tariff rates, and the peak tariff rate was as high as 255 percent. After the undertaking of the economic liberalization strategy in 1991, the Government has been revising tariff rates downwards. The current tariff system foresees uniform basic rates on imports irrespective of their origin. Since the beginning of 1999/2000, a 5-slab tariff structure with rates equal to 5, 10, 15, 25, and 40 percent of the value of goods has been fixed. There exist special rates of 80 and 130 percent for certain goods. On the other hand, there are a significant number of tariff lines with zero duty. The Customs Act 1962 gives authority to the Government to charge for services rendered. Imported goods are also subject to a value-added tax of 15 per cent. However, some basic commodities such as food items, kerosene, sugar, cotton textiles, medicines and utensils enjoy VAT exemption.

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There exist no tariff quotas for imports in effect in Nepal. The Harmonized System of Commodity Classification was incorporated in Nepal with the budget speech of 1992/93, and since then it has been applicable in the customs administration. The 1996 version of the HS Nomenclature was placed into effect with the inclusion of the required amendments and rectifications. The customs valuation has also been brought in line with the WTO valuation system, as explained in Chapter 2. Necessary amendments have already been made to the Customs Act 1962. Moreover, a new Finance Act is in the process of being promulgated which will meet all the criteria relating to the WTO Agreement on Customs Valuation. 4.3 Tariffs and WTO Provisions 4.3.1 Classification of Tariffs A member is permitted to impose a tariff on an imported product at the time of import. The goals of tariffs are three-fold: • • • More revenue is acquired by the Governments through tariffs. Tariffs give protection to local industry, as imported products could be more expensive after the imposition of tariffs, and thus, domestic products become relatively cheaper. Differential tariffs can be employed in order to bring about a rational allocation of foreign exchange if it is scarce. For instance, high tariffs on luxury goods may discourage the import of such products, and low tariffs on industrial machinery or industrial inputs may encourage these imports, thus channeling foreign exchange to preferred areas.

Tariffs have an adverse impact on the competitive position of imported products. Moreover, frequent changes in tariffs bring about uncertainty in trade and industry. Thus, detailed disciplines have been introduced on the imposition and raising of tariffs by the WTO in Articles II and XXVIII of GATT 1994. Article II prescribes the limits on the imposition of tariffs and Article XXVIII contains the procedure for raising tariffs beyond specified levels. Tariffs are classified into three types: • • • ad valorem: a tariff may be levied as a percentage of the value of the imported product; specific: a tariff may be levied on the basis of the quantity of an imported product, that is, in terms of a rate per unit of the quantity; and combined: a tariff may have two components, one ad valorem and the other specific.

Predominantly, ad valorem tariffs are used; and wherever specific tariffs exist, the tendency is to convert them to ad valorem tariffs. 4.3.2 Tariff Binding: Process and Approaches The determination of tariff rates and the revision in the tariff rates on different products are within the jurisdiction of the national policies of Members. They impose tariffs and make adjustments in them against the background of their own respective national policies. However, it is mandatory that the rates be published so that other Members and other interested parties, that is, the trade and industrial sectors in different countries, are fully aware of them. Moreover, once a tariff is

50

prescribed for a product, it has to be applied uniformly to the particular product emanating from different Member countries according to the MFN principle. Members indulge in negotiations with the objective of having an overall reduction of tariffs, particularly on the products of interest to them. There are two methods of negotiations. First, the Multilateral Trade Negotiation Rounds provide this opportunity. Second, two Members or a group of Members start negotiating among themselves for this purpose. Both these types of negotiation lead to countries agreeing to ‘bind’ tariffs on some products at particular levels, which implies that they undertake the obligation not to raise the tariffs on these products beyond the respective ‘bound’ levels applicable to these products. Not all products are covered by ‘binding’ by a Member. Tariffs on products not bound by a Member can be raised at any time without limit. However, in respect of the products covered by the commitment of binding, a Member normally cannot raise the level of tariffs beyond the bound levels. If a member desires to do so, it will have to follow a detailed prescribed procedure. There are basically two approaches that are followed in the negotiations for tariff reductions and tariff binding: a) reduction based on some general formula or principle for an across-the-board tariff cut, which is called the formula approach; and b) product-by-product negotiation based on requests and offers among countries. It is to be noted that if a Member wants to raise the tariff on a product above the bound level, compensatory concession on some other items has to be provided. Article XXVIII of GATT 1994 lays down the procedure for this purpose.1 Moreover, Members sometimes apply concessional rates of tariff to some products of some specified members. There are normally two situations in which preferential tariffs are utilized: a) they are applied by developed countries to the products of developing countries under the Generalized System of Preferences (GSP); and b) preferential tariffs among some countries emerge as a result of their forming a regional trading area or a free-trade area, for example, the countries of the ASEAN or SAARC. The schedule of a Member may consist of concessions other than tariffs, and these concessions will also be considered binding. These concessions could take the form of minimum import quotas, or commitments for elimination of import licensing schemes, import permit requirements, and import prohibitions, among others. 4.3.3 Tariff Escalation and Market Access ‘Tariff escalation’ is used to imply that the rate of tariff in a country is higher on a product with a higher level of processing than on one with a lower level of processing or on the basic raw material in a product chain. Tariff escalation has a significant bearing for the development of the processing of raw materials in LDCs. Many LDCs rely on the processing of raw materials for their industrial development, since they do not have many prospects for more sophisticated manufacturing production. The processing of raw materials in these countries can be encouraged if major developed countries do not go in for tariff escalation, that is, if they do not impose higher tariffs on products with a higher level of processing. Today, with the reduction of tariffs all over the globe, the importance of tariffs as a hindrance to market access has been significantly lowered. Developed countries have greatly lowered their

51

tariffs on products of their mutual interest, though tariffs in these markets are still comparatively high on products of interest to LDCs. 4.4 Tariff Binding Options The WTO Agreements do not provide any guidelines for fixing the average tariff rates of concessions for individual acceding countries. Tariff rates are governed by tariff negotiations between the acceding country and WTO members as illustrated in Table 4.1. The experiences of accession negotiation of newly acceded countries reveal that on the one hand there is a great pressure on acceding countries to bind at lower tariff rates; on the other hand, these countries are requested to participate in the so-called ‘sectoral tariff initiatives’, namely ‘zero for zero’ initiatives, the Information Technology Agreement and Chemical Harmonization Initiative2. Among the acceding countries, Mongolia and Kyrgyz Republic, whose economic development is comparable to those of LDCs, are bound at about 20 percent and 6.7 percent, respectively on simple average basis while overall tariff rates of industrial products in most developing countries are within the range of 20-40 percent. Moreover, it should be noted that the average importweighted tariff in Bangladesh, the South Asian LDC that became a member of WTO in 1995, was 15 percent 1999 compared to 21 percent in 1995. Table 4.1 Average Tariff Bindings of Selected WTO Members
Country Agricultural Products Albania 10.6 Bulgaria 34.9 Croatia 10.4 Ecuador 25.8 Estonia 17.7 Georgia 12.1 Jordan 25.0 Kyrgyz Republic 11.7 Latvia 33.6 Mongolia 18.4 Oman 30.5 Panama 26.1 Source: Nepal’s Accession to WTO Project. Industrial Products 6.0 12.6 5.0 20.1 6.6 5.8 15.0 6.7 9.3 20.0 11.0 11.5

However, some degree of flexibility does exist in offering individual tariff rates as the acceding country has three choices: • • • Choice 1: to bind a tariff rate at the same level as the applied rate. Choice 2: to bind a tariff rate at a lower level than the applied rate. Choice 3: to bind a tariff rate at a higher level than the applied (that is, ceiling binding)

Past experiences disclose that negotiating countries normally request an acceding country to choose Choices 1 & 2. Nevertheless, the binding of a tariff at a level higher than the applied tariff (Choice 3) is considered as a legitimate concession during the tariff negotiation. In this case, the concession is the binding itself, that is, the commitment not to raise the tariff beyond level. This has permitted acceding country to significantly raise their ‘bound’ commitments, thus underpinning their open market policies, while at the same time keeping a certain margin of protection in case of need.

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During negotiations, it is very crucial to understand which products are important to negotiating countries. Initially, WTO members would possibly ask for deep tariff cuts in the various products. An acceding country reviews those requests with regard to its interests and seeks mutually acceptable agreement through formal and informal negotiations and consultations with individual WTO Members. 4.5 Methodology for Computing Effective Protection Rates While making tariff offers, an important consideration is the effective protection rate which measures the percentage increase in value-added, or payments to primary factors of production, made possible by the structure of protection. Accordingly, this section is an attempt to compute the effective protection rates. Effective rate of protection is a tool for providing policy incentive to the industries and is computed in consideration with both domestic and world value added figures. The identity can be expressed as follows: ERP = (Vd - Vw )*100/ Vw (1)

Where ERP= the effective rate of protection; Vd = the domestic value-added, expressed at the ex-factory value of the output exclusive of taxes, less material inputs expressed at economic efficiency price; and Vw = the value of output at world price less the value of material input, less the traded component of non-traded inputs and capital inputs at economic efficiency price. The above equation measures the percentage by which the domestic value-added increases as compared to the world value-added due to policy intervention. In other words, it assesses the level of industrial support provided by the trade and industrial policies. Attempts were made to compute the effective rate of protection via equation (1). Various types of data were collected from the CBS, NRB, NPC, Department of Commerce, TPC, DOC, and FNCCI. Publications of the Reserve of Bank of India were also resorted to. However, due to lack of information on the ex-factory value of output, the value of individual input, and the traded component of non-traded inputs at economic efficiency prices, it was not possible to compute the effective rate of protection. Moreover, limited data was available with respect to NISC grouping, and none according to HS Nomenclature. The limited time available for the completion of this study was another factor that restricted the undertaking of this computation along the above lines. Ultimately, a very simple method was employed to compute the effective rate of protection.3 The equation is as follows: ei = [ti – 1/n{∑j=n(tmijsmij )}]/vi
j=1

(2)

Where ei = the effective rate of protection for the ith product, ti = the tariff rate of the ith end product, tmij = the tariff rate of the imported jth input required for the production of ith product, smij = the percentage of imported jth input required for the production of ith product, vi = the percentage of domestic value added in producing ith product and n = the number of inputs being used to produce ith product.

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Tariffs are also imposed on intermediate commodities that are utilized as inputs to produce final products. Analogously, while processing the inputs to produce output, domestic industry adds value to the intermediate imports. Equation (3) takes into account the foregoing factors, and examines the pertinent tariff structure to determine the degree of protection. Data for applied tariff were procured from the Department of Commerce (DOC). The figures on value added are based on published data of CBS. However, the value-added figures were not available for all the required products. Consequently, a small survey of some industries and shops was conducted to estimate the value-added, and the prices of domestic and imported inputs. In the final analysis, figures on the applied tariff rate, tariff rate on imported inputs, percentage of imported inputs in total output, and domestic value-added were utilized for computing the effective rate of protection. The results are disclosed in Table 4.2 and Table 4.3. 4.6 Results of Effective Protection Rates 4.6.1 Manufactured Products Under ‘mineral and mineral based products and building materials’ Table 4.2 indicates that the effective protection rates for slate and marble, concrete building blocks and bricks, articles of jewellery of precious metal are 73 per cent, 67 per cent and 63 per cent, respectively. Effective tariff rates for semi-precious stones, iron bars and rods, steel bars and rods are in the range of 40 to 55 percent. The figures for roofing tiles, asbestos cement corrugated sheets, and aluminum reservoirs and tanks vary from 30 to 40 percent. These are products that are used by the general population, particularly the lower-middle class. According to Table 4.2, for the second group of ‘chemicals and allied’, the effective rate for paints and varnishes is estimated to be 71 percent, whereas the rates for antiseptic and other creams, laundry soap, toilet soap, and matches range from 50 to 55 percent. Effective tariff rates for ayurvedic medicines, pharmaceutical products, essential oils, incense sticks (agarbatti), candles, glues and adhesives, x-ray films for hospital use, and insecticides for farm use appear to be less than 30 per cent. The effective rate for plastic tubes, pipes and fittings, pneumatic types of rubber for motorcycles and motor vehicles falling under the third group, that is, ‘plastic, rubber and leather products’ is estimated to be about 55 percent. Similarly, the rate for inner tubes of rubber for bicycles and tractors, animal driven vehicles, pneumatic types of rubber for bicycles is calculated to be 18 per cent. It is the low-income people that generally consume most of these products. The effective rate for all hand-made paper and paperboard, post cards, greeting cards stands at 47 per cent, whereas the rate for statues, ornaments and others is 56 percent. Plywood, laminated wood, tableware, kitchenware and pencil have an effective tariff rate of about 40 per cent. Table 4.2 further divulges that under the ‘electric and electronic goods’ group, the effective tariff rates for sub-groups vary from 30 percent to 70 percent. The tariff for cells and batteries is estimated to be 68 percent, whereas it is 34 percent for electric switches, circuit breakers, plugs, and sockets. For boards, panels, cabinets, insulated wires, and cables and color television, the effective rate is estimated to be between 40 to 55 percent. These are goods that are normally used in the urban area where the standard of living of the people is relatively high.

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Table 4.2 Tariffs on Some Manufactured Products
Heading Sub-heading Product Type Tariff Effective Tariff Rate* Rate Offer 5% 40% 20% 40% 20% 10% 20% 10% 10% 10% 10% 73% 33% 67% 36% 55% 63% 43% 43% 30% 10% 50% 30% 50% 30% 20% 35% 25% 25% 25%

25.09 25.14, 25.15 69.05 69.04 68.11 71.03 71.13 72.06 to 72.15 72.21, 72.27 76.12

30.03, 30.04 30.01 to 30.06 31.01 32.08 to 32.10 33.01 33.04 33.07 34.01 34.01 34.06 35.06 36.05 37.01 37.02, 37.03 38.08 39.17 40.13 40.13 40.13 40.11 40.11 40.11

Mineral and Mineral Based Products, and Building Materials 2509.10.00 Chalk 2514.00.00, Slate & marble 2515.11.00 6905.10.00 Roofing tiles 6904.10.00 Concrete building blocks and bricks 6811.10.00 Asbestos-cement corrugated sheets 7103.10.00 to Semi-precious stones 7103.99.00 7113.11.00 Articles of jewellery of precious metal 7206.10.00 to Iron bars and rods 7215.90.00 7221.00.00, Steel bars and rods 7227.10.00 7612.10 and Aluminium reserviors, tanks, casks, drums, cans, boxes 7612.90.00 Chemicals and Allied 3003.90.90, Ayurvedic medicines (3003.90.00 free) 3004.90.90 3001.10.00 to Pharmaceutical products 3006.60.00 3101.00.00 Organic fertilizer 3208.10.00 to Paints and varnishes 3210.00.00 3301.11.00 to Essential oils 3301.90.00 3304.10 to Antiseptic and other creams 3340.90.00 3307.41.00 Incense sticks (agarbatti) 3401.19.10 Laundry soap 3401.11.00 Toilet soap 3406.00.00 Candles 3506.91.00 and Glues and adhesives 3506.10.00 3605.00.00 Matches 3701.10.00 Photographic plates or films for X-ray (films=10%) 3702.20.00, Instant print films and photographic papers 3703.10.00 3808.10.10 Insecticides for farm use (without permission 5%) Plastic, Rubber and Leather Products 3917.10.00 to Plastic, tubes, pipes and fittings 3917.40.00 4013.20.00 Inner tubes of rubber for bicycles and tractors 4013.90.20 for animal driven vehicles 4013.10.00 for motor vehicles 4011.50.00 New pneumatic types of rubber for bicycles 4011.40.00 for motorcycles 4011.10.00 for motor vehicles

5% 10% 10% 40% 10% 20% 10% 40% 40% 20% 20% 40% 5% 10% 5% 20% 10% 10% 30% 10% 30% 30%

17% 29% 20% 71% 10% 50% 17% 54% 54% 20% 28% 53% 15% 40% 17% 58% 18% 18% 55% 18% 55% 55%

10% 20% 15% 50% 15% 30% 20% 50% 50% 25% 25% 45% 10% 25% 10% 30% 15% 15% 45% 15% 40% 45%

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Heading 41.01 to 41.11

Sub-heading

Product Type

4101.20.00 to Hides and skins and leather thereof 4111.00.00 42.02,42.03 4202.29 and Leather bags, cases, gloves 4203.29 Wooden and Allied Products, Stationery 44.12 4412.13.00 to Plywood, laminated wood 4412.99.00 44.19 4419.00.00 Tableware and kitchenware 44.21 4421.90.20 Matchsplints 44.21 4421.90.30 Toothpicks 44.20 4420.10.00 Statues, ornaments and others 48.02 4802.10.00 Handmade paper and paperboard of all kinds 49.09,49.11 4909.00.00, Postcards, greeting cards, printed pictures, photographs 4911.91.00 96.08 9608.10.00 Ball point pens 96.09 9609.10.00 Pencils 96.12 9612.10.00 Typewriter ribbons Electric and Electronic Goods 85.36 8536.10.00 to Electric switches, circuit breakers, fuses, plugs, sockets, 8536.69.00, lamp-holders, junction boxes, lamps & bulbs etc. 8536.61 to 69.00 85.37, 85.38 8537.10.00, Boards, panels, cabinets 8538.10.00 85.44 8544.11.00 Insulated wires, cables 85.06 8506.80.00 Cells, batteries 85.28 8528.12.10 Colour television 85.27 8527.19.00 Radio 85.20 8520.10.00 to Magnetic tapes 8520.90.00 91.01, 91.02 9101.11.00 to Wrist watches 9102.99.00 Miscellaneous Products 94.03 9403.10.00 to Metal, bamboo cane and wooden furniture 9403.60.00 94.03 9403.70.00 Plastic furniture 95.01 to 95.03 9501.00.00 to Dolls and toys 9503.90.00 96.01 9601.10.00, Worked bone articles 9601.90.00 96.03 9603.21.00 Tooth brush 96.03 9603.10.00 Brooms and cleaning brushes 97.01 to 97.04 9701.10.00 to Painting, drawings, pastels, original engravings, prints, 9704.00.00 970 sculptures, antiques, postage stamps, etc. 83.10 8310.00.00 Sign plates, name plates *Refers to applied tariff rate for 1998/99

Tariff Effective Tariff Rate* Rate Offer 10% 20% 15% 20% 39% 30%

20% 20% 5% 20% 20% 20% 20% 20% 20% 20% 20% 20% 20% 40% 40% 20% 20% 20%

41% 39% 19% 29% 56% 47% 47% 36% 40% 50% 34% 45% 38% 68% 55% 29% 45% 55%

30% 30% 10% 25% 30% 30% 30% 30% 30% 30% 30% 30% 30% 50% 50% 25% 30% 30%

30% 30% 20% 20% 20% 10% 30% 20%

62% 61% 35% 35% 43% 20% 33% 32%

40% 40% 30% 30% 35% 20% 35% 25%

Similarly, under ‘miscellaneous products’, the effective rate for metal, bamboo cane, wooden goods and plastic furniture is estimated to be more than 60 percent. For dolls and toys, worked bone articles, paintings, drawings, sculptures and antiques, the rates remain in the range of 33 to 35 percent. A rate of 20 percent is computed for brooms and cleaning brushes, products of daily use by the general masses.

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Table 4.3 Tariffs on Some Potential Products

Heading No.

Sub-heading No.

Product Type Mineral, Mineral based Products, Tools and Building Materials Lead ore Zinc core Copper stranded wires, cables, plaited bands, nails, tacks, drawing pins, staples Nails, tacks, drawing pins, corrugated nails, staples of iron and steel Aluminum tubes, pipes, pipe fittings, stranded wires, cables, screws, bolts, nails, etc. Bricks, blocks, tiles of soliceous fossil meals Refractory bricks, blocks, tiles Ceramic building blocks, bricks, tiles Porcelain or china ceramic wares Transportation, Electrical and Electronic Products Water pumps Threshing, winnowing and fodder cutting machines Inflatable river rafts, rubber boats Computer (assembly) Other Products Cooking appliance, stoves, cookers

Tariff Effective Tariff rate* tariff Offer 0% 0% 20% 20% 20% 10% 10% 40% 20% 10% 10% 30% 30% 30% 42% 42% 42% 39% 10% 10% 30% 30% 30% 25% 25% 45% 35%

26.07 2607.00.00 26.08 2608.00.00 74.13 & 74.15 7413.00.00, 7415.10 to 7415.39 73.17 7317.00.00 76.08 &76.09 7608.10.00 & 7609.00.00 69.01 6901.00.00 69.02 6902.10.00 to 6902.90.00 69.08 6908.10.00 & 90.00 69.11 6911.10.00, 6911.90.00 84.13 8413.81.00 84.33 & 84.37 8433.52, 8437.80 89.07 8907.10.00 8471 & 8473 73.21 7321.11.00, 7321.81.00 48.18 4818.10 to 4818.90

10% 5% 10% 10% 20% 20%

15% 15% 10% 25% 45% 34%

15% 10% 10% 20% 30% 30%

Toilet paper, facial tissue paper, paper towels & napkins * Refers to the applied tariff rate for 1998/99.

4.6.2 Potential Products The majority of the potential products contain a large portion of imported inputs in comparison to domestic inputs, but the price differentials between the domestically manufactured goods and the imported ones vary from product to product. According to Table 4.3, the effective tariff rate for lead ore and zinc stands at 10 per cent. Analogously, the effective rate for copper stranded wires, cables, plaited bands, nails, tacks, staples, aluminum tubes, pipes, pipe fittings stranded wires and cables is estimated to be 30 percent. For bricks, blocks, tiles of soliceous fossil meals, and refractory bricks, the effective tariff rate is computed as 42 per cent. For porcelain or china ceramic wares, the figure is 39 percent. The effective rate for inflatable river rafts and rubber boats is estimated at 10 percent. These products are employed for the promotion of tourism industry or for the transportation of goods along the river in the mountainous regions where other modes of transportation systems are nonexistent. Water pumps, threshing, winnowing and fodder cutting machines possess an effective tariff rate of 15 per cent. Generally, these machines are utilized partially for the mechanization of the agricultural sector, and ultimately to lower the costs of inputs for the agriculturists.

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The effective rate for importing assembled computers is estimated at 25 per cent while the effective tariff rates for toilet paper, facial tissue paper, paper towels & napkins, cooking appliances, stoves, and cookers are computed to be between 34 and 45 per cent. 4.7 Tariff Offers Protection has been provided to industries in Nepal through various policy instruments, such as import licensing, tariffs, exchange control, and industrial licensing. This array of protection makes the whole protection system quite complex and the measurement of the final incidence of protection is an arduous, if not impossible, task. A number of questions could be raised relating to the relationship between the degree of protection to a domestic industry on the one hand and on the other, growth of domestic production, market share of imports, price competitiveness of the products, and changes in domestic production efficiency. Prior becoming a member of the WTO, Nepal has to fix the binding tariff on various goods in a manner that would guard not just domestic industries, but would also secure the business interests of the country’s trading partners. Once all the bilateral negotiators agree on the binding tariff, Nepal would gain an easy access to the global rules-based trading system. An indicative figure for tariff binding on some locally produced goods and some potential manufactured goods has been provided in the last column (under ‘tariff offer’) of Tables 4.2 and 4.3, respectively, based on the consideration of the following factors: • • • • • • • • • The country’s economic and trade structure as well as existing bilateral and regional trade regime Impact of tariff changes on the macro-economic indicators such as GDP, BOP and the labor market, among others. Impact of tariff changes on custom revenues as it constitutes significant proportion of total revenue. Concessions granted to LDCs. Estimation of effective protection rates. Views from the business community. The understanding that protection be granted to some particular sectors (infant industries and strategic industries) and that tariffs are the only fully legitimate tool under the WTO to protect the domestic producers. Market access to foreign commodities granted in such a way so as not to obstruct the industrialization process. The fact that credibility to the liberalization process can be demonstrated to the international community by binding tariffs at levels in proximity to the existing rates.

4.8 Conclusions: To conclude, because protection reduces the incentive to invest in capability building, it has to be scrupulously designed, strictly monitored and offset by measures to force firms to aim for world standards of efficiency. The suggested tariff offers should enable the country, to a large extent, to meet its industrial protection objectives while, at the same time, limiting the relative price distortions that trade restrictions can create and thus the harm they can do to the overall economy.

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____________________ Notes The procedures are two-fold. First, the Member wishing to raise the tariff informs the Council for Trade in Goods relating to this proposal, and the Council appoints a negotiation for this purpose. Second, the negotiation will take place specifically with the following Members: a) The Member with which the concession, that is, tariff binding, was initially negotiated and who holds the initial negotiating rights (INR); b) the Member having principal supplying interest, that is, a Member who had a greater share in the market of the modifying Member than the holder of INR over a reasonable period of time prior to the negotiation for the modification of the tariff; c) the Member with the highest ratio of export of the product in question into the modifying Member country compared to its overall export of that product; and d) consultation could be held with any other Member determined as having substantial interest. 2 In the Uruguay Round, mutual tariff elimination (known as “zero for zero”) and tariff harmonization for chemical products were agreed among “Quad” countries (the US, EU, Japan and Canada). Products subject to mutual tariff elimination include the following: beer, distilled spirits, pulp, paper, furniture, pharmaceuticals, steel construction equipment, medical equipment and agricultural equipment. With reference to Information Technology Agreement (ITA), elimination of tariffs on an array of information technology products by the year 2000 was agreed in the Ministerial Declaration on Trade in Information Technology Products, which was adopted at the first WTO Ministerial Conference held in Singapore on December, 1996. 3 This method is explained in Meier (1980).
1

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Chapter 5 Industrial and Trade Sector: Constraints and Remedies 5.1 Introduction Ever since the inception of the planned development of the country, the development of the industrial sector has been accorded priority for generating employment opportunity, and developing sustainability in exports in a way to contribute to the domestic economy. However, this sector has not been able to make the desired contribution to the national economy. This state of affairs is attributed to a host of factors. Some are related to the interaction of structural weaknesses in poor or underdeveloped resource endowment linked with undeveloped infrastructure, small markets, geographical location, and lack of skilled manpower. Others are policy related, such as the slow and ineffective privatization process, inadequate foreign investment and absence of technological upgrading. With reference to the trade sector, the policy regime has not been very instrumental in improving export competitiveness in traditional markets and encouraging rapid diversification. Policies that tend to discourage investment in the export sector include inconsistent or erratic macroeconomic policies, excessive dependence on tariff revenues, and a variety of direct public interventions in product and factor markets, among others. Weak infrastructure, absence of a strong legal framework, inadequate provision of ancillary services to exports, and lack of trade data has also adversely affected the trade performance of the country. Industrial and trade policy reform measures can be employed to bring about a structural adjustment in the pattern of investment, employment, production, and trade. While reform can contribute to structural change, which increases growth, industrial and trade policy can equally have an adverse impact if poorly conceived. In this light, this chapter attempts to spell out the major problems, both structural and policyrelated, of the industrial and trade sector and provide guidelines to resolve them. The suggestions are also provided in Appendix 1 in the format of an action plan, and it is recommended that steps be undertaken to implement these measures as soon as possible 5.2 Industry-related Bottlenecks and Remedies 5.2.1 Industrial Potential and Infrastructure Problems There is undoubtedly a very large industrial potential in the country. The two most important resources of the country, that is, water and forest, could be exploited to provide a proper base for a number of industries. Water could be harnessed for generating hydroelectricity on which can be based industries like nitrogen fertilizer, calcium carbide, aluminum industries and ore processing. Forests provide even a wider basis on which saw milling, plywood, chemicals, wood distillation including charcoal, turpentine, catechu extraction, and the whole group of pharmaceutical using herbs and drugs, among others could be established. These two resources, to some degree, have been exploited, but at a very minimal standard. Much more remains to be done. The industrial advancement of the country has also been obstructed due to the negligible volume of the market and the economy’s land-locked situation. The market for consumer commodities is, to a large degree, confined to the negligible proportion of the population residing in towns or in

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the more approachable areas of the Hills and the Tarai region. Moreover, the Nepalese commodities have also to contest with Indian commodities that possess economies of scale, are normally less expensive and of superior quality. Although priority has been given to the development of transport in the country’s development plans, the transport networks are not yet commensurate with the development needs. Most of the few existing roads are concentrated in or around the capital city and a few other centres; generally, they are not adequately connected with each other or with the networks in neighbouring countries. Such conditions lead not only to difficulties with regard to industrial development but also to differences in prices between one region and another and to local shortages and gluts. The major step to remedy the situation evidently lies in co-ordinated development on a more consistent basis of road networks, and in providing adequate and economic transportation facilities. Poor availability and quality of electricity service is another principal infrastructure problem that has affected the operations of all manufacturing industries.1 5.2.2 Skill-related Problems Industrial development requires continuous improvement in the whole range of human skills from those needed on the shop floor to supervision, financial engineering, procurement, marketing and general management. Skill formation is a consequence of industrial education and training acquired at education institutions and within firms. Different types of skills are required at different levels of industrial development. Moving from one level or pattern of industrial development to another requires changing the skill-creation system and its utilization by industry. Assuming that most of Nepal possesses an industrial structure characterized by simple assembling and processing activities, the first question relates to the extent to which its skill requirements are met. Measures are required to raise literacy, increase coverage and depth of technical and managerial training for a sizable proportion of the work-force, formalize on-the-job-training procedures, make secondary and technical training widespread, create a wide range of financial and engineering expertise, organize formal in-house training programmes, especially by exportoriented firms, and improve small-scale and micro enterprise sector skills. 5.2.3 Public Enterprises, Privatization and Role of Industrialists The overall economic condition of public enterprises, especially those involved in industry and trade sectors, is very disappointing. A number of factors are responsible for this state of affairs. The management of the enterprises has tended to be oriented more toward administrative and political matters than towards business. Since the higher management is appointed on the basis of political loyalty and commitment, decision-making processes lack capability and efficiency. While the return on corporate investment in various sectors is negative, financial liability of the government is increasing every year. Because of these and various other factors, these corporations have become a heavy burden on the national economy. Owing to the foregoing factors, privatization programmes in Nepal were launched with the goals of enhancing the productivity of public enterprises by making efficient utilization of investment, encouraging wider participation and initiative of the private sector in their operation, and by expediting the process of economic development by mitigating the burden on the government treasury. These objectives have not been satisfied to the extent desired.

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To remedy the problems of privatization, there is a need to amend the Privatization Act to include more private sector representatives in the privatization committee. Clear and transparent regulations on privatization should be framed. It is also necessary to conduct research on the present status of public companies with respect to overcapitalization and overstaffing, and implement the findings accordingly. Moreover, in order to attract participation of the foreign investor in the privatization of the public enterprises, some procedural facilities and incentives should be provided. Similarly, the role of enterprises whose privatization is considered as untimely needs to be redefined and efficiency drive measures should be put in place. In Nepal, the industrialists, for their part, have focused in most cases on industries that generated quick benefits instead of encouraging income and employment-generating industries. Analogously, stress was given to the promotion of industries based on imported raw materials and semi-processed materials and assembling industries, and not on the promotion of high valueadded industries based on domestic raw materials. Linkages between different sectors of the economy could not be established due to the setting up of such industries. 5.2.4 Foreign Direct Investment FDI can play a paramount role in poverty reduction strategies, as it is an important source not only of capital but also of managerial skills, technologies and know-how and could be strategic in strengthening and growing local industrial clusters. The major obstacles in attracting FDI in Nepal include the instability of the macroeconomic environment, the structural weakness of the institutional and legal framework, the poorly functioning markets and the high costs of communication and transportation. Political instability, poor policy, arbitrariness in dealing with companies, corruption and insecurity are the other causes for prospective investors opting to stay out. To attract FDI that is focused on producing manufactured goods primarily for exports, Nepal must compete with other countries that are also liable to attract the same investments. For some products, the competition is regional (for instance, South Asia), and for some it is worldwide. Improvements in productivity will be a crucial element in raising exports and raising the standards of living in Nepal. Both the level of investment and the efficiency of investment will be of considerable significance in this aspect. The efficiency of investment is governed by firms’ abilities to obtain and use new technology that, in turn, are intimately linked to the efficiency of the technology transfer mechanisms. Many of these ‘learning’ mechanisms are weak or absent in Nepal: FDI is low, a limited number of firms train workers and business and technical training institutions are not well developed, local technical consulting services are weak, and in many industries, buyers and suppliers do not visit Nepal regularly, which restricts the possibilities of technology transfer. Other problems are linked with the registration process, the visa and work permit and repatriation procedure for foreign personnel, which is a very lengthy and complicated process. These need to be simplified. Again there are some industries that are still categorized under the ‘negative list’ and not open to foreign investors. These include consultancy services, tourism-related services, bee- keeping and poultry farming. These industries should be opened for foreign investment.

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5.2.5 Technology Technological mastery is an essential condition for industrial upgrading, sustaining competitiveness and entering markets for high-valued goods. Technological weaknesses in Nepal include the low level of technology deployed in productive activities, almost total absence of local technological capability, including the inability to adapt and utilize new technologies, and a lack of resources to procure new technologies. Due to weak technical and management capabilities, the exporters cannot adhere to the complex and detailed specifications required by importers from other countries in terms of quality, size, delivery time and packaging, among others. In view of the competitiveness in the international markets, the exporters need a better understanding of elements of their production cost to be able to conduct realistic and crucial price negotiations with buyers. Their almost total lack of such capacities is aggravated by differences in ‘business culture’. The business culture in the international market involves quick and timely deliveries, with minimal space for flexibility in fulfilling contracts. Nepal should initiate measures to improve productive capacities and make significant gains in productivity and competitiveness through technological upgrading, especially as many of its productive activities utilize sub-optimal technologies at present. The implementation of a successful technology policy, however, depends on a skilled and educated labor force to tackle the many issues relevant to acquisition, utilization, absorption and generation of technology. It also depends on the country’s capacity to invest in R&D, especially to promote locally developed technologies that have an effect on productivity growth, and to establish a link between R&D and production units. In promoting export manufacturing initiatives, attention should be given to improving traditional techniques of production in terms of costs per unit, productivity per unit of factor inputs, and quantity and quality of output, and to linking these productive activities to markets, including users industries (such as forward processing and subcontracting relationships). The Government could also play an instrumental role in technological upgrading by setting targets, and linking the provision of support to the attainment of these targets. 5.2.6 One Window System The Industrial Policy, 1992, sought to establish a strong and powerful institution to provide regulatory and facilitative services to investors. The one-window service was set up to make the delivery of services to private business more efficient. Presently, the service seems to be limited to an entry point for providing tax and duty drawbacks. Moreover, this service does not benefit firms located outside of Kathmandu. Hence, the Industrial Enterprises Act, 1992 (IEA 1992) could not maintain the real spirit of the policy. The scope and functions of the One Window Committee (OWC) was limited only to making decision on providing tax and duty drawback facilities. Investor services, which include, among others, information dissemination, speedy and time bound approval, transparency in the procedures and infrastructural facilities were not provided to the desired extent. Similarly, other services such as incentives and facilities, repatriation, visa, and work permits of expatriates, among others, have also not been handled satisfactorily. The IEA notes that the OWC should make decision on providing duty drawback facilities to export-oriented industries and deemed export within sixty days. Only in rare cases have

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entrepreneurs got their money refunded within a mandatory period of sixty days. A sample case study disclosed that it took 106 days to complete the whole process for a single duty drawback decision. Meanwhile, pending cases as old as four years also exist. Hence, it is recommended for the introduction of flat rate on duty drawback, first to selected export-oriented industries and for products with low rebate percentage. Slowly, it could cover other products as well. If a decision is undertaken for providing duty drawback and there is a paucity of funds for disbursement, an alternative would be to issue vouchers. The businessmen could then use these vouchers to pay customs duty or other taxes. Moreover, the time limit for the processing of application of duty drawback should be strictly adhered to. 5.2.7 Taxation Commercial units having annual transactions upto Rs. 4.5 million do not need VAT registration. This holds true for goods imported by cottage industries for their own use. But, the enterprises importing machinery, equipment and raw materials need to deposit in advance 20 percent of VAT payable at the Customs Office. This system raises the working capital requirement of the industries. Hence, coordination between the MOF and the MOICS should be set up in such a way in order to proceed with the provision of the IEA with respect to income tax exemption to cottage industries. Currently, imported packaging materials needed for local drug manufacturers are subject to VAT while the import of pharmaceutical products (that come in packaging materials) is fully exempted from VAT. Imported pharmaceuticals pay a 2.5 percent duty. Domestic manufactures are required to pay a 40 percent duty on imported packing material, which forms a significant proportion of their costs. Such discriminatory VAT practice has an adverse impact on the competitiveness of import-competing pharmaceutical industries. Thus, there is a need to coordinate the activities of the Ministry of Finance and the Drug Administration Department (DAD) and abolish the VAT imposed on the import of packaging materials that are utilized for local drug manufactures. Though the introduction of VAT has led to an improvement in tax efficiency, tax officials are not properly trained to administer the VAT effectively. Moreover, duty drawbacks and VAT refunds are very slow—it takes months or even years to receive them after the submission of the application. Again, on certain occasions, it could be problematic for firms to manufacture and export their products and file claims by this deadline owing to low demand and unexpected delays. This problem is further aggravated as original documents to claim both VAT and duty drawback is demanded making it impossible to claim simultaneously. Despite attempts to overhaul and modernize the tax system, problems still exist. Taxes seem to be assessed in an arbitrary and capricious way. Although business entities need to submit audited books, the tax officials ignore them and evaluate taxes based upon their estimated turnover and profit. As the system for resolving tax disputes is so inefficient, practically no firms utilize it. 5.2.8 Data Problems and Studies on Comparative Advantage Nepal does not have detailed information on supply and demand for industrial output, input, reliable input-output tables and the value of national economic parameters. The lack of such information has hampered the selection of right firms, assessment of industrial performance, and evaluation of backward and forward linkages with other sectors of the economy.

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With regard to globalization, the right choice and development of proper manufacturing products as well as promotion of industrial complementarities in the region, is important. This calls for an in-depth analysis of the comparative advantages of various manufactured products. Thus, there is an urgent need to conduct studies along these lines for the steady industrial growth of the country. 5.3 Trade-related Bottlenecks and Remedies Most of the bottlenecks identified for the industrial sector are also related to the trade sector, and vice-versa. Thus, some problems that have not been specified elsewhere in this chapter will be delineated below. 5.3.1 Commodity and Market Diversification Lack of product and market diversification has been the major hindrance for the development of the trade sector in Nepal. About ninety percent of total foreign exchange earnings have been contributed by exporting just seven products such as carpets, garments, handkerchiefs, handicrafts, wool and woolen products, silver products and paper products. Moreover, about eighty percent of total foreign exchange earnings have been contributed from exports to the United States, Germany and Switzerland. Nepal has not seriously taken efforts to develop products, identify product market, and establish a link between the two, although the objective of product and market diversification has been stated in all the Plan documents and the various policies announced by the Government from time to time. This is an area where immediate steps should be taken, particularly if Nepal is to become a member of the WTO and face global competition. 5.3.2 Transit Difficulties For Nepal, the principal access route for the transit of trade with the rest of the world is through the port of Calcutta and its sister port of Haldia. Routes from Nepal to ports in Bangladesh through Phulbari (road) and Radhikapur (rail) on the India-Bangladesh border have been formally available since the past few years. However, there is little or no traffic utilizing the routes and the stringent border formalities seem to make them unattractive to users. In December 2000, a US $30 million project through the support of the World Bank was completed to provide the country with three border facilities to handle containerized cargoes. The most important one is at Birganj that has a direct rail connection to Calcutta Port through the Indian Railway broad-gauge network. The other two terminals—at Biratnagar and Bhairahawa— are road-based. While the road-based terminals are operating, the one at Birganj is moribund. Transit to and from Nepal is subject to both the regulations of the Indian Central Government and also to those that are in force in local governments. In this regard, due to enforcement in the states of Uttar Pradesh, Bihar, and West Bengal of minimum freight tariffs for the transportation of Nepalese cargo, Nepal has not been able to benefit from the prevailing Indian road freight market, which is quite competitive. The Birganj container terminal is in a position to physically receive block container rakes from Calcutta immediately. However, cooperative arrangement between HMG and the Government of India has not taken place. Until this happens the terminal cannot be utilized.

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Hence, measures should be worked out with the Government of India for the quick functioning of the Birganj container terminal. Once this terminal starts to operate, there would be a considerable transfer of traffic from road to rail, lowering the transit costs (Calcutta route) from 12-15 percent of CIF value by 8-10 percent2. The journey time could be reduced from 10 days to 3 between Calcutta and Birganj. Moreover, if a shift is undertaken to Jawaharlal Nehru Port Trust in Mumbai, this could benefit from direct container ship sailings for its overseas traffic with a further reduction in overall costs. It would also generate an element of competition with the Calcutta route. After the operations start at Birganj container terminal, emphasis should be given on issuing and receiving through bills of lading (TBLs) that reduce to a minimum custom activities that are en route, with only the transport activities of transit being emphasized. 5.3.3 Tariff Determination and Valuation The tariff rates on some imported commodities can be different based on how the good is categorized under the different headings of the harmonized codes. These lead to opportunities for arbitrary decisions, delays and corruption. For instance, when a company imports equipment the duty varies depending on whether it is a ‘main manufacturing machinery’ or not. The same equipment can imply ‘main manufacturing machinery’ for one company while not for a firm in another company leading to an opportunity for making arbitrary decisions. Analogously, equipment for the first time gets an 80 percent duty exemption; however, new equipment imported to substitute existing equipment does not fall under the exemption. As the custom officer is not able to have information on these decisions, the policy brings about another opportunity for arbitrary decisions. The valuation of imported products at customs for determining the import duties is another hurdle for many firms. Customs officials are concerned that firms underinvoice their imports to lower their duties. Hence, these officials make use of ‘reference value’ which refer to the values that commodities are believed to have, instead of the actual invoice value of the goods. These reference values are normally based on the highest import price historically declared on an invoice, and may overvalue goods significantly when the price of the goods has fallen over time. This is particularly problematic as the reference values are not revised often. To mitigate this problem, proper training should be provided to the custom officials in line with the WTO system of inspection. There is a dire need to set up a permanent Tariff Commission in order to provide effective assistance to the Government and the private sector in meeting obligations of WTO rules and regional cooperation. It should be remembered that tariffs are the only legitimate instrument under the WTO to protect domestic producers. It takes a very long time in clearing customs. This delay has led to a considerable cost burden on the importers. The customs infrastructure is poor; for instance, many crossing points are too small to cope with the volume of traffic and the storage facilities, especially at the airport, are not secure and goods could be easily damaged by weather or stolen. An answer to this could be the upgrading of storage facilities at the airport.

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5.3.4 Paucity of Legal Framework Nepal does not possess a strong, flexible and legal framework for regulating trade. The ExportImport Control Act, 1957 was undertaken primarily with the objective of controlling or prohibiting the export or import of restricted items and those announced by the government from time to time through publication. The objective does not seem to be compatible with WTO provisions. Moreover, this Act, in the present context, seems to have lost its significance as hardly anything has been mentioned about the process of registration of export-import agencies or houses, export promotion, sharing of information, finance, export incentives, institutional arrangements, and dispute settlement, among others. Hence, this Act should be amended to take account of the foregoing issues and also be made compatible with the WTO provisions. Or else, a separate foreign trade act should be formulated and enacted, as envisaged in the Ninth Plan, for making foreign trade systematic by assessing and consolidating existing acts and regulations.3 5.3.5 Absence of Effective Institution The MOICS and the Department of Commerce are the major bodies responsible for governing trade in Nepal. There is also the Export Promotion Committee, whose primary objective is to formulate national policies for export development, monitor the export trends and operate the Export Development Fund for export promotion programmes, that is, product development and export promotion activities. Then there is the TPC, which focuses primarily on enhancing and strengthening foreign trade through export promotional programme. But it has been quite some time since these institutions have been effective in promoting and meeting their objectives. The institutional capabilities to monitor activities and assist in trade information and other services are quite limited. Hence, with the increasing role of the private sector and the rapid development and application of information technology, it appears that TPC should be reconstituted as adumbrated by the Trade Policy of 1992, and a new Nepal Trade Promotion Organization should be established. One of the tasks of this Organization should be to launch an effective communication campaign to convince importing countries that the goods generated in the country reflect competitiveness and that the competitiveness is based on genuine comparative advantage. 5.3.6 Quality Standardization The goods exported from Nepal, to a large extent, are not of standard quality, and this reveals that some manufacturers are not professional in this regard. Quality control is integral to competitiveness. Problems of quality in Nepal include precision, grading, and standardization. The current very low number of industrial firms having ISO-9000 Certification is a glaring demonstration of these problems, which in turn are restricting the ability of local firms to penetrate in principal export markets such as the EU, USA, and Japan. In light of the rising competitiveness in the international market for quality standards and the likely negative impact of low quality Nepalese export products on their reliability and the consequent deterioration in competitiveness, there is a need to undertake quality standardization and improvement programmes to maintain the quality of export products. It is also important to define minimum export quality and a system of compulsory quality inspection and standardization through which each export product has to pass.

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A supervision system necessary for strict implementation of quality standards with the partnership of the government and the private sector should be devised. As consumers of overseas countries are more worried about the use of harmful colors or prohibited chemicals in products, the existing standardization laboratory should be developed into a modern laboratory in order to enforce strictly the system of exporting goods only after completing proper tests. Moreover, there is a need to undertake research studies for exploring the possibility of employing domestically available raw materials, instead of employing synthetic raw materials for packaging export products. 5.3.7 Development of Export Processing Zones In December 1990 the government constituted a high-level working committee under the chairmanship of the Industry Minister to set up an export processing zone (EPZ) in Kathmandu to promote export-oriented industries in Kathmandu. An EPZ is an industrial area especially designed for export-oriented industries and it provides the facility of tax exemption on imports of raw materials needed by the manufacturers inside the region. However, the manufactured goods are not allowed to be sold in the country. Even in 1990, five products were identified that could be produced by the industries inside the EPZ: carpets, garments, leather-based products, electric and electronic goods, products based on herbs, and jewellery. However, more than ten years have passed, and there is no sign of the creation of an EPZ yet. Against this background, it is crucial that the government takes necessary steps immediately to formulate relevant laws for the establishment of EPZs, and measures should be initiated to set up EPZs at appropriate locations such as Kathmandu and Birganj. 5.3.8 Lack of Trade Data There is scarcity of data on market information, pricing, quality, and level of competition, among others. Similarly, reliable data on trade are lacking as the figures published from one institution could be different from the other institution. The proposed Nepal Trade Promotion Organization could be entrusted with this task, including creating commodity-wise database relating to investment, production, exports, and foreign currency earned, among others. This organization should also be equipped with adequate logistics to carry out its task. 5.3.9 Lessons from Experiences of SAARC Countries A comparison of Nepal’s export policy with the export policy of both India and Bangladesh reveals that both India and Bangladesh have accorded priority to the growth of specific productwise exports and exports to new market by giving special incentives, which is missing in Nepal and which is very crucial in this competitive era for sustainability4. India has also given special considerations for the development of backward regions. Both India and Bangladesh have given special protection to the products of small scale and cottage industries to enhance such industries towards exports by giving double weightage in incentives. So far, Nepal has done hardly anything to uplift the backward regions towards export business; it has provided little protection or incentives to the small and cottage scale industries. Again, there exist no policies in allowing foreign trading houses in export business as well as encouragement to these exporters who improve the quality of product for exports. Hence, reviews of export policies of India and Bangladesh shows that in Nepal there is a need for substantial improvement over the existing export policy.

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5.3.10 Government/Private Sector Dialogue The private sector could play an instrumental part in poverty alleviation by contributing to economic growth and creating employment. Particular thrust should be given to the requirements of micro-small and medium-sized enterprises, including entrepreneurs. All of these call for the need to frame mechanisms for more public/private sector dialogue and partnerships in order to enhance coherence between trade, investment and enterprise policies. 5.4 Conclusions The participation of Nepal in international trade is very limited due to a number of factors, especially demand and supply-side constraints. Coping with increased global market competitiveness also presents a great policy challenge to the country, and how it responds to it will be crucial in its success in regional and global integration strategies. Concrete action by the country itself, and its development partners, will thus be needed in order to resolve these constraints and transform trade into a powerful engine for growth and poverty eradication, as well as an effective tool for drawing benefits from globalization and trade liberalization. Integration of Nepal into the global economy is an insufficient but necessary precondition for long-term sustainability of poverty eradication. This can only be attained through an integrated approach, including trade and macroeconomic policy, private sector development and participation, finance, infrastructure, education and other supply-side measures. Regional integration, compatible with multilateral trade rules, can be a paramount stepping stone for Nepal to integrate itself into the world economy and can aid in making liberalization work by enhancing the credibility and transparency of policy reforms. Nepal is currently fulfilling required procedures for its accession to WTO, which could bring both opportunities and challenges. One of the core opportunities open to Nepal is the possibility of significant trade diversification, both in terms of market and products, which Nepal has not successfully achieved yet. Due to the dominance of a few exportable commodities, there is a need to identify commodities with export potentialities by providing technical and material support. It is equally important to locate more prospective markets for the products in view of the limited existing markets. _________________
Notes 1 Evidence is given in World Bank and FNCCI (2000). 2 These data are taken from Chakra Infrastructure Consultants Pvt. Ltd. (2001). 3 See NPC (1998) for details on the policy and implementation strategy of the Ninth Plan with regard to the trade sector. 4 Refer to Research & Study Centre Pte. Ltd. (RESTUC) (2000) for a detailed study on trade policies of major SAARC countries.

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Appendix 5.1 Action Plan
Issues Focus of Industrial Strategy Line of Action Industrial strategy to be selective and targeted at potentially high growth industrial branches and enterprises. Selective strategy to be flexible and capable of adjusting to changing circumstances Selection of those industries for promotion, which are competitive in international markets, possess comparative advantage and higher domestic value-added. Privatization Amendment in Privatization Act Implementing/Supporting Agency NPC/MOICS/Private Sector

” ”

Amendment to include more private sector participation in the privatization committee. Comprehensive formulation of privatization regulation and guidelines.

MOF/MOICS/Private Sector ” MOF/MOICS

Overstaffing

Study to be carried out on the current status of public companies in terms of overcapitalization and overstaffing, and findings to be implemented immediately.

Industrial/Foreign Investment Cumbersome and Lengthy Registration Process

Simplification and transparency of the registration procedure. Publication of manuals and internal guidelines on registration and licensing procedure. Setting up automatic approval system for FDI industrial projects based on their export orientation/investment ceilings.

MOICS/DOI/DCSI ” MOICS/DOI

Negative List for Foreign Investment Complicated Visa and Work Permit, and Repatriation Procedure

Removal of certain items from negative list such as poultry farming and bee-keeping. Simplification and transparency pertaining to rules relating to recruitment of expatriates, visa requirements, duration of visas, and procedures of renewal Repatriation procedures of income, consultancy fee, managerial and capital to be made clearer and properly informature to the investors.

MOICS MOFA/MOICS

MOICS

Lack of Database

Rendering of relevant logistics to the Foreign Investment Division of the MOISC for establishing good database. Development of environment conducive to innovation and to the development of local technological capability. Provision of special incentives scheme to promote exports possessing a high technology content, such as engineering services and design-intensive manufactures. Setting up R&D centers to disseminate new technology to various sectors, and to promote quality.

Technology Policy Incentive Schemes

MOST/MOICS/Private Sector MOICS

R&D Centers

MOICS/MOST/Private Sector

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One Window System More Authority Expansion of the OWC’s authority to make decisions regarding providing infrastructure facilities and support services and coordinating the issues concerning customs and tax. Incorporation of flat rate on duty drawback, first to certain export-oriented industries and for products with low rebate percentage, then slowly to cover all products. After a decision is taken to provide duty drawback, and if there is scarcity of funds for disbursement, a voucher could be issued which the businessman could utilize in order to pay the customs duty or taxes. Introduction of a time limit in the processing of application of duty drawback. Tax Income Tax Exemption Coordination between MOF and MOICS for implementation of the provision made in IEA concerning income tax exemption to cottage industries. Coordination between IRD and Department of Customs to see that no VAT deposit will be procured from the commercial units exempted from VAT and do not need VAT registration. Coordination between MOF and Drug Administration Department. Review of income tax system along the lines of the SAARC countries. Undertaking in-depth studies to assess the comparative advantages and competitiveness of industrial products. Probing into the possibilities of setting up complementarities between domestic and regional industries, for instance, production of parts for emerging Indian automobile and electronic industries. Export Policy and One-Window Service Focus of Export Policy MOICS/MOST/MOF

Duty Drawback Schemes

MOICS/MOF/DOI/Private Sector ”

MOF/MOICS/IRD

VAT Deposit Requirement

DOC/IRD

Discriminatory VAT practice Review of Income Tax Comparative Advantage Studies

MOF/DAD MOF/IRD MOICS/MOF/Private Sector MOICS/Private Sector

Principal focus to be identification of new exports and new markets for sustainability of exports. Devising policies with predictability and consistency in regulations across time and with other existing regulations

MOICS/Private Sector MOICS

One Window Service for Exports Transit Issues Functioning of Birganj Container Terminal Through Bills of Lading

Provision to be made of all export-related services under one roof to make export process and document quicker and simpler. Measures to be worked out with Government of India for quick operations of Birganj container terminal. Priority to be given on issuing and receiving through bills of lading (TBLs) that reduce to a minimum custom activities that are en route, with only the transport activities of transit being emphasized.

MOICS ”

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Tariff Rates, Customs and Valuation Effective Rates of Protection Changes in Tariff Rates Tariff Commission

Examination of effective rates of protection when fixing tariff rates. Modification/changes in tariff rates with adequate notice. Setting up of a permanent Tariff Commission to provide effective assistance to the Government and the private sector in meeting obligations of WTO rules and various regional cooperation, as tariffs are the only legitimate tool under the WTO to protect domestic producers. Strengthening information base by a) setting up qualitytesting services, b) computerizing of required price information, c) monitoring unit prices in duty free ports, d) using price supplied by international private agencies. Alternatively, using transaction value for customs valuation. Improvement in customs infrastructure to handle the volume of traffic and secure shipment. Upgrading of storage facilities at the airport Better training to customs personnel in line with the WTO system of inspection. Development of customs manuals and procedures (in English language, too). Preparation of a guideline relating to the import of capital goods to be used by all custom officials in a uniform way throughout the country

MOF/DOC ” MOF/MOICS/Private Sector

MOF/DOC/Private Sector

Disputes over Custom Valuations

MOF/DOC

Delay in Customs Clearance

MOF DOC ”

Lack of Sound and Effective Training Devising Customs Manual Guidelines for Import of Capital Goods

Paucity of Legal Framework

Make amendments in the Export-Import Control Act, 1957 incorporating various provisions and in line with WTO provisions, or enact a new foreign trade act as delineated in the Ninth Plan. Establishment of the Nepal Trade Promotion Organization (NTPO) as envisaged in the Trade Policy 1992. Board to consist of private sector representatives and representatives of relevant ministries, among others. Responsibilities of NTPO to include a) identification of existing and potential products and markets for exports; b) promotion of products in international markets; and c) co-ordination with all relevant agencies.

MOICS/Private Sector

Absence of Strong and Effective Institutions Constitution of Board of NTPO Tasks of NTPO

MOICS/MOF/Private Sector

MOICS/MOF/Private Sector ”

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Quality Standardization Department of Quality Control Minimum Export Quality Strengthening of Department of Quality Standard. Fixing of minimum export quality as per international standards and building product-wise quality and standard norms verification. Issuance of quality verification certificate before exporting. Development and utilization of quality and standard monitoring indicators on a regular basis. MOICS/MOF/Private Sector ” ” ”

Quality Verification Certificate Standard Monitoring Indicators

Export Processing Zone

Development of EPZs at major locations, such as Kathmandu and Birganj. Devise relevant laws for establishment of EPZs. Permission to be granted for duty-free imports or as envisaged for exports for all inputs and auxiliary inputs without having to engage in duty drawback schemes. Application of surveillance and monitoring techniques for ensuring proper implementation of defined policies and rules.

MOICS/MOF/Private Sector MOICS//MOF ”

Paucity of Data

Development of strong database on markets, pricing, quality, competition level, taste and preferences, trends on foreign trade, including new potential markets; commodity-wise data including investment, production, exports, employment, and foreign exchange earned. Formulation of a mechanism by which an effective, regular and ongoing dialogue would take place, on a regular basis between the Government and the private sector on issues relating to the industrial and trade environment of the country.

MOICS/NTPO

Government/Private Sector Dialogue

MOICS/Private Sector

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Chapter 6
WTO Accession and Issues on Trade in Goods 6.1 Introduction The current WTO provisions have limited the industrial policy tools available to WTO members. On the one hand, there is proof to demonstrate that a number of policies that distort trade are still permitted under present rules. On the other hand, the added discipline imposed by the WTO rules has reduced the flexibility of national governments to undertake development objectives. This chapter examines some pertinent issues from the various WTO provisions as they relate to the pursuit of industrial and trade policy objectives by LDCs in general and Nepal in particular. It also highlights some WTO-related challenges in the area of industry and trade that should be considered by the policymakers of Nepal in light of the country’s accession to the WTO in the future. 6.2 Special and Differential Treatment (SDT) An important component of SDT has been special market access, through trade preferences. While its actual benefits have been short of potential due to its many limitations, and while further negotiated tariff reductions on a MFN basis will continue to erode preferential trade margins, its continued importance should not be underestimated1. Especially, it could be a significant boost to the exports of Nepal and other LDCs if current limitations relating to product coverage could be eliminated. The proposal to provide duty and quota-free and bound access for all exports of the LDCs would lead to an elimination of these limitations; it could considerably enhance the export prospects of Nepal after it becomes a member of the WTO. However, this proposal could proceed a little further, that is, for the developing countries to also provide special market access to the LDCs, not necessarily on the same duty-and-quota-free basis as the developed countries but perhaps at up to 50 percent of the applied tariff rates of the developing countries. The ‘cost’ to the developing countries is unlikely to be particularly burdensome. Yet, the action could be a valuable technique not only for demonstrating ‘South Solidarity’ but also to dilute the impression that it is only the developed countries that are always asked to shoulder the ‘burden’ of all special arrangements needed to enable the multilateral trading system to accommodate the needs of its different categories of members. It should be understood that while agriculture and trade in services are pre-determined elements of the market access negotiations in the next Round, the inclusion of trade in manufactured products does not enjoy this status. However, from the LDCs’ point of view, industrial tariff negotiations should also be part of the agenda of the next Round. The proposal relating to bound quota-and-duty free market access for all exports of the LDCs in the developed-country markets needs to be formally negotiated and agreed in both the agricultural and manufactured goods sectors. Moreover, the LDCs have an interest in the reduction of industrial tariff peaks and elimination of tariff escalation in the markets of advanced countries, and these can be tackled properly only if negotiations on industrial tariffs are part of the new round. The concessions that will be offered to Nepal after it becomes a WTO member will primarily be in the form of longer phase-in periods. The country will not gain much from tariff reduction and there could be some losses emanating from the phasing out of preferences. More important, the intensification of competition is likely to marginalize the country and increase market

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concentration. In order to overcome the threat of marginalization in the global economy, Nepal should undertake this task from three perspectives. One, the country should evaluate its productive potential as well as its comparative advantages, on the basis of which it should be able to pinpoint which of its existing activities need to be retained and improved, and to identify new export products in order to expand the productive base, diversify exports and build up a more secure and stable source of income. Two, Nepal should participate more effectively in regional trade groupings such as SAARC. And three, as will be discussed later, the country could achieve market penetration through strategic alliances with developing and industrialized country firms. Nepal should clearly understand that although LDCs are exempt from complying with several WTO obligations, if integration with the new world trade order is a policy objective, it must regard these exemptions as of an inherently temporary nature. 6.3 Import Protection and Export Promotion Under WTO, domestic firms can be protected from import competition through tariffs, non-tariff measures and subsidies. However, the scope for import protection continues to fall. Tariffs are declining and local content protection is on the verge of being prohibited. The scope for continued import protection under the WTO depends on the ability of LDCs and developing countries to negotiate a provision that allows for greater discretion for protection. Import protection can be attained by challenging the fairness of competition by employing anti-dumping and safeguard measures. Nepal should employ selective, performance-related and time-bound protection of infant industries. Such protection should be employed strictly as a transitional provision to address market failures and promote learning and capacity-building for future competitiveness. With regard to export promotion, direct intervention by governments to boost exports is being increasingly restricted by the WTO rules. This leaves LDCs little room for manoeuvering in the area of export subsidies for industrial products. However, there is a wide range of alternatives that are still undertaken by governments. These include export credit and insurance schemes below market rates, concessional tax and duty provisions and EPZs. While some of them remain WTO-consistent, LDCs need to reassess the degree to which other policies, which discriminate in favour of particular producers, are in their national interest. This will determine the degree to which LDC members should negotiate further restrictions on export subsidies in the next round. The focus should be on reducing fiscal and procedural constraints on exports, trade facilitation, and generic policies to make the country more competitive such as infrastructure development and an appropriate exchange rate policy. Human capital formation, innovation policies, joint venture agreements and infrastructure are important for determining export competitiveness, and are allowed within the framework of the WTO. 6.4 TRIMs The Uruguay Round Agreements also incorporate provisions with respect to TRIMs. They commit signatory LDCs to phase out over a period of seven years (a) local content requirements b) import restrictions related to foreign exchange earnings and c) export obligations that they may have imposed on foreign firms. Temporary deviations from TRIMs obligations for BOP purposes are permitted.

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The final text of the Agreement on TRIMs merely clarifies some policies in the GATT 1947 context. Many countries argue that the list of illustrative TRIMs should not be extended. Moreover, the transition period should be extended, as the policies included in the illustrative list are important in fulfilling their development objectives. The seven-year transition period (to expire on January 1, 2002) is not adequate for LDC members to benefit from those policies. As the TRIMs text now stands, there is no scope for implementing a performance requirement (based on the prevailing illustrative list) in a discriminatory fashion. If developing countries and LDCs believe that TRIMs on the illustrative list are needed to satisfy their other objectives and must be implemented with regard to foreign firms, this will have to be negotiated. Extending the illustrative list will demand intense negotiations. As it currently stands, the list is very much a compromise with regard to the initial negotiating positions. Some developed countries will try to extend the list, while developing and LDCs are likely to oppose such an initiative. It will be hard to predict the result of the negotiations since the negotiations, by definition, will focus around those performance requirements that are directly related to trade. 6.5 TRIPs The impact of TRIPs on LDCs seems to be continuously debated. It involves various changes in national legislation. Some adverse effects have been estimated2. These were, among others, higher prices for protected technologies and products, and restricted possibilities for diffusion through reverse engineering. The TRIPs Agreement envisages restrictions on replication or violation of registered trademarks, patents, industrial and textile design and layout design of integrated circuits. The production of counterfeited products is prohibited. Intellectual property is overwhelmingly concentrated in developed countries. The present owners of patents, design and trademarks will be the major beneficiaries of the implementation of the TRIPs. Royalty payments for the acquisition of technology and information by LDC firms will increase. Patent holding firms may refuse to sell the technology preferring to serve the LDC market by exports. The implementation of the TRIPs could make the transfer of technology to Nepal more expensive. Reverse engineering opportunities may be seriously reduced, while innovation and technological adaptation will become more difficult. The liberalization of the investment and technology transfer regime will increase the financial marginalization of Nepal. Hence, as mentioned elsewhere, it is very important to construct strategic alliances between firms in Nepal and firms based in developing and industrialized countries to overcome these systemic biases. As Nepal does not possess comparative advantage in innovation, attempts to develop certain sectors within the WTO imply that they will have to depend largely on the transfer and diffusion of technology from foreign countries. Certain changes are required in the Agreement on TRIPs as disclosed by the fact that about 70 members have not been able to fulfil the conditions of TRIPs within the prescribed deadline. Moreover, Nepal lacks the required financial, legal, institutional and human resources to carry out the provisions of the Agreement before the deadline. The policymakers should seriously consider the foregoing issues and the transition period provided by the Agreement should be exploited to the maximum.

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6.6 Competition Policy Competition policy is a set of policies, which enhances competition among producers in markets. As markets become globalized, competition is international. WTO plays an instrumental role in promoting competition. One of the most significant determinants of competition in markets is the free movement of goods across borders and, particularly in the service industries, the free movement of FDI. These are subject to WTO rules and discipline. One plus point of the WTO rules in this regard is that they are neutral between foreign and domestic producers. This helps to ensure that domestic and foreign producers are able to compete on equal terms. Nepal, especially after being a WTO member, could be concerned about the restrictive business practices of the multinational corporations, which set up affiliates in their economy – for instance, price fixing and market allocation. Foreign investors are subject to the laws of the host economy. Hence, when the anti-competitive practices takes place in the host economy, the suitable response is the development and application of national competition laws. Thus, the policymakers in Nepal should consider developing some type of competition laws as this address the sources of the problem directly. 6.7 Trade Policy and Strategic Alliance The broad contours of a development-oriented trade policy for Nepal could be as follows. One, with regard to the export component of trade policy, good export performance is not simply a desirable aim in its own right; it is also a critical means to other important ends such as deeper import liberalization and more robust economic growth.3 A successful and sustainable import liberalization programme demands successful exports. And for this to take place, Nepal needs to identify both potential exports and potential markets for exports. In conjunction with this, the country could enhance its trade potential by coming up with products that bear specific features while retaining the marketing potential. By providing a country-specific dimension to a product that should otherwise be normally competitive by global standards, or by developing a more unique form of product on the basis of a special local feature, Nepal could enhance its competitive capacity. Two, mechanisms must be developed that would endow the trade policy and strategy of Nepal with greater predictability and credibility, and hence ensure that whatever policy changes are made are perceived as being credible by the private sector. Because of the largely irreversible nature of investment decisions, it is very important for the trade regime to be predictable and stable if appropriate investment and export supply responses are to be elicited from private sector. In other words, an element of confidence in the government’s policy for the exporter is crucial. A major risk for exporters is that government policies will change and export profitability will be adversely affected. It should be reiterated that Nepal’s exports prospects could be diminished if it continues to rely on limited products and limited markets. Export concentration is considered undesirable as a) it renders an economy vulnerable to external shocks related with the products on which it concentrates; b) it restricts opportunities for earning adequate foreign exchange; and c) it does not foster intersectoral linkages, and thus, militates against the emergence of a nationally integrated economy.

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Against these and other perspectives, the importance of developing a trade strategy which links strategically positioned firms in Nepal, its neighboring countries, and other developing countries should be addressed. For instance, a strategic alliance between a Nepalese firm producing medium count cotton yarn, a Chinese firm producing standardized apparel and a retailers conglomerate in Singapore may be necessary for the fullest exploitation of the Nepalese textile export potential. Similarly, electronic products and components seem particularly attractive. Possibilities should be explored of Nepalese firms constructing appropriate strategic alliances with suitable developed and developing country firms for penetrating electronics markets. Limited gains also exist for exploiting gains that may occur as a consequence of reduction in the escalation of tariffs, especially in the leather and paper products group.4 6.8 Rural Industrialization and Small and Medium Enterprises A strong agriculture-industry nexus is crucial for industrial advancement. Experiences of SouthEast Asia divulge that continuously improved techniques for manufacture of agricultural tools, and forward and backward linkages between agriculture and industry, were a major boost for industrial growth of these countries.5 Structural change in the Nepalese economy demands a strategy of simultaneous development of agriculture and industries. Rural industries form an important part of these activities. The success of rural industrialization projects is based on various factors: • • • • • • • • • • identifying a potential enterprise and entrepreneurs and undertaking comprehensive feasibility studies; probing into, and adapting, technology; creating production systems appropriate to local conditions; organizing the producers into viable groups, and imparting training to them in managing an enterprise; securing sufficient finance from suitable credit channels; setting up forward and backward linkages for finished products and raw materials; ensuring proper and desired infrastructure support; incorporating technological changes to orient production to satisfy market requirements; imparting training or upgrading labor skills to develop products acceptable to markets; building up an institutional network to supply information on markets and technologies and also to guide the adoption of appropriate technologies.

The policymakers of Nepal should also recognize that the tools and timing of competitive exposure for small and medium scale enterprises need to be selective. In this respect, there are five strategies involved that should be borne in mind by the policymakers of the country: • • • • support of infant industry, but for a limited period. promotion of activities that possess long learning benefits but generate considerable external benefits. rapid liberalization of activities that would bring in new technologies to permit firms to utilize existing capabilities to reach competitive levels without further need for protection. slow liberalization of activities that need longer learning periods in order to permit firms to build up capabilities for new technologies and build up new skills for full competitiveness; and

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enhancement of supply-side measures in order to provide the necessary human capital, finance, information and extension services, while firms develop capabilities.

6.9 WTO, Poverty and Employment Trade reforms—reducing tariffs and non-tariff barriers—have had profound effects in many developing and LDCs. It has been shown that a lowering of barriers to trade seems to increase the demand for relatively abundant factors of production. In case of Asia, these have been initially unskilled and semiskilled laborers, that is, those most likely to be poor. There also exist a strong negative relationship between growth in the incidence of poverty and the rate of long-run economic growth. This is illustrated by the newly industrialized economies of South-east Asia, where the development of outward-looking, export-oriented countries led to rapid income growth and a reduction in poverty during the 1980s and 1990s.6 The economic reforms required for WTO membership to move forward could boost Nepal's economic growth. This seems to be done in three ways: a) by encouraging the transfer of resources to their most productive use in each economy to optimize the gains from exploiting comparative advantage; b) by lowering policy uncertainty and instability through requiring commitments to reform to be legally binding, which raises savings rates and investor confidence and thus faster rates of capital accumulation; and c) by encouraging, through more openness to the rest of the world, the inflow of new technologies and new marketing and other business management ideas. The more the country abolishes distortions to producer and consumer incentives and the more it provides a transparent, open and stable macroeconomic and sectoral policy environment, the faster its economy should grow, ceteris paribus. Moreover, the more the economy moves away from assisting import–competing industries and discriminating against actual and potential export sectors (most notably agriculture), the faster will output grow. Trade, too, will grow faster with such reform. Also crucial in releasing the potential of the rural sector is the provision of essential infrastructure, to lower the transaction costs of doing business there, plus investment in the people involved. Infrastructure includes rural roads, electricity, telecommunications and radio transmission, so that costs of transport, communications and information become more affordable. Investments in these items probably will be more expensive per capita than in urban areas, but that needs to be measured against the net benefits from expanding output faster from rural areas. Irrigation investments also need to be facilitated. Investments in people include basic education, health services, and agricultural research and extension. There will be more employment opportunities created, more poverty alleviated, and a more equitable income distribution will emerge over time with than without a freer and more liberal policy regime. Some urban people who have been employed in the most-protected industrial sectors may lose their jobs as protection barriers are lowered; but the sooner reform measures are implemented and the sooner such people are phased in gradually. It should be noted that many of those displaced by reform programs will have no difficulty getting another job in one of the expanding industries. That is, urban employment will still grow, but possibly somewhat at a slower rate in the beginning than otherwise owing to more employment opportunities becoming available in rural areas.

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The country could build up non-agricultural employment by associating agro-enterprises and available human resources with industrial occupations in order to develop rural-urban linkages. It is also important to develop micro-enterprises and informal sector at the grassroots level, generate intermediate goods as their forwarded linkages, and link them to medium and large-scale industries with comparative advantages. If such a policy is framed, it could be possible to attain the defined objective of poverty alleviation to some extent, and create multiple effects in the economy by developing areas of comparative advantage. 6.10 Conclusions Experiences of developing countries and LDCs that are already members of the WTO have revealed the following7: • • • The Uruguay Round and its implementation process did little to improve market access for their exports of goods and services. WTO rules and regulations were unbalanced in many crucial development-related areas such as the protection of IPRs, and the use of industrial subsidies, while the SDT, which the Uruguay Round bestowed upon them, was insufficient. Inadequate human and financial services and weak institutional capacities limited the ability of many developing countries and all LDCs to exploit the opportunities open to them under the WTO system, especially with regard to its dispute settlement mechanism, together with its inability to comply fully with their multilateral obligations.

Nepal, thus, has to grapple and understand these issues, and after it becomes a member, it should proactively participate in the various rounds with the goal of further integrating itself into the global economy. The tools of industrial policy must be employed very carefully, or else they could generate large costs of their own. A major pressing policy problem in Nepal is less the establishment of new industries than of enhancing the competitiveness of existing inefficient and technologically stagnant industries. It should, therefore, address the removal of an accretion of many irrational and inefficient interventions that many governments have undertaken in the past. Industrial reform and restructuring need, thus, to address various determinants of capability development: the incentive framework, the supply of human capital, the supporting technology infrastructure, finance for technological activity, and access to foreign technologies. In today’s competitive environment Nepal should attempt to boost its competitiveness by opting for industries and products with the potential for high growth and high value added. There is a need to identify new exportable products and new markets if the country wants to survive in the long run. The policymakers should launch immediate steps in this regard. The WTO rules are ownership-neutral. Excluding GATS and TRIPS, where a national treatment standard is applicable, policies such as subsidies and local content protection do not distinguish between foreign affiliates and domestic enterprise. The important point is the ‘trade effect’ of the instrument. This implies that if Nepal wants to apply a particular policy to foreign-owned firms, it must first find a provision in the Agreement that permits the use of the policy. Then, it can apply it to a foreign firm as long as there is no ‘trade effect.’ It has been shown that open markets can play an instrumental role in lifting people out of absolute poverty. However, little progress has been made on market access for LDCs. A new round of

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multilateral trade negotiations should lock in this progress and advance the cause of free-market access for products originating from LDCs. ________________
Notes
1 2 3 4 5 6 7

The limitations are illustrated in UNCTAD (1995). These are delineated in UNCTAD (1996). This is explicated by Oyejide (2000). These and other related issues are explained clearly in UNIDO (1997). These have been revealed by UNCTAD (1999). For more on the link between poverty reduction and openness, see ADB (2001). Ibid.

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Chapter 7
Conclusions and Recommendations This concluding chapter summarizes: a) the contradictions and compatibility of WTO agreements with Nepal's legislations on industry and trade, b) major hurdles that hinder the industrial and trade sectors of the economy and measures to overcome them, and c) some prominent issues relating to trade in goods that should be considered by the policymakers in the context of Nepal's accession to the WTO in the future. 7.1 WTO Agreements and Nepal's Laws The majority of the kingdom's policies, rules and regulations are in conformity with the WTO provisions. Nevertheless, some amendments may be necessary in certain agreements that are highlighted below. For instance, though there is no mechanism for executing the transaction value as per the Agreement on Customs Valuation, there is a new provision in the Finance Act, which will be promulgated very soon, which requires the adoption of the underlying principle of WTO in valuation of customs purposes. It is also recommended that other provisions be inserted so as to be compatible with Articles 5 and 6 of the Agreement on Customs Valuation. No system of anti-dumping or any legislation to that effect as well as countervailing duty and safeguard system is prevalent in Nepal. However, when the accession process is completed and the country desires to resort to these measures, it could frame separate antidumping, countervailing, and safeguard laws. Still, if the country is obliged to bind tariffs at the current levels, the only choice available to it would be to employ WTO sanctioned safeguard measures. As per the Industrial Enterprises Act (IEA) 1992, there are some subsidies that promote the use of domestic goods and, thus, are not compatible with the WTO provisions. An example is the reimbursement of customs duties, sales tax, and premium levied on such product, and customs duty, excise duty and sales tax levied on raw materials, etc., utilized in such product if the industry sells is product within Nepal. Another example is the rebate of 10 per cent of the income tax for industries using 80 or more than 80 per cent of indigenous raw materials in its products and supplying all its manpower from among Nepalese citizens. Thus, these issues relating to subsidies should be clearly addressed by the policymakers. It is important to amend the country's intellectual property laws to conform to TRIPs. New legislation is required in many areas such as patent protection of pharmaceutical and chemical products, among others. The Acts on patent, design, trademark, and copyright calls for an amendment and the prevailing terms of protection and enforcement need to be extended. The amendments should be incorporated in the perspective of WIPO as Nepal is one of its members. There are comprehensive legislations for management of the sanitary and phytosanitary regime, such as Food Act, 1966 as amended in 1974, 1991 and 1992, Animal Feed Act, 1976, Plant Protection Act, 1972, and Nepal Seed Act, 1988. Nonetheless, to impart more transparency to the SPS regime, Nepal should officially subscribe to Codex Alimentaire.

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The Export-Import Control Act, 1957 is not in line with the WTO provisions. In the present scenario of globalization, this Act seems to lose its relevance as practically nothing has been specified about the registration process of export-import agencies, sharing of information, institutional arrangements, and dispute settlement, among others. The Company Act of 1997 ensures fair treatment for both foreign and domestic firms. 7.2 Tariff Binding Prior to becoming a member of the WTO, Nepal has to fix the binding tariff on various goods in a manner that would guard not just its domestic industries, but would also secure the business interests of the country's trading partners. Once all the bilateral negotiators agreed on the binding tariff, Nepal would gain easy access to the global rules-based trading system. The country must take into account some core issues while prescribing to bind tariffs. It must take advantage of concessions provided to LDCs. It should well understand that protection should be given to some particular sectors (infant industries and strategic industries). Efficient protection should be accorded not only to the existing industries but also other industries that have growth potential in the future. Furthermore, as about one-fourth of total revenue comes from customs duties, any possible adverse impact on revenue through tariff concessions should be avoided. The other important factors to be considered while prescribing tariff offers include the country's economic and trade structure as well as the existing bilateral and regional trade regime, impact of tariff changes on the macro-economic indicators such as GDP, BOP and the labor market, among others, the understanding that tariffs are the only fully legitimate tool under the WTO to protect the domestic producers, the private sector's viewpoint, and the estimation of effective protection rates. Moreover, the fact that credibility to the liberalization process can be demonstrated to the international community by binding tariffs at levels in proximity to the existing rates should also be taken into account. 7.3 Recommendations for Industrial and Trade Sectors 7.3.1 Industrial Sector The recommendations for the industrial sector are as follows: 1. In the first place, industrial strategy should be selective and should focus on potentially high growth industrial branches and enterprises. Those industries that are competitive in international markets possess comparative advantage and higher domestic value-added should be selected for promotion. 2. The Privatization Act should incorporate some changes. The changes include more private sector participation in the privatization committee and a comprehensive and clear formulation of privatization regulation and guidelines. There is a need to undertake more research on the current status of public companies in terms of overcapitalization and overstaffing. 3. With respect to foreign investment, simplification and transparency of the registration procedure is demanded. An automatic approval system for FDI industrial projects based on their export orientation/investment ceiling should be introduced. The rules and regulations concerning

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recruitment of expatriates, visa requirements, repatriation procedures of income, and consultancy fee, among others, should be made more simple. 4. There is a need to generate an environment conducive to innovation and to the development of local technological capability. Research and development centers should be set up to disseminate new technology to various sectors, and to promote quality, design and management techniques in firms. 5. The authority of the One Window Committee authority should be broadened so it is able to make decisions relating to providing infrastructure facilities and support services and coordinating issues concerning customs and tax. A flat rate on duty drawback, first to certain export-oriented industries and for products with low rebate percentage, then progressively to cover all products, should be introduced. 6. It is important to have a more effective coordination between the Ministry of Finance (MOF) and the Ministry of Industry, Commerce and Supplies (MOICS) for implementing the provision in the Industrial Enterprises Act concerning income tax exemption to cottage industries. 7. Research should be undertaken to evaluate the comparative advantages and competitiveness of industrial products, and possibilities should be explored into building up complementarities between domestic and regional industries. 7.3.2 Trade Sector

1. With regard to the trade sector, the principal focus should be on the identification of new exports and new markets for sustainability of exports. Nepal has made serious attempts to develop products, identify product markets and establish a link between the two. If the country is to become a member of the WTO and face global competition, this is an area where immediate attention is needed.
2. The Export-Import Control Act, 1957 should be amended or a new Foreign Trade Act in line with WTO provisions should be enacted. A one-window service for exports is also recommended to make the export process shorter and simpler. 3. When setting tariff rates, there is a need to assess the effective rates of protection. A permanent Tariff Commission should be created to provide invaluable advice to the Government and the private community for meeting obligations of WTO rules. 4. The Nepal Trade Promotion Organization (NTPO) should be set up as per the Trade Policy of 1992. The major duties of the NTPO should include, among others, a) identification of existing and potential products and markets for exports; b) promotion of these products in the international markets; and c) co-ordination with all the concerned agencies. There is a need to develop a strong database on markets, commodities for exports, pricing, competition level, and trends on foreign trade, including new potential markets, among others. 5. The Department of Quality Standards should be strengthened and a minimum benchmark for export quality as per international standards should be fixed. Product-wise quality and standard norms for verification should be devised.

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6. Finally, the ongoing dialogue between the Government and the private sector on issues relating to industry and trade must continue. 7.4 Policy Issues After it becomes a WTO member, Nepal will be granted concessions basically in the form of longer phase-in periods. The intensification of competition is likely to marginalize the country and increase market concentration. In order to respond to the threat of marginalization, Nepal should undertake this task from three perspectives. One, the country should evaluate its productive potential as well as its comparative advantages, on the basis of which it should be able to identify which of its existing activities should be retained and improved, and to pinpoint new export products in order to expand the productive base and diversify exports. Two, Nepal should take active part in regional trade groupings such as SAARC. And three, strategic alliances with developing and industrialized country firms could help the country in attaining market penetration. The policymakers should clearly realize that although LDCs are exempt from complying with several WTO obligations, if integration with the new world trade order is a policy objective, these exemptions must be interpreted as of an inherently temporary nature. In terms of import protection, the scope for import protection continues to fall. Tariffs are falling and local content protection is on the brink of being prohibited. Nepal should set out selective, performance-related and time-bound protection of infant industries. Such protection should be employed strictly as a transitional measure to resolve problems emanating address market failures, and promote learning and capacity-building for future competitiveness. With respect to export promotion, the aim should be on reducing fiscal and procedural hindrances to exports, trade facilitation, and generic policies to make the country more competitive such as infrastructure development and an appropriate exchange rate policy. Human capital formation, innovation policies, and joint venture agreements are all important determinants of export competitiveness, and are permitted within the framework of the WTO. The WTO rules are ownership-neutral, and no differentiation between foreign affiliates and domestic companies is made by policies such as subsidies and local content protection. The important point is the 'trade effect' of the instrument. Thus, if Nepal wants to resort to a particular policy regarding foreign-owned companies, it must first find a provision in the Agreement that allows the use of the policy. Then, it can apply it to a foreign firm as long as there is no 'trade effect.' The transfer of technology will be more expensive to Nepal through the implementation of the TRIPS. Reverse engineering opportunities may be seriously reduced, while innovation and technological adaptation will become more difficult. The liberalization of the investment and technology transfer regime will increase the financial marginalization of the country. In this respect, it is very crucial to construct strategic alliances between firms in Nepal and firms based in developing and industrialized countries to overcome these systemic biases.

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Since Nepal does not possess comparative advantage in innovation, attempts to develop certain sectors within the WTO imply that they will have to rely to a large extent on the transfer and diffusion of technology from foreign countries. Especially after becoming a member, Nepal should be concerned about the restrictive business practices of the multinational corporations, which establish affiliates in their economies. Foreign investors are subject to the laws of the host economy. Hence, when the anti-competitive practices takes place in the host economy, the appropriate response is the application of national competition laws. Hence, the policymakers should seriously consider developing some sort of competition laws that address the source of the problem directly. Some salient features of a development-oriented trade policy for Nepal could be as follows. One, a sound export performance is a critical means to attaining other important ends such as deeper import liberalization and more robust economic growth. A successful and sustainable import liberalization programme demands successful exports. And for this to happen, the country should identify both potential exports and potential markets for exports. Two, techniques must be developed that would provide the trade policy and strategy of Nepal with greater predictability and credibility, and hence ensure that whatever policy changes are made are perceived as being credible by the private sector. For industrial growth, a strong agriculture-industry nexus is crucial. Experiences of South-east Asia disclose that continuously improved techniques for manufacture of agricultural tools, and forward and backward linkages between agriculture and industry, were a primary boost for industrial growth of these countries. Hence, the structural change in the Nepalese economy requires a strategy of simultaneous development of agriculture and industries. The techniques and timing of competitive exposure for small and medium scale enterprises should be selective. In this regard, there are several strategies: a) support of infant industry but for a limited period; b) promotion of activities that have long learning benefits but generate considerable external benefits; c) rapid liberalization of activities that would bring in new technologies to allow firms to use existing capabilities to reach competitive levels without further need for protection; and d) enhancement of supply-side measures in order to provide the necessary human capital, finance, information and extension services, while firms develop capabilities.

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