FOREIGN INVESTMENT

Investors are welcome

In 1992, the Government introduced a new policy on foreign direct investment (FDI) and instituted a "one-window" system to facilitate and encourage it. FDI currently in the country represents a wide range of companies and countries in a large number of areas - from agriculture, through banking, hydropower and manufacturing, to tourism.

Advantage

Nepal is located between two of the world's largest markets: China to the north and India to the south. With India in particular, Nepal shares much of its cultural heritage and what is in effect an open border. A trade treaty signed in 1991, and renewed in 2002, guarantees Nepali manufactures duty-free access to the Indian market, subject to certain qualifications. While India too is a poor country, it has a fairly sizeable middle class (variously estimated at anything up to 300 million) with a not insignificant purchasing power. Another advantage in this context is offered by Nepal's significantly lower tariffs on imports, as compared with India's, which can make Nepal an attractive location even to Indian investors whose products require third-country inputs. Two other advantages, according to investors already in Nepal, are a low-cost and non-hostile workforce and a small and accessible bureaucracy.

It should be noted that, despite Nepal's proximity to China and India, these are not the only markets for Nepali exports. As a least developed country, Nepal is also entitled to preferential treatment in a number of developed-country markets. The European Union's Everything-But-Arms initiative is particularly relevant in this context.

Opportunities

The natural as well as cultural assets of Nepal offer very substantial opportunities to investors. The country has a range of climatic conditions — from tropical to sub-arctic - within a relatively narrow band which is no more than 250 kilometers at its widest, north-south. The terrain is generally mountainous in the north, hilly in the middle and near sea level in the south. Many niche agricultural products can thus be grown in Nepal, medicinal herbs and high-quality tea are same examples.

There is also huge potential for hydropower. About 44,000 MW is thought to be economically feasible - which may be contrasted with the 528 MW currently being generated. An India-Nepal agreement on power trade is in place and the Indian states along the Nepali border, perpetually short of power, offer an obvious market. There is already significant FDI in hydropower in Nepal and more may be expected. In addition to the development of electricity for export,the hydropower resources offer the prospect of developing energy for intensive manufacturing activities

Tourism is another area with enormous potential. There are spectacular natural assets such as Mount Everest - the top of the world - and seven other peaks of 8,000 metres and higher. There is also a rich cultural heritage and a great diversity of ethnic groups with distinctive traditions: Lumbini in western Nepal is the birthplace of the Buddha, while Bhaktapur in the Kathmandu valley is a perfectly preserved mediaeval town full of Hindu temples. Thus far, the focus of investors has been mainly on the Kathmandu valley, with a few exceptions. Most of the potential for development lies outside the valley. Investors will also want to consider the potential for more specialized tourism, for example health tourism, adventure tourism, and convention and sports tourism. Nepal's neutral status in the region might offer a real advantage here.

Although agriculture, hydropower and tourism are the areas with the most potential for FDI, other opportunities exist as well. A variety of manufacturing activities already have some foreign investment in Nepal, with the ready-made-garments industry being the most prominent. There is also considerable interest on the part of both the Government and certain sections of the private sector in developing information-technology-based services for export and in attracting FDI to help the country do so The fact that English is the medium of higher education and is widely used in business and the professions is a strong plus in this context. The European Union's Everything-But-Arms initiative is again relevant.

FDI Trends

FDI flows to Nepal have historically been very low. In the 1990s, there was significant improvement. The trade treaty with India signed in 1991 (and renewed in 1996) undoubtedly helped, as did the policy liberalization of 1992. After peaking in 1997 at $23 million, FDI declined sharply but rose again in 2000. The decline probably reflects the uncertainty caused by frequent changes of Government and the insecurity created by the Maoist insurgency. It also did not help to be a landlocked country in a slow-growth region. FDI is expected to grow sharply since the insurgency problem has been solved.

Prospects & Challanges

Onemight say that it was only some 50 years ago that Nepal, a country with a long history and great cultural depth, really entered the modern world. It was in 1955 that the telephone exchange in Kathmandu, the capital, first handled as many as 300 lines. There has been much development since then, especially over the past decade. GDP has grown at nearly 5% a year and showed the fastest growth in South Asia in the year 2000: 6.5%. Speeding up economic growth and bringing a wider range of the population within its ambit is clearly the top priority for the Government. FDI could play a crucial role here by supplying capital and know-how and enhancing employment prospects for Nepali workers. It is worth noting in this context that the main areas in which the country is trying to attract investment could all make a substantial and positive difference to the livelihoods of people in the remoter regions of Nepal who have benefited the least from development focused on the Kathmandu valley, namely agriculture, hydropower and tourism.

Economic Environment

The GDP growth rate in Nepal has averaged 4 8% per year during the past decade. This is lower than the 6% targeted in the Ninth FiveYear Plan (1997-2002) but higher than the 4 5% recorded during the 1980s.  In 2001, the growth rate was 4.8% but declined to 0 8% in 2002 owing to the sharp decline in exports and tourist arrivals following the global economic slowdown. This was further exacerbated by the events of 11 September 2001 in the United States and the heightened Maoist insurgency in Nepal. The Asian Development Bank expects the rate to rebound to 5% in 2003 if a variety of not improbable conditions are satisfied  political unrest in Nepal ends, the global economic slowdown is modest, the Indian economy grows at about 5-6%, and the weather in Nepal and neighboring areas remains favorable

Trade and Investment

Trade

The Government has taken a number of initiatives to reduce its intervention in the economy and to encourage exports. Trade liberalization, foreign exchange and banking-sector deregulation, and privatization have been the major planks of economic liberalization. Nepal's average import-tariff rates are the lowest in the South Asian region (the slabs are 5%, 10%, 15%, 25% and 40%; for vehicles the tariff is 130%.) The Nepali Rupee is fully   convertible on   the   current account. Convertibility on the capital account is under consideration. As a result of these policies, Nepal's foreign trade is growing significantly. The growth rate in exports has been higher than the growth rate in imports, thus containing the trade deficit at a level under $820 million, which is less than 20% of the nominal GDP at factor cost in 2001. This ratio was as high as 25% in 1997.

Foreign Direct Investment

Nepal hasbeen receiving some foreign direct investment (FDI),   but the amount  has  been insignificant when compared with that received by other developing countries, including South Asian ones But the list of foreign investors includes such  renowned  companies as British American  Tobacco  (BAT),   Unilever,   Coca-Cola, Standard Chartered and Hyatt.

India is the major source of FDI in Nepal so far (about 40%), followed  by the United States, China, the British Virgin Islands, Norway, Japan, the Republic of  

Korea, Canada and Hong Kong (China) in terms of the amount of approved FDI. In November 2001, 272 of the approved projects were operational, 49 were under construction and 179 were approved but not operational.

The major area of FDI has been manufacturing, followed by services and, in particular, tourism More specifically, FDI is concentrated in manufacturing products for export to India (e.g. vegetable fat, soap, toothpaste, Ayurvedic preparations) and overseas (ready-made garments). This is followed by hotels. More recently there has been significant FDI in hydropower, taking advantage of the further policy liberalization in this sector.

Infrastructure and Utilities

The past decade was a period of rapid expansion in road and telecommunication facilities in Nepal. In hydropower generation, Nepal experienced rapid expansion towards the end of the last century, which has continued since. However, the country's potential of nearly 44,000 MW is very far from being realized In addition to the nearly 528 MW of hydropower generated from various public and   private   plants, the   State-owned   Nepal Electricity Authority generates and sells about 57 MW of power from thermal or multi-fuel plants, all of which amounts to less than 1.5% of what is economically feasible. According to one estimate, some manufacturing establishments have a captive generation capacity of about 11,645,000 kwh (approximately 1.3 MW) from diesel generators. The country also exchanges power with India, importing it into towns bordering India and exporting in bulk to India from some large plants. Though the period of frequent power cuts is over, now that the 144 MW Kali Gandaki project has been completed and has started supplying electricity to the central power grid, Nepal still does not have sufficient capacity to meet its future domestic demand.

A number of additional projects have been commissioned since 2001 by offering incentives for private sector investment. The build-operate-transfer (BOT) principle has been followed and tax rates for companies that generate or distribute electricity are lower than those for most others1 20% as against 25%.

Industrial Factor Costs

Labour, rental and electricity costs in Nepal are relatively low. Costs are revised time to time. Rental costs can vary from one locality to another within the same town

Labour Costs

Labour costs are very low in Nepal. This is a significant advantage for investors even when the low productivity is taken into account, for Nepali workers are trainable. Wages, once negotiated, generally need not be changed for two years. The minimum wage is about $27 per month (including the cost-of-living allowance) for unskilled labour. Since this is quite low, given the cost of living in urban areas, companies usually pay more than this amount.

One aspect of the labour law that imposes additional costs on investors is the requirement that 5% of gross profits be set aside as a housing fund for employees and 10% of net profits be distributed in the form of bonuses.

Investment Climate : Key factors for foreign investors

Strength

•    Location between the two potentially largest markets in the world: China and    India
•    Macroeconomic stability and a relatively liberal economy
•    Trainable and low-cost workforce
•    Substantial natural and cultural assets
•    Small and accessible bureaucracy and a generally business-friendly Government

Weakness

•    Landlocked country
•    Poor infrastructure and mostly unskilled workforce
•    Rigid and intrusive labour legislation
•    Political instability and weak implementation

Opportunities

•    Tourism, including sports and adventure tourism, health tourism and cultural      tourism
•    A variety of niche agricultural and agro-business activities
•    Hydropower generation and infrastructure development generally
•    IT-based services

Areas of Opportunity

This chapter briefly describes those areas in which there are real prospects of development, thus far unrealized owing to a lack of capital, technology, management know-how and familiarity with (and access to) new markets.

Nepal is endowed with an exceptional variety of agricultural terrains by its range of altitudes, rainfall patterns and other natural diversity. The high Himalayan mountains, the hills and ridges through which flow some 6,000 rivers and rivulets, the varied wild life, and the numerous religious sites of the Hindus and the Buddhists are among the natu­ral and cultural resources that can attract both tourists and investors.

Agriculture and agro-processing, tourism and hydropower generation are the major priority areas for development in Nepal. Additional oppor­tunities may also be found in IT-related services, health services, pharmaceuticals and light manu­facturing. Abundant reserves of limestone and a number of other minerals in various parts of the country offer promising prospects for the cement and other mineral-based industries as well.

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