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The informal economy of Nepal is growing larger than the formal one. The average size of the informal economy was 42.66 percent of the gross domestic production in the past 11 years, according to a study conducted by the Central Department of Management under Tribhuvan University.

According to National Income Accounting, the average size of the informal economy was 42.66 percent between 2010/21 and 2020/21. In the fiscal year 2020/21, it was 38.66 percent. This means Rs 1,441.78bn of the total GDP is from the informal economy. The GDP size in 2020/21 was Rs 3,733.27bn.

Stating that an informal economy size of 40-42 percent of GDP is very high, it has recommended to the government a gradual reduction of the informal economy.

According to the International Monetary Fund, an informal economy ranging from 29.8 percent to 37.5 percent is considered appropriate. An informal economy beyond this size poses risks for the country. Given the changes in economic dynamics in Nepal post-2015, the study has called for the need for a detailed study to measure the size of the informal economy.

Shivaraj Adhikari, chief of the Central Department of Economics, attributed factors such as frequent policy changes and high bank interest rates to the expansion of the informal economy. “The Covid-19 pandemic has also contributed to the recent growth in the informal economy,” he added.

He underscored the need for a detailed study to obtain accurate data about the informal economy, also known as the black economy, underground economy, shadow economy, or parallel economy. “Sectors still outside the tax net are considered part of the informal economy,” he added.

The study utilized the Currency Demand Approach and National Income Accounting methods to analyze the informal economy. A comprehensive estimate of GDP covers shares of both formal and informal sectors. Under the National Income Accounting method, economic activities are measured indirectly, and some methods are not disclosed publicly. The study suggests deploying an econometric model to obtain accurate data.

Although National Income Accounting suggests that the informal economy is shrinking gradually, it expanded in the past two fiscal years. The informal economy is increasing in aspects not covered by the national accounts.

More prevalent in real estate, agriculture sectors

The agriculture sector contributes about 25 percent to GDP, but it remains outside the formal economy. The study reports that 96.48 percent of the agricultural sector (including forestry and fisheries) operates in the informal economy as most production activities are conducted by households.

Likewise, about 99.97 percent of real estate transactions in Nepal fall under the informal economy. According to the study, owned or leased properties, fees and agreements, and services received by households in their residences are not considered part of the formal economy. The study also highlights a significant amount of revenue evasion through undervaluation of properties and during land transactions. It states that land transactions have become a medium to utilize black money.

Similarly, 50.42 percent of the housing and food services sector is in the informal economy. This is primarily due to the fact that only a few family-run lodges and tea shops are registered with government institutions. Restaurants, cafeterias, and tea and coffee shops are major activities in the food service sector. Most lodges and tea shops are out of the formal economy as they are run by households and not registered with any government organization.

Prof Dr Kusum Shakya, the dean of Tribhuvan University, said that the size of the informal economy grew as almost all sectors were affected by the Covid-19 pandemic. “Many women became a part of the labor force during the covid. But this study didn’t include the contribution of women in the labor force,” she added.

Former Chief Statistics Officer of the National Statistics Office, Ishwari Prasad Bhandari, argued that the size of the informal economy is shrinking in recent years as many informal businesses are being formally registered to take advantage of government facilities.

Likewise, Associate Professor Resham Thapa said that the average size of the informal economy globally is 33 percent. “It has expanded in Nepal in recent years due to the trend of undervaluation and weaknesses in anti-money laundering measures,” Thapa added.

Economic expert Dilli Raj Khanal said that expansion of the informal economy could have multidimensional impacts. “We need to simplify the taxation system so that more businesses are encouraged to come under the tax net,” he added.

Tax collection was encouraging in the past two decades after the government adopted the Tax Reforms Policy in the 1990s.  In recent years, however, revenue has consistently fallen short of the set targets. Deviations in tax administration, economic sector challenges, and changes in the leadership of revenue administration are some of the factors that have contributed to the decline in tax collection.

According to the Financial Comptroller General's Office, the government has only achieved 22 percent progress in revenue mobilization in the first five and a half months of the current fiscal year. The government has set a target to raise Rs 1,472bn in the fiscal year 2023/24. The slow pace of revenue collection indicates that the government is likely to miss its targets for the current fiscal year. In the fiscal year 2022/23, the government achieved only 68.21 percent progress in revenue collection, raising only Rs 957bn out of the targeted Rs 1,403bn. This is the lowest collection in the past five years in terms of revenue targets.

In previous years, the government consistently raised revenue equivalent to 20 percent of its GDP. This rate, however, plummeted drastically in the previous fiscal year.

The Covid-19 pandemic, coupled with import restrictions and the Ukraine war, significantly slowed revenue growth. As a result, revenue collection is now well below the level of recurrent expenditure. This has had adverse effects on revenue and resulted in excessive dependence on imports. Economist Dr. Dilliraj Khanal commented that there has been a lack of concrete efforts to control recurrent expenses or expand the revenue base.

 "Apart from some initiatives to bring about changes in tax policy at the global level, no such measures have been taken in Nepal so far," he said. Dr. Khanal added that the tax revisions in the current budget have given negative protection to vital industries. “As a result, it is estimated that there has been some impact on the revenue.” 

In 2021, the World Bank said that Nepal had the highest tax-to-GDP ratio in South Asia. During the year, Nepal’s tax-to-GDP ratio was 17.5 percent, compared to 13 percent of Bhutan, 12 percent of  India, 9.1 percent each of the Maldives and Pakistan, and 7.6 percent of Bangladesh—the lowest in South Asia.

The tax-to-GDP ratio reflects a country's ability to provide public services, infrastructure, and meet mandatory obligations. A high tax-to-GDP ratio indicates a heavier burden on taxpayers and suggests adequate public infrastructure in the country. Tax-to-GDP ratio is lower in countries relying on their own income.

In its recent Nepal Development Update, the World Bank has proposed various measures to increase revenue in Nepal. These measures include expanding the scope of taxation, plugging loopholes, and reducing special exemptions and concessional rates of existing taxes. The World Bank also recommended prioritizing businesses in the formal sector, stating that revenue is adversely affected by large informal economies.

During a panel discussion organized during the launch of the update, Dr. Ramesh Chandra Paudel, a member of the National Planning Commission, highlighted that Nepal has failed to align its school education with productivity. He emphasized the need to remodel the education system, giving emphasis to technical and vocational education, stating, "We are preparing manpower only for Europe and the Gulf countries."

The impact of structural changes in the global tax system has also affected Nepal's revenue system, as outlined in a report submitted by the Revenue Advisory Committee last year. According to the report, there is a gradual shift from tax revenue based on imports to internal revenue. The share of customs duty in total revenue was 31 percent in the fiscal year 2002/03, but it declined to 23 percent in the fiscal year 2020/21. In the fiscal year 2020/21, income tax, customs duty, and excise duty have emerged as the primary sources of revenue after VAT, the report states.

While Value Added Tax (VAT) has become the largest source of revenue, its share in total revenue has not experienced a significant increase. Following the implementation of federalism in Nepal, the collection of vehicle tax, real estate registration tax, and house rent tax has been decentralized to subnational governments. This has also brought some changes in the overall tax structure.

The committee also recommended the introduction of a revenue policy so that Nepal, an import-oriented and revenue-dependent economy, can promote domestic industry, ensure productive investment, and encourage exports.

Economist Dr. Khanal  said major reforms are needed in the tax system to concurrently mobilize resources at all three levels and address the expanding resource gap. He argued that such reforms would broaden the scope of taxation, curtail tax leakage and evasion, and augment the proportion of direct taxes, introducing progressivity to the tax system.

He further proposed the implementation of a nationwide equity funding formula explicitly designed to combat discrimination and fortify the equity dimension in development, presenting a viable option for enhancing resource allocation decisions. “The huge socio-economic development gap in the provinces also justifies the need for such a formula,” he added.

In 2015, the High-Level Tax System Review Commission underlined the need to modernize Nepal's taxation system, making it practical and aligned with international standards. Based on principles and international good practice, it suggested that the federal government collect customs duties, value-added tax, excise duty, corporate income tax, personal income tax, natural resource tax, social security tax, forest production fee, and carbon tax. It proposed granting provincial and local governments the authority to collect taxes under 29 different headings. The recommendations of the commission have yet to come into implementation.

Bankers have claimed that the banking sector is healthy, despite a drop in profits during the first quarter of fiscal year 2023/24.

While financial experts have termed the performance of commercial banks disappointing based on their first-quarter financial statements, CEOs of commercial banks refuse to acknowledge the results as such. Bankers argue that the reduction in profit in the first quarter is primarily due to increased loan loss provisioning, which they view as a positive step for the future. The increase in loan loss provisions, coupled with a rise in non-performing loans, has impacted the profitability of commercial banks, they say.

Ashoke SJB Rana, Chief Executive Officer of Himalayan Bank Ltd, believes that the level of loan loss provisioning and the capital funds maintained by banks indicate that the banking sector is healthy. “The non-performing loans are unlikely to increase further; instead, they will be effectively managed,” Rana said, adding that both the banks and the central bank have tightened lending due to pressure on the Nepali economy.

Sunil KC, President of the Nepal Bankers Association, the umbrella organization of commercial banks in the country, attributed the challenges faced by the banking system to global economic recession, conflicts, a slowdown in the private sector, and the resulting increase in non-performing loans. KC expressed confidence that non-performing loans have peaked and will now be gradually managed, mentioning that banks have set aside a substantial amount, Rs 16bn, for loan loss provisioning. “While significant funds have been allocated for provisioning, credit disbursement has not increased as per our expectation,” KC added.

According to KC, as of Nov 3, total deposits in commercial banks have increased by Rs 120bn, while loan disbursements have risen by Rs 84bn since the beginning of the fiscal year in mid-July. “We had anticipated higher credit disbursements, but it did not materialize,” he added.

The financial statements released by banks indicate that non-performing loans in commercial banks now stand at 3.06 percent, up from 2.9 percent in mid-June. KC attributed the high non-performing loan levels to the Covid-19 pandemic. “We kept on restructuring loans, now we need to be careful to manage the situation,” KC said. “Although some loans have defaulted due to portfolio diversification, the chances of them turning into bad loans are minimal.”

Commercial banks have reported a drop in profit for the first time compared to previous fiscal year.. During the review period, banks did not see growth in their interest income. Their income from other fees also grew by only Rs 1bn. Meanwhile, commercial banks have pledged to contribute more than Rs 50m to the government’s relief fund for Jajarkot earthquake survivors.

The government has fixed the minimum support price of paddy for fiscal year 2023/24 much earlier this year compared to last year. 

The cabinet meeting held on July 11 fixed the minimum support price. The minimum support price of paddy has been set at Rs 3,198 per quintal for thick rice, which is Rs 231 higher than the previous fiscal year. Similarly, the minimum support price of medium rice has been fixed at Rs 3,362 per quintal, which is Rs 262 more than the previous fiscal year. 

Last year, the government had fixed the minimum support price for paddy in October. This delay compelled farmers to sell paddy at lower prices. As a result, many farmers couldn’t even recover their cost of production. Since government agencies such as the Food Management and Trading Company Ltd and the Farm Modernization Project also delayed paddy procurement, farmers were left with no option but to accept whatever prices the traders offered. 

As per the standard, the government should fix the minimum support price before the seedbed is prepared. Although the government fixed the support price during the paddy transplantation season, agriculture expert Krishna Prasad Poudel said it was still late. “The government should fix the minimum support price before the seedbed is prepared. Since spring paddy is transplanted in March, the price should be fixed a month before that,” Poudel said. “This would enable farmers to compare their cost of production with the prices offered and decide whether to cultivate paddy. If the returns are high, they would cultivate it in more areas.”

Prem Dangal, chairman of the National Farmers’ Commission, said the minimum support price would mean nothing until the government agrees to buy all the paddy that farmers grow. “The government agencies procured only 31,000 tons of paddy last year, although 2m tons of paddy are sold in the market every year,” Dangal added. “The government should make necessary preparations to procure all the paddy that farmers intend to sell. Otherwise, there is no point in fixing a minimum support price.” 

However, as the minimum support price fixed by the government is higher than the market price, government agencies have been facing difficulty in selling paddy procured from farmers. As a result, they procured paddy at a much later date last year.

Sharmila Neupane Subedi, the spokesperson for the Food Management and Trading Company Ltd, said they would soon issue a circular to all their subordinate offices to make necessary preparations for paddy procurement.

Although the government has prioritized girls' education, it has been failing to achieve the expected targets. Gender parity is a crucial aspect of inclusive education, but despite legal provisions, data shows that the goal has not been fully met. Additionally, despite introducing various programs to ensure 100 percent retention of female students, the government has not been able to get the expected success. Sabita Dangal, the director of the Center for Education and Human Resource Development (CEHRD), said girls' enrollment is still below the target. Speaking at the British Council Nepal's sixth educational conference, she noted that the target of 85 percent enrollment set for the 2022-23 academic year has not yet been achieved. According to CEHRD, the net enrollment rates for basic levels (Grades 1-5), (6-8), and (1-8) in the gender parity index is 0.99 as of January 2023. In the secondary level, the rates are 1.01 in (9-10), 0.93 in (11-12), and 0.98 in (9-12). Last year, the net enrollment rates for basic levels (1-5), (6-8), and (1-8) were 0.99, 0.98, and 0.99, respectively. In the secondary level, the rates were 1.01 in (9-10), 0.93 in (11-12), and 0.98 in (9-12). In the fiscal year 2021-2022, the enrollment rate of girls in basic levels (1-5) and (6-8) grades was 48 percent, while it was 49.3 percent in grades 9-10, 51.7 percent in grades 11-12, and 50.3 percent in grades 9-12. In the fiscal year before that, the enrollment rate for girls was 49.7 percent in grades 1-5, 49.9 percent in 6-8, and 49.7  percent in 1-8. Similarly, the enrollment rate of girls was 50 percent in grades 9-10, 53.4 percent in 11-12, and 51.3 percent in grades 9-12. Difficult to retain The government has introduced girl-friendly programs to improve retention rates. While there have been some positive results, the government's ultimate aim is to eliminate the problem altogether. Despite a high percentage of children having access to school enrollment (over 97 percent), issues with dropouts and repeat classes continue to complicate the issue of access to education. The retention rate for female students in Grade 8 was 76.6 percent in 2015-16, but has since improved to 83.5 percent, although still below the target of 97 percent. According to Dangal, the overall retention rate for female students is good. While the percentage of girls not enrolled in school was 10.6 percent in 2015-16, it has come down to 4.9 percent currently. The government had targeted to bring it down to zero. Several studies have identified various reasons for high dropout rates among female students, including having to care for younger siblings, child marriage, and high school fees. A study conducted by researcher Shudarshan Sigdel entitled 'The Situation of Girls in Marginalized Communities' also highlighted irregular attendance as a significant challenge. Chepangs make up about 44 percent of the population in Benighat Rorang Rural Municipality in Dhading district. The school enrollment of the Chepang community is 90 percent. However, the dropout rate among Chepang students is high. According to the study, the school dropout rate of Chepangs is around 40 percent all over the country. According to Talik Chepang, the assistant principal of Shankhadevi Secondary School, around 60 percent of students who drop out are female. The government has implemented scholarship programs for girls. According to CEHRD, the government has allocated a budget for scholarships for all girl students in Karnali. In the current fiscal year 2022-2023, the government has allocated Rs 656.8m to provide scholarships to 1.55m girls, which is a reduction of nearly Rs 50m from the previous fiscal year. The decrease in allocation may be due to the high school dropout rate among girls. In the previous fiscal year, there were 1.66m girl students in Karnali. Additionally, scholarships are provided to girls of other targeted groups at the basic level. Inclusive school reforms  According to the Consolidated Equity Strategy, 2014, inclusive education provides an opportunity for children from diverse backgrounds, abilities, and social and economic classes to learn together, respect each other, and appreciate their differences. Nepal has demonstrated its commitment to education for all, Millennium Development Goals, and Sustainable Development Goals through participation in various national and international programs and conferences. The constitution of Nepal mandates free and compulsory basic education, as well as free secondary education. Additionally, provisions have been made for free education for marginalized groups and people with disabilities. The constitution also guarantees the right to education in one's mother tongue and encourages the establishment of educational institutions by communities. The proportion of female teachers has also increased over the past seven years. According to Dangal, the proportion of female teachers in basic level has increased to 47.4 percent in 2021-2022 compared to 38.8 percent in 2015-2016. The government was looking to raise the proportion to 50 percent.  Similarly, the proportion has increased to 20.4 percent in secondary level from 14.1 percent in 2015-2016.    

The ramifications of Russia-Ukraine conflict are being seen in Nepali markets as well.

Prices of commodities and daily essentials have gone up as the war has disrupted global supply chains.

“Prices of foodstuffs have gone up by 10 to 25 percent while transport fares have also increased due to the fuel price hike—all due to the disruption of international supply chains,” says Vijay Singh Baidya, chairperson of the Trade Committee of Federation of Nepalese Chambers of Commerce and Industry.

If things do not soon normalize, goods that are being imported from Russia and Ukraine will have to be procured from other countries.

“For now Nepal has been maintaining its domestic supply chains with stocked goods, which are running out quickly,” says Baidya.

According to the Department of Customs, Nepal imported 45 kinds of goods worth over Rs14 billion from Ukraine in the first seven months of the current fiscal year. In the same period, 91 kinds of goods worth over Rs 4 billion were imported from Russia.

Nepal imports items ranging from vegetable oil, mustard seeds, coriander seeds, toiletries, metals, electronic goods and machinery components from these two countries.

With uncertainty around the war, Baidya says the only option for Nepal is to import these goods from other countries.

Nepal should also consider the price hikes in other items that are indirectly imported from Ukraine and Russia—mainly wheat and petroleum products. The ongoing war has already threatened the global supply of goods like wheat, petroleum and sunflower oil.

“Nepal should have a contingency plan for import of goods it can no longer buy from the two countries,” says Punya Bikram Khadka, information officer at the Department of Customs.

So long as the war continues, continued global price hikes seem inevitable, largely due to the imminent shortage of oil.

Economist Poshraj Pandey says Russia, the world’s second largest oil exporter, has been unable to ship petroleum goods to the international market due to economic sanctions.

“Russia used to sell 5.5 million barrels of oil a day, but now that shipment has largely stopped. This has led to a shortage of oil in the international market, pushing up the price,” he says.

Rise in fuel prices will also increase transport fares, which then drives up the cost of other goods.

Pandey says more than 40 percent of consumable goods in Nepal are imported.

“Prices of goods will continue to go up with the rise in the costs of petroleum products,” he says.

The government has decided to provide cash relief of up to 65 percent of the production cost to farmers whose crops were completely damaged by unseasonal rains earlier this year.

The government made the announcement as per the new guidelines to provide relief to farmers. The guidelines, which were approved by the Council of Ministers on November 18, mention that a farmer shall not get more than Rs 55,000 in relief.

The government has allocated relief for farmers by categorizing them into small, medium, and big categories based on their landholding. While providing relief, the amount will be calculated based on the minimum support price of paddy.

According to the guidelines, small farmers who have suffered a complete loss will get relief up to 65 percent of the production cost. The government is ready to provide 30 percent relief to affected medium-scale farmers and up to 20 percent for big farmers. Likewise, the government will provide relief up to 20 percent of the production cost to large, medium, or small farmers whose paddy crop has been partially damaged.

Under the guidelines, farmers with more than three bighas (five acres) of land have been classified as big farmers. Farmers who cultivate other people’s land equal to the same area are also included in the category. Medium farmers are those who have more than 10 katthas (0.83 acres) and up to three bighas of land and cultivate on the same land. A farmer who cultivates up to 10 katthas (0.83 acres) of land has been classified as a small farmer.

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In the case of joint cultivation, the guidelines mention, the relief amount will be calculated treating the whole group as one. This facility will not be available for farmers using encroached land, and those who have already received relief from other agencies, including insurance companies.

Before providing relief as per the guidelines, the local government shall collate data of the damage caused to the paddy crop due to unseasonal rains based on information collected by the District Administration Office, District Police Office, and other agencies. The ward office shall then publish a notice for affected farmers to provide documentary evidence to support their claims.

In case of failure to submit the documents, the farmer should submit the recommendation of the ward office endorsed by a ward member and three neighbor farmers. Along with the evidence, a copy of the farmer’s citizenship, and bank account details should also be submitted.

Based on the details provided, the government will deposit the relief amount in the bank account of the concerned farmer.

According to the guidelines, a three-member monitoring committee will be formed under the coordination of the head of the district coordination committee to monitor the distribution of relief.

According to the Ministry of Agriculture and Livestock Development, 325,258 metric tonnes of paddy worth Rs 8.268 billion have been destroyed due to unseasonal rains earlier this year. The ministry states that the paddy crop planted in an area of ​​85,580 hectares has been completely damaged. Paddy plantation on ​​285,076 hectares was partially damaged.