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p. 3 of 7 BACK | NEXT Executive Summary I. Current Development Trends and Issues II. The Government's Development Strategy III. ADB's Development Experience IV. ADB's Strategy V. ADB's Assistance Program VI. Risks, Performance Monitoring, and Evaluation

Country Strategy and Program 2005-2009: Nepal

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II. The Government's Development Strategy

A. Development Goals and Strategy

33. The Government’s Tenth Plan (FY2003–FY2007) was prepared through a 2-year consultative process involving a series of meetings and workshops with political parties, labor unions, nongovernment organizations (NGOs), the private sector, and other stakeholders. The Tenth Plan aims to reduce the overall poverty ratio from 38% in FY2002 to 30% by FY2007.16 Indicative targets for key human development variables include: raising the literacy rate from 49% to 63%; reducing the infant mortality rate from 64 to 45 per 1,000 live births; raising life expectancy from 62 to 65 years; and increasing access to drinking water from 72% to 85% of the population, access to electricity from 40% to 55%, and the number of telephones from about 1,700 to all village development committees.¹⁷ The Tenth Plan envisages real growth of 6.2% per annum on average. Higher overall growth, together with a substantial increase in agricultural growth to around 4.1% per annum, is forecast to result in a rapid reduction in poverty levels.

34. The Tenth Plan is built on four pillarsok (i) broad-based and higher economic growth; (ii) human development; (iii) targeted programs to foster the social inclusion of the ultra-poor, vulnerable, and historically deprived groups; and (iv) good governance. To implement the strategy, the Plan includes a number of crosscutting implementation approaches, including: (i) redefining the role of the state to limit public sector intervention; (ii) enlisting the private sector, together with NGOs, international NGOs, and community-based organizations (CBOs), to provide public services; (iii) promoting community participation in the management of local development activities; and (iv) accelerating the decentralization process.

35. The Government’s strategy for fostering broad-based growth hinges on revival of agriculture, and a recovery in manufacturing, tourism, and exports. In agriculture, the Government aims to modernize, diversify, and commercialize crop and livestock production by expanding the use of improved technology, improving rural transport links, and increasing the access of farmers to modern agricultural inputs and credit. To stimulate investment in industry and services, the Government’s strategy calls for: (i) removing impediments to private sector development; (ii) accelerating privatization of public enterprises; (iii) streamlining regulatory processes and making them more transparent; (iv) amending labor laws to make them more flexible; and (v) introducing important legislation friendly to the private sector, including bankruptcy and foreclosure procedures, as well as judicial reforms. Infrastructure development plays an important role in facilitating private sector development, and the Tenth Plan gives priority to developing the strategic road network, maintaining major roads and highways, and expanding electricity and communications facilities.

36. In the social sectors, the Tenth Plan highlights the importance of improving service delivery through decentralization and through greater involvement of local communities in the management of social services. In education, the Tenth Plan aims at improving access to and quality of primary education and at expanding access to secondary, vocational/technical, and tertiary training to produce skilled human resources. Special scholarship programs are to be introduced to assist poor women, Dalits, and other disadvantaged minority families to have access to education. In health, the strategy focuses on implementing an essential health care package that includes preventative care, maternal and child health, and family planning. Improvements in service delivery are also expected to occur through a process of devolving management of health facilities to local communities and of working increasingly with the private sector and NGOs. The Tenth Plan also emphasizes the importance of access to safe water for improving health conditions and aims to increase access to safe drinking water, and to sewerage and sanitation services, in underserved urban and rural areas.

37. Good governance envisages improving the performance of the civil service, combating corruption, reforming the role of government, fostering decentralization, and enhancing financial management and accountability. Future actions include: (i) reforming public employment through the introduction of merit-based recruitment, better pay policies, rightsizing, and an affirmative action program; (ii) improving financial management and accountability; (iii) implementing the anticorruption strategy by strengthening key institutions charged with fighting corruption, including the National Vigilance Center and the Commission for Investigation of Abuse of Authority; and (iv) progressively decentralizing service delivery functions while building capacities of local governments.

38. The Tenth Plan is different from previous plans in that it explicitly recognizes that conflict is intimately related to poverty, discrimination, and social exclusion. It emphasizes the need to address the root causes of the conflict. To foster social inclusion, the Plan lists several areas— including agriculture, forestry, wage employment, and social sectors—where special efforts will be made to mainstream and empower women, Dalits, and the disadvantaged through a variety of means, including targeted programs. Other reforms include: (i) revising existing laws to eliminate legal discrimination against women, and (ii) implementing affirmative action programs to increase the representation of women and ethnic minorities in the public service. The Tenth Plan also recognizes the great difficulties posed by the conflict for project implementation. Decentralization, promotion of service-delivery partnerships with NGOs and CBOs, and encouragement of greater transparency in all activities are among the strategies proposed for enhancing the feasibility of implementing development activities in this difficult setting.

39. Despite the difficult security and political environment, the Government, supported by its development partners, has made efforts to put the Tenth Plan initiatives into effect. Supported by the Reform and Development Group—a joint government-development partner task force— the Government prepared the Immediate Action Plan (IAP), starting in FY2003, to prioritize and effectively implement the key reform measures outlined in the Tenth Plan, including public expenditure management, devolution of selected public services, public procurement and financial accountability measures, privatization, and development programs targeted at excluded groups. The IAP has now become an annual plan to translate the Tenth Plan’s reform agenda into effective implementation.

40. The Nepal Development Forum, held in May 2004, recognized that, notwithstanding the difficult political and conflict environment, progress had been made in the implementation of the Tenth Plan, especially in maintaining macroeconomic stability, reviving economic growth, improving revenue, managing public expenditure, devolving public services, and reforming the financial sector. While acknowledging the Government’s commitment and expressing broad support for the Tenth Plan and its reform agenda, the development partners, however, expressed concern over the deterioration of the security and political situation, which has both violated human rights and undermined effective implementation of the Tenth Plan. The development partners also felt (i) that the Tenth Plan’s targets need to be further prioritized, given the realities on the ground, and (ii) that innovative and effective implementation modalities need to be put in place to ensure effective delivery of development benefits in remote and conflict-affected areas.

41. Both the International Monetary Fund (IMF) and the World Bank are supporting the implementation of the Tenth Plan through their respective policy-based operations. In October 2003, IMF approved a 3-year Poverty Reduction and Growth Facility (PRGF) of SDR49.9 million. The key elements of the PRGF include: (i) a fiscal strategy that will lead to higher revenues, more prioritized spending, and sustainable medium-term borrowing; (ii) monetary policy that would maintain the currency peg to the Indian rupee; (iii) financial sector reforms, including strengthening of Nepal Rastra Bank, improved legislation and loan recovery, and restructuring of government-owned commercial and development banks; (iv) public sector reforms, including civil service reform, privatization/liquidation of unviable public enterprises and divestment of profitable ones; and (v) governance reforms, including anticorruption measures and support for decentralization. A review of the PRGF in August 2004 concluded that there had been a reasonably satisfactory implementation of the reform program. The World Bank also provided a Poverty Reduction Support Credit (PRSC) I for SDR51 million. The PRSC involves three phases and the World Bank plans to approve PRSC II within FY2004. The PRSC supports the implementation of the Tenth Plan through reforms to foster broad-based growth, improve public service delivery, promote social inclusion, and enhance governance.

B. Resource Mobilization and Investment

42. The Tenth Plan envisages that the share of investment in GDP will rise by over 4.6% during the plan period (from 24.4% at the end of the Ninth Plan to 29.0% at the end of the Tenth Plan), and that domestic savings will increase by 4.6% of GDP. The Tenth Plan also envisages a major change in the composition of government expenditure, with a decline in current spending by 2% of GDP and an increase in development expenditures by 4% of GDP. The fiscal deficit is to average 7.3% of GDP, to be financed by foreign aid (loans and grants) equivalent to 5.9% of GDP, and by domestic borrowing equivalent to 1.4% of GDP.

43. Given the setbacks to economic performance in FY2002 and FY2003, medium-term macroeconomic targets were revised, in accordance with the 3-year PRGF agreement reached with IMF. The revised forecasts call for gross fixed investment to increase from 19.1% of GDP in FY2003 to 22.5% in FY2007. Public investment is forecast to rise from 7% to 8.2% of GDP (and capital investment from 4.7% to 6.2% of GDP), private investment from 12.1% to 14.3% of GDP, and gross domestic savings from 10.7% to 13.4% of GDP, over this period.

44. The gap between the aggregate expenditure required to meet the Tenth Plan targets and domestic revenue mobilization (including domestic borrowing) projections is estimated to be $556 million per annum during FY2005–FY2007, compared with the average external resource inflow of $244 million per annum during FY1997–FY2002. Net transfers, after debt service, are forecast to average just under $250 million per annum during FY2005–FY2007. These estimates were presented by the Government at the 2004 Nepal Development Forum, and generally accepted by the development partners.

45. Declining development expenditures, due to conflict-related impediments, and weakening private sector investor confidence imply that aggregate investment levels are considerably less than anticipated in the Tenth Plan targets. Moreover, precautionary savings have increased as households respond to heightened political and security concerns. As a result, foreign assistance requirements to close the savings-investment gap are likely to be $556 million per annum.

C. Role of External Assistance

46. External assistance has contributed substantially to the implementation of nearly all of the major public sector development projects in Nepal. Nepal received nearly $4 billion in external assistance from 1960 to 2000. External assistance accounted for an average of 49% of development spending during the past 5 years, and was divided almost equally between grants and concessionary loans. Aid levels are high compared with those in other developing countries, with net transfers averaging $9.8 per capita per year between 1999 and 2003.

47. Nepal will continue to require substantial external assistance in the years ahead, reflecting large development needs, low levels of income, limited scope to expand the domestic tax base rapidly, narrow private sector base, and fragile security situation. Nepal will need to rely primarily on concessional external assistance to close the resource gap in the short to medium term. Mobilization of more concessional external resources will need to be matched, however, by improvements in the security situation, in the Government’s commitment to achieving a lasting peace, and by improvements in the efficiency, integrity, and effectiveness with which external assistance is utilized.

48. Important reforms have been undertaken to improve aid effectiveness. The Government adopted a Foreign Aid Policy in 2002 that sets out broad aid priorities and standardizes procedures for procurement and aid management. Sector-specific coordinating committees involving government and development partner representatives have been established. A threetier grading system for public investment programs was developed in 2002 to help prioritize public investments. NGOs, CBOs, and local governments have been increasingly involved in the planning and implementation of aid programs to align investment priorities with local needs and to strengthen implementation.

D. ADB’s Assessment of the Government’s Development Strategy

49. The Tenth Plan has built on the lessons of past exercises and has paid more attention to fostering participation in the planning and implementation process. Establishment of the medium-term expenditure framework has enforced fiscal discipline to a degree and translated plans into action through the IAP. The Tenth Plan highlights the need to foster progress in governance. It builds on a sound diagnosis of the causes and consequence of poverty, and significantly recognizes that a legacy of exclusion, inequality, and impoverishment contributed to the conflict. It concentrates on the delivery of results, acknowledges that conflict must be addressed, and identifies many ways in which a more inclusive development process can be supported.

50. While conceptually sound, the Tenth Plan appears ambitious in several of its targets, particularly in light of the prevailing security situation and political instability. For example, average annual economic growth was forecast at 6.2% compared with the achievement of 2.7% in FY2003 and an estimated 3.6% in FY2004. Investment was forecast to reach 29% of GDP compared with 26% of GDP in 2003. Implementation of the Tenth Plan initiatives was predicated on the peaceful resolution of the insurgency and on political stability, and even in a more peaceful setting, it is unlikely that such a wide-ranging and complex reform agenda could be implemented in the plan period. Tellingly, the Plan does not describe how implementation can proceed (or be adjusted) if conflict and political instability intensify. Implementation of the Tenth Plan could therefore require adjustment of some key macroeconomic targets and the reform agenda, especially if the conflict becomes worse.

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