– This article was originally published by Roopali Bista in the Himalayan Times on the February 17, 2019.
Foreign exchange reserves are used by a country to back liabilities and influence the monetary policy of a country. This means any foreign currency, banknotes, deposits, bonds, treasury bills and other government securities held by the central bank or in our case the Nepal Rastra Bank. Foreign reserves serve many purposes but its main purpose is to ensure that a central government agency has backup funds if their national currency rapidly devalues or becomes all together insolvent.
Nepal is witnessing a depletion in foreign currency reserve that the central bank holds. According to the Nepal Rastra Bank, the current reserve is at approximately $9.5 billion which will only be enough to finance imports of goods and services for another next 8 months, even though it is important to maintain good foreign currency reserve for an import oriented country like ours. It is suggested to have enough to cover the country’s debt payments and current account deficits for the next 12 months in order to prevent a debt crisis.
Nepal is heavily reliant on imports and exports only a limited number of goods which causes a huge trade deficit. Almost every financial year, Nepal faces a trade deficit. Government panel formed a few months back to study the country’s deteriorating balance of payment situation identified that service trade and imports were the key reason behind the depleting Foreign Exchange Reserve and has come up with a plan to tighten imports and the outflow of foreign currency. Also, a list of luxury goods will be restricted from importing into the country.
Regulating import is like putting a band-aid on a bullet wound. It is only a temporary solution and it would not solve the deep-rooted problem of poorly developed domestic industry. Since import is much larger than export and demand for imported goods are very high, suppressing the supply is not a solution. There is no sign of reversion and should rather look for another solution. Here are some of the negative impacts that banning imports would cause:
Price Rise for End Consumers
As the supply for certain goods will be limited and the demand remains unchanged the price of imported goods will be excessively high for the end consumers and it is the consumer that faces the biggest wrath of restricted import. This will only negatively affect the purchasing power of citizens
Cost of Import Regulation and Monitoring
The cost of regulating import is going to be much higher for the government. More resources have to be employed in order to check if the importers are meeting the set regulations. The cost of border protection is going to increase. The cost of monitoring the import is also going to adversely affect the government’s treasury.
Informal Imports and the Rise of Black Market
Restricting imports is not automatically going to suppress the demands and desire of people. This will cause importers to operate illegally and give rise to the black market, which will further make the prices of goods more expensive. The cost of regulating and combating the black market is going to be much higher for the government. There is not going to be any kind of quality control in the black market. This will adversely affect the end consumers’ quality of life.
Domestic manufacturers will struggle to replace imports
The domestic industries in Nepal are not capable enough to replace the demand for imported goods. The cost of production will also be higher in the country as we do not have the comparative advantage of producing certain goods. The ban on raw materials can further harm the existing industries.
When the country is importing most of its products, restricting imports is not the solution to retain depletion of foreign exchange reserves. This is only going to delay the depletion and not increase the foreign reserves. The country should look at diversifying its exports in the long run and attracting Foreign Direct Investments. Export diversification will not only increase the export earning which will, in turn, boost the foreign exchange reserves but it would also provide a hedge towards price variations and shocks in specific product markets. The type of products exported might be beneficial for economic growth and the potential for structural change of moving away from exporting agricultural products, with low productivity of labour and revenue, towards exporting manufactured goods, with higher export revenue.
Making a favorable environment to attract foreign investment is a direct source of foreign currency. It will also encourage exports of host countries by boosting domestic capital for exports, serving to transfer technology and new products for exports, making access to new and large foreign markets easy and improving technical and management skills.