K.P. Oli arrives for prime ministerial election at the parliament in Kathmandu
FILE PHOTO: Prime Minister candidate and Chairman of the Communist Party of Nepal (Unified Marxist-Leninist) (CPN-UML) Khadga Prashad Oli, also known as K.P. Oli, arrives for a prime ministerial election at the parliament in Kathmandu, Nepal, October 11, 2015. REUTERS/Navesh Chitrakar/File photo

Nepalese Finance Minister Yuba Raj Khatiwada presented the federal budget for the fiscal year 2018-19 at Parliament on Tuesday. Economic prosperity and political stability were two of the main electoral pledges of K P Oli and the then Maoist prime minister Pushpa Kamal Dahal, aka Prachanda. The two Communist factions formed a pre-poll alliance and achieved a landslide victory with the help of nationalism and by maneuvering the fanfare of anti-Indian rhetoric six months back.

During the election campaign, they successfully argued that India’s “invisible hands” were responsible for Nepal’s political instability and only an anti-India political force’s electoral victory would brings “stability” to Nepal.

Many Nepalis believe that India doesn’t want political stability in their country, which is supposed to be the necessary condition for economic prosperity. No Nepalese government has completed a five-year tenure since the 1950s and Nepalis think India is responsible for this.

“Political stability” was the main slogan to limit the Indian influence in Nepal’s domestic politics. For this, Oli and Prachanda not only formed an electoral alliance but also merged their parties recently. After the merger of the two parties, Prime Minister Oli’s government is the second-strongest after B P Koirala’s in 1960. Thus the first agenda of political stability has already been achieved.

The budget is adamant on achieving high economic growth, prosperity and structural transformation in the perennially stagnant economy in one of the least developed countries in the world.

The budget vows to double the national income by the end of the government’s term and upgrade the country into the middle-income category through achieving double-digit growth over the next five years. However, two very straightforward hitches will create a hurdle to the Oli government’s ambitious economic transformation drive.

First, the upward surge of the oil price in the global market will hit the Nepalese economy hard. The increasing tension between Russia and the United States and US President Donald Trump’s withdrawal from the Iran nuclear deal could create a supply-demand imbalance in the global oil market.

The US is planning harsher economic sanctions against Iran. Russia is the third-highest producer of oil and Iran the third-largest oil-exporting country, and a production cut in Iran will lead to demand and supply disequilibrium in the global oil market, and the oil price will go up further. The Brent Crude oil price per barrel on May 15, 2017, was  US$51.80, and US$79.29 on May 24, 2018. So the oil price has already increased by more than 50% as compared with a year before.

An increase in the oil price affects the Nepalese economy in various ways. It has adverse effects on international trade, balance of payments, foreign reserves, and the current account of the country. Similarly, inflation and the cost of construction also go up.

The rising oil price has a ripple effect in production, distribution, and consumption of goods and services in every sector of the economy, since land transportation is the only way to ship freight in Nepal, and that depends heavily on oil.

Second, the devaluation of the Nepalese currency against the US dollar is an uncontainable problem, and an extreme circumstance looms. The weakening of the currency has already started, and at the end of 2018, perhaps 120-125 Nepalese rupees will be required to buy US$1.

A 20% weakening of the Nepalese currency means the trade deficit rises by 300 billion rupees. The current-account deficit and the pressure on the foreign reserve are the inescapable situations that will loom in the future. Besides, because of the weakening of the rupee, debt servicing costs also will rise markedly.

But one piece of good news from the finance minister is that tax extraction will be increased by more than 20% as compared with the current fiscal year without altering any tax rates or administrative reforms.

The ambitious infrastructure mega-projects such as hydroelectricity, rails, road, airports, and irrigation require importing of a considerable amount of the capital good and consultancy services from abroad that need to pay in terms of foreign currency.

The import of more capital goods and services further engulfs the trade deficit and the current account dearth and the shortfall of the foreign reserve. Thus, a surge in oil prices, devaluation of the rupee, and import of tremendous amounts of capital goods and services will create open macroeconomic-management and macroeconomic-stabilization challenges.

The mixture of rising oil prices and a weakening currency will challenge Oli’s ambitious prosperity drive. It is too soon to surmise the success or failure of Oli as the fixer of the country’s economic misfortunes. Despite a precarious economic milieu, let us see whether the Oli government can be capable of delivering the electoral promises that were made at the time of the general election last year.

Bhim Bhurtel

Bhim Bhurtel teaches Development Economics and Global Political Economy in the Master's program at Nepal Open University. He was the executive director of the Nepal South Asia Center (2009-14), a Kathmandu-based South Asian development think-tank. Bhurtel can be reached at bhim.bhurtel@gmail.com.