ISSN No: 1608-6627
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Articles for Volume 21

Verification of Causality through VAR and Intervention Analysis: Econometric Modeling on Budget Deficit and Trade Deficit in Nepal
[Shankar Prasad Acharya]

Direction of causality between budget deficit and trade deficit, which is popularly known as Twin Deficit Hypothesis (TDH), has been tested in this paper covering the period 1964-2004. Stationarity, co-integration, and error correction tests have been performed as fundamental groundwork on real-term datasets. Datasets are found to be stationary at first difference. Long-run relationship (co-integration) among model variables is found at first difference. Long-run stability has been supported since short-run dynamics indicated converging pattern. Residual tests and conventional Granger Causality tests suggested trade deficit has been Granger Caused by the budget deficit. This initial gesticulation has further been reinforced by the vector autoregressive (VAR) modeling and intervention analysis (impulse response function and variance decomposition) also as it has reconfirmed unidirectional causality from budget deficit to trade deficit indicating need of a policy revisit regarding efficient public expenditure management, export-led growth and strategic capital formation with the help of revised fiscal, monetary and financial policies in the present globalization context.

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Development of the Nepalese Financial System: Need for the Formulation of a Master Plan
[Nephil Matangi Maskay, Ph.D. and Satyendra Raj Subedi]

The paper examines the development of Nepalese financial system which is categorized into three different phases: the first phase is the pre-NRB period; the second phase starts with NRB Act of 1955, which is further disaggregated into two sub-periods at 1984, the start of domestic financial liberalization; and the third and ongoing phase starts after enactment of current NRB Act of 2002. After analyzing period aggregate data on the financial system, the paper concludes that despite significant financial deepening in the context of financial liberalization and integration with the external economy, there is still scope for geographically balanced financial development. For addressing these challenges in a comprehensive manner, the study proposes initiating the development of a Financial Sector Master Plan.

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Export Diversification and Competitiveness: Nepals Experiences
[Bhubanesh Pant, Ph.D. and Rajan Krishna Panta]

Nepals policy regime has not been very instrumental in improving trade competitiveness. Although policy measures have been announced from time to time to identify new exportable products and encourage diversification of export markets, these have hardly been executed. The challenge for Nepal is complicated by the legacy of the past. Against this perspective, this paper a) examines the export scenario of Nepal and reviews the past studies on the country's export potential; b) illustrates Nepal's competitiveness of the export sector; and c) suggests measures for promoting export diversification and competitiveness. Based on the estimation of the real effective exchange rate (REER), this paper shows that the country is gradually losing its competitiveness. Although various studies have demonstrated that Nepal possesses competitive advantage in herbal products, woollen carpets, tea, garments and pashmina, among others, a comprehensive case-by-case analysis of home and host countries trading environment, supply and demand conditions, cost of production, capacity to innovate, as well as its forward and backward linkages should be conducted to translate the export potential to the actual trading opportunities.

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The Composition of Public Expenditure, Physical Infrastructure and Economic Growth in Nepal
[Prakash Kumar Shrestha]

This paper investigates the role of composition of public expenditure, particularly the expenditure on physical infrastructure, on economic growth in Nepal from the time series perspective based on the endogenous growth model. The impact of public expenditure on economic growth has been found to be positive. Hence, low economic growth in Nepal in recent years can be attributed to low government expenditure on infrastructure. Availability of infrastructure situation is very dismal. Given the sustainable debt scenario, Nepal can go for more investment in infrastructure by external borrowing at least for the medium term.

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Long-run Relationships of Macroeconomic Variables in Nepal: A VAR Approach
[T. P. Koirala, Ph.D.]

This paper utilizes cointegration procedure of Johansen and Juselius (1990) in estimating the long run economic relationships of macroeconomic variables comprising M2 monetary aggregate, Real Gross Domestic Product (RGDP), Consumer Price Index (CPI) and Interest Rate (RT) using annual data ranging from 1975 to 2006. Since one cointegrating vector is found to be statistically significant among the variables under consideration, the result is tantamount to deducing the coefficients of Error Correction Model (ECM). In an application of the Augmented Dickey and Fuller (ADF) test to examine the presence of unit roots in the variables prior to the variables used in estimating long run relationships, the ADF sequential search procedure supports an existence of unit roots in all the variables. This paper also estimates the demand for money function in Nepal as an application of long run relationships between the variables using the said procedure. The coefficients of income and interest rate elasticity of M1 so estimated as depicted by the normalized cointegrating vector are in line with theoretical underpinning. Since the coefficients estimated in this paper rely on restricted VAR method that are contrary to the past practices in estimating cointegrating vector using the Engle-Granger (1987) two-step procedure in Nepal, the coefficients are supposed to be robust and consistent owing to the stronger restrictions imposed by cointegrating vector as against the a theoretical VAR approach.

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