Highlights on South Asia
May 29, 2007 - Net capital flows to South Asia reached a record $40.1 billion (3.6 percent of GDP) in 2006, up from $28.3 billion (2.8 percent of GDP) in 2005, with most of the increase in going to India
The annual World Bank report, Global Development Finance 2007, released today says that sustaining recent high growth in South Asia will require continued economic reform, expansion of infrastructure capacity, and further reduction of security threats. The report predicts that these efforts will also contribute to higher capital inflows, which have been spurred by progress in these areas in recent years.
Revamping tax collection systems to reduce evasion and improve tax collection to help finance the extensive government agendas is also important.
Increased political instability represents another main risk. Heightened security concerns could hurt investor sentiment and undermine foreign capital inflows, which have contributed to the region’s record four-year expansion.
The continued easing of political tensions between the governments of India and Pakistan bodes well for continued progress toward improved relations.
Gross Domestic Product (GDP)
GDP in South Asia expanded a robust 8.6 percent in 2006, reflecting generally expansionary policy conditions. Growth was down slightly from 2005 due primarily to a deceleration of growth in Pakistan.
In Afghanistan, GDP growth is expected to accelerate over the forecast horizon, initially due to an anticipated recovery from drought in the agricultural sector, and over the forecast horizon due to the stimulative impact 135 of donor-led construction projects.
In Bhutan, growth is expected to remain robust, rising by a projected 17 percent in 2007—a sharp acceleration from the estimated 5.5 percent in 2006.
• This is driven primarily by the effects of the Tala hydropower project (the plant is expected to begin operating at full capacity in mid-2007), and to a lesser extent by the expanding tourism industry.
• Growth in Bhutan is expected to decelerate to 10 percent in 2008 and 5 percent in 2009 as impacts of the hydropower project unwind.
In India, GDP increased by 9.2 % although signs of slowing appeared at the end of the year.
• India’s restrictive policy conditions are expected to lead to deceleration in investment growth and weaker private consumption and government spending, contributing to a slowdown in GDP growth to 7.8 percent and 7.5 in 2008 and 2009, respectively.
In the Maldives, an expansion of GDP growth is expected to be supported by the ongoing reconstruction effort following the devastating December 2004 tsunami.
Growth is projected to strengthen in Nepal due to improved political conditions and cessation of fighting.
Pakistan’s GDP increased by 6.6 percent in 2006 significantly down from the 7.8 percent growth rate recorded the previous year.
Sri Lanka is projected to hover close to 6.0 percent during 2007–09, down from 7.4 percent in 2006, due to disruptive effects of civil war.
Captial Inflows
Net capital inflows to South Asia increased to $40.1 billion (3.6 percent of GDP) in 2006, up from $28.3 billion (2.8 percent of GDP) in 2005.
Strong capital inflows were largely due to a $12 billion expansion in net private debt flows, while net equity inflows to the region increased only slightly, as a $3 billion increase in FDI was partly offset by a decline in portfolio equity flows.
At $22.9 billion in 2006, net equity inflows nonetheless account for the bulk (60 percent) of net private inflows to the region. Much of the FDI inflows into India were concentrated in the service sector (telecommunications in particular) in response to liberalization policies designed to attract FDI, such as easing ownership restrictions.
FDI outflows from India are also on the rise due to increasing cross-border M&A purchases by Indian companies, mainly in high-income economies. Since 2004, FDI flows from India to the United Kingdom exceeded flows from the United Kingdom to India. The Indian multinational Tata acquired the Dutch steel company Corus for more than $10 billion in early 2007.
FDI inflows to Pakistan increased from $2.2 billion in 2005 to $3.5 billion in 2006 with much of investment in the oil and gas and financial sectors, along with installments made on a major telecom privatization deal in 2005.
Inflation
Rapid growth and the relatively expansionary stance of fiscal and monetary policies in the region have provoked a rise in inflation.
Higher oil prices in the first half of 2006 and strong domestic demand contributed to deterioration in the region’s current account balance despite strong exports and remittances inflows.
Foreign Reserves
Since 2003, the period for which imports could be covered by foreign reserves has declined by about four months in both India and Pakistan. While reserves in India remain significantly above the level of three months worth of imports, they are much closer to that level now in Pakistan and below it in both Bangladesh and Sri Lanka, suggesting that each country would be vulnerable to a significant terms-of-trade shock, such as another hike in oil prices.
The high growth rates posted in recent years have helped South Asia make significant progress toward achieving the Millennium Development Goals (MDGs). Most notably, the percentage of people living on less than a dollar a day declined to just over 30 percent in 2003 from 40 percent in 1990, and is now projected to reach about 13 percent in 2015—below the initial goal of 20 percent.
Sustained growth will be necessary for continued poverty reduction, and achieving further improvements in institutional service delivery will be critical to making progress in all other dimensions of the MDGs.
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