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Nepal’s federal transition has devolved into one of the most expensive and socially divisive political projects in the nation’s history, characterized not only by staggering fiscal waste including billions in infrastructure losses and over 17,000 conflict-related deaths but also by profound human costs manifested through systemic violence, mass displacement, and institutional abandonment. While President Ramchandra Paudel’s 11-point policy agenda for FY 2025-26 demonstrates conceptual viability, its potential remains neutered by three decades of institutional paralysis and implementation failure, reflecting a fundamental disconnect between policy formulation and execution. 

The current wave of social unrest of encompassing victims of financial fraud, debt-ridden microfinance clients, disenfranchised educators and disillusioned healthcare providers reveals the paradoxical reality of Nepal’s federal experiment: a thinly-veiled centralization of power perpetuated by the recycled political elite that has dominated Nepal’s governance structures for decades. These entrenched actors have weaponized federal rhetoric while maintaining extractive governance patterns, transforming what should be a devolutionary framework into an institutional facade that legitimizes traditional patronage networks. The central crisis lies not in federalism’s design, but in its strategic subversion by a political class that has perfected the art of state institutional capture.

The political economy

Federalism, in theory, represents a dual imperative: preserving autonomy of subnational politics while ensuring coordinated governance under a constitutional compact. Esteemed political economists like JE Chubb and Wallace E Oates, etc argue that successful federations require institutional alignment between political structures and economic policies to enhance resource and power allocative efficiency and equitable growth. Nepal’s 2015 Constitution beautifully sought to operationalize these principles through power delineations (Annexes 6–9), among subnational politics envisioning a shift from unitary centralism to cooperative federalism.

The Ministry of Finance reveals concerning fiscal trends, marked by rising expenditures, inefficient debt management, and persistent structural imbalances. In FY 2022/23, consolidated government spending surged by 11.1 percent (Rs 11,656.07bn), with current expenditures (56.3 percent of total spending) far outpacing capital investments (31.85 percent). While net current expenditure grew by 8.5 percent (Rs 932.39bn), capital expenditure saw only a 7.6 percent increase (Rs 527.45bn), a troubling indicator of misaligned fiscal priorities that favor recurrent costs over productive investment. More alarming is the 38.9 percent spike in debt servicing (Rs 196.23bn), reflecting deepening fiscal stress and potential governance inefficiencies in public financial management. The federal government dominated expenditures (61.8 percent), while provinces and local governments key subnational politics in Nepal’s federal structure remained fiscally constrained (10.8 percent and 27.4 percent, respectively). Despite Rs 397.36bn in intergovernmental transfers, the limited fiscal autonomy of subnational governments raises concerns about decentralization in practice.

Revenue collection (Rs 1,042.64bn) narrowly exceeded current expenditures, yet the federal deficit ballooned to 9.33 percent of GDP (up from 5.95 percent in FY 2021/22), signaling unsustainable fiscal practices. This deterioration suggests structural weaknesses in revenue mobilization, compounded by over-reliance on intergovernmental transfers rather than endogenous revenue generation. The Department of Customs (FY 2023-24) data underscore Nepal’s chronic trade imbalance, with imports (Rs 1,611.73bn) dwarfing exports (Rs 152.38bn) with an import-to-export ratio of 10.45:1. With 91.97 percent of trade value tied to imports, Nepal’s economy remains critically dependent on foreign goods, exposing vulnerabilities to external shocks. Export composition remains undiversified, dominated by low-value-added goods (soybean oil, sunflower oil, synthetic yarn), reflecting a failure to industrialize or move up the value chain. Meanwhile, remittance inflows
(Rs 1,051.77bn, up 9.4 percent) provide temporary stability but mask deeper structural flaws—Nepal’s economy is consumption-driven rather than production-oriented, perpetuating dependency rather than development. Without structural reforms, tax base expansion, export diversification and genuine fiscal decentralization, Nepal risks entrenching a low-growth, high-debt trajectory, where federalism becomes a facade for centralized inefficiency rather than a driver of equitable development.

Public goods and services

Key governance institutions spanning education, healthcare, social protection, disaster resilience, agriculture, security, courts services, public administration services and natural resource governance have regressed into systemic wickedness, marking a profound failure of the state’s foundational obligations. This institutional disintegration has precipitated a near-total breakdown in service delivery, rendering even the most basic public goods and services inaccessible to ordinary citizens. The education and health system, theoretically a mechanism for equitable advancement, now functions as a hollowed-out structure, marred by dilapidated facilities, chronic teacher deficits and catastrophic learning deficiencies. Private schools are out of control in many ways. Parallel decay plagues healthcare, which has bifurcated into a privatized escape for the affluent and a crumbling public sector plagued by staffing crises, medication scarcities and exploitative costs. The rural development languishes due to technocratic neglect and incoherent policy, and natural resource governance has devolved into institutionalized predation by political elites. This comprehensive institutional failure underscores a broader neoliberal devolution: the state has abdicated its role as a welfare guarantor, instead morphing into an extractive apparatus servicing elite patronage networks. The outcome is a pure privatization of basic rights: education, healthcare and security; transforming constitutional entitlements into exclusionary commodities. Nepal thus exemplifies a state in which governance failure is not incidental but engineered, sustaining hierarchies of access while eroding the very notion of public sovereignty.

Socioeconomic implications

These structural deficiencies have precipitated severe trade imbalances and accelerated youth outmigration, as domestic economic opportunities remain stifled. The inability to channel revenues into productive capital investments perpetuates a cycle of underdevelopment, exacerbating dependency on remittances and foreign credits. Unless Nepal addresses these institutional and governance failures, its fiscal policies will continue to fall short of generating sustainable, inclusive growth. Nepal’s political class has weaponized federalism to consolidate power rather than decentralize it.

Conclusion: Revolt or renewal?

Nepal’s federal experiment has collapsed not from constitutional flaws but through calculated sabotage by an entrenched oligarchy that has converted governance into patrimonial rule, hollowing out the 2015 Constitution’s devolutionary vision through pseudo-federal institutions maintaining feudal power structures. The political theater of recycled leaders staging mass spectacles merely legitimizes an extractive regime where federalism serves as institutional camouflage for centralized kleptocracy, with parties operating as patronage cartels prioritizing graft over governance, systematically eroding meritocracy and converting state apparatus into private wealth engines. This deliberate institutional subversion leaves Nepal facing existential alternatives: either radical democratic restructuring through constitutional and political overhaul or revolutionary breakdown when governance systems implode, with survival contingent on dismantling the recycled elite's stranglehold and creating authentic accountability mechanisms. The Nepali paradox offers a seminal case of how constitutional progressivism fails when implemented without disrupting entrenched power cultures and incentive structures.

The author is former chairperson of NEPSE

The appointment of Biswo Nath Poudel as the Governor presents both significant opportunities and formidable challenges for Nepal’s economic governance. With a PhD in Economics from one of the world’s most prestigious academic institutions in the US and extensive experience in high-ranking government positions, Poudel brings substantial academic credentials and policy expertise to his new role as the chief of Nepal Rastra Bank, the central bank of the country. While his political affiliation with Nepali Congress President Sher Bahadur Deuba has drawn scrutiny, such connections are not inherently disqualifying in Nepal’s politico-economic context. More importantly, his esteemed economic qualifications position him to address the systemic failures that have long constrained Nepal’s monetary and fiscal policy frameworks.

At the core of these challenges lies Nepal’s dysfunctional fiscal architecture, characterized by rigid bureaucratic processes, rent-seeking behavior and a fundamental disconnect between policy objectives and implementation. The historical predominance of short-term political calculations over sound economic management has severely weakened the synergy between fiscal and monetary policy, undermining prospects for sustainable economic growth. Poudel’s most pressing task is to recalibrate this relationship by instilling greater discipline in fiscal operations while enhancing the NRB’s capacity to respond proactively to economic shocks and risks. This requires dismantling the rooted patronage networks that have distorted policy priorities and replacing them with evidence-based decision-making processes.

The liberalization of Nepal’s financial sector, while generating substantial business opportunities, has also fostered oligopolistic practices among business conglomerates. These entities have exploited regulatory gaps to establish cross-holdings across banking, insurance and investment ventures, engaging in market-distorting practices that marginalize smaller enterprises, which are important engines of growth. With single promoters controlling disproportionate shares of outstanding loans, some exceeding an unthinkable amount of hundred and thousand crores and exerting undue influence over regulatory appointments, the integrity of financial oversight has been severely compromised. Poudel must prioritize comprehensive risk assessments across all banking and financial institutions (BFIs), enhanced transparency in financial disclosures and stricter insulation of regulatory bodies from corporate interference.

NRB reports of April 2025 reveal that sectoral credit allocation patterns have profound structural imbalances that hinder economic diversification. The concentration of 20.75 percent of total advances in wholesale/retail trade contrasts sharply with the mere 12.43 percent allocated to agriculture, despite the latter’s quarter share of GDP. Meanwhile, term loans dominate the lending portfolio at 37.32 percent, reflecting excessive exposure to long-term, capital-intensive projects at the expense of more productive investments. The persistent shortfall in deprived sector lending remaining stagnant at 5.85 percent against regulatory targets and widespread misallocation of these funds to ineligible borrowers further exemplify systemic governance failures. This development occurs against a backdrop of systemic financial vulnerabilities, with non-performing loans (NPLs) escalating by 39.93 percent to Rs 180bn during the 2023-2024 reporting period.

A stark disparity emerges in asset quality between state-owned and private financial institutions, where government banks reported Rs 28.29bn in NPLs compared to Rs 151.72bn in the non-state banking sector. The aggregate commercial bank lending portfolio reached Rs 4,491.86bn, disproportionately dominated by private banks (Rs 3,825.81bn) relative to their state bank counterparts (Rs 666.05bn). The microfinance sector’s deviation from its original mission of rural financial inclusion into focused commercial operations, along with the politicization of cooperative institutions, has exacerbated financial exclusion. Meanwhile, the dangerous practice of banks financing secondary market speculation introduces unnecessary volatility into the financial system. Addressing these issues demands rigorous utilization audits, stress-testing of sectoral exposures and stricter due diligence on investments from opaque jurisdictions.

Poudel’s governorship represents a rare opportunity to reorient Nepal’s financial sector toward equitable capital allocation and sustainable development. Success will depend on his ability to transcend political constraints, challenge entrenched interests and implement technically sound reforms. By restoring the integrity of monetary policy and realigning credit flows with developmental priorities, his leadership could mark a turning point in Nepal’s economic trajectory, provided he demonstrates the necessary resolve to confront the systemic pathologies that have long hindered progress.

Nepal’s governance and government crisis is epitomized by pervasive corruption, particularly within major infrastructure projects and public procurement systems. High-profile scandals such as the Teramox controversy, the Widebody aircraft procurement debacle, irregularities in the Sikta irrigation project and land scams involving Lalita Niwas, Balmandir (Naxal), and the Bansbari Leather Shoe Factory demonstrate deeply-entrenched graft within state institutions. These cases reflect systemic weaknesses in accountability, where political patronage and institutional lethargy shield high-level offenders from prosecution. 

The Financial Action Task Force’s (FATF) decision to place Nepal on its gray list underscores the state’s failure to implement adequate legal and structural reforms against money laundering and terrorist financing. As reported by the Economic  Times (3 March 2025), Nepal’s governance deficiencies marked by weak leadership, rampant corruption and fiscal mismanagement under Prime Minister KP Sharma Oli’s administration have exacerbated socio-economic vulnerabilities, further undermining public trust and economic stability. Notably, large-scale infrastructure projects, such as the Pokhara and Bhairahawa International Airports, have been marred by financial scandals. 

Despite its mandate, the Commission for the Investigation of Abuse of Authority (CIAA) has failed to hold powerful actors accountable, instead prioritizing minor infractions—a practice that reinforces a culture of impunity. The pervasiveness of corruption across government tiers has stifled development, crippled public service delivery and eroded administrative efficiency. Macroeconomic consequences include stagnant agricultural productivity, sluggish employment growth, declining tourism and diminished global competitiveness. 

The lack of robust oversight mechanisms has deepened governance paralysis, necessitating urgent institutional reforms to restore accountability, strengthen anti-corruption frameworks and rebuild public confidence in Nepal’s governance architecture.

Education sector

The education sector starkly illustrates this broader pattern of institutional failure. Recent weeks witnessed widespread teacher protests, with teachers marching from Maitighar to New Baneshwor demanding reforms aligned with Nepal’s federal framework and tangible improvements in educational quality. Despite repeated promises, successive political regimes have deprioritized educational development. This neglect has entrenched a branched education system of deteriorating public institutions on one side, and politically patronized private schools on the other. This failure is not merely a matter of policy oversight; it constitutes an existential threat to Nepal’s long-term development trajectory.

The central bank

One glaring example of Nepal’s institutional decay is the protracted failure to appoint a Governor, leaving the country’s central monetary regulator leaderless in contravention of the NRB Act. This statute explicitly mandates continuous leadership to safeguard monetary and financial stability. Yet political elites mainly from ruling parties have prioritized factional negotiations over institutional integrity, severely undermining the credibility and autonomy of the central bank. This leadership vacuum is symptomatic of a broader collapse in basic governance, extending the crisis well beyond corruption to a fundamental breakdown of institutional functionality. If left unaddressed, the erosion of the NRB’s authority could trigger long-term repercussions for monetary, financial stability and macroeconomic governance.

Farms, industry, tourism

Despite remaining an agrarian economy—where over 60 percent of the population relies on agriculture, which contributes 21.33 percent to GDP (NRB, 2024)—Nepal continues to face constrained agricultural productivity. In FY 2080-81 (2023-24), agricultural credit totaled Rs 347.84bn, yet output remains insufficient. Industrial capacity utilization is alarmingly low at 48.3 percent, even as industrial loans amount to Rs 1,580.10bn (NRB, 2025). Tourism remains a key sector, with 1.15m arrivals recorded in FY 2080-81 (2023-24), primarily from India (26.69 percent) and China (8.8 percent). However, the inclusion of Nepali diaspora holding foreign passports skews official data. While Chinese arrivals surged by 67.35 percent, and third-country visitors rose by 14.4 percent, the sustainability of this sector remains uncertain without accurate data and strategic planning.

Trade imbalance and fiscal risks

Nepal’s trade deficit is structurally unsustainable. Imports reached Rs 1,592.98bn, vastly outstripping exports of just Rs 152.36bn in FY 2023-24 (NRB, Feb 2025). Trade with India dominates (65 percent of volume), with imports from India at Rs 996.68bn compared to exports of Rs 103.18bn. Other key import sources include China (18.76 percent), the UAE (1.83 percent), and Ukraine (1.19 percent). Meanwhile, major export markets include the United States (11.36 percent), Germany (4.45 percent), and the United Kingdom (3.08 percent). Government expenditure patterns reveal further vulnerabilities. In FY 2022-23, consolidated spending rose by 11.1 percent to Rs 11,656.07bn, with current expenditures comprising 56.3 percent vastly outpacing capital investments. Debt servicing costs surged by 38.9 percent to Rs 196.23bn, pushing the federal deficit to 9.33 percent of GDP and the debt-to-GDP ratio to 46.75 percent by mid-April 2025, signaling mounting fiscal distress.

Labor drain and collapse of domestic opportunity

Chronic economic stagnation has fueled mass labor migration. In a single year, approximately 1.2m individuals, 661,125 men and 80,172 women sought foreign employment under formal permits. This exodus reflects a profound failure of domestic policy to generate employment or develop import-substituting industries. For instance, a young agricultural entrepreneur in Dang, cultivating capsicum and eggplant varieties on over two hectares of land, was forced to cease operations due to unsustainable competition from cheap, unregulated imports priced below Rs 20 per kilogram.

A national dairy survey reveals that local producers are increasingly uncompetitive against uncontrolled imports from porous borders, discouraging domestic investment. These examples point to systemic negligence of the government: Nepal possesses “immense” agricultural and industrial potential, yet policy inconsistencies, bureaucratic inefficiencies and pervasive rent-seeking have stifled productive initiative.

Entrepreneurial disincentives

Nepal’s seemingly comprehensive business regulatory regime is fundamentally undermined by flawed implementation. Regulatory bodies routinely impose opaque, obstructive barriers that actively deter entrepreneurial activity. Empirical evidence from a national survey of female-led MSMEs reveals that entrepreneurs face delays of six months to a year in accessing small business loans. Respondents likened banks to ‘institutionalized moneylenders’, citing predatory practices and bureaucratic obstruction. These structural barriers suppress innovation and perpetuate reliance on remittances. The federalization process has further exacerbated fiscal disparities. 

FCGO (Financial Comptroller General Office) data for FY 2022/23 shows provinces receiving just 10.8 percent (Rs 204.68bn) of total expenditure, while local governments account for 27.4 percent. Alarmingly, only 26.39 percent of provincial funds reach local bodies. Furthermore, 62.74 percent of local expenditure is recurrent, severely crowding out capital investment (37.16 percent). Instead of enabling autonomous governance, federalism has become an instrument for partisan patronage. Political interference has hollowed out subnational politics, converting them into appendages of central party structures rather than engines of localized development.

Patronage and rent-seeking

Public subsidies and incentives intended to support entrepreneurship have been systematically captured by connected political elites. Rather than promoting business growth, the pro-business policy framework has devolved into a rent-seeking regime, requiring illicit payments for access to government support. This corrupt system distorts market competition, disadvantages legitimate enterprises, and sustains Nepal’s import dependence and labor migration. The key political elite in Nepal have eschewed genuine labor, instead sustaining their opulent lifestyles through entrenched rent-seeking practices and earning through illicit transactions. This has eroded the nation’s work ethic and severely undermined its culture of entrepreneurship. 

These dynamics have yielded chronic underinvestment in capital expenditure, constrained productive capacity, failed import substitution and a sustained exodus of the working population. Without radical institutional reforms, Nepal’s economic trajectory will remain locked in this dysfunctional equilibrium. Necessary reforms include depoliticizing subnational politics, streamlining regulatory processes, allocating subsidies based on merit/performance, enhancing capital budgeting and enforcing fair trade protections.

Conclusion

Nepal’s economic stagnation is not the result of resource scarcity but of deep-rooted governance failures. Endemic corruption, bureaucratic inertia and institutionalized inefficiencies have crippled domestic production and eroded entrepreneurial confidence. The solution lies not in piecemeal policy adjustments, but in a transformative overhaul of the governance system anchored in accountability, transparency and institutional integrity. Also, it utterly requires the phasing out of recycled political elites. Only through such a systemic reconfiguration can Nepal hope to escape its current developmental storm and achieve a resilient, inclusive and self-sustaining economy. 

The author is a former chair of the Nepal Stock Exchange and was a PhD Research Fellow at the University of Basel 

March 27, a family trip from Kathmandu to Dang became a grim metaphor for Nepal’s institutional decay. What should have been a 10-hour journey stretched into a 21-hour nightmare, with a single 14-kilometer stretch Daunee consuming ten agonizing hours, an indictment of criminally neglected infrastructure. The exhaustion of travelers—sleep-deprived, hungry, and choking in dust—mirrors the nation’s broader dysfunction: structurally intact yet crippled by systemic rot. The collapse is not limited to roads. Just days earlier, a devastating fire at a Dang plywood factory destroyed nearly Rs 400m in assets and left over 500 workers jobless. 

Chief District Officer Krishna Prasad Lamsal’s desperate pleas for firefighting support from neighboring districts and municipalities laid bare the shocking lack of emergency preparedness. These are not isolated incidents. In Kathmandu, Janamorcha and Rastriya Prajatantra Party cadres blockaded Ratnapark and other areas, paralyzing the capital’s transit, while Prime Minister KP Oli squandered a high-level economic forum on rustic analogies of buffalo - ticks and political jibes rather than substantive policy. Together, they expose a governance trifecta: crumbling infrastructure, unchecked political obstructionism, and executive unseriousness.

Federalism’s broken promise

The 2015 Constitution of Nepal, informed by seminal federalism theories, promised transformative decentralization. Yet nine years into implementation, subnational governments remain systematically disempowered—chronically under-resourced, understaffed, and stripped of meaningful autonomy, while political elites (KP Oli, Deuba, Dahal, MK Nepal, BR Bhattarai, JN Khanal) engage in perpetual factionalism at the expense of federal governance.

This institutional failure manifests in alarming macroeconomic indicators: public debt now stands at 47 percent of GDP (Rs 27trn), exceeding the 35.43 percent sustainability threshold identified by NRB seasoned economist Laxmi Prasad Prasai (2024), with annual debt servicing consuming Rs 402bn. Concurrently, Nepal’s recent grey-listing by the Financial Action Task Force (FATF) for failing to combat sophisticated financial crimes including systemic tax evasion and fraud further underscores institutional decay. Compounding this crisis is a perverse bureaucratic culture where civil servants demand additional ‘facilitation fees’ from citizens for routine services, despite receiving full salaries and allowances. This rent-seeking behavior, institutionalized at all levels of government, epitomizes how Nepal’s federal transition has been hijacked—not by constitutional design, but by entrenched interests that perpetuate centralized predation under the guise of federalism.

Critical infrastructure—Narayanghat-Butwal Highway, Nagdhunga Tunnel, Melamchi Water, Mugline–Pokhara Highway—remains mired in delays. Meanwhile, 6,200 youths leave the country daily for foreign employment, a stark exodus underscoring Nepal’s failure to secure its own future. The Local Government Operation Act (2018) remains a paper tiger, with provincial postings treated as bureaucratic exile. Subnational governments face chronic 23 percent budget shortfalls, while resources are allocated based on electoral patronage rather than developmental need.

The path forward

Nepal stands at an inflection point. Federalism’s promise has been hijacked by a new mind set of centralism, where even hiring school teachers requires Kathmandu’s approval. Three urgent reforms are critical:

• Administrative federalism: Devolve personnel and fiscal authority to subnational governments, ending Singhdurbar’s suffocating control,
• Fiscal federalism with teeth: Guarantee provincial revenue autonomy and performance-based funding, and
• Enforced accountability: Implement independent audits of federal spending, as long demanded by the Financial Comptroller’s Office.

Without immediate corrective action, Nepal risks transforming its federal experiment from a beacon of post-conflict hope into yet another case study in constitutional failure. The stranded travelers, the jobless workers, and the millions trapped in this institutional purgatory deserve more than a government that mistakes inertia for governance. The time for reform is now—before the paralysis becomes permanent.