IMPACT OF INFLATION ON ECONOMIC GROWTH AND POVERTY IN

NEPAL

A Seminar paper

By

Anuja Pokhrel

TU Registration: 7-2-288-4-2022

Symbol no: 33204/22

Bachelor in Business Administration (BBA)

Second Semester

Seminar on Contemporary Issue on Macroeconomics (ECO 205)

Submitted to:

BBA Department

Aadikavi Bhanubhakta Campus

Tribhuwan University

Jan, 2024

i
 Recommendation Letter

This is to certify that the seminar paper on contemporary macroeconomic issues

entitled IMPACT OF INFLATION IN ECONOMIC GROWTH AND
POVERTY IN NEPAL is an academic work done by Anuja Pokhrel submitted in
the partial fulfillment of the requirement for the degree of Bachelor of Business
Administration (BBA) at Faculty of Management, Tribhuwan University under my
guidance and supervision. To the best of my knowledge, the information presented
him/her in the seminar paper has not been submitted earlier.

………………………..

Signature of Supervisor

Name of the Supervisor: Janak Kafle

Date:

ii
 TABLE OF CONTENT
Content Page no.
Title i
Recommendation Letter ii
List of Table iv
Abbreviation v
CHAPTER I: INTRODUCTION
1.1 Background of the Paper 1
1.2 Statement of the Problem 2
1.3 Objectives 2
1.4 Methodology 3
1.5 Structure of the Paper 3
CHAPTER II: DESCRIPTION AND ANALYSIS
2.1 Literature Review 4
2.2 Data Presentation and Analysis 12
2.3 Findings 13
CHAPTER III: CONCLUSION
3.1 Conclusion 15
References

iii
 List of Table

Table no. Title Page no.

Table 1 Summary Table of Literature Review 8

Table 2 Nepal inflation rate and GDP growth rate 12

from 2008-22

Table 3 Poverty rate in Nepal 13

iv
Abbreviations

CPI Consumer Price Index

GDP Gross Domestic Product

MDGs Millennium Development Goals

WDI World Development Indicator

v
 CHAPTER I
INTRODUCTION

1.1 Background of the Paper

Fernando (2023) stated that inflation is a raise in prices, which can be translated as the
decline of purchasing power over time. Similarly, Kinsey (2022) stated that inflation
is the gradual loss of purchasing power, reflected in a broad rise in prices for goods
and services. Similarly, Friedman (1977) stated that mild inflation is considered to be
desirable for economic growth. However, high and variable inflation, in general, leads
to uncertainties in income and expenditure decisions of the different groups of the
society; distorts economic growth; lowers savings and investments; and makes more
expensive cost of capital. High inflation is more likely to raise unemployment than to
lower it.

According to international monetary fund (n.d.), inflation measures how much more
expensive a set of goods and services has become over a certain period, usually a
year.

The inflation rate in Nepal was varied over the years. According to Nepal Rastra
Bank, the average inflation rate in Nepal from 1964 until 2023 was 8.02 percent, with
the highest recorded inflation rate of 30.42percent in May 1996 and the lowest
recorded inflation rate of -11.54 percent in May 1967. In 2019, the inflation rate was
5.57 percent, an increase of 1.51 percent from 2018. In 2020, the inflation rate was
5.05 percent, a decline of 0.52 percent from 2019. In 2021, the inflation rate was 4.09
percent, a decline of 0.96 percent from2020.

Inflation in the Nepalese economy can have several impacts. High inflation can erode
the purchasing power of the currency, leading to increased prices for goods and
services. This can adversely affect consumers' standards of living, particularly those
on fixed incomes. Businesses may also face challenges as rising costs of production
and uncertainty about future prices can impact investment decisions. Additionally,
inflation can disrupt economic planning and distort resource allocation. Nepal Rastra

1
Bank often strives to maintain stable inflation to promote economic stability.
Managing inflation effectively is crucial for sustaining economic growth and ensuring
the well-being of individuals and businesses in Nepal.

1.2 Statement of Problem

Mandala (2019) examined the rise in prices of goods and services and fall of
purchasing power of people due to inflation. The main objective of the study was to
analyze the casual relationship between inflation and economic growth with their
nature and trend by analyzing the secondary data’s from 1974/75 to 2016/17, the
article concluded that there is a positive and significant impact of real GDP in
inflation in Nepal, implying that higher economic growth leads to higher inflation.

Sharma (2019) stated the problem of poverty exacerbated by inflation arises as rising
price outplaces the slow adjustment of wages, diminishing the purchasing power of
poor. This leads to a decline in real income, making essential commodities
unaffordable for the impoverished, ultimately increasing the impact of inflation on
poverty. The objective of the text is to explore the relationship between inflation and
poverty, examining how inflation impacts the poor, It delves into economic indicators,
define poverty from income and consumption perspectives, and analyze historical
trends and studies to understand the dynamics of inflations effect on poverty.

Chaudhary (2018) stated that the inflation is major concern for the Nepalese
economy, as it affects the living standards of the people and the macroeconomic
variables. The main objective was to examine the impacts of macroeconomics
variables, such as money supply, real GDP, and Indian prices, on the inflation in
Nepal during 1975-2016. The Paper finds that all the variables considered are
significant in the long run, implying that they are the determinants of inflation in
Nepal. The paper also finds that money supply and Indian prices cause inflation in
long run based on an Ordinary Least Square regression model.

Therefore, the questions of this study are:

 How economic growth is influenced due to inflation?

 How inflation effect poverty?

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1.3 Objectives

Based on the research question and issues raised, the paper aims to achieve the
following key objectives:

 To analyze the impact of inflation on economic growth.

 To study the effect of inflation on poverty.

1.4 Methodology

The research was conducted based on the secondary information collected from
reports of government and international organizations. After the collection of
secondary data and experiences, this paper used descriptive research designs. Various
publication and reports submitted to government of Nepal by national and
international experts and agencies are recorded and collected later.

1.5 Structure of the Paper

The study was completed in three chapters. First chapter is introduction and it contain
five subtopics: Background of the study, Statement of the problem, Objectives,
Method of study and structure of the paper. Second chapter is known as Description
and Analysis. It includes theoretical review, empirical review, data presentation,
analysis of data and findings. Third chapter includes conclusion and implications.

3
 CHAPTER II
DESCRIPTION AND ANALYSIS

2.1 Literature Review

A literature review is a concise summary and evaluation of existing research and

scholarly articles on a specific topic. It provides an overview of the current state of
knowledge, identifies gaps or controversies in the literature, and sets the stage for new
research. By examining and synthesizing relevant studies, a literature review helps
researchers understand the context of their work, avoid duplication of efforts, and
contribute to the existing body of knowledge. It serves as a foundation for theoretical
frameworks and informs the research design, making it an essential component of
academic and scientific inquiry.

Conceptual review

Potters (2023) stated that economic growth is an increase in the production of

economic goods and services in one period of time compared with a previous period.
It is often measured by the rise in nation’s gross domestic product (GDP). Sustainable
economic growth typically lead to higher standards of living, increased employment
opportunities, and improve overall well-being for a population. Factors influencing
economic growth include investment, technological advancements, education and
government policies.

Chen (2023) stated that poverty refers to the state or condition in which people or
communities lack the financial resources and essentials for a minimum standard of
living. People living in poverty often face challenges in accessing education,
healthcare and opportunities for a better life. It’s a condition that affects one’s overall
well-being and quality of life. Efforts to reduce poverty typically involve improving
income, education and providing social support to those needs.

There are two types of poverty. They are:

4
  Absolute poverty: This refers to the lack of basic necessities required for
survival, such as food, shelter, and clothing.
 Relative poverty: Relative poverty is defined in relation to the economic status
of other member of the society. It refers to being poor in comparison to the
standards of living of the rest of the population.

Empirical review

Cardosa (1992) examined the effect of inflation on redistribution and poverty. The
main aim of the study is to provide empirical evidence on the regressive nature of the
inflation tax, the partial indexation of wages, and the social costs of various anti-
inflation policies. By using data and models to estimate the inflation tax and the
impact of inflation on real wages and poverty indices. The study finds that inflation
tax is not a major source of poverty, as the poor have negligible cash holdings.
Inflation reduces real wages, especially for unskilled workers, and widens the income
gap. The study concluded that conservative macroeconomic policies and well-
designed social programs are essential for poverty alleviation.

Shrestha (2012) outlined the volatility in global food prices and its adverse effects on
Nepal, particularly the higher inflation rates driven by food prices. The main objective
of the paper is to analyze the impact of food price hikes on poverty in Nepal,
considering the direct effects on consumption expenditure and potential consequences
for health, education, and agricultural investment. Additionally, it discusses policy
options to curb food inflation and proposes measures to mitigate the impact on the
impoverished population, aiming to contribute to the achievement of Millennium
Development Goals (MDGs). The study finds that a 10-30% rise in food prices in
Nepal may lead to a 4-12% increase in overall poverty and a 6-20% rise in food
poverty. Each 1% increase in food inflation could push 100,000 individuals into
poverty. Policymakers should focus on strategies like tax reduction, boosting food
production, regional food buffers, targeted cash transfers, and promoting second-
generation agricultural cooperatives to address these challenges.

Talukdar (2012) addressed the question of how inflation affects poverty in developing
countries and whether the effect is similar or different across countries with different
5
level of income. The main objective is to study the effect of inflation on poverty with
a panel of dataset of 115 developing countries over the period 1981-2008, controlling
for other factors such as income, external debt, educational attainment, and quality of
governance and to analyze the effect of inflation on poverty separately for low
income, lower middle income, and upper middle income countries. The author
adopted a panel data analysis approach, accounting for various fixed and random
effects, and dynamic panel models. The study finds the evidence that Inflation is
positively correlated with poverty in general, while incomes, education attainment,
quality of governance are negatively correlated with poverty in most of the
significance. The relationship between inflation and poverty is negatively and
statistically insignificant for low income countries under certain specification.

Bhattarai (2014) concerned the main research question as finding the optimal level of
inflation for economic growth in Nepal, a developing country with low growth and
high inflation. The main objectives of the study, which are to analyze the impact of
inflation on GDP growth, to examine the feasible threshold level of inflation for GDP
growth, and to state the policy implications based on the empirical results. The main
findings of this study is that it examines whether there is a threshold level of inflation
above which inflation has a negative effect on growth, and if so, what is the optimal
level of inflation for Nepal and reviews the theoretical and empirical literature on the
inflation-growth nexus, and discusses the data and smethodology used for the
analysis.

Adhikari (2015) examines whether inflation hampers economic growth in Nepal or

not with the help of Distributed lag models using annual data of GDP and Consumer
Price Index (CPI). The objective of the study is to test the relationship between
inflation and economic growth in Nepal with the help of Distributed Lag Models and
to provide policy implications based on the results. The economic growth of Nepal at
current time is adversely affected by inflation of the same time, whereas the current
economic growth is favorably affected by the inflation of preceding time. The
estimated regression of economic growth on inflation up to lag one is robust and
stable. The rate of inflation would automatically be adjusted with increasing output if
rate of investment is increased

6
Bhattarai (2017) identified rising inflation as a significant challenge for Nepal,
impacting welfare and development. Key economic indicators, such as GDP growth,
exchange rates, and government expenditure, show increasing trends. The study
aimed to determine the causes of inflation, considering factors like Real GDP, money
supply, government spending, exchange rates, total imports, and Indian inflation. The
purpose or objectives of the study is to examine the structure, trend and pattern of
inflation in Nepal over the period 1975-2016 and to explore the major determinants of
inflation in Nepal. The study highlights Nepal's high inflation and emphasizes the lack
of comprehensive research on its trends and determinants. Its findings benefit
policymakers, entrepreneurs, researchers, and the general public by providing insights
into the causes of inflation and the impact of factors like Real GDP, money supply,
government expenditure, exchange rates, total imports, and Indian inflation.

Mandala (2019) examined the rise in prices of goods and services and fall of
purchasing power of people due to inflation. The main objective of the study was to
analyze the casual relationship between inflation and economic growth with their
nature and trend by analyzing the secondary data’s from 1974/75 to 2016/17, the
article concluded that there is a positive and significant impact of real GDP in
inflation in Nepal, implying that higher economic growth leads to higher inflation.

Sharma (2019) stated the problem of poverty exacerbated by inflation arises as rising
price outplaces the slow adjustment of wages, diminishing the purchasing power of
poor. This leads to a decline in real income, making essential commodities
unaffordable for the impoverished, ultimately increasing the impact of inflation on
poverty. The objective of the text is to explore the relationship between inflation and
poverty, examining how inflation impacts the poor, It delves into economic indicators,
define poverty from income and consumption perspectives, and analyze historical
trends and studies to understand the dynamics of inflations effect on poverty.

Sapkota (2019) highlighted the complexity of the relationship between inflation,

economic growth, and unemployment, acknowledging diverse theoretical perspectives
and inconclusive empirical findings. The objective of the study are to show the
relationship between inflation and economic growth rate, to analyze the impact of
inflation in economic growth rate, show the relationship between inflation and
unemployment and to show the impact of inflation on the unemployment rate. The

7
study finds negligible correlation between inflation and economic growth rate in
Nepal, with a correlation coefficient of 0.000154. Similarly, inflation has minimal
impact on unemployment, indicated by a correlation coefficient of 0.000000679.
Policy implications suggest that inflation is not a significant macroeconomic tool for
promoting economic growth or reducing unemployment.

Karki et al. (2020) stated the relationship between inflation and economic growth in
economic literature. The main objectives of the study are to review the literature on
the relationship between inflation and economic growth and to analyze the trend and
correlation of inflation and economic growth in Nepal using secondary data. By
taking references from many available data sources such as Economic survey Reports,
World Bank, relevant journal articles, Reports and books the paper finds
overwhelming support in favor of the specific threshold level of inflation that is
appropriate for growth in Nepal. Several studies on this subject have found the
threshold value of inflation to be around 6 per cent for Nepal. Inflation is harmful to
the economy after certain rate of threshold. It is necessary to control inflation in order
to address poverty as well as economic growth.

Table 1: Summary Table of Literature Review

S.N. Author and Year Objectives Findings

1 Cardosa (1992) To provide empirical The inflation tax is not a

evidence on the regressive major source of poverty, as
nature of the inflation tax, the the poor have negligible cash
partial indexation of wages, holdings.
and the social costs of various Inflation reduces real wages,
anti-inflation policies. especially for unskilled
workers, and widens the
income gap.

2 Shrestha, Chaudhari To estimate the impact of 10 percent rise in food prices

(2012) food price hike on overall is likely to increase overall

8
 poverty and food poverty in poverty by 4 percentages and
Nepal. food poverty by 6.3 %.

3 Talukdar (2012) To study the effect of Inflation is positively

inflation on poverty with a correlated with poverty in
panel dataset of 115 general, while incomes,
developing countries over the education attainment, quality
period 1981-2008, controlling of governance are negatively
for other factors such as correlated with poverty in
income, external debt, most of the significance.
educational attainment, and The relationship between
quality of governance. inflation and poverty is
To analyze the effect of negatively and statistically
inflation on poverty insignificant for low income
separately for low income, countries under certain
lower middle income, and specification.
upper middle income
countries.

4 Bhattarai (2014) To analyze the impact of It examines whether there is

inflation on GDP growth. a threshold level of inflation

To examine feasible above which inflation has a

the
threshold level of inflation for negative effect on growth,
GDP growth. and if so, what is the optimal
level of inflation for Nepal
To state the policy
and reviews the theoretical
implications based on the
and empirical literature on
empirical results.
the inflation-growth nexus,
and discusses the data and
methodology used for the
analysis.

5 Adhikari (2015) To test the relationship The economic growth of

between inflation and Nepal at current time is

9
 economic growth in Nepal. adversely affected by
inflation of the same time,
whereas the current
economic growth is
favorably affected by the
inflation of preceding time.

The estimated regression of

economic growth on
inflation up to lag one is
robust and stable. The rate of
inflation would
automatically be adjusted
with increasing output if rate
of investment is increased

6 Bhattarai (2017) To analyze the relationship The threshold level of

between inflation and inflation is around 8 percent,
economic growth in Nepal, beyond which inflation
using data from 1975 to 2015. reduces economic growth.

To estimate the threshold The paper suggests that

level of inflation above which Nepal should maintain a low
inflation adversely affects and stable inflation rate to
economic growth. achieve sustained economic
growth

7 Sharma, Paul (2019) To analyze the trends and Inflation 2005-06 hurt the
patterns of inflation rates for poor more than in 2011-12,
different commodities and as the food prices rose
expenditure groups. substantially in the former

To estimate the inflation period and food constitutes a

expenditure function and the large share of the poor's total
class-specific inflation rates expenditure.
for rural and urban areas. The impact of inflation
varies across rural and urban

10
 areas and across different
decile classes.

8 Mandala (2019) To analyze the causal There is bidirectional

relationship between inflation causality between inflation
and GDP growth in Nepal and GDP growth in Nepal,
using annual data from 1975 implying that both variables
to 2015, and affect each other. The paper

To estimate the threshold also finds that the threshold

level of inflation for Nepal level of inflation for Nepal is
beyond which inflation 6.5 percent, meaning that
adversely affects economic inflation above this level has
growth. a negative impact on
economic growth.

9 Sapkota (2019) To show the relationship There is a negligible

between inflation and correlation between inflation
economic growth rate. and economic growth rate in

To analyze the impact of Nepal, with a correlation

inflation in economic growth coefficient of 0.000154.
rate, show the relationship Inflation has minimal impact
between inflation and on unemployment, indicated
unemployment and to show by a correlation coefficient
the impact of inflation on the of 0.000000679.
unemployment rate

10 Karki, Banjara, To review the literature on the The paper finds

Dumre (2020) relationship between inflation overwhelming support in
and economic growth. favor of the specific

To analyze the trend and threshold level of inflation

correlation of inflation and that is appropriate for growth
economic growth in Nepal in Nepal. Several studies on
using secondary data. this subject have found the
threshold value of inflation
to be around 6 per cent for

11
 Nepal.

Inflation is harmful to the

economy after certain rate of
threshold. It is necessary to
control inflation in order to
address poverty as well as
economic growth.

2.2 Data Presentation and Analysis

Moderate inflation can be beneficial for economic growth as it encourages spending

and investment. When people expect prices to rise, they are more likely to spend and
invest rather than hoard money. Additionally, inflation allows for nominal wage
increases, providing a buffer against economic downturns. However, high and
hyperinflation can be detrimental, leading to uncertainty and eroding purchasing
power. In term of poverty reduction, moderate inflation can help reduce real debt
burdens, benefiting borrowers, including many low-income individuals. However, it
may also disproportionately affect those with fixed incomes or limited access to
financial instruments.

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Table 2: Nepal inflation rate and GDP growth rate from 2008-22

Year Inflation rate compared GDP growth rate

to previous year compared to
previous year
2008 6.68 4.7
2009 12.62 4.53
2010 9.57 4.82
2011 9.57 3.42
2012 8.31 4.78
2013 9.87 4.13
2014 9.04 6.01
2015 7.21 3.98
2016 9.93 0.43
2017 4.45 8.98
2018 4.15 7.62
2019 4.64 6.66
2020 6.15 -2.37
2021 3.6 4.25
2022 5.8 5.84
Source: Economic Survey (2021/22)

Table 3: Poverty rate in Nepal

Year Inflation Poverty rate

2011 9.57 39.1

2014 9.04 30.1

2019 4.64 17.4

Source: WDI (2019)

13
The inflation rate is the percentage increase in the price of goods and services over a
year. The poverty rate is the percentage of the population living below the poverty
line. The GDP growth rate is the percentage increase in the country's economic output
over a year.

From Table 2, we observe Nepal's economic trends from 2008 to 2022. In the initial
years, the country experienced high inflation rates, peaking at 12.62% in 2009.
However, in subsequent years, inflation rates gradually decreased, with occasional
fluctuations. The GDP growth rate also varied, with notable positive growth in 2014
and 2017. Notably, the year 2020 witnessed a significant economic downturn, marked
by a negative GDP growth rate of -2.37%, likely attributed to global events such as
the COVID-19 pandemic.

Table 3 provides insights into the poverty rate in Nepal. Over the years, there has
been a positive trend in poverty reduction. In 2011, the poverty rate stood at 39.1%,
which decreased to 30.1% in 2014 and further dropped to 17.4% in 2019. This
indicates a substantial improvement in the economic well-being of the population,
aligning with efforts to alleviate poverty in the country.

2.3 Findings

The data analysis reveals the dynamic economic scenario in Nepal, marked by
fluctuation in inflation rates, poverty and GDP growth rate over the past year. The
inflation rate has exhibited variability, reaching its peak at 12.62% in 2009 and hitting
its lowest point at 3.6% in 2021. This fluctuation suggests potential challenges in
price stability within the Nepalese economy.

Similarly, the poverty rate has shown significant variability, with the highest rate
recorded at 39.1% in 2011 and the lowest rate at 17.4% in 2019. The rise in poverty in
2010 might be attributed to the combination of high inflation and other economic
factors affecting the population's purchasing power. However, the subsequent years

14
witnessed a gradual reduction in poverty rates, indicating potential improvements in
economic conditions.

Contrastingly, the GDP growth rate has generally been positive, indicating overall
economic expansion. The highest recorded GDP growth rate was 6.66% in 2019,
showcasing a robust economic performance during the period. However, challenges
were evident in 2020, where the GDP growth rate dipped to -2.37%, likely influenced
by the global economic downturn resulting from the COVID-19 pandemic.

It is crucial to consider that the interconnectedness of inflation, poverty and economic

growth. High inflation, as seen in 2009, can erode purchasing power, potentially
contributing to an increase in poverty rates. Conversely, low or negative GDP growth,
as observed in 2020, can impact employment and income levels, influencing poverty
rates.

To ensure sustainable economic development and poverty reduction, policy makers in

Nepal need to strike a balance in managing inflation while fostering positive GDP
growth. Implementing targeted policies to address the root causes of inflation,
enhancing social safety nets, and promoting inclusive economic growth are essential
strategies. Moreover, the findings underscore the importance of continuous
monitoring and adaptive policymaking to navigate the complex dynamics of inflation,
poverty and economic growth.

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 CHAPTER III
CONCLUSION

3.1 Conclusion

In conclusion, the seminar paper explored the intricate relationship between inflation,
economic growth, and poverty in Nepal. The analysis revealed a dynamic economic
landscape characterized by fluctuations in inflation rates, poverty levels, and GDP
growth over the years. Notably, high inflation in 2009 corresponded with an increase
in poverty, highlighting the potential impact on purchasing power. However,
subsequent years witnessed a gradual reduction in poverty rates, indicating
improvements in economic conditions.

The positive trend in GDP growth rates, particularly the peak of 6.66% in 2019,
reflected overall economic expansion. Nevertheless, the economic downturn in 2020,
marked by a negative GDP growth rate of -2.37%, showcased vulnerabilities, likely
influenced by the global pandemic. Recent data suggests a decrease in inflation to
3.6% in 2021 and a slight increase in the poverty rate to 17.4% in 2019. Despite these
fluctuations, the positive GDP growth rate of 5.84% in 2022 indicates resilience in the
Nepalese economy.

The findings underscore the interconnected nature of these economic indicators,

emphasizing the need for balanced policies to ensure stable inflation, sustainable
economic growth, and poverty alleviation. Policymakers should consider these
dynamics to formulate effective strategies that promote inclusive development and
address the challenges posed by inflation on economic growth and poverty in Nepal.

16
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