The political rhetoric on Nepal’s development ambitions is high decibel. Yet, for decades since the first generation of economic reforms began in the early 90s, Nepal’s grand economic plans have been hobbled by the absence of humble but sustained actions—falling behind regional peers. The regulatory environment has failed to keep up with developments in both richer and emerging economies. The Maoist movement and protracted political instability eroded early progress. However, even after the promulgation of the new constitution in 2015, the same issues continue to affect Nepal’s ability to attract and sustain varied sources of financing to meet its development needs—despite regularly organising numerous summits meant to attract foreign investments.

In 2024 alone, Nepal held two high-powered summits to convene investors: The Investment Summit and the Infrastructure Summit. However, foreign investors’ attendance is dwindling in each successive edition of these summits. The reason is simple: There is no walking the talk, and existing foreign investors in the country continue to face significant hurdles in getting investment products approved despite the promise of seamless processing under the rhetoric of a ‘one-stop-shop.’ And their experience deters new investors.

A rent-seeking mindset, coupled with bureaucratic illiberalism, is one of the biggest obstacles. In addition, given the largely left orientation, the country has an inherent anti-private sector mindset. From consumers and civil servants to journalists and civil society, everyone likes to take a dig at the profiteering private sector. The word ‘cartel’ is excessively used in describing the private sector. That bias extends among many politicians too—and manifests in different forms of constraints.

Profit incentivises private individuals and firms to take risks and become first movers to cash in on the immense risk-to-reward potential.

The private sector is the backbone of the Nepali economy, which contributes to over 80 percent of the GDP, according to the State of Private Sector Report 2023, a joint publication by the International Finance Corporation (IFC) and the Federation of Nepalese Chambers of Commerce and Industries (FNCCI). That is significant. Clearly, the private sector will continue to play a critical role in meeting Nepal’s development goals. To unlock its full potential, there needs to be a shift toward more consistent and transparent policies that foster investor confidence.

Nepal is grappling with significant financing gaps across multiple key sectors. By 2030, the country will require an estimated $20 billion for energy development, $10 billion for infrastructure and additional billions for healthcare, education and tourism. The annual investment deficits are mounting and are quite substantial. Traditional funding sources, such as government allocations and foreign aid, are insufficient to meet these demands. To bridge this considerable gap, Nepal needs to explore alternative financial instruments like hybrid financing, private equity and venture capital, in addition to public-private partnerships (PPPs).

Alternative financing

With over $100 million in investments, funds such as Dolma Impact Fund, Business Oxygen (Bo2), One to Watch, True North Associates, Global Equity Fund and Prabhu Capital have demonstrated the potential for alternative financing in Nepal. Dolma has invested in sectors ranging from renewable energy to healthcare and technology, raising significant capital from international investors. The fund has made several successful exits, including in the renewable energy sector, showcasing the viability of private investment in the country. Bo2 has also facilitated investments in small and medium-sized enterprises (SMEs), highlighting how both domestic and foreign capital can achieve profitable exits in Nepal.

In addition to traditional private equity and venture capital, the non-resident Nepali (NRN) community represents an untapped resource for alternative financing. NRNs are well-positioned to contribute to development not only through remittances but also by participating in innovative financial instruments like hybrid financing and bonds.

Since their genesis in the United States in the 80s, hybrid or mezzanine financing instruments (HFI) have become widely prevalent in emerging markets. These instruments blend elements of both loans and equity. Investors and borrowers appreciate hybrid financing tools because they offer a range of options and adaptability. For example, a lender might provide a loan with a lower fixed interest rate and receive a share of the borrower’s profits.

Regulatory constraints

While HFIs offer tremendous potential, Nepal’s regulatory framework has not yet been adapted to accommodate these innovative investment structures. HFIs are widely used in other emerging markets like India and Thailand, allowing investors to ‘hedge their risks’ while providing companies with more flexible financing options.

Nepal has clear legal provisions for approving foreign investments in pure equity or straight debt form. Equity investments often involve ordinary or preference shares, while debt financing includes term loans and syndicated financing. However, there are currently no legal provisions for hybrid financing instruments that combine features of both equity and debt.

A first-of-a-kind HFI commitment by an international financial institution to a local energy company to finance hydropower has been sitting at the Nepal Rastra Bank (NRB) for nearly a year now. This situation highlights the need for a more dynamic regulatory environment that can accommodate the evolving needs of both investors and borrowers while easing requirements for exits for equity investors. Under Nepal’s Foreign Investment and Loan Management Bylaw 2078, all foreign loans require NRB approval, and there are caps on interest rates that can be charged. While these regulations aim to protect national interests, they often have the unintended consequence of discouraging foreign capital.

Approval of this innovative financing structure would open doors for more investments by foreign investors into Nepali startups ready for scaling up, benefiting many companies in need of financing.

To remain competitive in attracting foreign investment, Nepal must focus on making its regulatory environment more accommodating while building a bureaucratic structure that is fit for purpose.

Nepal’s financing gap cannot be closed by rhetoric alone. Summits and political speeches can only go so far. Proactive policy reforms, along with clear and consistent implementation are essential to attract the capital needed for large-scale development projects. Legal reforms that enable faster and more flexible approval processes, especially for hybrid financing instruments, are crucial for Nepal to achieve its development goals by 2030.