In July 2024, when Minister for Finance Bishnu Prasad Poudel began his fourth term, he announced that the Official Development Assistance (ODA) Policy would be formulated within 100 days. The policy remains incomplete even though the deadline has passed. However, the draft of the policy has been shared with stakeholders for feedback. The timeline for finalizing the new ODA framework remains uncertain. Officials involved in its drafting are likely considering global developments—particularly the implications of Donald J Trump's return to the US presidency. In January, President Trump ordered a 90-day pause on all foreign aid to conduct a comprehensive review to ensure that projects funded by US taxpayers align with his “America First” policy.

With the US government questioning the rationale behind USAID's global assistance, discussions have intensified in Nepal regarding the pros and cons of foreign aid. Critics argue that a significant portion of aid is absorbed by administrative costs and the salaries of aid officials, rather than being directed toward intended projects. Others contend that Western aid has, at times, exacerbated internal divisions in Nepal, particularly along religious and ethnic lines.

Against this backdrop, the finance ministry is working to draft a new ODA policy. The evolving global aid landscape, marked by declining traditional aid flows and the growing importance of private sector involvement, has underscored the need for greater policy clarity in mobilizing development assistance. Strengthening the role of the private sector in the development process has also become increasingly important, especially as traditional aid diminishes in both volume and impact. Nepal’s impending transition to a developing country in 2026 will further change the aid landscape. As per capita income rises, the country will face reduced grant aid, less favorable terms for concessional loans and higher costs for assistance. These changes necessitate a more strategic and selective approach to mobilizing development assistance.

Two Decades of Foreign Aid Policy

Nepal’s journey to formalize its foreign aid policies began in 2002 with the introduction of its first official foreign aid policy. Before this, the absence of a structured framework led to a widespread perception that donor agencies largely dictated aid priorities and conditions, often sidelining Nepal’s national interests. Critics argued that foreign aid provided limited benefits, as a significant portion of the funds flowed back to donor countries through high consultancy fees and procurement requirements. As a result, many donor-driven projects and institutions struggled to sustain themselves, often becoming ineffective or shutting down once funding ceased.

As Nepal worked to develop its first foreign aid policy, global discussions at the time emphasized two key principles: alignment and harmonization. There was growing recognition that aid programs lacking genuine national ownership were prone to mismanagement and often benefited only a small elite rather than the broader population.

In response to these global trends, Nepal introduced the 2002 Foreign Aid Policy, which focused on improving aid alignment and effectiveness. The policy advocated for the use of loans for infrastructure and revenue-generating projects, while directing grants toward social sectors such as education and health, where immediate financial returns were less feasible.

Over the years, Nepal’s approach to foreign aid management continued to evolve. The 2002 policy was eventually replaced by the Development Assistance Policy 2014, which was later revoked in favor of the International Development Assistance Mobilization Policy of 2019. Now, as Nepal adapts to changing global and national contexts, the finance ministry is preparing to introduce a new policy, marking yet another shift in the country’s foreign aid strategy.

For Greater Alignment and Impact

The draft of the ODA Policy outlines a strategy to enhance the effectiveness and impact of development aid by aligning it more closely with the country’s national systems and priorities. A central focus of the policy is to strengthen joint accountability between Nepal and its development partners to ensure that aid supports the country’s long-term development goals.

Given Nepal’s historical challenges in utilizing development assistance effectively, the policy emphasizes a shift toward budget support, program- and project-based aid, and sector-specific assistance. It also aims to mobilize aid more strategically by fostering private sector growth and attracting private capital investment. Recognizing the growing importance of climate finance, the policy prioritizes maximizing Nepal's access to international funds while adhering to the principles of climate justice. Another key priority is addressing national capacity gaps with a focus on utilizing pre-selected technical assistance to fill expertise shortages. In-kind aid will be allocated based on Nepal's specific needs and priorities. During emergencies, the policy outlines a plan for the swift mobilization of disaster and humanitarian assistance to targeted regions.

Additionally, the policy stresses the importance of strengthening international partnerships to advance development efforts. It seeks to manage aid provided through non-governmental organizations transparently to ensure that resources are directed toward areas that align with Nepal’s national priorities. Through these measures, the ODA Policy aims to establish a more efficient, sustainable and nationally-driven approach to development assistance.

Financing in Post-Trump Era

The global landscape of Official Development Assistance (ODA) has changed significantly since Trump’s return to power. His administration’s “America First” policy brought a dramatic shift in how the US approached foreign aid, departing from the traditional strategies that had long supported countries like Nepal. Following the US lead, the United Kingdom also announced cuts to its foreign aid budget in favor of prioritizing defense spending. While some European countries have maintained their ODA commitments, there is growing pressure to reassess aid strategies in response to evolving domestic and geopolitical conditions.

Historically, the US and the UK have been among Nepal’s major bilateral donors, providing assistance through USAID and UK AID Direct, respectively. Since 1951, the US government, largely through the USAID, has contributed $1.5 billion in aid to Nepal. The USAID has been a crucial partner in Nepal’s development, providing substantial support in areas like health, education, agriculture, infrastructure, economic growth, humanitarian aid, and women’s and children’s empowerment. These global shifts pose challenges for Nepal, particularly as it prepares to graduate from the LDC status. This transition will likely result in a decline in grants and an increased reliance on loans, often at higher interest rates.

Despite these changes, experts believe the Trump administration's decision to cut foreign aid will not significantly impact Nepal's budgetary support. "Since the USAID had been providing support to Nepal through off-budget allocations, the withdrawal of support will not halt any projects in Nepal," said Rameshore Khanal, a former finance secretary.

According to the Development Cooperation Report for the fiscal year 2021/22 published by the Ministry of Finance, USAID funds were entirely off-budget. Dhani Ram Sharma, chief of the International Economic Cooperation Coordination Division at the finance ministry, said that the government is evaluating the impact of USAID-funded projects across various sectors. "However, their support was completely off-budget," he added. “The foreign aid policies of donor countries are subject to change, especially with US policies influencing these shifts. Our new policy also aims to prioritize Nepal’s needs and priorities when mobilizing assistance."

As the global ODA framework continues to evolve following Trump’s return to power, it is necessary for Nepal and other developing nations to adapt to a new reality in which aid is no longer a guaranteed safety net. "The USAID's withdrawal should not be a cause for concern," said Krishna Gyawali, a former government secretary. "Historically, USAID’s contributions focused primarily on health, governance, human rights promotion and post-federalism effectiveness through technical assistance, rather than investment projects. Its absence will not significantly hinder Nepal’s development. Instead, this should serve as a learning opportunity for us."

Nepal must also exercise caution when accepting foreign aid, given its strategic location between two economic giants. In Khanal’s view, foreign aid is increasingly influenced by geopolitical competition. "Several countries offer assistance as part of efforts to maintain geopolitical balance. When such offers are made, we must ensure they align with our own priorities," he added.

Impact of LDC Graduation

Nepal's dual transition - achieving Lower Middle-Income Country (LMIC) status and its upcoming graduation from Least Developed Country (LDC) status - marks a significant milestone in its development journey. However, this graduation brings both challenges and opportunities. Once a country graduates from the LDC category, the minimum grant element of Official Development Assistance (ODA) loans typically decreases unless the country remains classified as low-income. With Nepal’s ascension to LMIC status, lending conditions will become stricter, and the availability of concessional loans will diminish.

“Starting next year, when Nepal transitions from a least developed country to a developing country, a fundamental shift will take place. While we have not yet officially graduated, we are already viewed as a middle-income country. As a result, the World Bank and the Asian Development Bank (ADB) will adjust the terms of the loans we receive,” Khanal said. “We will no longer qualify for the concessional loans. Both these institutions have indicated that we will need to accept loans with higher interest rates and shorter repayment periods.” Since 2017/18, loans have become a larger part of Nepal’s ODA mix. In 2013/14, grants made up 66.4% of total ODA receipts, loans comprised 17.9%, and technical assistance (TA) accounted for 15.7%. Over time, the share of grants has steadily declined, with loans surpassing grants in 2017/18. Currently, loans represent 67% of total ODA receipts, compared to 21.5% for grants and 11.4% for TA.

Experts attribute the rise in loans to Nepal’s strong debt repayment capacity. The ADB and the World Bank consider a country's debt distress classification when determining the proportion of grants. However, as Nepal increasingly relies on loans, its external debt has grown steadily. A recent study by South Asia Watch on Trade, Economics and Environment (SAWTEE), a Kathmandu-based think tank, shows Nepal’s current external loans, primarily from the World Bank’s IDA and ADB, carry low interest rates and long repayment periods. “However, as Nepal moves from low-income to LMIC status and is set to graduate from the LDC group in 2026, a reduction in the concessional nature of these loans could impact the sustainability of Nepal's external debt,” it added.

The study titled Political Economy of Debt also highlights that development cooperation will be affected by Nepal's graduation. “As countries like Japan, South Korea and Germany use LDC status to shape their ODA policies, Nepal’s transition will likely result in higher interest rates and shorter repayment periods for loans from these nations. Germany will also gradually shift from grants to loans for non-LDC countries,” the report states. Japan’s loans currently make up 4.8% of Nepal’s total external debt. After Nepal’s graduation and the change in income status, the country is expected to face higher interest rates on loans from this Asian nation. Similarly, loans from South Korea are likely to carry higher interest rates post-graduation. LDC graduation will also reduce Nepal’s access to the UN system budget and dedicated funding sources for technical assistance and capacity-building, such as the Technology Bank, the LDC Fund (for climate change) and the Enhanced Integrated Framework. “LDC graduation is expected to have a modest impact on Nepal’s development cooperation assistance,” the study concludes.

Nepal’s graduation from LDC status and its rising income level, which is approaching the concessional loan threshold, could alter the concessional nature of its ODA receipts in the coming years. This change is expected to result in higher borrowing costs which will impact the country’s public debt situation. “Once Nepal graduates, it will no longer receive grants at the same levels as before. The volume of grants will decrease, while loans will increase. Additionally, interest rates will rise,” Sharma said. He cited the example of a loan from the Japan International Cooperation Agency (JICA) for the construction of the Nagdhunga-Naubise Tunnelway. JICA, which initially provided a concessional loan of Rs 16 billion at an interest rate of 0.2% for 40 years, recently raised the interest rate to 1.9%.

Sharma noted that interest rates are expected to continue rising as Nepal graduates. “Multilateral loans will also come with higher interest rates. Currently, Nepal receives loans at the lowest possible rates. In the next year or two, that situation will change,” he said. The World Bank currently offers loans at an interest rate of 0.75%, while the ADB charges 1.5%. While the volume of grants will decrease, they will not disappear entirely as even wealthier nations continue to receive grant support. “For example, South Africa, despite being wealthier, still receives significant aid from the United States through USAID. Similarly, Israel continues to receive substantial strategic aid from the US. This shows that economic prosperity does not necessarily mean the end of foreign aid,” said Khanal.

Utilizing foreign assistance

While foreign aid has historically played a crucial role in Nepal's development efforts, the government's declining capacity to mobilize such aid has led to a noticeable reduction in contributions from donors in recent years.

The latest Development Cooperation Report from the finance ministry shows that aid disbursement from development partners reached a five-year low in 2021/22. During the period, development partners disbursed $1.4 billion in foreign assistance, reflecting a 17.64% decline compared to the previous fiscal year. In 2020/21, such disbursements decreased by 15.88% to $1.7 billion. Disbursements peaked in 2019/20, when the country received $2 billion from donors, but the aid received in 2021/22 was the lowest since 2017/18.

Government officials attribute this decline to the government’s inability to fully utilize the capital budget, which has led to delays in receiving reimbursements from donors. Several factors contribute to the reduction in foreign aid disbursements, including a lack of clearly defined objectives in setting target goals, significant expenditures occurring in the third quarter without adequate provisions for reimbursement within the same fiscal year, sluggish reimbursement systems, poor inter-agency coordination, and the initiation of projects without sufficient preparation for implementation.

The poor utilization of aid in Nepal is a serious concern, with experts warning that many projects are driven by political interests rather than national priorities. “Instead of being driven by national interests, many projects have been government-driven or even politically motivated, leading to ineffective aid utilization and policy inconsistencies. This has contributed to aid fragmentation, despite the inclusion of aid tracking mechanisms within the ministry’s policies,” said Gyawali. “Whether in the form of grants or loans, foreign aid is meant for Nepal's development. But the resources are being wasted.” One glaring example of misused assistance is the World Bank-funded Prime Minister Employment Program. Operational since 2018/19 and supported by the World Bank loan of Rs 16.11 billion, the program has been criticized for being used to provide employment to local political party cadres, with reports of menial tasks such as weeding and gardening.

A former Nepali bureaucrat told New Business Age that political instability and a culture of corruption have forced Nepal to accept donor-driven projects instead of identifying its own needs and priorities. In the first six months of the current fiscal year, aid utilization from the ADB was the lowest at just 9.36%, while JICA’s was at 10.63%. Although a monitoring mechanism led by the finance ministry is mandated to oversee assistance, it has largely remained dormant. Aid tracking and evaluation must be continuous processes rather than one-time events, say experts.

The policy requires relevant ministries to have dedicated divisions overseeing development assistance to ensure proper coordination and effectiveness. Unfortunately, these divisions have not worked closely with the International Economic Cooperation Coordination Division within the finance ministry. These divisions should also strengthen ties with the Ministry of Foreign Affairs, the Office of the Prime Minister and Council of Ministers, and the Ministry of Law, Justice and Parliamentary Affairs.

According to Gyawali, the controversy surrounding the Millennium Challenge Corporation (MCC) agreement highlights these coordination failures—ministries lacked in-depth discussions, and even the law ministry did not thoroughly scrutinize the document which created unnecessary political disputes. Sujeev Shakya, Chairperson of the Nepal Economic Forum, said that Nepal has struggled to utilize its budget effectively due to poor management of both domestic funds and foreign aid. “In infrastructure development, political interference often dominates, with party leaders in municipal governments controlling projects. Improving infrastructure, such as the road to the Tatopani border, would challenge this status quo,” he said. “A transformation in how we think about and approach infrastructure development is necessary. Nepal should draw inspiration from infrastructure successes in countries like China, India and Vietnam.”

Time for Commercial Loans?

When Nepal introduced its first foreign aid policy in 2002, aid played a much larger role in the economy, according to multiple experts. “Now, with an economy valued at $44 billion, aid constitutes less than 5% of GDP. Given this shift, we must question our continued reliance on external aid for a developing economy,” said Shakya. As the size of the economy and its spending capacity have grown, Nepal must prioritize its needs and focus on projects that the government can finance independently, rather than constantly seeking external assistance.

Khanal argues that excessive reliance on grants raises concerns about Nepal’s self-sufficiency. Similarly, Shakya believes Nepal should stop automatically seeking grants whenever challenges arise and start viewing loans as viable alternatives. “This shift in mindset is crucial for fostering long-term development,” he added. Shakya pointed to the Tatopani border crossing as an example of underutilized potential. Although the crossing generates around Rs 23 billion in taxes annually, the government has not invested in constructing an all-weather road that would cost no more than Rs 1 billion.

“Instead of turning to donors for every small project, we must begin utilizing our own resources more effectively. Despite having a substantial development budget, Nepal struggles to spend even 40% of it efficiently. How can we justify requesting foreign aid if we cannot manage our own resources properly? These factors must be central to any new development policy,” said Shakya. The 2019 Foreign Assistance Policy does not explicitly provide for securing commercial loans from the international financial market. While the policy mentions selectively taking such loans, Nepal has yet to pursue this option in practice.

“Perhaps it is time to take the bold step of securing commercial loans. On one hand, we need funding for large-scale projects, but grant funding is becoming increasingly scarce. At the same time, we must ensure that any loans we take are on our terms. Given these circumstances, we should be prepared to engage with the international financial market for commercial loans,” said Khanal. “When evaluating a project, the cost of funds is less important than the return on investment. If a project yields a 40% return, a 35% cost of funds is not a major concern. What truly matters is the rate of return on the investment, not the cost itself.”

Khanal added that investment decisions should not be driven by political rhetoric alone, without a proper assessment of economic and financial returns. “If a project has a strong economic rate of return, even a slightly expensive loan can be justified if the long-term benefits are substantial and contribute to Nepal’s economic growth,” he said, cautioning: “While loans can be justified for high-return projects, Nepal should not take commercial loans without careful consideration.”

With the rising cost of foreign assistance, the new policy emphasizes being more selective. “Previously, when the grant amount was higher, we didn’t have to be as selective. But now, as loans increase, we must be more cautious in our choices. There have been instances where projects couldn’t be implemented within the stipulated time and cost due to delays in preparing implementation plans, even after development assistance agreements were made. Now, we must be selective,” said Sharma.

Balancing Geopolitical Interests

Nepal's strategic location between two global giants, India and China, positions it as a focal point of geopolitical interest. As a developing nation reliant on foreign assistance, Nepal must carefully navigate these competing influences to safeguard its sovereignty and ensure long-term development. Recent experiences, such as the Millennium Challenge Corporation (MCC) grant from the United States and China’s Belt and Road Initiative (BRI), laid bare Nepal's struggle to maintain a balanced approach in its foreign engagements.

Foreign aid is increasingly shaped by global geopolitical competition, with various countries offering assistance as part of efforts to maintain regional influence. China’s BRI focuses on strengthening trade relations and promoting long-term trade expansion, while India’s Look East Policy emphasizes improving trade logistics and developing both land and maritime routes.

“Historically, Nepal’s key priorities in its relationship with India have been trade connectivity, energy connectivity and digital connectivity. Indian Prime Minister Narendra Modi outlined these three pillars—Highways, Informationways and Transways—during his 2014 visit to Nepal, highlighting their importance in boosting bilateral trade and advancing India’s economic interests,” said Khanal. Western countries have reshaped their development policies in response to China’s BRI, placing a stronger emphasis on infrastructure investment. The MCC grant, for example, differs from traditional USAID support, which focuses on sectors like education and healthcare. It prioritizes large-scale infrastructure projects, including roads, power infrastructure and urban development. Going forward, infrastructure development will remain a central focus for both donor and recipient countries. “For donor nations, investing in hard infrastructure—such as roads and transmission lines—directly supports their own trade expansion, rather than merely providing aid for social sectors. In the case of India and Nepal, India’s growing willingness to cooperate on international transmission lines is tied to electricity trade, a critical area of infrastructure investment,” said Khanal.

According to Khanal, donors often expect some level of cooperation from recipient countries in international affairs. “For example, if a candidate from the donor country is nominated for a senior position at the World Bank, they may expect Nepal’s vote in support. In some cases, aid is also influenced by national security or commercial interests, such as encouraging the recipient country to purchase goods, hire consultants or engage in trade with the donor nation," he explained. As other nations adjust their aid strategies in response to shifting global priorities, Nepal must reassess its approach. Historically, Nepal has often overlooked the potential of assistance from its neighboring giants, India and China, despite both countries providing aid in various forms.

“Given Nepal’s geographic proximity to these rising powers, it is time to redefine how it engages with foreign assistance. The focus should not be on fulfilling the strategic interests of donor nations, but on ensuring that foreign investments align with Nepal’s development priorities,” Shakya said. “While managing these competing interests presents a geopolitical challenge, Nepal must adopt a coordinated and strategic approach to maximize the benefits of foreign aid without compromising its sovereignty.”

Nepal’s ability to navigate the complex landscape of foreign aid will depend on its capacity to balance competing geopolitical interests while prioritizing its own development goals. By adopting a strategic and coordinated approach, Nepal can leverage foreign assistance to drive sustainable growth, strengthen its sovereignty and ensure that external support aligns with its long-term vision for development. This will require not only policy reforms but also a clear understanding of the geopolitical dynamics shaping the global aid landscape.

***

From Aid Dependence to Strategic Financing

Return is a critical factor in any investment project. When evaluating a project, the return is more important than the cost of funds. What truly matters is the rate of return on the investment, not just the cost

Rameshore Khanal

Before 2002, Nepal lacked a written foreign aid policy, leading to a widespread notion that foreign aid was largely dictated by the priorities and conditions set by donor agencies, with Nepal’s own national needs often sidelined. Many argued that foreign aid failed to deliver significant benefits to the country, pointing out that a sizable portion of aid money flowed back to where it came from through high consulting fees and procurement contracts. Weak domestic ownership further undermined the effectiveness of aid programs, as projects and institutions established with foreign assistance often became unsustainable or collapsed once funding ended.

When the government began drafting its first foreign aid policy, global trends at that time highlighted two key principles: aid alignment and harmonization. There was a growing recognition that aid initiatives lacking genuine national ownership were prone to misuse, often benefiting only the powerful elites rather than the wider population. In the case of loan-based aid, recipient countries often faced mounting burdens, sometimes leading to capital flight, as seen in poorly governed nations where elites syphoned off aid money to foreign banks. As heavily indebted nations struggled to repay loans, international movements advocating for debt cancellation gained momentum.

Following initial discussions in Rome, the Paris Declaration was adopted in 2005, outlining key recommendations. It stressed the importance of aligning foreign aid with the national priorities of recipient countries, empowering them to set their own development goals. The declaration also aimed to reduce inefficiencies caused by multiple donors supporting the same initiatives with separate missions and reporting requirements, which often burdened recipient agencies. To address this, it promoted standardized reporting, sector-wide approaches and pooled funding mechanisms—marking a significant step forward in aid coordination.

Subsequent meetings in Nairobi and Busan reinforced the principles of the Paris Declaration, further promoting alignment and harmonization. Additionally, developed countries committed to allocating 0.7% of their Gross Domestic Product (GDP) as aid to poorer nations. While some countries, such as the United Kingdom, exceeded this target, the United States—despite being the world’s largest aid provider—has yet to meet the 0.7% benchmark.

Nepal’s 2002 Foreign Aid Policy

In response to global trends, Nepal’s 2002 Foreign Aid Policy was designed around the core principles of aid alignment and effectiveness. The policy prioritized the use of loans for infrastructure and revenue-generating projects, while grants were preferred for social sectors like education and health, where immediate financial returns were limited. Efforts were also made to minimize debt accumulation in these sectors.

The policy also introduced fundamental changes to improve aid transparency, particularly concerning funds channeled through international NGOs. Before 2002, multilateral donors and INGOs provided assistance to countries like Nepal through Official Development Assistance (ODA) funds from OECD member countries, which included a mix of grants and loans. Nepal advocated for ODA to be channeled through the government, which would then determine how to engage NGOs. This approach reinforced the requirement that official foreign aid should be integrated into the government system—both on-budget and on-treasury.

At that time, only about 50% of foreign aid was on-budget. However, following the implementation of the new policy, this figure increased to 72%. Despite this progress, around 22-23% of foreign aid remains off-budget even today. Off-treasury aid, where donors make payments directly rather than through the government treasury, is even more widespread. While off-treasury aid is not inherently problematic—since it can streamline payments, such as under the World Bank and the Asian Development Bank’s direct payment mechanisms—off-budget aid raises transparency concerns because it undermines government financial management.

The 2002 Foreign Aid Policy thus established the principles that aid received by the government should be routed through the treasury to ensure public accountability and oversight through official monitoring mechanisms. This marked a significant step forward in enhancing the effectiveness and transparency of the country’s foreign aid management.

Foreign Aid Policy Revisions

To further strengthen these principles, Nepal's foreign aid policy underwent revisions in 2014 and 2019, with a new policy currently in development. The 2019 revision was particularly significant as it aligned with Nepal’s transition to fiscal federalism, establishing clearer procedures for provincial and local governments to access foreign aid. Additionally, the revision addressed emerging global concerns, such as accessing green finance, utilizing blended financing mechanisms, encouraging private-sector participation in aid projects and leveraging private-sector resources for large-scale development initiatives.

While Nepal has not fully adopted blended financing with the private sector, the government has expanded access to multinational financial institutions through cooperative approaches, even without providing sovereign guarantees. Some private-sector entities have already secured loans from organizations such as the International Finance Corporation (IFC) and the private-sector window of the Asian Development Bank.

Blended financing, which involves mobilizing funds from international financial markets - particularly through green finance and climate change funds, has become increasingly relevant to address Nepal’s evolving development financing challenges.

Impact of LDC Graduation

Before the end of 2026, Nepal is set to graduate to developing country status. This transition will have some impact on the size and modality of our foreign aid. Concessional loans will gradually diminish and Nepal’s cost of borrowing will go up. Grant aid will also be affected. In the past, Nepal received grant aid even from multilateral development banks, and loans from these institutions, as well as bilateral sources, included concessional elements of up to 49%.

With graduation, the availability of such concessional loans will narrow In this context, Nepal should avoid over-reliance on grants. The international community increasingly views Nepal as a country on the brink of economic graduation, and excessive dependence on aid could perpetuate the perception that the nation is not yet self-sufficient. That said, grants continue to flow for various strategic reasons, even to nations far more prosperous than Nepal.

Moving Toward Commercial Loans?

Even in the 2019 International Development Cooperation Policy, there is no clear provision for openly securing commercial loans from the international financial market. While the policy mentions "selectively taking" such loans, Nepal has not yet pursued this window for public investments.

With the new International Development Policy in the works, perhaps it is time to take the bold step of mobilizing commercial loans to finance high-priority strategic infrastructure projects. However, it is crucial to ensure that any loans taken are favorable terms and contribute to the nation’s economic prosperity.

Returns Matter More Than Costs

Return on investment is a critical factor in any project, and foreign aid is fundamentally intended to serve investment purposes. While the cost of funds is an important concern, it should not be the sole deciding factor. What truly matters is whether the economic returns from the project exceed the cost of financing. For example, if a project yields a 20% annual return, then a 10% cost of funds may also not be considered too high. The focus should always be on the rate of return, not the cost.

In public infrastructure projects, the financial rate of return (FIRR) is not the only metric that matters. The Economic Internal Rate of Return (EIRR) is often more significant. If a project has a slightly lower FIRR but a high EIRR, and it positively impacts society, the private sector and overall economic growth, concerns about the cost of funds become secondary.

However, investment decisions must not be driven by political rhetoric alone. Projects should not be pursued simply because donors support them or for political reasons without a proper assessment of their economic and financial viability.

If a project demonstrates a strong economic rate of return, even a slightly higher-cost loan can be justified if the long-term benefits are substantial and contribute to Nepal’s economic growth. In such cases, the exact interest rate or cost of the loan becomes less critical. That said, this does not mean commercial loans should be taken without careful consideration. A thorough evaluation is always necessary.

Navigating a Win-Win Relationship

Utility is a fundamental concept in economics, present in every transaction. When Nepal receives foreign aid or takes out loans, the relationship is similar to a borrower taking a loan from a bank. Donors do not provide funds selflessly; they have strategic interests and expect benefits in return. Whether it’s alignment with their national interests, security concerns or trade advantages, donors anticipate some level of reciprocity.

The key is to ensure that while fulfilling donor interests, Nepal also safeguards its own. This is what economists refer to as a 'win-win situation.' In every transaction, Nepal must negotiate effectively to achieve mutually beneficial outcomes. It would be naïve to expect foreign financial assistance to come without expectations.

There have been instances where geopolitical concerns affected foreign aid commitments. For example, when King Gyanendra Shah assumed absolute control of the government in 2005, Western donor countries suspended assistance, citing concerns over democratic principles. Sweden withdrew its support entirely, including funding for the Melamchi Water Supply Project. However, Nepal reallocated funds, supplemented them with domestic resources and successfully completed the project. The same resilience was shown in the Sikta Irrigation Project, where initial donor support from the World Bank, the European Union and the Saudi Fund was withdrawn. Nonetheless, the government pressed ahead using domestic resources.

Geopolitical Considerations in Foreign Aid

Foreign aid is increasingly shaped by geopolitical competition. Many countries offer assistance as part of their efforts to safeguard strategic interest. When such offers are made, Nepal must ensure they align with our own national priorities.

China’s Belt and Road Initiative (BRI), for example, prioritizes strengthening trade relations and fostering long-term trade expansion. India’s Look East Policy focuses on improving trade logistics and developing both land and maritime routes. Historically, Nepal’s primary priorities in its relationship with India have been trade connectivity, energy connectivity, and digital connectivity. During Indian Prime Minister Narendra Modi's 2014 visit to Nepal, he referred to these three pillars as HIT (Highways, Informationways, and Transways). These initiatives aim to enhance mutual trade while advancing collective interests.

In response to China’s BRI, Western countries have also ramped up infrastructure investment efforts. The Millennium Challenge Corporation (MCC) of the US government diverges from the traditional USAID projects by focusing on large-scale infrastructure like roads, power and urban development.

For recipient countries like Nepal, infrastructure development remains a key priority for economic growth. For donors, investing in hard infrastructure supports their own trade expansion, as seen India’s cooperation with Nepal on trans-border transmission lines for electricity trade.

Balancing Transparency and Regulation

Official development assistance is generally transparent, making it difficult to conceal its terms. However, misunderstandings can still lead to disputes. For example, the MCC agreement explicitly stated that Nepal’s Auditor General has the authority to audit MCC-related expenditures. Similarly, Nepal’s agreements with other countries ensure that international law governs any disputes.

In contrast, Private Development Assistance (PDA) often lacks transparency. In some cases, PDA may indirectly infiltrate government channels, leading to inefficiencies. Globally, unregulated PDA has been linked to disorder, highlighting the urgent needs for oversight. Just as efforts were made before 2002 to make ODA more transparent and aligned with national priorities, a similar approach must now be applied to PDA.

That said, some private initiatives, like GAVI’s work in Nepal, have made significant contributions. GAVI operates as a hybrid, blending PDA and ODA, with funding from governments, UN agencies, the World Bank and the Gates Foundation. Currently, PDA accounts for about a quarter of ODA, and this share is growing. With the rise in global wealth, more individuals may step forward with private development assistance. However, their involvement may come with underlying interests that do not always align with national priorities. Nepal must remain vigilant to ensure that such assistance serves genuine development goals.

(Khanal, a former finance secretary, currently leads the High-Level Economic Reform Commission.)

***

The End of Aid Dependency

As Nepal prepares to graduate from LDC status by 2026, it must realign its foreign aid policies, prioritize strategic investments, and embrace a trade- and investment-driven growth model to secure sustainable development and longterm prosperity

Sujeev Shakya

Nepal is set to graduate from Least Developed Country (LDC) status by 2026, marking a significant shift in its development trajectory. To prepare for this transition, Nepal must reassess its foreign aid policy and develop strategies to navigate the changing global landscape effectively. One of the key considerations is understanding the evolving strategies of Nepal's donors. For example, while USAID has temporarily suspended its assistance, it will not be fully stopped as it will emerge through different routes like the UK and Australia —it will continue in some capacity. It is essential to examine the scope and nature of this continued support.

While other nations are reorienting their priorities due to geopolitical shifts, our major donors in Europe have reorganized their approaches as well. In addition, Nepal has often overlooked the potential of assistance from neighboring countries like India and China. Both nations have been providing aid, but given our geographic proximity and their growing influence in the global arena, Nepal must reevaluate how it engages with them. The focus should not be on what these nations want, but on what Nepal needs. India and China must align their investments with our development priorities. While this presents a geopolitical challenge, it is essential to manage their contributions in a coordinated and integrated manager that serves Nepal's long-term interests.

Another pressing issue is the need for an exit strategy from foreign aid. Looking at Nepal's economic evolution, we see that, in 2002, aid played a more significant role in our GDP. Fast forward to 2025, with an economy valued at $44 billion, aid now constitutes less than 5% of GDP. Given this shift, we must question the reliance on external aid for a developing economy. It is time for Nepal to move beyond automatically seeking grants for every challenge that may arise and consider equity investments and loans as viable alternatives. This shift in mindset is crucial for fostering long-term development. We need to start allowing Nepalis to raise capital from international markets through bonds and different financial instruments.

Furthermore, we need to make investments commensurate with trade. Take, for instance, the Tatopani border crossing, which generates around Rs 23 billion in taxes annually. Why cannot we invest in building an all-weather road to Tatopani? It should not cost more than Rs 10 billion. Why not allocate Rs 3 billion annually to complete this project? Instead of turning to donors for every small project, we must learn to utilize our own resources more effectively. Despite having a substantial development budget, Nepal struggles to spend even 40% of it efficiently. How can we justify seeking foreign aid if we cannot manage our own resources effectively? These factors must be central to any new development policy.

Post-graduation, Nepal’s foreign aid will increasingly be investment and trade-related. If an American, British, or German company is operating in Nepal and seeking to expand its activities, these countries may provide some support to facilitate its presence here. Multilateral agencies like the World Bank and ADB will continue to provide loans, with some assistance directed toward studies and support systems related to the loans. However, traditional UN assistance will decrease as the global structure of the UN evolves.

Loans will become a larger component of Nepal’s foreign assistance portfolio, as international agencies transition to a more loan-based model. Even the UN is also shifting toward a new funding structure. In this context, Nepal's foreign aid policy must align with two key perspectives: global trends and the post-2026 reality. Nepal is not a small economy—it is valued at $44 billion. The issue lies not in resources, but in how effectively they are managed. Nepal has the funds, but our spending efficiency and resource management remain significant hurdles. We need better mechanisms to handle these funds, especially considering that countries like India are already scaling back on aid. Nepal must pivot from aid dependency to a focus on investments and trade.

Despite its economic size, Nepal struggles to utilize its budget effectively, largely due to poor management of both domestic funds and foreign aid. In the infrastructure sector, political interference often dominates, with party leaders in municipal governments controlling projects. Improving infrastructure, such as the road to the Tatopani border, would challenge this status quo. A transformation in how we think about and approach infrastructure development is necessary. Nepal should draw inspiration from infrastructure successes in countries like China, India and Vietnam.

The global aid architecture is undergoing a shift. The post-Bretton Woods system, which was initially designed to address extreme poverty, is now giving way to a new focus on re-globalization. Countries are now striving to maintain economic dominance and secure access to markets and resources, as seen in regions like Germany, India and China, as well as emerging tourist destinations like Vietnam and Thailand. The question for Nepal is how to adapt to this evolving global structure and changing world order. Think tanks and research institutions should play a key role in studying and addressing these shifts. However, Nepal currently lacks such institutions, making the establishment of a dedicated think tank an urgent priority.

Given the unpredictable nature of recent global developments, Nepal must prioritize evidence-based decision-making and long-term planning. After 2026, the private sector is expected to take on a more prominent role in borrowing and investing, as it manages its own resources and status. Nepal must develop a foreign aid policy that reflects these new realities, shifting the focus from dependence on aid to embracing opportunities for investment, trade and sustainable development.

(Shakya leads beed Management, a Nepal based international management consulting and advisory firm founded in 2008. He also heads Nepal Economic Forum, a Kathmandu-based think tank.)

***

From Dependency to Investment

Private investment and trade must become key pillars of Nepal’s ODA strategy

Krishna Gyawali

Nepal's official development assistance (ODA) policy, first introduced in 2002, has evolved over time to adapt to changing global and domestic circumstances. Structured around five-year terms, the policy requires periodic amendments to align with changing priorities. Over the years, the global political landscape has changed significantly, with the rise of new economic powerhouses. For instance, under President Donald Trump's administration, the US government adopted a more stringent stance on foreign aid, initially imposing a three-month hold that now appears to signal a more prolonged suspension.

Despite these changes, the core objective of development assistance remains unchanged. When Nepal first formulated its ODA policy in 2002, the government emphasized that foreign aid should align with national priorities and needs. A pivotal moment came in 2005 with the adoption of the Paris Principles on Aid Effectiveness, which introduced five key tenets: national ownership, alignment, harmonization, mutual accountability and results orientation. These principles continue to be relevant today. Development financing is essential for Nepal’s progress. With domestic resources insufficient to meet the country’s infrastructure demands, foreign aid plays an indispensable role. Even after Nepal graduates from the Least Development Country (LDC) status, external development financing will still be required to support economic growth.

While the principle that assistance should be guided by national priorities is well understood, the government has struggled to define these priorities clearly. Current policy guidelines stipulate that loans should be directed toward physical infrastructure development, while grants should focus on social sectors such as health, education, drinking water and nutrition. Technical assistance, on the other hand, should be accepted only in areas where it is genuinely needed and avoided where it is redundant.

To address inefficiencies, the government has decided against accepting small-scale technical assistance projects, citing high operational costs and limited impact. However, in practice, Nepal has often failed to effectively communicate its priorities to donor nations and organizations. Instead of being driven by national interests, many projects have been government-driven or even politically motivated, leading to ineffective aid utilization and policy inconsistencies. This has contributed to aid fragmentation, despite the inclusion of aid tracking mechanisms within the Ministry of Finance’s policies.

Although a monitoring mechanism, led by the Minister for Finance, is mandated to oversee development assistance, its meetings and activities remain largely absent. For aid to be effective, tracking and evaluation must become continuous processes rather than one-time events. Additionally, relevant ministries need dedicated divisions to oversee development assistance, ensuring proper coordination and effectiveness. Unfortunately, these divisions have not collaborated closely with the International Economic Cooperation Coordination Division within the finance ministry. Strengthening ties with the Ministry of Foreign Affairs, the Office of the Prime Minister and Council of Ministers, and the Ministry of Law, Justice and Parliamentary Affairs is also essential. The controversy surrounding the Millennium Challenge Corporation (MCC) agreement highlighted these coordination failures. Ministries lacked in-depth discussions, and even the law ministry did not thoroughly scrutinize the document, leading to unnecessary political disputes.

Looking ahead, Nepal must redefine its foreign aid strategy to align with its evolving needs, whether in the form of grants or loans. As the country transitions beyond LDC status, it will increasingly rely on loans rather than grants. This shift is acceptable provided that Nepal prioritizes investments in projects with long-term economic returns. The focus must now shift toward investment and trade, with foreign aid viewed as one component of a broader external financing strategy that explores alternatives beyond traditional ODA. Private capital will be instrumental in external financing. As Nepal's creditworthiness improves, the country will be better positioned to attract capital from international markets. Encouraging investment from business leaders in developed economies should be a priority. External financing must, therefore, encompass trade and investment rather than being limited to loans, grants and technical assistance.

Technical assistance also requires reassessment. In the past, Nepal relied heavily on external expertise for project implementation, documentation, monitoring, evaluation and financial oversight. While multilateral agencies provided vital support in these areas, Nepal now possesses the necessary expertise to handle such tasks independently.

(Gyawali is a former government secretary.)

(This news report was originally published in  March 2025  issue of New Business Age Magazine.)