Nepal-India Economic Connectivity: Prospects and Challenges

Executive Summary

This report summarizes the CESIF seminar on Nepal-India Economic Connectivity held on May 20, 2026. Bilateral cooperation has expanded in energy, trade infrastructure, and digital payments. However, weak state preparedness and policy bottlenecks hold back Nepal's strategic growth. To capitalize on these opportunities, Nepal must shift from political slogans to technical, result-oriented bilateral negotiations. The report outlines key sectoral challenges and provides a prioritized action plan for the government.

Top 5 Key Takeaways

The Energy Commercial Window: Hydropower exports are a major strategic asset for Nepal, but the commercial window is time-bound. As India rapidly builds cheap solar power and battery storage, Nepal must accelerate project construction before storage costs drop below hydro import rates.
The Scale of Informal Trade: Nepal's shadow economy represents 51% of its Gross Domestic Product (GDP), driven by slow and costly formal customs procedures. Arbitrage gaps of 28 Nepalese Rupees (NPR) per liter for diesel and 35 NPR per kg for sugar make informal trade lucrative.
Digital Payment Barriers: The cross-border digital payment corridor between India's Unified Payments Interface (UPI) and Nepal's Fonepay has processed 1.8 million transactions. However, it suffers from a lack of two-way payment reciprocity and high Merchant Discount Rate (MDR) fees of 1.95%.
High Travel & Tourism Costs: While India is Nepal's largest tourism source, growth is restricted by poor road conditions and uncompetitive flight costs. Easing airport customs jewelry clearance for high-value destination weddings (budgets starting at 3.2 Crore NPR) is a major untapped opportunity.
Proactive Technical Negotiation: With severe bilateral trade asymmetry, Nepal represents only 0.13% of India's imports, leaving India with little incentive to prioritize minor trade issues. Nepal must be the proactive partner, preparing and submitting detailed technical proposals to drive the bilateral agenda.

1. Context and Opening Remarks

The Centre for Social Innovation and Foreign Policy (CESIF), Nepal, hosted a seminar on Nepal-India Economic Connectivity on May 20, 2026, in Kathmandu. The event brought together policy makers, private sector leaders, diplomats, and researchers to examine the practical aspects of bilateral economic ties.

The seminar opened with a discussion on the changing global economic environment. Strategic competition, new infrastructure networks, and concerns over economic security now shape international relations. For a country situated between two large economies, Nepal must look beyond traditional diplomatic slogans. It needs to focus on practical, technical, and result-oriented economic strategies.

While India is Nepal's largest trading partner, main transit route, and a key source of foreign investment, the relationship has expanded. Over the past decade, bilateral cooperation has grown to include:

Hydropower exports and cross-border power transmission lines.
Integrated Check Posts (ICPs) and petroleum pipelines.
Cross-border railway links and digital payment systems.
Tourism and private sector exchanges.

However, key bottlenecks continue to slow down progress. To guide the discussion, the opening remarks put forward four main questions.

What structural, policy, and logistics obstacles hold back Nepal's economic growth, and how can Nepal resolve them?
How can Nepal attract more Indian Foreign Direct Investment (FDI) and help Nepali businesses benefit from India's large market?
Which areas of economic connectivity should Nepal prioritize in the short, medium, and long term?
How can Nepal best use new opportunities in energy trade, digital payments, and regional supply chains?

2. Research Presentation Summary

Presenter: Nimesh M. Risal, Researcher

The research presentation laid out the economic background and key findings on Nepal-India connectivity.

Economic Context

Nepal's economy remains consumption-oriented and import-dependent. In the fiscal year 2024/25, Nepal's Real GDP grew by 4.6%. The services sector dominated the economy, contributing 62% of GDP, followed by agriculture at 25%, and industry at 12%. During the first nine months of the fiscal year 2025/26, Nepal recorded a trade deficit of 1.26 trillion NPR. Remittance inflows of 1.65 trillion NPR offset this deficit.

In contrast, India's economy is growing rapidly, with Real GDP growth estimated at 7.6% for the fiscal year 2025/26. India is seeing major industrial growth, driven by manufacturing policies and service sectors like IT, finance, and logistics. This growth is particularly strong in the border states of Uttar Pradesh and Bihar, which contain 25% of India's population. These states represent a fast-growing market with rising purchasing power and consumer demand.

Main Research Findings

The research showed that Nepal's main challenge is not a lack of opportunity, but weak state and institutional preparedness. The key issues identified across sectors include:

Policy and Institutional Constraints: Fragmented government agencies and overlapping roles slow down project execution. Bureaucratic delays, political changes, and inconsistent policies weaken long-term planning. Historical narratives and socio-political tensions also hinder strategic cooperation.
Bilateral Trade: High logistics costs are a major burden, consuming 28% to 35% of Nepal's GDP. Nepal's exports often rely on an unstable "arbitrage model." For example, firms import raw edible oil, process it minimally, and export it to India under tariff preferences. Trade is also held back by transport cartels, informal routes, and missing trade laws.
Energy Sector: Hydropower is Nepal's key strategic resource. Although Nepal signed an agreement in January 2024 to export 10,000 Megawatts (MW) of electricity to India over ten years, execution is slow. Overlapping institutional mandates, disputes over free energy sharing, land acquisition delays, and local coordination failures lead to cost and time overruns.
Tourism Sector: India is Nepal's largest source of tourists. However, growth is restricted by poor road conditions, mediocre service quality, and a lack of national marketing. Flights are also expensive due to a 13% Value Added Tax (VAT) on tickets.
Cross-Border Digital Connectivity: The UPI-Fonepay corridor has seen success, processing 1.8 million transactions worth 5 billion NPR between 2024 and February 2026. However, there is no payment reciprocity (Nepali digital wallets cannot easily be used in India). High Merchant Discount Rate (MDR) fees of 1.95% discourage small businesses from adopting the system. In addition, low financial literacy and poor internet access limit adoption.

3. Sectoral Analysis

3.1 Trade and Transit (Formal and Informal)

Key Arguments & Status

India is Nepal's dominant economic partner, absorbing nearly two-thirds of its formal trade. However, informal cross-border trade remains highly significant along the 1,800-kilometer open border. This informal trade is driven by price differences, tariff variations, and complex formal customs procedures. It is not limited to the Terai region. It is also active in the hilly border areas, such as Darchula, where traders travel to Delhi to buy goods for domestic markets.

Importantly, informal trade acts as a critical economic safety net for low-income border communities. Individuals transporting goods on foot can earn 700 to 800 NPR daily, while those using motorcycles can earn up to 2,500 NPR daily.

Border Realities: Sugar Price Disparity. Without informal channels, sugar prices in Nepal would rise to 150 or 160 NPR per kilogram. In border markets, sugar costs 75 to 80 NPR per kilogram on the Indian side. In Nepal, the price is 115 to 120 NPR per kilogram. Quantitative restrictions and combined tariffs create a tax of nearly 30% on formal imports. This makes smuggling highly profitable.

Logistics & Arbitrage: The Diesel Profit Loop. The price of diesel in India is about 28 NPR per liter cheaper than in Nepal. This price difference creates a strong arbitrage incentive. Transporting a single 20-liter container across the border yields an informal profit of 1,700 to 1,800 NPR.

Also, bilateral trade asymmetry is severe. Nepal relies heavily on India, while Nepal is statistically negligible to India.

Trade Flow Metric	Value / Share	Economic Implication
Nepal's Trade with India	60% to 70% of Nepal's total trade	High dependency on India
India's Imports from Nepal	0.13% of India's total imports	Negligible incentive for India to prioritize

Because Nepal's trade is statistically small, India has little incentive to solve minor trade issues. Nepal must be the proactive partner. It must prepare detailed technical proposals to drive the bilateral agenda.

Key Problems & Bottlenecks

High Logistics Costs: Logistics and transport costs consume 28% to 35% of Nepal's GDP due to poor border infrastructure and domestic transport cartels.
Preference Erosion: India is liberalizing its global trade tariffs and lowering its Most Favored Nation (MFN) rates. This shrinks Nepal's preferential tariff advantages under bilateral treaties, making Nepali exports less competitive.
Arbitrage-Based Export Models: Nepal's export growth has relied on importing raw goods, such as edible oils. Firms process them minimally and re-export them to India to exploit tariff differences. This model has low domestic value-add and is highly vulnerable to Indian policy changes.
Ineffective Import Bans: Outright import bans (such as the March/April 2024 dairy import ban) fail to protect domestic industries. Because consumer demand persists, products enter through informal channels, which deprives the state of customs revenue.
Non-Tariff Barriers: Stringent and unpredictable sanitary and phytosanitary (SPS) testing requirements for agricultural products (like fresh vegetables, tea, cardamom, and ginger) create long border delays. A single test can take 8 to 10 hours and add 8,000 to 9,000 NPR in miscellaneous costs.
Weak Institutional Memory: High staff turnover in Nepalese ministries weakens institutional memory, leading to inconsistent negotiation stances when governments change.

Key Recommendations & Solutions

Simplify Customs and Formalize Trade: Address informal trade by simplifying formal customs procedures and lowering the compliance cost of formal trade.
Rationalize Tariffs and De-Minimis Limits: Reassess and update de-minimis limits. The current limit of 100 to 200 NPR is unrealistic. Raising it would allow border households to buy basic goods legally.
Establish a Formal Fertilizer Supply Framework: Negotiate a formal government-to-government (G2G) agreement with India to import standardized chemical fertilizers. This addresses domestic supply deficits while preventing soil degradation from unregulated smuggling.
Upgrade Domestic Testing Labs: Upgrade domestic agricultural and chemical laboratories to meet international standards. Secure Mutual Recognition Agreements (MRAs) so Indian customs accept Nepalese test certificates by default.
Shift to Process-Oriented Negotiations: Treat bilateral talks as a continuous process rather than a series of single political events. Proactively draft and submit detailed technical proposals to Indian counterparts.
Address Transport Cartels: Dismantle transport cartels to lower domestic shipping costs and modernize border-crossing infrastructure.

3.2 Energy Cooperation and Power Procurement

Key Arguments & Status

Electricity trade has become one of Nepal's largest exports, generating 15 billion NPR in the last fiscal year. Nepal signed an agreement in January 2024 to export 10,000 MW of electricity to India over ten years. While India has opened its grid, power trade is a commercial activity.

The Indian energy market is shifting from buying intermittent solar energy to demanding firm, dispatchable, and scheduled renewable energy for specific hours. Hydropower is highly valued in India because it can provide this peaking power to balance solar fluctuations.

Nepal's hydropower has a time-bound commercial window. India is rapidly building cheap solar power (2.00 to 2.50 Indian Rupees (INR) per kilowatt-hour (kWh)). It is also building Battery Energy Storage Systems (BESS) at 6.00 to 6.50 INR per kWh, with prices dropping yearly. Meanwhile, Nepal sells its peaking power domestically at 10.55 NPR per kWh, and hydropower development costs are rising. Once battery costs drop further, solar + battery storage in India will be cheaper than importing peaking hydro from Nepal.

Key Problems & Bottlenecks

Fragmented Institutional Mandates: Responsibility for managing power trade is split across multiple ministries and departments, with no single agency holding clear authority.
Severe Staffing Shortages: The Nepal Electricity Authority (NEA) has over 10,000 employees. However, the NEA Power Trading Company has only two to three staff members to manage the 20,000 Gigawatt-hours (GWh) export target.
Project Delays and Cost Overruns: Land acquisition disputes and local coordination failures regularly delay projects, leading to major cost overruns.
Restrictive Equity Rulings: The Supreme Court mandated a minimum of 21.9% free equity for Nepal in major projects like Phukot Karnali or West Seti. Such rulings ignore commercial realities and discourage Indian investment.
Rigid PPA Models: The domestic "Take or Pay" Power Purchase Agreement (PPA) model forces the NEA to buy power exceeding actual demand. This creates commercial waste.
Lack of a Regional Grid: Infrastructural bottlenecks prevent Nepal from exporting power beyond India to markets like Bangladesh.

Key Recommendations & Solutions

Act Within the Commercial Window: Accelerate hydropower approvals and project construction to sell power before Indian battery storage prices fall below hydro import rates.
Open Trade to the Private Sector: Allow Nepalese private firms to engage in cross-border electricity trade to increase investment and trading capacity.
Simplify Rules for Indian Developers: Create a predictable investment environment for Indian state-owned enterprises to ensure reciprocal market access. This includes developers like the National Hydroelectric Power Corporation (NHPC) and Satluj Jal Vidyut Nigam (SJVN).
Restructure the PPA Model: Shift the domestic market away from rigid "Take or Pay" models toward dynamic purchase frameworks based on actual daily demand.
Build a Regional Grid System: Work with India and Bangladesh to build cross-border transmission lines and establish multi-country power agreements.

3.3 Tourism

Key Arguments & Status

India is Nepal's largest tourism source market. While Indians represent 30% of arrivals by air, millions more cross via land borders in private cars and motorcycles. Tourism drives direct wealth distribution to local communities, including drivers, vendors, and hotels. It is also vital for generating the national target of 1.5 million youth jobs.

Additionally, the tourist profile is changing. Indian youth are emerging as adventure seekers interested in trekking and biking, shifting the perception of Nepal away from being solely a religious pilgrimage destination.

To boost regional traffic, Nepal is proposing a Bay of Bengal Initiative for Multi-Sectoral Technical and Economic Cooperation (BIMSTEC) Passport for tourism. This concept would provide a specialized tourist passport with incentives and tax refunds at the final destination country, encouraging multi-country tour circuits.

Key Problems & Bottlenecks

High Travel Costs: Flights from Delhi to Kathmandu are up to 81% more expensive than flights to other regional destinations.
Aviation Taxes: The government's 13% VAT on air tickets makes travel uncompetitive, adding up to 25,000 NPR in tax to long-haul tickets.
Poor Road Infrastructure: Poor road conditions make travel slow and dangerous. For example, driving from Kathmandu to Chitwan takes eight to nine hours. Recent accidents involving Indian tourist buses have also hurt safety perceptions.

Event Tourism: Janakpur Wedding Customs. Easing airport customs for destination weddings in Janakpur is a key opportunity. An Indian destination wedding hosted abroad typically carries a minimum budget of 2 Crore Indian Rupees (INR), or 3.2 Crore Nepalese Rupees (NPR). However, families face administrative hurdles and smuggling allegations when bringing wedding jewelry and clothing through airports. This friction discourages high-spending hosts.

Undeveloped Hill Stations: Despite warm summer temperatures in India, Nepal has failed to develop accessible hill stations close to the border to attract tourists.
Low-Spending Travelers: A significant portion of land tourists travel on low budgets, cooking on roadsides and littering, which strains local infrastructure without spending much.
Underused Airports: The new international airports in Bhairahawa and Pokhara remain underused. Foreign airlines will not operate there at a loss, and Nepal lacks a strong national carrier to fly these routes.
Lack of National Branding: Nepal lacks a unified national tourism branding campaign. In addition, plans to open a dedicated tourism office in India were put on hold.

Key Recommendations & Solutions

Invest in Road Safety and Infrastructure: Prioritize the maintenance of highways connecting Kathmandu, Pokhara, and Chitwan. Designate specific rest areas for budget pilgrims to manage waste and logistics.
Reform Aviation Costs: Reassess the 13% VAT on air tickets and reduce airport taxes to make flights to Nepal competitive.
Strengthen the National Carrier: Invest in procuring aircraft for the national flag carrier so it can strategically operate flights to Bhairahawa and Pokhara.
Target High-Value Segments: Focus on attracting high-spending Indian tourists. This includes promoting destination weddings (like in Janakpur) and Meetings, Incentives, Conferences, and Exhibitions (MICE) tourism.
Build Convention Infrastructure: Construct modern, high-capacity international convention centers. Birendra International Convention Centre (BICC), currently used by the parliament, should be returned to its original convention purpose.
Simplify Customs for High-Value Events: Establish clear, hassle-free customs protocols for wedding jewelry, clothing, and materials to prevent administrative delays and smuggling allegations.
Proactively Lobby for a BIMSTEC Passport: Coordinate with other member states to establish the BIMSTEC Passport, creating tax-free and incentive-based regional travel loops.
Leverage Spiritual and Adventure Tourism: Partner with prominent regional spiritual figures (such as Sadhguru) to promote spiritual tourism. Coordinate diplomatically to sustain Nepal's role as the gateway for the Kailash Manasarovar Yatra.

3.4 Investment, Infrastructure, and Digital Connectivity

Key Arguments & Status

Seamless physical and digital connectivity is the main vehicle for economic integration. Digital payment links have grown rapidly, with the UPI-Fonepay corridor processing 1.8 million transactions worth 5 billion NPR between 2024 and February 2026.

Additionally, physical infrastructure links (like dry ports and petroleum pipelines) have expanded, and inland waterways were added to the transit treaty in 2019/2020. Given the open-border system, the cross-border movement of workers also generates significant bilateral remittance flows that support both economies.

Key Problems & Bottlenecks

One-Way Digital Payments: While Indian tourists can use UPI to pay in Nepal, Nepalese wallets do not work in India. This lack of reciprocity limits cross-border business transactions.
High Digital Transaction Fees: The 1.95% Merchant Discount Rate (MDR) fee on cross-border payments is too high for small businesses, slowing down adoption.
Stalled Waterway Access: Despite being included in the transit treaty, the three planned waterway routes via Sahibganj, Varanasi, and Kalughat remain completely unoperationalized.
Lack of Rail Links: Nepal has failed to establish railway connectivity at its six major border entry points. Without rail cargo, transport costs remain high, preventing Nepalese industries from gaining a competitive edge.
Subcontracted IT Sector: Nepali IT professionals have worked in the digital economy for 15 to 20 years. However, most work as informal subcontractors for large Indian firms. Nepal has struggled to secure direct international IT contracts.

Key Recommendations & Solutions

Secure Payment Reciprocity: Negotiate full two-way interoperability for digital payments so Nepalese wallets can be used in India. Work to lower the MDR fee below 1.95%.
Establish Border Rail Connections: Prioritize building rail links at the six main border points to lower cargo transit costs.
Operationalize Inland Waterways: Work with India to clear administrative hurdles and operationalize the routes through Varanasi, Sahibganj, and Kalughat.
Adopt Digital Cargo Tracking: Adopt Electronic Cargo Tracking Systems (ECTS) to simplify transit checks and replace rigid route restrictions.
Upgrade the IT Sector: Support the IT workforce to move from subcontracting to direct international contracting.
Build an Indian Economic Stake: Encourage joint ventures with Indian firms. Guarantee physical and policy-level investment security to build a shared stake in Nepal's growth.

5. Prioritized Government Action Plan

To capitalize on regional economic opportunities, the Government of Nepal must prioritize the following concrete, practical actions, organized by sector and timeline.

5.1 Trade and Transit

Short-Term Actions (Immediate Policy Adjustments)

Activate Bilateral Joint Mechanisms: Formally request and schedule annual meetings of the Inter-Governmental Committee (IGC) on trade and transit. This will resolve ongoing non-tariff barriers and end years of delay.
Adjust the De-Minimis Threshold: Revise the border purchase duty threshold upward from the unrealistic 100 to 200 NPR limit. Set a realistic daily limit that allows border households to buy household items legally.
Simplify Border Customs Clearance: Lower administrative costs and paperwork requirements for formal imports to encourage informal traders to shift to formal channels.

Medium-Term Actions (Strategic & Negotiation Goals)

Harmonize Agricultural Standards: Upgrade domestic laboratories to meet international standards. Negotiate Mutual Recognition Agreements (MRAs) with India to ensure Indian customs accept Nepalese agricultural test certificates.
Establish Border Testing Facilities: Build accredited, fast-track testing laboratories directly at major border crossings, such as Kakarbhitta and Jhapa. This will prevent agricultural goods from spoiling during customs checks.
Strengthen Productive Capacity: Design targeted financial incentives and agricultural support to help domestic farmers and manufacturers compete with cheaper Indian imports, reducing the price gap.

5.2 Energy Cooperation

Short-Term Actions (Immediate Policy Adjustments)

Establish a Centralized Coordination Agency: Create a single, centralized Nepal-India economic coordination mechanism with clear authority over hydropower exports to eliminate overlapping ministerial mandates.
Reform the PPA Model: Shift the Nepal Electricity Authority (NEA) away from rigid "Take or Pay" Power Purchase Agreements. Use dynamic, demand-based purchasing models to stop buying unusable energy surplus.
Expand NEA Export Staffing: Increase the staffing of the NEA Power Trading Company from the current two to three people. Build a dedicated department to manage the 10,000 MW export target.

Medium-Term Actions (Strategic & Negotiation Goals)

Open Cross-Border Trade to the Private Sector: Pass legislation enabling Nepalese private energy companies to directly export power and sign bilateral contracts.
Ease Rules for Indian Project Developers: Simplify project approvals and land acquisition for Indian state-owned developers (like NHPC and SJVN). Reassess restrictive equity mandates to secure long-term reciprocal market access.
Develop a Regional Power Grid: Engage in trilateral negotiations with India and Bangladesh to build transmission lines and sign multi-country electricity transmission agreements.

5.3 Tourism

Short-Term Actions (Immediate Policy Adjustments)

Reform Aviation Taxes: Reassess the 13% VAT on air tickets and reduce airport passenger fees to make flights to Nepal competitive with other regional destinations.
Create Hassle-Free Wedding Customs: Establish a dedicated customs clearance protocol at international airports for destination wedding gold, jewelry, and clothing. This will eliminate administrative friction for wedding hosts.
Manage Land-Border Pilgrims: Designate specific transit sites along border routes with proper parking, waste management, and cooking facilities to handle budget pilgrims.

Medium-Term Actions (Strategic & Negotiation Goals)

Strengthen the National Airline: Allocate strategic capital to procure aircraft for the national carrier, enabling regular and affordable flights to Bhairahawa and Pokhara international airports.
Build Convention Infrastructure: Construct a modern, high-capacity international-standard convention and exhibition center in Kathmandu or Pokhara. Restore the Birendra International Convention Centre (BICC) to its original tourism purpose.
Develop Border Hill Stations: Upgrade national highways and infrastructure to build hill stations within a two- to three-hour drive of the Indian border. This will attract travelers looking to escape summer heat.
BIMSTEC Passport Collaboration: Proactively champion the "BIMSTEC Passport" concept at the regional level. Coordinate with member states to design incentives and tax refunds that promote multi-country tour circuits.
Coordinate Spiritual and Yatra Tourism: Partner with prominent regional spiritual figures to market Nepal's wellness tourism. Actively engage in bilateral talks to sustain Nepal's gateway role for the Kailash Manasarovar Yatra.

5.4 Investment, Infrastructure, and Digital Connectivity

Short-Term Actions (Immediate Policy Adjustments)

Negotiate Digital Payment Reciprocity: Secure bilateral agreements with India to allow two-way digital wallet interoperability, enabling Nepalese wallets to function in India.
Lower Cross-Border Payment Fees: Work with digital payment operators to lower the cross-border Merchant Discount Rate (MDR) below the current 1.95% fee. This will help small businesses adopt digital payments.
Acquire Additional Air Entry Routes: Engage in immediate technical aviation talks with India to secure additional air entry routes for Bhairahawa and Pokhara airports.

Medium-Term Actions (Strategic & Negotiation Goals)

Build Border Rail Links: Prioritize and construct cargo rail connectivity at Nepal's six major border entry points to reduce shipping and industrial production costs.
Operationalize Waterway Transit: Complete the pending technical works and finalize customs procedures to operationalize transit routes through Varanasi, Sahibganj, and Kalughat.
Implement Digital Cargo Tracking: Expand the use of Electronic Cargo Tracking Systems (ECTS) on cargo trucks. This will reduce physical border checks and speed up transit times.
Promote Joint Ventures: Establish a legal framework that guarantees physical and policy-level security for Indian investments. This will encourage joint ventures to build an Indian economic stake in Nepal.
Strengthen the IT Sector: Provide financial access and training to local IT companies to help them shift from subcontractors to direct international contract holders.