While all eyes are currently focused on Iraq, another crisis that demands international attention is emerging in Nepal, where the government finds itself on the verge of defeat by a Maoist communist insurgency. Nepal's government has been under pressure since the Communist Party of Nepal-Maoist (CPN-Maoist) launched its "People's War" in 1996 in five of Nepal's 75 districts. By 2001, the insurgency had claimed 4,000 lives and spread to 68 districts -- almost the whole country.

At first sight, it might not seem to matter very much whom runs a mountainous, seldom-heard-of country tucked between India and China, far from the battle lines of the war on terrorism. But a victory by communists in Nepal would send a signal to other insurgents in Asia that violence pays and that the world has more important things to do than foil their advances. Worse still, once in power, the communists could make Nepal a safe haven for terrorists in the same way as the Taliban allowed al Qaeda to shelter in Afghanistan.

According to the South Asia Intelligence Review, a Web site run by the New Delhi-based Institute for Conflict Management, the Maoists already have links to the Liberation Tigers of Tamil Eelam of Sri Lanka, a group listed by the U.S. State Department as a terrorist organization. The Maoists also have links with the Maoist Communist Center operating in the Indian state of Bihar and the India's Peoples War Group, two factions whose violent activities are of great concern to the Indian government.

Even if a Maoist-run Nepal did not openly offer a safe haven, prolonged instability would still permit terrorists to gain a foothold, with or without official permission. Such activities would be almost impossible to stop. After all, even many Asian governments with a firm grip on their country have found it difficult to eradicate terrorist cells hidden within their borders.

The guerrillas have many advantages. They have received military training from retired British Army Gurkhas who inhabit many of the districts that the guerrillas control, according to Agence France-Presse and Dr. Chitra Tiwari, a U.S.-based Nepali political analyst. The Gurkhas' friendly relations with the guerrillas, either because of family connections or because of dissatisfaction with government policies, have helped the guerrillas win several armed confrontations with authorities.

Furthermore, ordinary Nepalese who have tired of the government's incompetence have begun supporting the CPN-Maoists. Guerrillas find refuge in Nepalese villages, and recruit women and rural youths to join their ranks. One expert estimates the insurgency forces have grown to 2,000 full-time guerrillas and an additional 10,000 irregular militias.

Despite this popular backing, the CPN-Maoists are constantly struggling to fund their activities. They have grown to such numbers that they are no longer able to support their forces without extorting money from the general population. Furthermore, with an ideology loosely similar to that of Pol Pot's "Year Zero," the insurgents destroy all sign of governance and government institutions that cross their paths, leaving Nepal even more desolate and worse-off than before the start of the People's War. Yet the insurgents remain effective in finding new recruits among the disaffected, by tapping into local grievances.

Unfortunately, the government has done little to help its image. A divisive parliament and uncertainty at the top has made it difficult to overcome the economic problems of recent years. Nepal has a closed economy with a very protectionist trade policy where the weighted average tariff rate grew to 17.7% in 2001 from 10.3% in 2000. Furthermore, Nepal's gross domestic product stands at $241 per person -- barely half the $459 in neighboring India. This is also far below the comparable figures for most Asian countries, such as $994 in Indonesia and $2,805 in Thailand.

Nepal switched from an absolute monarchy to a constitutional monarchy and parliamentary democracy in 1990. King Gyanendra came to power after the suicide-homicide tragedy in June 2001, when Crown Prince Dipendra killed many members of the royal family, supposedly because of a conflict over his choice of bride. Within a year, King Gyanendra had disbanded parliament and postponed elections indefinitely. He also sacked Prime Minister Sher Bahadur Deuba of the majority Nepali Congress party, replacing him with Lokendra Bahadur Chand and four other cabinet ministers, none of whom represented any elected political parties.

The insurgents and the government did sign a cease-fire at the end of January and earlier this month announced 22-point guidelines for peace talks. But no talks have yet been held, and in recent days the two sides have accused each other of breaking these guidelines, raising fears that the cease-fire may collapse. The last cease-fire, signed in August 2001, broke down within four months.

Washington can try to help preserve the cease-fire by addressing the reasons that have made it so easy for the guerrillas to gain popular support. Helping Nepal doesn't mean America has to take sides. Instead the U.S. should insist on democracy being respected and tie continuing aid to efforts to enforce the law, encourage political and economic reforms and protect human rights. In particular, the U.S. needs to emphasize the re-establishment of a democratic process as the only way of ending the insurgency. The last elections in Nepal were in May 1999 and further polls, due in November 2002, have still not been held. The dissatisfaction with the current government that has fuelled the present insurgency will only be appeased through popular participation in the political process.

One way to achieve this is to expand a year-old program by the U.S. Agency for International Development (USAID) called "Restoring Political Stability and Expanding Confidence in Democracy." This seeks to establish a free-market economy and democratic social institutions, to begin labor-intensive infrastructure projects and to improve the government's health policies. USAID will fund grass-root projects that maximize employment for rural populations.

The U.S. should strengthen this program, and insist that future aid is only paid after measurable progress toward restoring democracy. These should include fair and free elections by the end of 2003 in which only those who honor the cease-fire are allowed to participate. Targets also need to be set for the government to comply with, such as ending its human rights abuses, reducing bureaucracy and cronyism and encourage civilian political participation.

The Nepalese government must also work to open its economy and adopt a freer attitude toward trade. One positive step in this direction is a preferential-trading bill being introduced in the U.S. Senate that would provide duty- and quota-free access to the American market for Nepalese textile products and manufactured apparels. Nepal must take this opportunity to strengthen its economic and trade relations and adopt policies that reduce its tariffs, reinforce property rights, and restructure its banking and financial sectors.

Engagement with Nepal offers an opportunity to forestall terrorists gaining a foothold in the Himalayas and to increase stability in South Asia.

Originally appeared in the Asian Wall Street Journal.

-Mr. Dillon is a senior policy analyst in the Asian Studies Center at the Heritage Foundation in Washington, D.C. Ms. Nguyen is a research assistant at the Center for International Trade and Economics at the Heritage Foundation.