Nepal Rastra Bank – the central regulatory and monetary authority – is all set to unveil the monetary policy for fiscal 2018-19 which is to propagate stability of the financial sector, external sector stability, inflation control, expand access to finance, and most importantly curb the high lending rates that has been adversely affecting private sector growth.
High lending rates are caused by the lack of loanable funds in banks and financial institutions (BFIs) against high demand. Banks had been offering 11% on fixed deposit schemes and 7% on general saving lending rates which has now skyrocketed to 16-18% thereby.
People are desperately waiting for an intervention through the monetary policy to bring down high lending rates. However, the Central Bank has limited instruments to control it.
Simultaneously, there is an ongoing debate on bringing down the number of BFIs through forced merger policy. Merger and acquisition policy introduced by the Central Bank during the tenure of former governor Dr. Yubaraj Khatiwada had achieved effective results. Initially, the governor had encouraged those financial institutions to merge that were promoted by the same corporate groups. Similarly, acquisition process of weak financial institutions was carried out by strong financial institutions. His successor, the incumbent Governor Dr. Chiranjibi Nepal further tried to squeeze the numbers of financial institutions by raising paid up capital requirement by up to 300%. However, Governor Nepal’s formula could not work as BFIs were allowed to increase the paid-up capital through issuing right bonus shares and further public offerings (FPOs). Except for a very few, almost all BFIs resorted to issuing right shares for their promoters and shareholders, and FPOs for the public and promoters.
This policy created the perennial challenge of
loanable fund crisis in the economy as the promoters further injected capital obtaining loans from BFIs.
According to economists, credit growth surged exponentially along with rise in paid-up capital. BFIs had met their paid-up capital requirement by mid-July 2017.
The financial system has been witnessing a perpetual challenge of credit crunch since fiscal 2016-17 and the situation is getting severe in the ongoing fiscal 2017-18. (See Table 1)
Increase in lending capacity
Along with increase in paid-up capital, the capacity of BFIs to float loans increased and they started to expand credit to generate the same level of profits as in the past.
The central bank has curbed BFI loan concentration in risky sectors repeatedly in the last fiscal and also fixed loan to value ratio in some areas like loan against collateral of automobiles. Along with increase in paid-up capital, bankers started exploring areas to expand loan, however, the deposit growth could not increase as sources of deposits were limited due to retarded remittance growth, sluggish exports, slow government expenditure and low foreign direct investment. The BFIs are now facing challenges and only expect the situation to normalise with rise in government expenses.
According to Nepal Bankers’ Association, the umbrella network of class ‘A’ financial institutions in the country, banks have collected deposit worth Rs 256 billion; whereas, they had floated loans worth Rs 342 billion. Banks can issue loans of up to 80% of the sum of deposit and core capital. Deposit of the banks stood at Rs 2,256 billion, while total loan portfolio of banks stood at Rs 2,063 billion. The growth of deposits stood at 11.3%, whereas, loans grew at 16.5% in the review period.
As banks have been aggressively expanding credit irrespective of deposit growth, this could lead the financial system towards a crisis, shared former governor Deependra Bahadur Kshetri. As per the regulatory requirement, banks cannot lend more than 80% of the deposit plus core capital, however most of the banks have breached this rule.
The central bank during the half yearly review of the monetary policy in the last fiscal had provided relaxation to banks by introducing a provision under which the banks were allowed to deduct 50% of the credit issued to the defined productive sectors while calculating the credit to core capital cum deposit ratio. This provision was lifted from the first quarter of this fiscal.
Bringing down the number of BFIs
The central bank is mulling over introducing a provision of forced merger to bring down the number of BFIs. The authority believes that it is necessary for BFIs to resort to merger to increase their capacity to lend. Currently, there are a total of 152 BFIs in operation with 5,848 branches across the country. The monetary policy is likely to bring incentives to encourage merger and acquisition of BFIs, according to sources. (See Table 2)
Intervention in high lending rates
There have been concerns in the public sphere whether the central bank will intervene in the high lending rate or not. The authority is being criticised as toothless regulator after market players-BFIs- started capping interest rate. The recent meeting of banks decided to cap interest rate on fixed deposit at 11% and 7% on general savings, reportedly to control the excessively growing lending rate.
Deposit rate of banks had gone up significantly as average inflation in the country in the first 10 months was witnessed at 4.1%. NRB intervention on lending rates is being awaited. The central bank has been suggested to cap the call deposit rates at the same level of interest as on government securities that it provides to the banks. Capping call deposit rate at the level of treasury bills rate is expected to bring down the base rate of the banks as unhealthy competition among banks to woo institutional deposits through high call deposit rates will come to an end, according to bankers. This provision is expected to stabilise the deposit rate to a large extent. Though weightage of the call deposit on the total deposit of the banks stands at only 10.3%, there is provision that the rate on call deposits should be tied with saving deposits. General savings deposit has 35% weightage in total deposits of the banks. As interest rate on savings deposit must be no less than call deposit, this has caused an impact of around 45.3% on the deposits and helps to stabilise it.
A sum of call and general savings deposit has equal weightage as fixed deposit scheme, while demand and margin deposits have negligible weightage in total deposits of the bank.
There is a trend at present among institutional depositors like, Employees Provident Fund, Citizen Investment Trust, Insurance Board to bargain with the banks for higher rates on deposits and they have been transferring their funds from between banks that offer higher rates.
Banks that are facing crisis of funds to maintain CCD ratio or those that have loan demands at high rates resort to the option of call deposit with such institutional depositors, who are always looking for high rates without keeping funds in fixed deposits.
The monetary policy of the current fiscal had introduced a provision that the interest rate on savings deposit must be at the level of call deposit. Due to this provision, some banks have raised interest rate on savings deposits to attract call deposits. Almost all banks are resorting to this method. As a result, base rate of the banks has increased. Banks have been arguing that this must be corrected as it could adversely affect the financial stability of the country.
Fiscal policy tied to three layers of the government
The monetary policy of this fiscal has to be tied with the fiscal policy of three layers of the government – federal, provincial and local. The federal government budget has envisioned achieving 8% growth and creating 500,000 new jobs and aims to channelise resources from the financial sector to the production sector. The fiscal policy has also unveiled concessional loan schemes against the collateral of academic certificates to youth, educational loan, loan to deprived and dalit community, women and returnee migrants among others. However, the fiscal policy has put the central bank in a tight spot as it envisioned containing inflation at 6.5% in the fiscal 2018-19.