By Sindhu Bhattarai

The Nepali financial system is composed of deposit-taking and contractual saving institutions. The deposit-taking financial institutions include commercial banks, development banks, micro-credit development banks, finance companies, financial cooperatives, and non-government organizations (financial) performing limited banking activities. Likewise, other contractual saving organizations comprise insurance companies, employee’s provident fund, citizen investment trust, postal saving offices, and the Nepal stock exchange.

Nepal Rastra Bank, the central bank of Nepal, regulates the banking sector. It also supervises the savings and credit cooperatives and financial non-government organizations licensed by it for undertaking limited banking transactions. More than ten thousand cooperatives have been undertaking financial transactions, and some of them are even bigger than small development banks.

State of Financial Institutions in Nepal:

Recently, banks are facing a liquidity crunch. A few years ago the banking sector had problems of excessive liquidity. Nepal’s overall banking sector is weak regarding the problems related to liquidity despite certain progress. The state of banks has been unstable in recent years. The liquidity problems of financial institutions are yet to improve. According to figures released by Nepal Bankers Association (NBA), the umbrella organization of 28 commercial banks of the country, commercial banks have a combined Rs 41.61 billion (rupees) left for lending (approximately $640 million). Out of this, Rastriya Banijya Bank Ltd (RBBL), a government owned bank, holds Rs 24.78 billion, while remaining 27 commercial banks have only Rs 16.83 billion which can be used for credit purposes. An ideal bank should always keep its deposits more than its grants. Financial institutions came into this state of liquidity crunch because of their negligence on maintaining this deposits/grants balance.

There has been exponential growth in the number of financial institutions in Nepal in the last decade. The existing legal framework and institutional setup in Nepal was not conducive to the overall financial sector and private sector development. Banks and financial institutions established and licensed without long-term planning have started to fold back after the World Bank and IMF guided the Nepal Rastra Bank (NRB) to reduce the number of financial institution. They suggested making few but stronger institutions rather than many weak institutions. NRB developed policies and guided banks and financial institutions to strengthen their position. Some policies, like an increase in the level of capital to establish and continue a bank and encouragement of mergers and acquisitions of banks, are developed to overcome the problems. As a result, numbers of banks started decreasing and strengthening their capital and position. In 2014 there were 30 Commercial Banks, 84 Development banks and 53 Finance Companies. In 2015 there were 30 Commercial Banks, 76 Development banks and 48 Finance Companies. According to more recent data, there are 28 Commercial Banks, 55 Development Banks and 38 Finance Companies.

How financial institutions can contribute to economic development?

The state and policies of financial institution and the interaction between them is crucial. Due to the liquidity crunch in financial institutions the whole economy will suffer from high interest rates on credit. Recently, 28 commercial banks of the country decided to temporarily halt loans for automobiles, real estate, and loans against collateral of stocks (margin lending). This directly affects the economic condition of the country. Expansions of business and investments are being affected due to a lack of grants, which leads to lack of employment opportunities and a decrease in living standards.

The quality of banks are decreasing as well as they become less fruitful. This harms economic the development of the nation. However, NRB is emphasizing the need for mergers and acquisitions to increase the institution’s efficiency for positive development. Recently, a bank called Global Bank; IME Finance & Lord Buddha Finance company merged together and is in operation as Global IME Bank. Through this merger, Global Bank was able to expand its retail deposit; GBL’s deposit was around NPR 21 billion, but after the merger, it expanded to over NPR 38 billion. Its paid up capital was NPR 1 billion and increased to NPR 4.4 billion. This implies how Global IME bank was strengthened after the merger.

Nepal is a country which is rich in water resources and fertile land. Yearly, huge amount of capital are invested to import food products and energy despite the potential. Our economy can be boosted with development of agriculture and hydropower projects. Agriculture contributes 35% to the total GDP. Ninety-eight percent of the country’s 40,000MW of economically viable hydro potential remains untapped, and only 46 percent of the population has access to electricity

Development of agricultural sector financial institutions plays a crucial role. Various Micro Finances are established for rural and agricultural sector development. They provide agricultural loans for low rates. Similarly, Agricultural Development Bank (ADB), a government owned bank, is also contributing largely in agricultural development and hydropower projects. Various projects like Arun III (hydropower-1.4 Billion USD), Chemical Fertilizer Plant (agriculture-1.4 billion USD), and Tamakoshi (hydroelectric) are developed by the Agricultural Development Bank for development of the economy. It can decrease the imports of agricultural goods and energy which helps contribute to the nation’s economy.

Nepal is a poor economy where there’s a need to establish more opportunities. While financial institutions are at risk, they can contribute to economic growth and play a positive role in mobilizing financial resources, identifying worthwhile projects, monitoring managers, and managing risk. Despite the increasing importance of financial systems to achieve the national economic goal, government may not establish proper policies to address this major issue. From a development perspective, the banking system performs a significant role because financial intermediation creates an environment more conducive for transforming a traditional economy into a modern one. The best practice to develop and boost the economy could be encouraging saving and investments in productive sectors like agriculture and hydroelectricity. Saving leads to capital accumulation and investment which leads to productivity, employment, and an improved standard of living.