NRB’s new monetary policy has many flaws

Aug. 1, 2016, 5:45 p.m. Published in Magazine Issue: Vol 10, No.1,July 29,2016,(Shrawn,14,2073)

Although Nepal Rastra Bank’s governor Dr. Chiranjibi Nepal hailed his second monetary policy, others see a lack of direction in the policy and more confusion than before.

Bankers have already opposed some of the provisions of the policy, which they believe will put the banking sector in trouble. The direction of the NRB to issue loan to farmers by the interest rate of 2 percent will create more problems.

Bankers have already made it clear that it is impossible for them to provide loans in the margin of 2 percent interest. However, Nepal Rastra Bank (NRB) has revised the policy to float loans of banks and financial institutions (BFIs) against the shares pledge.

According to the revised policy, BFIs will be able to float only 50 percent loans on the valuation of average trading price of the shares of the last 180 days or the latest market price of the share, whichever is low.

NRB’s current step to tighten the flow of finance toward the stock market has come in the wake of roaring stock market which has been enjoying cheaper financing facility from the banking system due to ultra low level of interest rates.

NRB has reduced the cash transaction threshold to Rs 3 million from Rs 5 million. With the reduction on the threshold level, people will have to use checks for transactions above Rs 3 million, restricting the use of cash. The central bank believes that this measure will reduce the risks resulting from cash transactions. Priority of checks and other instruments over cash for the transactions is expected to reduce corruption, tax evasion and flow of dirty money, among other risks.

Although NRB said that inflation will be at 7.5 percent in the coming fiscal year, it will be determined by how Indian market moves.  NRB has been failing to keep the inflation below the projection level almost every year in the last one decade.

As the government's new budget is expansionary and distributive, it will put further upward pressure on the inflation. Economists argue that inflation will be much higher than NRB's estimations.

Following the introduction of five percent interest spread cap on the commercial banks, the central bank is now imposing a similar cap of seven percent on the cost of funds of the microfinance institutions.

The central bank has decided to cap the interest rates difference after there were complaints that the microfinance institutions were charging exorbitant interests on the borrowers who are largely from remote areas and have less access to commercial banks and other financial institutions for the financing facility.

The decision of Nepal Rashtra Bank to cap the interest spread on the commercial banks had drawn criticisms from the bankers. NRB has kept the 20 percent mandatory lending for the commercial banks to the productive sector unchanged.

However, the central bank has hiked the minimum 12 percent of the productive sector lending on agricultural and energy sectors to 15 percent. This means commercial banks will now have to float their 20 percent of loans on the productive sectors and 15 percent of such loans must be extended on agriculture and energy sectors.

"This provision was an unexpected one. Since we do not have our own mechanism to float such loans, we were lending through microfinance institutions," said UpendraPoudyal, president of Nepal Bankers Association.

Although NRB left the Cash Reserve Ratio for the BFIs unchanged, the period to maintain the CRR has been increased to two weeks from one week with requirement for the BFIs to maintain at least 70 percent of cash daily out of the total cash reserve requirement level.

Following the decision, the banks, which were required to keep 6 percent of their cash reserves in the central bank every week, will now be required to keep such reserve in every two weeks, maintaining 70 percent reserve daily. 

Although the new monetary policy comes out with ambitious approach, it is unlikely to see its proper implementation. Like the previous policy, it will create more instability in the financial sector than taming them.

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