Nepal’s financial sector has attained a certain level of complexitiy in what are just the beginning years of twenty-first century. Financial sector in general and banking sector in particular has been flooded with liquidity in the last few years owing to the high level of deposits from remittances — despite historically low rates and lack of demand for genuine credit in the market. The mushrooming financial sector and phenomenal growth in stock market, however, do not have a strong positive correlation vis-à-vis feedback effect, as is common elsewhere around the world, with economic growth, thereby casting doubts on the efficacy of the financial instrument. Nepali policymakers will have to take into account such interrelationships while further expanding financial sector.

Within the structure of established liberal and open policy regime, it is difficult to control the number of banks and financial institutions springing up in urban centres across the country. However, people’s expectation in establishing new banks and financial institutions does not seem to be linked with economic viability and feasibility of such an undertaking. Furthermore, keen competition in opening banks and financial institutions even while the promoters self-finance makes people even more surprised. The takeover by the regulator in case of misuse of funds by promoter group(s) amounts to doing virtually nothing to punish the wrongdoers, who could otherwise have been made to walk a straight path with strict measures in place.

Geographical proximity, free flow of people and capital and social and religious ties leave Nepal no option but to adopt similar mechanisms on major economic issues to those of India. Since the interest rates in Indian financial market are higher, it is but natural for the capital to flow into India from Nepal. There is no denying the fact that investing in Nepal even by borrowing from the Nepali banks offers higher returns than investing in Nepal itself. It is however a matter of concern for those who easily offer easy personal/ corporate accessibility for investment in India and other markets. Similarly, it is obvious that big fishes in Nepali financial market have been opportune enough to put money into not only the Indian market but third countries with structural loopholes.

Given the current level of remittances flowing into the country — and nothwitstanding the minor impact of the appreciation of Nepali currency vis-à-vis American dollar — the phenomenal impact on stock market both due to its structural inefficiency and failure of Nepal Rastra Bank to adopt right policies as well as the escalation of real estate prices, a temporary upheavel in liquidity level that will ultimately also touch the financial sector cannot be ruled out.

As such, no other factor other than capital flight will abruptly offset liquidity in economy for any length of time in the forseeable future. The surprising increase in both standby liquidity and inter bank(s) lending rates and repeated bargaining to increase corporate deposit rates in most big banks clearly indicate the push up effect on deposit rates. Nonetheless, offering realistic, positive rates to depositors is taking much longer than expected.

The current level is unjustifiable and against normal practice and welfare of the depositors.

The refinance facility of Nepal Rastra Bank has been limited to paperwork. In the future, the financial sector referee will have to mount great obstacles to maintain a reasonable spread since the exponential growth in the number of banks and financial institutions in comparison to the country’s economy is already indicative of unhealthy competition. It is a well-known fact that these banks currently face a serious threat of unreasonable bargaining from borrowers since some of the newly established banks are standing in the market for no fathomable reason. Obviously, the big borrowers are either in the list of willful defaulters or potential good borrowers are in mood of unnecessary bargaining due to intense unhealthy and unfair competition.

The growing non-performing asset level of banking sector, though downgraded by book write-off, has been shared by big borrowers since the urban-centric financial model is based on business viability. Looking at the size of rural economy and virtually inaccessible nature of formal credit, how can the economy grow to attain sustainable growth and poverty reduction?

There is growing doubt whether income redistribution for equality at the cost of

economic efficiency has overshadowed the issue of rural financing as is the case with other socio-political issues. If policymakers are to realise the dream of overall development of the country, they have to be vocal for the financial inclusion of outlying areas, where the urban-centric model might not prove cost effective, through rural-centric micro-type financial model.

Dr Paudel is RBB Board member