Nepal's flexible monetary policy aims to achieve stability through a balanced approach. Challenges persist in boosting economic growth
During the last fiscal year, Nepal's economy experienced significant fluctuations, marked by a confluence of factors affecting various sectors. On one hand, escalating interest rates led to loan withdrawals, while on the other hand, price pressures remained persistent. This lack of sufficient investable funds had a discouraging effect on both the stock market and real estate business. Additionally, the government's weak capacity to efficiently utilise public funds hindered any meaningful improvement in capital expenditure, consequently exacerbating budget imbalances. The repercussions of this imbalance were already evident in the current fiscal year's budget.
The informal sector's prevalence in financial transactions and the continued lack of regulatory oversight hampered the achievement of targeted capital mobilisation for economic growth. Furthermore, the government's ability to generate revenue came under scrutiny as it fell short of set targets, casting doubt on its resource mobilisation capabilities.
However, Nepal Rastra Bank (NRB)'s policy measures did yield positive progress in the external sector balance, mitigating the adverse effects of increased imports leading to a deficit.
Comparing the price increase target of 7 percent against the actual rise of 8.64 percent revealed an overshoot of 7.77 percent above the intended average rate. The burgeoning loans in the private sector in excess of the economy's size necessitate a thorough review and revision of Nepal's economic framework. Presently, credit extended to the private sector amounts to 100 percent of the gross domestic product, whereas public finance constitutes merely around 42 percent. Government borrowing seems skewed towards non-productive general expenses and employment rather than fostering productive sectors. This imbalance in revenue collection versus high general expenditure has resulted in a disappointing state of public finance management.
During the previous fiscal year, a mere 61.44 percent of the total allocation was devoted to capital expenditure, significantly lower than the intended 380 billion 38 million rupee goal, with only 233 billion 69 million rupees being utilised.
The consistent underperformance in capital expenditure can be attributed to a tendency to initiate projects without adequate preparation and a scattergun approach to budget allocation.
The prevailing trend of increasing current expenditure coupled with a waning focus on development expenditure is likely to propel an import-oriented economic growth model, fostering speculation and an upswing in informal economic activities.
Looking atthe debt structure, it experienced a 10.35 percent increase in its total debt over the past fiscal year, reaching 41.3 percent of the GDP. The debt has doubled over the last five years, with the current figure standing at Rs 2.21 trillion. The increasing trend in Nepal's government debt poses a significant concern for the country's fiscal stability. The rising debt-to-GDP ratio indicates a potential strain on the economy, and the high interest payments could divert funds from critical sectors such as education, healthcare and infrastructure.
However, there is also a rosy outlook. In recent months, Nepal's balance of payment situation has witnessed a remarkable up-turn. Based on the latest NRB's current macroeconomic situation for 11 months, the previously Rs 270 billion deficit in the current account has now transitioned into a surplus. According to the NRB, Nepal's current surplus stands at a significant Rs 228 billion.
During the same period, foreign exchange reserves and remittances have registered an impressive surge, exceeding 20 percent. Simultaneously, both imports and exports have experienced a decline, leading to a reduction in the trade deficit compared to the preceding year. Moreover, the detailed analysis from the NRB indicates a notable reduction in inflationary pressures.
The current fiscal year's monetary policy in Nepal has sparked mixed reactions from various groups. While some support its aim to mitigate risks associated with stock and real estate lending, others express concern over the lack of a clear economic growth target, suggesting a shift in the NRB's priorities. The past year saw economic challenges due to a shortage of investable capital in banks, leading to a contraction in loans and a slowdown in economic activity. However, since January 2022, available investable funds in banks have shown improvement, and the NRB has introduced a flexible monetary policy, including a reduction in the policy rate from 7 percent to 6.5 percent, aimed at lowering interest rates and stimulating loan demand. This move is expected to encourage economic continuity and spur increased economic activity.
The policy also addresses demands for working capital loan guidance, introduces a "Stressed Loan Resolution Framework" to aid borrowers facing challenges due to special circumstances, and prioritises monitoring major borrowers to prevent disproportionate allocation of bank funds. Additionally, amendments to the Banking Offenses Act are proposed to deter chaotic activities in the banking sector, and the NRB shows commitment to supporting the supervision and regulation of savings and credit cooperatives. The market's message is that relying solely on monetary policy may not be prudent in the future, and the NRB's cautious approach indicates potential revisits and revisions to its actions if necessary.
Nepal's flexible monetary policy aims to achieve stability through a balanced approach. While challenges persist in boosting economic growth, the policy incentivises investment in productive sectors and supports small and medium enterprises (SMEs) while maintaining financial stability. Stricter regulations are expected to caution over-leveraged sectors, emphasising prudent lending.
A version of this article appears in the print on August 16, 2023, of The Himalayan Times.
