Monetary policy to address financial friction

Published On: July 9, 2017 12:45 AM NPT By: Republica  | @RepublicaNepal

KATHMANDU, July 8: Nepal Rastra Bank (NRB) is introducing the monetary policy for fiscal year 2017/18 on Sunday with a focus on addressing the current 'financial friction', support the 'ambitious' economic growth target set by the government and bringing down inflation. 

Through the budget speech, the government has set the economic growth target of 7.2 percent. The government has also announced to keep inflation at seven percent. 
Addressing the problem of 'financial friction' that is plaguing the banking industry will be a priority of the monetary policy as the high interest rates on lending is likely to hurt the economic growth prospects of the country, according to a high-level official at the NRB. 

Most of the bank and financial institutions (BFIs) have reached near the prudential lending limit due to mismatch between deposit and credit growth. As many of them are left with little fund to extend as credit due to slow deposit growth, they are raising rates to attract savings from the public. The rise in the deposit rates is being passed on to the borrowers. 

The financial friction, as termed by the NRB, has made it difficult for the private sector to get loans from the BFIs while the interest rate on the credits they have received has been skyrocketing.

Earlier through the mid-term review of the monetary policy for the current fiscal year, the NRB had allowed the banks to deduct 50 percent of productive sector loans from the CCD ratio until mid-July this year. This regulatory bounty implies that banks can extend loan amounts equivalent to 50 percent of the credit expanded in the productive sector even without getting fresh deposits. 

While the NRB officials are tight-lipped over the direction and stance of the monetary policy, the NRB is announcing some measures to ease the credit flow toward the private sector and address the interest rate volatility. Either the continuity of existing relaxation on calculation of core capital-cum-deposit (CCD) ratio that is expiring from mid-July or the upward revision of 80 percent CCD ratio could be a possible measure for the NRB to address the current problem of 'credit crunch'. 

As the International Monetary Fund (IMF) has expressed reservation over the temporary regulatory relief and advised the NRB to promptly withdraw the measure when it lapses in mid-July, the NRB is less likely to tweak on the CCD ratio measure. 

Analysts forecast that the NRB is likely to reduce cash reserve requirement by 0.5 to 1 percentage point to address the current shortage of lendable fund. 

CRR, a certain portion of the total deposits that BFIs have to hold as reserve in cash with the central bank, has remained unchanged for last three years. The central bank had revised the CRR rate last time in mid-July 2014 to set such rate at six percent for commercial banks, five percent for development banks and four percent for finance companies. Leaders of private sector are also urging the central bank to reduce the CRR which will help to release more funds for lending and ease the credit crunch. 

Similarly, NRB officials have also indicated that the upcoming monetary policy will further reduce five percent average interest rate spread for bank and financial institutions (BFIs) citing huge profitability of BFIs at the expense of depositors and borrowers. 

The central bank prepares to narrow down the disparity between the deposit and lending rates in line with the financial sector development strategy that the government has prepared which envisions the average gap between the rates of deposit and credit to remain at 4.4 percent by Fiscal Year 2020/21.

As the deadline for the BFIs to maintain minimum paid-up capital also ends by mid-July, the central bank is also going to give an indication to the BFIs through the monetary policy that the paid-up capital will be raised further in near-term future, according to a high-level official. 

Sending banks to the local levels in line with the government announcement of having at least one commercial bank in each local unit in new federal structure, increasing financial access, prodding banks to expand credits on productive sectors and measures of consumer protection are some other priorities that are likely to feature in the monetary policy.

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