Without good governance, monetary policy will not be effective

Published On: August 22, 2021 07:18 AM NPT By: Shanker Man Singh

The most important question has never been raised: Can an open economy like Nepal pursue an independent monetary policy and inflation rate by maintaining a stable exchange rate with its major trading partners? My answer is a ‘no’.  Unfortunately, policymakers never know, despite comments in the past from many organizations and individuals.

The former President of the World Bank had said that though the government may come up with the best financial and monetary policies, the objectives laid down by such policies cannot be achieved if the country lacks good governance. This remark is still relevant in the present-day context of Nepal and the Nepali monetary sector

After presenting the budget, the government has made public the monetary policy of 2078/79 as in the previous tradition of bringing monetary policy.  This is the monetary policy to address the diseases caused by the second and third waves of Covid-19. The Monetary Policy for the Fiscal Year 2078/79 made public by Nepal Rastra Bank (NRB) has been given priority and the objective is to: Agricultural Investment, Promotion of Energy Growth Sector and Minimum Impact of Covid-19 on Micro, Small, Medium Enterprises (MSMEs).

The main priority of the Government of Nepal for this fiscal year is economic recovery through various relief measures, agricultural modernization, and job creation for the pandemic-affected areas. Tourism and hospitality and airlines as well as small and medium enterprises are among the worst-affected areas. 

Priority has been given by the monetary policy to working capital inflows, concessional loans, and refinancing for the revival of aviation, transport, hotel, restaurant, and other tourism enterprises severely affected by Covid-19.  To address the lack of capital to complete the construction of projects related to the tourism sector, provisions have been made for easy loans from banks and financial institutions for such projects. After analyzing the financial condition of such debtors, it is also time to keep the interest maturing separately till mid-July 2079 as per the requirement, and no additional penalty and penalty interest should be charged on such amounts. After the tourism industry, the most affected sector is public transport.

It seems positive that the monetary policy has given some relief to the sector as well. This is because the provision of loans for the maintenance of public transport can be expected to bring some relief to the affected areas. At the same time, the encouragement of the monetary policy for mergers to strengthen the capital base of banks and financial institutions also seems to facilitate the merger of banks and financial institutions.

Banks and financial institutions seem to have some relief in terms of maintaining liquidity as the loan-to-resource mobilization ratio  raised by the banks and financial institutions for a long time has been scrapped and the loan-to-deposit ratio has been raised to 90 percent.

The main features of the monetary policy are: As economic activity expands, maintaining an inflation rate of 6.5 percent will be challenging. It has been speculated that the projection of 19 percent credit expansion to the private sector will not meet the demand for resource mobilization. Among other features, the target is to maintain sufficient foreign exchange reserves to support the import of goods and services for seven months.

Policy rates are: Permanent liquidity facility rate 5 percent, mandatory cash ratio 3 percent, statutory liquidity ratio low, A B and C category 10 percent, 8 percent, 7 percent and bank rate 5 percent. Even national-level development banks, finance companies, and wholesale microfinance institutions have to issue bonds equal to 25 percent of their working capital. There is a provision to increase domestic medium and small loans up to Rs 10 million to 15 percent of the total loan. The provision of closely monitoring the flow of loans to businesses that have been running at a loss for two years will be extended by one year to three years. Similarly, the credit limit of some types of loans to the credit limit for the poor has to be increased. Those who have lost their jobs in the tourism sector will get Rs  1.5 million for self-employment.

The loan-to-deposit ratio has to be brought to 90 by 2079 BS and the current system of CCD ratio should be abolished. The current banking CD ratio is 90.33 percent. The prescribed sectoral loan ratio should be maintained by mid-July 2078 BS and by mid-July 2079 BS. Mergers, acquisitions, and acquisitions of commercial banks will be further encouraged with some concessions.

The existing method of calculating the base rate will be reviewed. The monetary policy stipulates that loans up to Rs 10 million should be given at a maximum premium of 2 percent.

Electronic payment business will be promoted. Payment service providers will have to reach the number of customers by July 2079. Digital loan guidance will be introduced.

Monetary policy is commonly referred to as either an expansionary policy, or contractionary, where an expansionary policy increases the total supply of money to the economy, and a contractionary policy reduces the total money supply.  An expansion policy is traditionally used to deal with unemployment and recession by lowering interest rates while the contractionary policy should raise interest rates to fight inflation.

In the international community of central bankers, there is widespread consensus that the primary goal of the monetary policy should be domestic price stability.  Price stability, however, is only a means to an end and is not the ultimate goal of the overall macroeconomic policy. The ultimate goal is set by governments and is generally linked to the goal of maximizing economic growth, development and creating more employment opportunities.

The most important question has never been raised: Can an open economy like Nepal pursue an independent monetary policy and inflation rate by maintaining a stable exchange rate with its major trading partners? My answer is a ‘no’.  Unfortunately, policymakers never know, despite comments in the past from many organizations and individuals. It may be recalled that the International Monetary Fund (IMF) in early January 2001 clarified how the monetary policy should be conducted in Nepal.

Amidst the debate that it is not necessary to wait for the supplementary budget as Nepal Rastra Bank is an autonomous body, the monetary policy seems to be expected to address the problems of the industrialists and businessmen affected by the corona crisis.

Stating that the monetary policy will have a positive impact on the post-Covid revival, entrepreneurship development, and promotion of small and medium enterprises, the private sector seems  confident that the revival, restructuring, and rescheduling of FY 2077/78 will help in the revival. The  provision of increasing the premium by a maximum of two percentage points to the base rate for small and medium entrepreneurs who take loans of less than Rs 10 million will make it easier for entrepreneurs to access loans.

Banks and financial institutions will have to maintain the maximum loan-to-deposit ratio at 90 percent by mid-July 2079 BS.  The federation has suggested the central bank manage the liquidity as there is pressure on liquidity in the current fiscal year.

Stating that the issue of reducing cash transactions by promoting the use of electronic means in payment transactions is welcome, the federation has mentioned that the arrangement of revising the fees and limitation of electronic payment transactions will help in maintaining good governance.  Similarly, the private sector is of the view that the arrangement of EKYC will also make the public comfortable.

The arrangement made for the promotion of credit to small farmers will have a positive impact on the agricultural sector.  The unsecured loan limit for women entrepreneurs has been increased from Rs 1.5 million to Rs  2 million and is expected to further help in the promotion of women entrepreneurship in the country.

The provision of a focal desk to facilitate credit at the local level would facilitate financial access and entrepreneurship development in rural areas.  Similarly, the existing system of blacklisting customers by banks and financial institutions will be reviewed.

Start-ups and small enterprises are included in the project loan management policy.  The provision of a minimum interest rate of at least one percentage point for remittances deposited in banks and financial institutions will also help in attracting remittances through banking and increasing liquidity.  The impact of monetary policy does not seem to be felt immediately in any sector.

However, Covid-19 poses an unprecedented challenge to its goal of sustainable growth, and key performance indicators in Nepal's financial sector are satisfactory.

Several provisions of last year's monetary policy have been continued. However, it is now clear that some financial concessions will jeopardize the future. The CD ratio has been maintained by keeping the CCD. However, only the calculation method has been changed to 90. When the CCD ratio is scrapped, it is difficult to see in which sector the loan has gone. What is the effect?  It is necessary to conduct a thorough monitoring study.

Leave A Comment