With the start of the COVID crisis in December 2019, most of the economies were hit by supply as well as demand shocks and many of the economies experienced severe recession. In such a backdrop, central banks around the world come forward with aggressive monetary easing injecting a significant amount of liquidity in the system and cut in policy rates. Nepal Rastra Bank also reduced its policy rates including CRR, bank rate and Repo rate to ease liquidity position in the banking system.
Decline in the demand for credit in the banking system and the monetary easing introduced by the NRB put the banking system in comfortable position during the first wave of the crisis. There was more than Rs. 100 billion excess liquidity in the banking system during August 2020 to December 2020 and the inter bank rate was close to zero. However, after that liquidity position has followed a downward trend. Currently, the liquidity position in the system has fallen below Rs. 30 billion.
1. Mismatch between Resource Mobilization and Credit Demand
In the recent months, credit demand has surged while deposit mobilization has followed the trend. In the three months of 2021/22, deposits have grown by Rs. 56 billion compared to the credit to private sector of Rs. 315 billion. In the same three months of 2020/21, deposit had grown by Rs. 188 billion and credit to the private sector had grown by Rs.130 billion.
The average y-o-y growth rate of deposits in the three months of 2021/22 is 19 percent compared to the credit growth of 31 percent.
2. Decline in Remittances
Remittances are the major source of bank deposits in Nepal. Nepal receives around Rs70 billion remittances monthly. Such remittances have fallen by 7.6 percent during the three months of 2021/22 compared to an increase of 12.7 percent during the first three months of 2020/21. In addition, pension and grants have fallen creating pressure on deposit mobilization.
3. Surging Imports
In the recent months, imports have surged in Nepal leading to a decline to a decline in reserves. In the three months of 2021/22, imports have increased by 63.7 percent. It has resulted in a current account deficit of Rs. 151 billion compared to a surplus of Rs. 33 billion in the three months of 2020/21. Such trend has imports has led to a decline in the foreign reserve of the country by Rs. 80 billion during the three months.
4. Sluggish Government Expenditure
Government expenditure has been sluggish following the similar trend of the previous years. As of December 10, 2021 (approx. first five months of 2021/22), total government expenditure is just 22 percent of the allocated amount while capital expenditure is only around 6 percent of the allocated amount. It has created a treasury surplus of the general government by Rs. 275 billion.
What has NRB Done?
NRB has taken a number of initiatives during the COVID crisis to resolve the liquidity crisis. Some of the measures include:
A reduction in CRR from 4 percent to 3 percent and reduction in bank rate from 6 percent to 5 percent.
New refinance schemes were introduced in 2021. NRB approved Rs. 148 billion refinance facility in 2020/21 and the outstanding amount at present is about Rs. 120 billion.
NRB approved around Rs. 1 billion to be disbursed under the Business Continuity Loan Program.
During the five months of 2021/22, NRB injected a total liquidity of Rs. 2600 billion through different open market operation instruments.
A provision has been made to provide one percentage point additional interest on the deposits made out of the amount received from remittances.
Restriction on the imports of silver and other commodities.
Way Forward
The liquidity strain in the banking system has continued for months and seems to continue some months in the future. Thus, NRB can introduce medium term instruments such as medium term targeted Repo to facilitate the liquidity positions of the banks. Extending the refinance facilities can be another option to support the resource mobilization of the banking system. Offering outright purchase auctions further could help the structural type of liquidity strain in the economy.
Besides that, managing the credit demand of the economy can help check the surging imports and maintain a balance between resource mobilization and credit demand. The government of Nepal as well NRB can coordinate to discourage the surging imports of gold and silver and other luxury goods. Moreover, remittances through formal channels should be encouraged and mobilized to productive activities.
Some other medium term measures may include encouraging the external commercial borrowing of the government and resource mobilization through NRN deposits and debentures.
The government of Nepal can help in easing the liquidity strain by expediting the government expenditure and using a prudent schedule for mobilizing internal debt.
With a combination of all such policy measures, credit demand by unproductive can be checked and a balance between resources and demand can be maintained while supporting the productive activities of the economy
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The blogger can be reached at siddhabhatta@gmail.com
