Far from a short-term monetary phenomenon, the cash crunch signals deeper economic problems.
Liquidity is tight largely because commercial banks lack access to ready pools of cash, having converted too many deposits into loans. The credit-to-deposit ratio is 95 per cent, nearly 20 per cent more than what is considered ideal. The quarter-on-quarter growth rate of loans is four per cent higher than that of deposits.
"Only 8-10 banks are healthy, the rest have mismanaged their balance sheets," says Nepal Rastriya Bank (NRB) Deputy Governor Krishna Bahadur Manandhar.
The consequent scramble to meet liquidity requirements has sent the inter-bank lending rate soaring to 11 per cent. At one point it was 14 per cent, which is about double the normal rate.
Deposit figures are low because remittance growth has dropped about 56 per cent this quarter compared to the same period last year, and a significant amount of money has left formal financial networks for informal channels (such as cooperatives) or lies unspent in newly overflowing state coffers. Depositors have also been spooked by tough NRB disclosure requirements.
Siddhant Raj Pandey, CEO of Ace Development Bank says, "Deposits are low in part because there isn't much confidence from the public. This has been exacerbated by the note crisis over Dasain/Tihar. Decelerating remittances is another reason."
Yet commercial banks have generously fed a surge in gold imports, as traders have taken to transporting gold to India via Nepal in order to capitalise on lower duties here, and investments abroad. According to Shivant Pande of Nepal Investment Bank, "Gold imports this quarter increased by over 225 per cent compared to the same period last year. Total gold imports almost offset our total exports."
Not all earnings from the re-export of gold to India re-enter formal channels. Authorities have struggled to replenish the money supply since the widening trade deficit has hit foreign exchange reserves hard.
Authorities have responded by expanding credit and liquidity by way of repo auctions and subsidised loans to troubled banks, reinforced financial regulations, and plans to raise import duties on key items including gold. Officials predict a speedy recovery if banks shape up.
But a broader package of fiscal and monetary measures may be needed. The government will have to dig deep to shore up investor and depositor confidence inthe financial system.
Pandey says, "While banks must play their part, the government needs to take a more holistic approach to address the long-term economic issues or else the crunch could very well recur."
Short and medium-term optimist - FROM ISSUE #490 (19 FEB 2010 - 25 FEB 2010)