Persistent liquidity crunch forces banks to tighten lending even to productive sectors

Rastriya Banijya Bank has provided concessional loans and some loans to the productive sector in recent months amid a shortage of loanable funds from generally resource-rich banks.

Due to excessive lending in the first months of the current fiscal year by almost all banks and financial institutions, the banking sector is now facing a shortage of loanable funds, often known in the banking industry as the crisis of liquidity.

“We have stopped providing loans under all other headings except concessional loans and productive sector loans,” said Kiran Kumar Shrestha, managing director of Rastriya Banijya Bank (RBB). “Even in the productive sector category, we only lend to the agriculture and tourism sectors.”

Agriculture, manufacturing, energy and tourism are among the productive sectors defined by the central bank.

Most other banks and financial institutions have also halted new lending due to the liquidity shortage.

According to the Nepal Rastra Bank, the credit-to-deposit ratios of banks and financial institutions are above the regulatory limit of 90%. This means that banks lent more than Rs 0.9 for every rupee received in deposits. The central bank has already told them to bring the ratios below 90%. A bank that has a credit-to-deposit ratio of 90% or more can no longer lend, according to central bank guidelines.

The shortage of liquidity in the banking system has been clearly reflected in lending by banks and financial institutions in recent months. For example, they extended credits worth Rs. 11.4 billion to the private sector in the month of Magh (mid-January to mid-February) and Rs. 18.5 billion in the month of Falgun (mid- February-mid-March), according to central bank data.

When they lent excessively in the first months of the current fiscal year, their loans per month were also several times higher compared to the last months. For example, between mid-August and mid-September last year, banks and financial institutions lent up to 187.3 billion rupees.

Most of the loans went to sectors considered non-performing. A study by the Confederation of Banks and Financial Institutions of Nepal (CBFIN), a group of banking promoters, found that lending to the nonperforming sector has increased in recent years.

As of mid-December 2021, banks and financial institutions had outstanding loans totaling Rs. banks and financial institutions.

The share of such “purposeless loans” was 17% in mid-December 2020 and 16.42% in mid-December 2019, according to the study report.

In the first eight months of the current fiscal year, lending to the private sector increased by 22.2 percent against the annual target of 19 percent for the current fiscal year, according to the central bank.

According to the report, global loans to less productive sectors, including wholesale and retail trade, finance, insurance, real estate, other services, consumer lending and others, as of mid-November 2021, amounted to 59.18%.

With the liquidity crisis that has continued over the past few months, banks have been forced to reduce overall lending. Due to the substantial reduction in lending over the past two months, private sector lending growth fell by more than 30% in the first half of the current fiscal year.

Earlier, Finance Minister Janardan Sharma accused suspended Governor Maha Prasad Adhikari of failing to end excessive lending, which not only contributed to liquidity shortages in the banking sector but also fueled imports driving a continued decline in foreign exchange reserves.

In media interviews, he presented this issue as one of the reasons for the government’s action against the governor.

But Minister Sharma fails to mention the government’s inability to spend the capital budget, which has also contributed to the current liquidity crisis in the banking sector. As of April 12, government capital spending stood at just 26.81%, according to the Office of the Comptroller General of Finance.

Due to the shortage of liquidity, even the productive sector, which could help stimulate the domestic economy, is unable to obtain loans.

Shrestha of Rastriya Banijya Bank admitted that her bank has not been able to lend to all productive sectors as demand for loans is high. Lately, the central bank has also admitted that productive sector borrowers are unable to get enough loans.

“Due to the shortage of liquidity, no sector has been able to receive loans in the desired amounts,” said Prakash Kumar Shrestha, head of the central bank’s economic research department. “When the productive sector does not receive enough loans, it means that the contribution of the sector to the economy would be reduced and the economy as a whole would suffer.”

He said, however, that credit flows into the market have already exceeded the central bank’s target. “Because of credit expansion in the non-productive sector, this has not translated into economic growth,” the central bank’s Shrestha said.

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