Soaring interest rates could hamper post-pandemic recovery

Guru Neupane, a developer of the Upper Chameliya hydroelectric project, is concerned about the potential rise in bank interest rates. Faced with a liquidity shortage, commercial banks are competing to entice depositors, offering high interest rates on deposits. It could also lead to an increase in interest rates on loans.

A consortium of banks led by the Himalayan Bank has provided loans to develop the 40 MW project which is expected to be completed next year.

“Currently, we are receiving loans at an 8.5% interest rate from banks,” Neupane said. “The banks have not revised interest rates upwards, but we fear they will due to the liquidity crisis.”

He said hydropower developers cannot afford cost overruns because the selling price of electricity is already fixed and they cannot raise prices by citing such overruns.

“In other businesses, traders may pass the increased costs on to consumers, but that is not possible in the hydropower sector,” Neupane said.

Hydropower developers must sell power to the Nepal Electricity Authority in accordance with the power purchase agreement signed with the state utility.

Recently, average interest rates on deposits and loans have increased.

According to Dev Kumar Dhakal, spokesperson for Nepal Rastra Bank, the maximum interest rate on credit rose to 11.67% recently, from around 9.5% in the first days of the current fiscal year 2021 -2022.

The interest rate on deposits has risen in recent days as banks seek additional funds.

For example, the interest rate on term deposits has remained between 8 and 10 percent in the case of almost all commercial banks, according to data available from the Nepal Bankers Association.

Even though some banks had raised the interest rate on deposits to more than 10% as of October 18, the central bank’s instruction at the start of the week not to increase the interest rate on deposits further. of 10% compared to the rate maintained the previous month, forced these banks to cancel their interest rate offers.

While a higher interest rate on deposits is good news for depositors, it makes loans expensive.

“This, in turn, discourages companies from making more investments,” said Keshav Acharya, economist. “High interest rates also increase the cost of production for companies, which affects the competitiveness of their products in national and international markets. “

Keeping credit interest rates down is therefore essential for a rapid economic recovery after the disastrous impact of the Covid-19 pandemic, according to experts and stakeholders.

The country’s economy experienced negative growth for the first time in nearly four decades in fiscal year 2019-2020 and the economy is expected to have grown by 4% in the last fiscal year 2020-21. The government has set itself a growth target of seven percent for the current fiscal year 2021-2022.

But the Asian Development Bank in September cut the Nepalese economy’s growth projection for the current fiscal year to 4.1% from 5.1% previously, largely due to the infection and high risks. of Covid-19 and the slowdown in the growth of tourism and services. Nepal’s economy is also at risk of a setback due to the massive damage to rice crops caused by untimely October rains. According to a preliminary estimate from the Ministry of Agriculture and Livestock Development released on Friday, flooding and flooding caused the loss of 258,092 tonnes of paddy worth Rs 7.22 billion in the provinces of Lumbini, Provinces 1 and Sudurpaschim.

International trade data shows that economic activities in the country increased in the first two months of the current fiscal year. Nepal’s exports rose 115.43 percent to 44 billion rupees while imports jumped 75.86 percent to 314.51 billion rupees, according to the customs department.

When the economy recovered from the first wave of the pandemic, the second wave hit the country hard again. However, the impact was not as bad as in the first wave.

In the fourth quarter of last fiscal year, as the country suffered from the second wave of the pandemic, factories were operating at 64.8% of their capacity, according to a study by the Confederation of Nepalese Industries, a trade association. The study indicates that although Covid-19 affected the capacity utilization of factories, the situation was improving.

At a time when the economy is on the road to recovery with an increase in the Covid-19 vaccination rate and a drop in Covid-19 cases, the increase in interest rates has emerged as a threat to a rapid economic recovery.

Hydropower developers, in particular, are concerned about rising interest rates.

“It is difficult for hydropower developers to make projects feasible by paying double-digit interest rates,” said Krishna Prasad Acharya, president of the Independent Power Producers’ Association, a group of private sector hydropower developers. “Unlike other companies, we cannot increase selling prices on the grounds of cost overruns.”

At present, the Nepal Electricity Authority pays hydropower projects Rs 8.4 per unit during the dry season and Rs 4.8 per unit during the rainy season for their electricity. It sells electricity at an average price of Rs 10.62 per unit to households and businesses.

“So we demanded that interest rates be kept single digits for a period of time for the hydropower sector,” Acharya said.

He said, however, that the association had not yet received any complaints about construction work affected due to rising interest rates, possibly because the hike is only a recent trend.

“The interest rate on loans for the hydropower sector is still 9%, down from 8-8.5% just a few months ago,” Acharya said.

Bankers said the main reason for the shortage of loanable funds in banks is due to over-indebtedness relative to the growth of deposits.

Deposits increased by 63.74 billion rupees in the first quarter, while loans jumped by 278.16 billion rupees, according to the Nepal Bankers Association, a group of chief executives of commercial banks.

Bhuvan Dahal, president of the association, said that due to the high demand for loans from almost all sectors of the economy, loans have increased. “There has been a massive demand for loans for the import of various goods given the surge in imports,” he added.

With banks engaging in unrestricted lending in the first quarter, a significant number of commercial banks saw their credit-to-deposit ratios exceed 90%, a regulatory threshold set by the central bank.

“The credit-to-deposit ratio of 10 out of 27 banks exceeded 90% in the first quarter,” said Dahal, who is also the managing director of Sanima Bank. “They can no longer grant additional loans because they have already exceeded the regulatory limit. They need additional deposits to keep the credit-to-deposit ratio below 90%, a limit set by the central bank. “

The credit / deposit ratio is the ratio of the money that banks can lend against deposits. If the credit / deposit ratio is 90 percent, it means that if a bank has collected 100 rupees on deposit, it can lend 90 rupees and has to keep 10 rupees with itself as a buffer.

Bankers said the government’s failure to spend its budget adequately has also contributed to the current shortage of loanable funds. As of October 22, total government spending stood at 14.43% while capital spending was only 3.48% of the allocated budget.

During the same period of the previous fiscal year, total spending was 15.07% while capital spending represented 7.02% of the allocated budget, according to the Office of the Comptroller General of Finance. Once the government has spent its budget, the money goes back to the banking system.

Ashoke Rana, CEO of the Himalayan Bank, said the temptation to make more profit has led some banks to manipulate the credit-to-deposit ratio.

“Some banks abused the provision that banks could also count the deposit in foreign currency when calculating the credit-to-deposit ratio,” Rana said. “This has increased the tendency of some banks to borrow foreign currencies from other banks in an attempt to reduce the credit-to-deposit ratio and lend more so that they can make more profits.”

In this context, the central bank prohibited banks from collecting foreign currency deposits from other banks by paying interest.

The provision forced some banks to look for alternatives to lower their credit-to-deposit ratio and started offering a much higher interest rate to attract more deposits to ensure the credit-to-deposit ratio stays within the regulatory threshold.

But on Tuesday, the central bank issued a circular saying that banks could increase the interest rate on deposits by up to 10% from the rate maintained the previous month.

Nepal Rastra Bank also enforced a provision that the interest rate to be offered to institutional depositors such as the Employees Provident Fund, Rastriya Beema Sansthan and Nepal Army Welfare Fund should be at least one percentage point lower than the interest rate offered. to individual depositors on term deposits.

“These measures were taken to control the volatility of interest rates,” said Dhakal, spokesman for the central bank.

Bankers say the central bank’s decision should be taken positively given the risks associated with unrestricted lending.

“The central bank’s decision will help stabilize interest rates,” said Dahal, chairman of the Nepal Bankers Association. “In a normal situation, however, our position is that the central bank should not intervene in the interest rate market.”

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