Liquidity risk overshadows bad loans as 15pc funds remain parked in Nepali banks

KATHMANDU: Despite ample liquidity and low credit-deposit ratios, Nepali banks face growing risks of excess cash rather than non-performing loans, experts warn.

Liquidity has remained comfortable in Nepal’s banking system for the past 18 months. Commercial banks now hold an average credit-deposit (CD) ratio of 75.99%, well below the regulatory ceiling of 90%, leaving them with the ability to expand lending by almost 15%.

A senior banker told Fiscal Nepal that while non-performing loans (NPLs) are a “slow poison,” liquidity can collapse a bank overnight.

“If depositors rush to withdraw due to panic, liquidity becomes a killer. Banks may survive high NPLs, but not a sudden cash drain,” he warned.

CD Ratio Declines Across Major Commercial Banks

Nepal Rastra Bank (NRB) data shows the average CD ratio declined by 3.54 percentage points in FY 2080/81 compared to the previous year.

Rastriya Banijya Bank maintained the lowest CD ratio at 62.39%, an improvement from 60.82% the year before.

Agricultural Development Bank saw the sharpest fall, down 11.72 points to 68.68%.

Standard Chartered Bank dropped 9.56 points to 69.48%.

NIC Asia Bank fell 7.18 points to 73.97%.

Kumari Bank declined 7.05 points to 75.73%.

NIMB (Nepal Investment Mega Bank) slipped 6.03 points to 74.44%.

Other major lenders also posted reduced CD ratios, including Prabhu Bank, Nepal SBI Bank, Everest Bank, Prime Bank, and Machhapuchhre Bank.
Only a handful — such as Sanima Bank (81.03%), NMB Bank (84.33%), Citizens Bank (81.94%), and Global IME Bank (76.07%) — recorded slight increases.

Former banker Anal Raj Bhattarai explained, “CD ratio itself is not a threat. Most banks now stay below 70%, leaving them with significant space to lend. The bigger concern is whether excess liquidity can be managed without eroding profitability.”

Why Excess Liquidity Can Hurt Banks

Analysts stress that excess deposits raise interest expenses, squeezing profitability when credit demand is weak. Although banks are flush with funds, sluggish economic activity and limited investment avenues have left cash idle.

“Unlike bad loans that eat into balance sheets over years, liquidity mismanagement can cause immediate collapse,” one banker noted.

Stress Testing and Large Depositors

Nepal’s banking stability heavily depends on large institutional depositors such as the Army, Police Welfare Funds, Employees Provident Fund, Citizen Investment Trust, insurance companies, and Social Security Fund.

Bhattarai explained that if 10 major depositors simultaneously pulled funds, liquidity could be strained. However, because these funds typically move between banks rather than exiting the banking system, systemic risk remains contained.

He added, “Our debt market is weak, so money rarely flows out. Even government bonds purchased with withdrawn deposits eventually circle back into banks.”

Government Borrowing and Liquidity Drain Risks

NRB projects credit expansion of NPR 600–700 billion this fiscal year. However, government borrowing mandates that banks purchase at least 10% of issued bonds, which could absorb liquidity.

“If the government forces institutional depositors to purchase 10–20% bonds, funds flow to NRB. That creates liquidity strain,” Bhattarai warned.

Currently, around NPR 30 trillion liquidity remains in the system, cushioning short-term risks. Experts say pressures may rise only if the government aggressively borrows without boosting investment avenues.

Regulators Defend 90% CD Ratio Cap

NRB officials emphasized that the 90% CD ratio limit balances liquidity management and credit flow. While banks may borrow from each other during stress, depositor confidence is paramount.

“If customers cannot withdraw when needed, trust collapses and banks fall. That’s why 90% is a safe ceiling,” an NRB spokesperson said.

However, the central bank does not impose a minimum CD ratio. Banks are expected to self-manage liquidity levels to balance risk and profitability.

Global Comparison and Policy Outlook

Unlike Nepal, many countries do not enforce CD ratios, instead relying on liquidity coverage ratios (LCR) and stress testing. NRB has also begun integrating such global practices, requiring banks to hold at least 20% liquidity reserves and run simulations of withdrawal shocks.

Bhattarai highlighted that Nepal’s unique depositor structure — dominated by institutional funds — reduces volatility compared to retail-heavy economies.

The Road Ahead: Balancing Liquidity and Growth

While bad loans remain a structural concern, experts agree that excess liquidity poses a more immediate operational threat. Idle funds increase costs, compress margins, and limit banks’ ability to support economic recovery.

“Unless new investment opportunities emerge, liquidity will pile up, hurting profitability. Banks must innovate lending products and explore new sectors,” one analyst said.

For now, NRB and bankers appear confident that the system is stable. With room to expand credit and a cushion of liquidity, the immediate challenge lies not in survival but in ensuring profitable, sustainable growth.