NRB overlooks covid-era fallout, Policy shift seen encouraging credit misuse

KATHMANDU: At a time when banks and financial institutions are struggling with weak loan recovery and stressed balance sheets, the Nepal Rastra Bank (NRB) has introduced a policy move that bankers say risks encouraging credit misuse rather than stabilising the financial system.

Through the first quarterly review of the current monetary policy, the central bank has doubled the ceiling on overdraft (OD) loans, a decision that has surprised bankers already under pressure from non-performing loans and sluggish credit demand.

Under the revised provision, the overdraft loan limit has been increased from Rs 5 million to Rs 10 million, despite persistent concerns that such loans—issued without mandatory disclosure of end-use—are prone to misuse.

“Loan demand has not picked up even after repeated interest rate cuts. On top of that, recovery is weak and directly affecting our balance sheets,” a senior banker said. “In such a situation, NRB has suddenly raised the overdraft limit. We are surprised that the regulator is encouraging loans in sectors where the purpose itself is unclear.”

Overdraft loans do not require borrowers to specify the purpose of borrowing, allowing funds to be used for any activity. Bankers say such credit typically flows into consumption, real estate, or the stock market, rather than productive sectors that generate employment or output.

The risks are not theoretical. During the Covid-19 period, banks aggressively expanded overdraft lending. In fiscal year 2020/21, overdraft loans worth Rs 145.75 billion were disbursed, followed by Rs 84.44 billion in 2021/22. Much of this credit, bankers admit, was extended with minimal scrutiny.

A significant portion of those loans later flowed into the real estate and share markets. When borrowers failed to repay, banks’ balance sheets deteriorated, prompting the NRB itself to tighten overdraft lending after concluding that widespread credit misuse had occurred.

Despite that experience, the central bank has now reversed course, citing the need to stimulate credit growth amid an economic slowdown.

Former NRB Executive Director Nar Bahadur Thapa said the decision appears driven by short-term economic considerations rather than risk assessment.

“It seems the central bank has increased the overdraft limit to make the economy more dynamic,” he said. “But there is no visible assessment of the risk of credit misuse.”

Notably, banks themselves had not been lobbying for a higher overdraft ceiling. With loan recovery already affected and demand subdued, bankers were wary that expanding purpose-free credit could further weaken financial discipline.

“Even at low interest rates, there is no credit demand, and recovery of existing loans is weak,” said Anil Sharma, Executive Director of the Nepal Bankers’ Association. “Banks are fully aware that indiscriminate lending when old loans are not being recovered will only create additional problems.”

Data show that overdraft lending has been steadily contracting over the past three years. In the first four months of the current fiscal year, overdraft loans declined by Rs 5.5 billion. In the same period last year, the decline stood at Rs 8.22 billion, while in the first four months of FY 2023/24, overdraft lending had shrunk by Rs 93.36 billion.

However, following the policy revision, banks have started receiving fresh requests. Rastriya Banijya Bank CEO Devendra Raman Khanal said borrowers are now approaching banks seeking higher limits.
“Eligible borrowers are coming and asking for limit enhancements,” he said. “Once the regulator introduces a policy, banks are obliged to implement it.”

Currently, overdraft loans account for around 12–13 percent of total credit in the banking system. While NRB officials argue that boosting consumption through such lending will help revive the economy, bankers and analysts warn that encouraging purpose-free credit risks repeating the same mistakes made during the Covid era—this time with already fragile balance sheets and limited recovery capacity.