Banks Awash in Cash But Starved of Borrowers: Inside Nepal’s Banking Paradox

KATHMANDU — Nepal’s banking sector is facing a bizarre paradox: banks have never had so much money, yet they have rarely struggled this much to lend it out. The freshly released annual review report, titled Monetary-Policy-2082-83-Annual-Review.pdf, paints a vivid picture of a financial system struggling under the weight of its own immense cash reserves. Despite a highly supportive and flexible stance from the central bank, commercial banks are navigating a tough year marked by sluggish loan demand, historic drops in interest rates, and mounting regulatory pressures over asset quality.

At the heart of the banking sector’s current situation is a massive influx of liquidity that the market simply cannot absorb. Thanks to a relentless flow of money from overseas workers, the central bank had to aggressively step into the foreign exchange market, purchasing US dollars and injecting a massive Rs 946.26 billion of fresh liquidity into the banking system. However, instead of this money turning into productive economic loans, a large portion ended up sitting idle in bank vaults.

To keep the financial system stable amid this mountain of idle cash, the central bank had to launch unprecedented mopping-up operations. By the end of Baisakh 2083, the outstanding liquidity sucked out of the system reached breathtaking heights. The Nepal Rastra Bank (NRB) held 71 deposit collection auctions to mop up Rs 716.70 billion, used its standing deposit facility 117 times to take in another Rs 111.90 billion, and issued special central bank bonds nine times to lock away Rs 200 billion. This massive intervention shows just how disconnected the massive supply of money is from actual domestic credit demand.

Credit Slowdown and Falling Interest Rates

The main reason for this pile-up of cash is that businesses and regular citizens are simply not borrowing. The monetary policy had anticipated that loans to the private sector would grow by a healthy 12.0%. Instead, private credit grew by a disappointing 6.5%. This slowdown happened even though the overall money supply in the country expanded by 15.2%, well above the targeted 13.0%. A combination of weak domestic demand, low business confidence, and a slower construction sector meant that banks had plenty of lenders’ cash but very few creditworthy borrowers willing to take on new debt.

With so much cash searching for a home, interest rates crashed to historic lows. Short-term rates remained firmly glued to the absolute floor of the central bank’s interest rate corridor. For instance, the weighted average interbank rate—the rate at which banks borrow from each other—fell to just 2.75%. Similarly, the yield on 91-day Treasury bills dropped to 2.63%.

This downward pressure quickly reached regular consumers and depositors. By Baisakh 2083, the average deposit rate for commercial banks plummeted to a mere 3.35%, while their weighted average lending rate dropped to 6.73%. Development banks saw their average deposit rates drop to 3.70% and lending rates to 7.87%. Finance companies followed a similar trend, offering an average deposit rate of 4.59% against an average lending rate of 9.14%. While cheap loans are usually excellent news for an economy, these low rates have yet to spark a major turnaround in credit demand.

Regulatory Cleanups and Structural Adjustments

Recognizing that the banking system needs structural adjustments to get back on track, the NRB introduced a wave of policy updates and regulatory measures. One of the most significant moves was a thorough cleanup of bank balance sheets. The central bank brought in independent experts to conduct a strict Loan Portfolio Review of the ten largest commercial banks in the country. The final assessment reports have already been sent to the respective banks for immediate action, signaling that the regulator is keeping a very close watch on the true quality of loans and rising non-performing assets.

To make things easier for both banks and corporate clients, the central bank also fine-tuned its strict working capital loan guidelines. Banks are now allowed to decide the timeframe for permanent working capital loans based on a business’s actual cash flow and financial statements. Furthermore, a previous rule that forced borrowers to maintain their working capital loan balance below 10% for at least seven consecutive days each year was relaxed to a more manageable 30%.

In another major relief to help banks manage their funds, the NRB completely scrapped a controversial rule that forced banks to keep institutional fixed deposit rates at least one percentage point lower than individual deposit rates. Additionally, to help banks preserve their capital during these trying times, the regulator announced that when banks take over non-banking assets from defaulting borrowers, they can count the regulatory reserves created against those assets as supplementary capital for up to two years.

Ultimately, the Monetary-Policy-2082-83-Annual-Review.pdf highlights that while Nepal’s banking sector is fundamentally safe and highly liquid, its biggest challenge is finding a purpose for its wealth. Moving forward, the true test for commercial banks will not be finding money, but safely deploying it into a sluggish economy without compromising on loan quality.