It was the middle of 2016, and the Nepali capital market was entering an all-time high territory. People were excited with the extreme bullish sentiment. But then the banking and financial institutions (BFIs) started showing some minute cracks in their spotless performance. The interbank rate (i.e. the interest rate charged on short term lending done between the banks and financial institutions) started showing queasiness. Since the start of 2012, the interbank rate managed to stay between 0.15 percent on the lower side and 1.59 percent on the higher side, with exceptions only in one or two months. The rate was still hovering at 0.69 percent in July 2016—the same month when the index reached the all-time high of 1,888. The next month in August, it climbed to 0.82 percent and, in September, leaped to 2.56 percent. This was early indication of financial institutions running short of cash. The central bank— Nepal Rastra Bank (NRB)— tried to assure stakeholders that it was a temporary phenomenon. Unfortunately, the interbank rate continued to rise, reaching 4.13 percent within February 2017. This was only the start.
As per the central bank’s directive, the BFIs had raised their capital base multi-fold, potentially diluting their earning per share. To avoid such an unpleasant situation, they were forced to go on an aggressive credit expansion. But the deposit base did not support this. Demand continued to rise while there was a short supply of cash resources. Government track record of slow capital expenditure was not much help. The pressure to perform from the shareholders forced BFI managements to look for next best solution—attracting deposits.
Cash-strapped financial institutions went on an aggressive drive to acquire new deposits and to retain the existing ones. The BFIs came up with new products providing higher interest rates. But this still did not help. Instead of attracting money from informal sector, it largely sent money from one financial institution to the next. The result was that the BFIs continued to raise deposit rates till they had an understanding to put a ceiling on it. The weighted average deposit rate of 3.28 percent in July 2016 reached 6.15 percent by July 2017. This did not show any sign of respite till July 2019, when it stood at 6.60 percent.
This worked as a double-edged sword for the NEPSE. People felt it more lucrative and safer to put their money in bank deposits than hold on with their scrips in the market. A significant segment of investors withdrew from the market to safeguard their wealth in the form of term deposits. Potential investors who were thinking of entering the market put a halt to their decision and diverted money into term deposits.
At the same time, the traders who were enjoying credit line from banking institutions found it dearer to trade. The lending rates went high, and the declining market called for aggressive margin calls from the BFIs.
This year, the government’s 2019/20 fiscal policy accompanied by the directives from the central bank has put many constraints on BFIs’ lending capacity. This development makes the BFIs less aggressive while looking for new deposits. The deposit rates are in single digit and hopefully it will stay the same. Second quarter reports of the BFIs and the review of the monitory policy will help chart new directions. Interestingly, this situation is already reflected in the capital market as it declined to sink further and has been in an upward rally from 1,100 points. The rally is waiting for the confirmation of better performance reports from the banking sector O