Concerns about the quality of the credit of banks and financial institutions operating in Nepal have risen even though the non-performing loans (NPL) of BFIs have been seen to remain significantly lower. The NPL ratio of BFIs, which had declined to 1.3 percent in July 2022, ticked up to 2.6 percent at the end of the first half of the current fiscal year 2022/23, according to the World Bank’s Nepal Development Update released in early April. According to the report, this is the highest NPL ratio registered in the past six years. Still, it remains very low by international benchmarks. In fact, the NPL ratio of Nepal is the lowest in South Asia. According to another World Bank report titled ‘South Asia Economic Focus, Expanding Opportunities: Toward Inclusive Growth’, the NPL ratio remained over five percent in the third or fourth quarter of 2023 in the case of other South Asian countries excluding Afghanistan.

The latest NPL ratios in South Asian countries remain below the levels of 2021 and under the 10 percent threshold commonly used to indicate systemic stress in most South Asian countries, according to the World Bank. But the exceptions are Sri Lanka and Bangladesh where the NPL ratios reached above the 2021 level—9.4 percent in Bangladesh and 10.9 percent in Sri Lanka in September 2022—suggesting a deterioration in asset quality.

However, the International Monetary Fund (IMF) is not convinced that the quality of the loans provided by Nepal’s banks and financial institutions is as good as it is being reported. “The asset quality of banks in Nepal has deteriorated, reflecting a decline in the repayment capacity of borrowers due to higher lending rates and rising leverage, a concern that is moderated by banks’ capital-adequacy ratios that are above the regulatory minima,” the IMF’s Article IV consultation mission said in a statement in late February. According to the IMF, discussions with central bank officials recognized the need for the central bank to ensure appropriate reclassification of loans and close monitoring of the impact of a potential deterioration in the repayment capacity of borrowers. The IMF mission had also called for the auditing of the country's 10 largest commercial banks by international auditing firms in the next phase given its suspicion about the quality of loans provided by the Nepali banks. “Though the NPL ratio of Nepali banks and financial institutions is very low compared to other South Asian countries, bad debts have jumped in recent months,” said a senior NRB official. “It is a matter of concern for us.” The latest Nepal Rastra Bank data shows the average NPL ratio of BFIs stood at just 2.63 percent of total loans by mid-February. The average NPL of commercial banks stood at 2.49 percent, development banks had 2.82 percent and finance companies had 7.82 percent. IMF’s assessment of the asset quality of Nepali banks has come at a time when the country’s economy is in the doldrums with market demand sinking. Protests are erupting against the high-interest rate being charged by BFIs. Some bank employees were also manhandled in recent weeks. Official statistics, however, paint a picture of the sound health of BFIs which the World Bank has also acknowledged in its Nepal Development Update report. Capital adequacy indicators of the BFIs also remain above minimum floors too, according to the report. The total average capital-to-risk-weighted assets ratio, a measure of bank capital adequacy, ended the first half of fiscal 2022/23 at 13.1 percent, above the regulatory minimum of 11 percent. But the World Bank has also expressed doubt about the loan quality in the report. “Although financial institution soundness indicators remain reassuring, some forbearance measures in place through the end of the fiscal year 2022/23 may be questioning actual asset quality in the banking sector,” reads the report.