The Nepali financial sector will undergo Financial Sector Assessment Programme, undertaken by the World Bank and International Monetary Fund, between November 2013 and February 2014.

The programme will conduct an in-depth analysis of the Nepali financial sector and identify its strengths and vulnerabilities.

Dikshya Singh caught up with IMF's Senior Resident Representative for Nepal Thomas J Richardson to talk about the financial sector, Nepali currency peg, and growth rate, among other issues. Excerpts:

IMF and World Bank are going to conduct the Financial Sector Assessment Programme in Nepal. How helpful will it be for the Nepali financial system?

FSAP is done in almost every country but this is the first time we are doing it in Nepal. Over the last 15 to 18 years we have seen how instability in the financial sector can impose huge costs on the real economy. So we have been looking into the financial sector of every country and developed a pretty robust set of tools to conduct stress tests, assess banks, test internal control system to assess capital adequacy, and their capacity to handle and identify risks. It will be helpful as it will point out any issue that exists in the financial system including underlying asset quality.

How actually is the Nepali financial sector? Have the troubles haunting it since the last couple of years subsided?

The financial sector is apparently weak in Nepal. The level of non-performing assets is actually higher than what is being reported. There is ever greening of loans — borrowers are taking loans to pay for loans taken earlier. The regulator has to strongly supervise the banking sector to prevent any failure. If there is lack of trust in the banking sector, people will withdraw their savings and there will be no money to lend to businesses. Moreover, it is unusual to have so many deposit taking institutions — 200 licensed financial institutions, cooperatives and more. NRB has a huge task to supervise and regulate all these institutions which is difficult.

So do you feel the ongoing consolidation and mergers of financial institutions is a suitable policy in the current scenario?

Consolidation and mergers are good but you have to merge financial institutions that are good matches like ones with different sets of assets and skills and when you put them together a stronger institution is created. On the other hand, if you are merging a bad one with an okay one you might end up with one bigger insolvent bank. Make sure that the resulting one is stronger because banks going under is very bad with people losing their savings.

Aren't most of the financial institutions still engaged in lending to projects such as real estate and similar areas instead of looking for productive sectors?

May be banks are not working hard enough but which sector should they finance. Nepal needs to make 'doing business' easier by building infrastructure and improving investment climate so that it is easy to do business — make it fast and simple to start and operate a business. Tax rates are not that high here — predictable political stability, reliable power supply, and decent roads will make investment climate better. Let's suppose, if I were an investor, I would only start a business after making sure that there is reliable power supply, work force that actually works, competitive wages, good roads so my goods arrive on time and intact, and there are no other hurdles such as difficulty in acquiring land and other such things.

Then how is Nepal's overall prospect in the medium term?

Prospects are pretty good but growth will be dependent on timely budget implementation and agriculture output as well. If Priority One programmes get implemented soon — especially hydropower and infrastructure projects — things will be better. Nepal needs to be growing at seven to eight per cent because it is situated between two economic powerhouses — China and India. Being a landlocked country there are challenges but it needs to offset it by improving the business climate and making it attractive for business investment — power generation and removal of bureaucratic hurdles. Moreover, prospects of incoming remittance is also good for Nepal.

How can Nepal utilise the remittance inflow that is being used for personal consumption?

To utilise the huge remittance inflows into productive investment, a robust and strong financial sector is required. When remittance comes in, people put some of the money in banks and those savings should be transformed into investments. Anyone who wants to start a business can borrow that money. Banks will turn your savings into investment. People are sending money which is capital but a good investment climate is required to utilise that money through a good financial sector.

In the last two decades since the current peg rate between Nepal and India was fixed, both the countries have seen a lot of changes economically, so is this not the right time to reconsider the peg?

We think the peg makes sense so there is no reason to go off because it is providing anchor to Nepali monetary and macroeconomic policies. Removing the peg will expose the Nepali economy to more volatility and will require more financial sector supervision as it needs to be hedged against all kinds of risks from abroad. Since Nepal's inflation rate is below that of India's, at the current rate Nepal is relatively more competitive so it should utilise current peg.

Source: THT

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