"It is extremely challenging for all the banks. It is difficult to manage
or plan activities in advance because we cannot forecast anything due
to the volatility and uncertainty."
Since
the beginning of September, the central bank has held reverse repos of
Rs 25 billion and outright purchase of Rs 8.5 billion to mop up
liquidity from the financial system. However, till early July, some
banks were taking Standing Liquidity Facility at eight per cent bank
rate due to a relatively tighter liquidity situation. Such short spikes
and dips in the liquidity situation have created volatility in the
financial system. Three years back, the Nepali banking system had
undergone a massive liquidity crunch. Banks were able to overcome the
crisis-like situation only after more than a year.
Dikshya Singh caught up with former president of Nepal Bankers’ Association and CEO of NIC Asia Bank Sashin Joshi to find out about the impact of the constant fluctuations in liquidity on the financial market and the overall economy. Excerpts:
Since the last two years, banks seem to be struggling in disposing excess funds or have faced difficulties in maintaining enough balance every three months. Why is the liquidity cycle so short?
There is high volatility of liquidity in the financial system. But to a certain extent, banks are responsible as they react instantly. When liquidity goes up, banks lend aggressively and in case of tight situation they hike up lending rate instantly and demand for credit slumps which brings liquidity surplus.
What is the reason for the current liquidity surplus?
There are multiple reasons for the current liquidity surplus. One reason is the massive capital expenditure that occurred in the last month of the last fiscal year between mid-June and mid-July that released more than 40 per cent of the total capital expenditure. The other reason is that for the first time in four years the annual budget was announced on time so money has flowed into the system. Also due to the sharp devaluation of the Nepali currency against the US dollar, incoming remittance has gone up. Finally, credit demand has slackened, thus, liquidity has accumulated.
How difficult is it to manage a bank in this uncertain situation — not knowing how much fund will be available?
It is extremely challenging for all the banks. It is difficult to manage or plan activities in advance because we cannot forecast anything due to the volatility and uncertainty. We are exposed to both credit and market risks due to the interest rate fluctuation. Nepali banks have short-term deposits of a maximum of two years but their lending even for auto loans and project financing are for a minimum of five years. So banks are in a pretty vulnerable situation. Banks are also not assessing these risks while fixing the interest rates and not taking volatility into consideration.
Does that mean banks’ earnings might be a bit low in the first half of the current fiscal year?
Banking income in the first half will kind of be shaky as surplus funds are generating virtually nothing. The interest rate that banks are getting on reverse repo is negligible at about 0.036 per cent per annum, so one week’s earning is almost non-existent. Moreover, when the election gets nearer, government expenditure for elections will go up and money that is not in the banking system will also emerge for election campaigning — so more funds are expected to enter the banking system.
How does this volatile situation impact the overall economy?
In the current situation, it is difficult for businesses to estimate costs or profitability because interest rates keep fluctuating depending on liquidity. Six months down the line, if interest rates go up then cost of production will increase so businesses won’t be able to supply the product at the earlier fixed price. Likewise, if interest rates go below the rate of inflation, it will not be sustainable. If this happens, people will start diverting funds to unproductive assets such as bullion, property and if the gap is too high it could lead to capital flight.
What is the most effective remedy? Is NRB’s reverse repo and outright purchase auction enough to balance liquidity surplus?
It is virtually ineffective because surplus liquidity is at a size of Rs 60 billion, while weekly reverse repos undertaken by Nepal Rastra Bank is of Rs 10 billion. A few years back, the monetary policy had mentioned about introducing an interest rate corridor but it was not carried through and I don’t know why they backed down. It would have determined a minimum and maximum interest rate through Open Market Operations — that is buying and selling of securities. Such a corridor can prevent any sudden ups and downs in interest rates, thus, minimising volatility.
source: SINGH,DIKSHYA(2013),"There is high volatility of liquidity in the financial system", The Himalayan Times,26 Sep 2013
photo courtesy: Naresh Shrestha/THT
Link
Dikshya Singh caught up with former president of Nepal Bankers’ Association and CEO of NIC Asia Bank Sashin Joshi to find out about the impact of the constant fluctuations in liquidity on the financial market and the overall economy. Excerpts:
Since the last two years, banks seem to be struggling in disposing excess funds or have faced difficulties in maintaining enough balance every three months. Why is the liquidity cycle so short?
There is high volatility of liquidity in the financial system. But to a certain extent, banks are responsible as they react instantly. When liquidity goes up, banks lend aggressively and in case of tight situation they hike up lending rate instantly and demand for credit slumps which brings liquidity surplus.
What is the reason for the current liquidity surplus?
There are multiple reasons for the current liquidity surplus. One reason is the massive capital expenditure that occurred in the last month of the last fiscal year between mid-June and mid-July that released more than 40 per cent of the total capital expenditure. The other reason is that for the first time in four years the annual budget was announced on time so money has flowed into the system. Also due to the sharp devaluation of the Nepali currency against the US dollar, incoming remittance has gone up. Finally, credit demand has slackened, thus, liquidity has accumulated.
How difficult is it to manage a bank in this uncertain situation — not knowing how much fund will be available?
It is extremely challenging for all the banks. It is difficult to manage or plan activities in advance because we cannot forecast anything due to the volatility and uncertainty. We are exposed to both credit and market risks due to the interest rate fluctuation. Nepali banks have short-term deposits of a maximum of two years but their lending even for auto loans and project financing are for a minimum of five years. So banks are in a pretty vulnerable situation. Banks are also not assessing these risks while fixing the interest rates and not taking volatility into consideration.
Does that mean banks’ earnings might be a bit low in the first half of the current fiscal year?
Banking income in the first half will kind of be shaky as surplus funds are generating virtually nothing. The interest rate that banks are getting on reverse repo is negligible at about 0.036 per cent per annum, so one week’s earning is almost non-existent. Moreover, when the election gets nearer, government expenditure for elections will go up and money that is not in the banking system will also emerge for election campaigning — so more funds are expected to enter the banking system.
How does this volatile situation impact the overall economy?
In the current situation, it is difficult for businesses to estimate costs or profitability because interest rates keep fluctuating depending on liquidity. Six months down the line, if interest rates go up then cost of production will increase so businesses won’t be able to supply the product at the earlier fixed price. Likewise, if interest rates go below the rate of inflation, it will not be sustainable. If this happens, people will start diverting funds to unproductive assets such as bullion, property and if the gap is too high it could lead to capital flight.
What is the most effective remedy? Is NRB’s reverse repo and outright purchase auction enough to balance liquidity surplus?
It is virtually ineffective because surplus liquidity is at a size of Rs 60 billion, while weekly reverse repos undertaken by Nepal Rastra Bank is of Rs 10 billion. A few years back, the monetary policy had mentioned about introducing an interest rate corridor but it was not carried through and I don’t know why they backed down. It would have determined a minimum and maximum interest rate through Open Market Operations — that is buying and selling of securities. Such a corridor can prevent any sudden ups and downs in interest rates, thus, minimising volatility.
source: SINGH,DIKSHYA(2013),"There is high volatility of liquidity in the financial system", The Himalayan Times,26 Sep 2013
photo courtesy: Naresh Shrestha/THT
Link
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