Is Nepali Economy Turning Safe for the Businesses? What Does Our Monetary Policy Review Tell Us About This?
Are you running a business? If yes, then you should not skip these monetary policy updates that happened recently in Nepal.
Any business is affected by 4 major areas which we call PEST; Political, Economic, Socio-Cultural, and Technological areas. These aspects are crucial in shaping the opportunities and threats in the business environment.
Economic Aspects that Impact Your Business
Let’s talk about the economic aspect that impacts your business. The major economic policies that govern the economic condition of a country are Fiscal Policy and Monetary Policy. Serious business owners meticulously wait for these updates as the lion watches its prey. And when a suitable policy comes in, they grab these opportunities at a glance.
For businesses that are in their growth stage, they are more prone to market conditions, especially the financial market. If you want to grow your business, chances are that you might have at some point considered borrowing money from the bank. Or you might have stayed clueless about whether to add that new plant or not, being unsure about the market growth. If the economy is not growing, not all businesses grow to their potential as the market is not yet ready to go bullish.
When economic activities like production, trade, industrial growth, capital, and money market are shrinking, how can businesses flourish?
And how do we know if the economy will grow or shrink?
Well, there are various economic indicators. And you do not need to be an economist or go to a business school to learn all these.
A know-how of a few of them can provide you an insight into where the economy is heading. The basic one is the inflation rate. Whether you are a consumer or a producer, inflation leaves nobody untouched. It can either help you gain more profit due to the increasing prices in the market, or cut off your profitability by increasing the cost of production.
Another is the interest rate. What if you were considering borrowing a loan from the bank and just a few days before, the central bank allowed banks to increase the interest rate?
Or what if it causes a change in the money supply in the market that can either expand or contract the economy?
Here comes the Monetary Policy that guides you throughout the year
All of these things summed up, you can search for all these indicators inside the Monetary Policy to learn where the economy is shifting towards in every quarter of the fiscal year. We are not referring to fiscal policy here because it is not revised often unlike Monetary policy which is done every 3 months; thereby a total of 4 times in a year. While the fiscal policy tames economic development and mostly, income and expenditure of the government, the monetary policy oversees major three things that run the money in an economy:
1. Interest rate
2. Price
3. Money Supply
According to the market conditions, the central bank revises the Monetary to adjust the economy and bring it back on its track according to the objectives and targets for that year.
And recently, it released the third quarter review of Monetary Policy 2080/81 on May 17 where there are a few policy changes that are crucial for certain types of businesses.
Let’s dissect these policies…
Interest Rate
If you are finding it difficult to get a loan from the bank, the current decrease in interest rates might be beneficial for you. The average base rate for commercial banks, which was at a double-digit of 10.48% in the month of Chaitra 2079, has now decreased to a single digit of 8.51% in Chaitra 2080. This means that the bank’s interest rates are also decreasing.
What does lowering interest rates mean for businesses?
Well, interest rates are the price you pay for the loans borrowed. When interest rates are high, the cost of capital is higher because you need to pay a higher interest amount, and vice versa.
If the central bank allows a lower base rate, it means the interest rate the bank charges on loans also gets lower. The central bank does not allow banks to lend money below that base rate.
Most businesses do not keep their money rotting in interest-yielding deposits, rather they reinvest that money into their business expansion. Therefore, the interest rate on loans is considered more important for businesses than that of deposits.
Hire Purchase Vehicle Loan
As the imports of vehicles (especially EVs) are increasing in Nepal, hire purchase loans are another factor that makes the market more operational, increasing money in circulation. In this 3rd quarterly review of the Monetary Policy, the average weighted risk for hire purchase loans has been reduced from 125% to 100%.
This means, the interest rate on hire purchase loans will get lower, therefore boosting vehicle consumption and sales. This will further increase government revenue through imports.
What about the effect on the banking sector?
Hire purchase loans are mostly provided by the seller where the banks and financial institutions (mostly finance companies) come into play to facilitate this. When the weighted risk is lowered in such loans, it increases the Capital Adequacy Ratio (CAR) of the banks, which represents how well the banks can absorb losses in loans.
It is all an attempt to make the capital base of the banks stronger, as a result, you might have experienced an increase in the bank’s share price these days, in response to this policy update.
Moreover, the vehicle businesses might boom due to consumption induced by low-interest hire purchase loans. This might help the economy to grow further.
Loan Loss Provision
Banks maintain a loan loss provision to account for potential losses from their lending activities. The central bank tightens on loan loss provision and increases its requirements at times of economic downfall. And when it loosens it, that indicates the economy is growing.
The recent monetary policy has reduced the loan loss provision requirement for the pass loan category from 1.25% to 1.20%. This means NRB is trying to bring back the confidence in the market that the chances of loans going default are getting lower.
The banks can release those previously reserved funds back to the market in terms of loans.
Real Estate Loan
The Debt Service to Gross Income Ratio has been increased from 50% to 70%, meaning borrowers can allocate a larger portion of their income to pay installments for their real estate loans. For a long time, the real estate market was stagnant. This measure by NRB is an attempt to bring in more liquidity inside the real estate and construction sector, thereby boosting the economy. According to the Ministry of Finance, real estate contributed 7% to the total GDP of Nepal in the year 2019/20.
It is further expected to be 10% of the GDP by the year 2030.
As more real estate and construction activities increase, it is expected to increase the demand in the economy.
Inflation
The monetary policy review shows that the first 9 months-inflation rate ending Chaitra 2080 remained under 5.92%, which is lower than the expected limit of 6.5%. This inflation has decreased due to lowering imports and increasing remittances. With the foreign currency exchange in Chaitra 2080 enough to cover the imports for 12.5 months, compared to just 7 months in Chaitra 2079, we can clearly see that if imports get increased, this inflation rate can go beyond the yearly limit of 6.5%.
And with the loosening monetary policy review, imports can be expected to rise, which will certainly lead to increased inflation. However, this is not very alarming because of our direct linkage with the Indian inflation rate as the majority of our trade is linked to India.
These indicators seem to be an effort towards curbing the contractionary monetary policy into expansionary after this third quarter review. With the GDP growth rate target of 3.87% for this fiscal year 2080/81, this monetary policy seems to ease the money flow and help increase economic activities. Along with the above indicators, the interest rate of 91-day treasury bills weighted average rate has been reduced by one-third. So, gradually these economic policies are expected to favour the expansion of the economy. However, the power of money multiplier after this is yet to be seen in the market.
Did you find any opportunity for your business in this review? We hope so.
Article By: Radha Sapkota
