Lending and borrowing between banks gets hype after NRB grants luxury to include it in CCD ratio; 3.71% hike in interbank rate in one month

The interbank rate is the interest rate at which the banks borrow and lend money amongst themselves to meet short term liquidity requirement.

According to the provisions created by Nepal Rastra Bank (NRB) and the directives issued, the commercial banks of Nepal are required to maintain a CCD (credit to core capital cum deposit) ratio of 80%. The prime goal – to avoid bank run in case of acute liquidity problem arising from the mis-match in the maturity period of deposits and lending.

However, as time has been passing by, NRB has been revising the provision based on feedbacks from banks themselves and the market conditions. When banks complained too much about the CCD ratio limiting their efficiency, NRB in its recent monetary policy allowed them to incorporate long-term credit instruments (Debentures) in the CCD ratio. This eased the situation a bit.

Then recently, NRB also issued a circular whereby banks can also include funds receive Interbank borrowed funds in the CCD ratio. This suddenly hyped the interbank lending market. As you can see in the table below, the average rate of 1.33% in December of 2018 has gone up to an average of 5.04% in January of 2019. This increment is drastically high and may have led NRB to regret its decision too.

The money borrowed or lent among the banks can be held for a maximum of one week only. So, to speculate that banks may be borrowing from other banks to lend out to individuals and businesses may be inaccurate.

But on the other hand, by the basic law of demand and supply the rapid rise in rates indicate huge demand for funds and that has been substantiated by the huge volumes of interbank transactions. So, if banks are not lending out the money borrowed, were they having so much trouble maintaining the CCD ratio and if they wore how had they managed till now?

As we can see in the table below, the borrowing of some banks have also grown drastically. Out of 28, 17 commercial banks have already published the second quarter report of FY 2075/76 and the table shows the growth in borrowing amount between the Q2 of last year and the Q2 of this year:

So, we can see from the table that, the funds are moving unidirectionally where some banks are continuously on the borrowing side and some on the lending side. Of course, the borrowing figure includes other forms of borrowing too, but we're trying to look at the general trend of the funds flow.

This might be a short term solution for the commercial banks to maintain the CCD ratio within the NRB directives but in long run, without attracting long term deposits they won't be able to achieve desired growth in loans and advances.