Factors That Derailed The Economy

Economic problems have been at the forefront of Nepal’s national discourse for quite a while now and the failure of successive economic policies has increased the impatience among citizens plagued by economic woes. This then raises the question of why is it that despite the repeated claim of apparently huge effort and determination put in, there does not seem to be a tangible improvement. What is that broke the economy, seemingly beyond repair? The story can be broadly briefed within the scope of public debt, uncontrolled credit growth, ineffective regulation and crude intentions. Nepal has a fair history of highs and lows with public debt, with the recent history of it soaring to an extreme high during insurgency times and eventually subsiding. Things changed after the change of order, devastating earthquake and promulgation of constitution. The need for reconstruction and euphoria of government formed with resounding electoral success installed a sense of vindictiveness on economic affairs. 

When the dreams get grand without the resources to back it, deficit financing is the easy way out. In no time, the public debt grew substantially due to reckless spending. Deficit financing at times treads on the line of being a wonderful art of producing money from thin air and is always the case for the economy that does not produce much but exploits it unapologetically. A huge sum of money was injected into the economy on overheads that has failed to provide return so far. Then comes the unchecked rise in credit. The change of order after 2006 ushered in the era of uncontrolled credit expansion. The final use or purpose of credit of the substantial amount of money injected into the economy was never intently checked from any agents of financial sector. Speculation rose with land commoditised as the most sellable asset till the far nooks and corner of the country. 

Low regulation

There was already a low level of regulation within the banking industry as promised to the foreign restructurers and reengineers of financial sector. Add to that the reckless and unaccountable manner the entire credit industry conducted its business. The non-banking assets have grown four times in equal number of years reflects the same. The other aspect is the sheer size of credit granted to the few. The entire single obligor limit which was supposed to be a limiting measure for credit concentration morphed into reservation for few and the funds accessed has been severely misused, right under the nose of the regulator with the regulator unwilling or incapable of comprehending the broader aspect of the situation. Credit to GDP ratio created historic level. 

Amidst this saving and lending, cooperative sector emerged as key operator of real estate sector. Unregulated by crude design of the political class, the cooperative and banking sectors worked in tandem to proliferate prices of real estate. While cooperatives, enabled by the lack of regulation, commodified the land business, financial institutions nurtured it through wilful valuation process - one still unregulated by the regulator. This was the key reason why land prices sky rocketed. Here too, overall money in the economy grew substantially, facilitating speculation and speculative gains. While the year under COVID-19 restriction slowed the pumping and subsequent policies adopted particularly from monetary policy was needed to stabilise financial sector because the credit industry had already reached out of control of regulator, the tools were grossly misapplied. COVID-19 or not, the economy would certainly have reached the tipping point it is on today. The pandemic just became a great convenient cover for all to hide years of mismanagement.

Post pandemic and after the rise of share market to its all time high, backed by huge inflow of banking funds, the regulator finally awoke from its inertia. The issue of ceiling on share loan permissibility got issued by the central bank to contain the damage in financial sector. This was the first of many cases where money flow changed course, as a lot of those loans had to be repaid. Retail loan products got structured directly by central bank which further contained money outflow. Then came the “working capital guidelines” a sweeping legislation that strikes at the heart of indiscriminate money lending game. It put an end to an era of the misplaced belief of never having the need to repay loans. 

Credit control

What's more, the loans and deposit cooperatives collapsed when the central bank started taking a firm stand on credit control. Such was the interconnection between banking and cooperative sectors. Money outflow to the economy got checked greatly. Further, the rapid rise in public debt took the authority aback. The initial defiance on seeking this easy way out started to dwindle as soaring debt level as well as debt servicing cost started to bring in a lot of criticism, with its ultimate use being questioned. Money outflow to the economy got checked greatly, again. Modern economy, by and large, is the game of money supply and the initial outflow which was supposed to aid the productive sector but was spent mostly on unproductive and speculative activity in disregard for investing on sustainable fields that would provide a solid base for economic development. 

The fiscal authority is exhausted and under extreme caution to further exploit the easy way out of deficit financing as panacea to hide the problem, as was done before. While the monetary authority is still reeling from the shock of recent foreign currency reserve problem which was the result of misapplication of monetary tools as well as years of regulatory negligence that has led to such high level of defaults in credit market. Presently, the economy is exhausted due to misapplication of both fiscal and monetary tool. The room and appetite for further exploitation of these tools as well as courage to take bold steps to reform economy remains low. As such, the economy remains broken.

(The author is an ex-banker who is currently is working to promote financial literacy.)