The Question of Depositors, Profitability and Financial Stability
Dr. Dibakar Bashistha/ The banking sector is the backbone of a country’s economic development. Banks and financial institutions play a vital role in mobilizing savings, channelling financial resources into productive sectors, operating payment systems, and facilitating economic activities. Although Nepal’s banking sector has made remarkable progress in expanding banking access and financial inclusion over the past few decades, it has faced various challenges in recent years. These include periodic liquidity shortages as well as excess liquidity, rising non-
performing loans, interest rate volatility, weak credit demand, economic slowdown, regulatory challenges, and growing public concerns. Nevertheless, every crisis also carries opportunities. The current challenges have created opportunities to make the banking sector stronger, more technology-oriented, competitive, and sustainable.
Excess Liquidity Amid Weak Investment Demand
Nepal’s banking sector is currently experiencing a situation of excess liquidity. Growth in remittance inflows, sluggish government expenditure, weak private sector investment, and declining credit demand have resulted in a substantial accumulation of investable funds within banks. Despite having adequate financial resources, banks have been unable to expand lending as expected, resulting in a continuous decline in deposit interest rates. Many banks
are currently offering single-digit, relatively low interest rates on fixed deposits, directly affecting depositors & income.
The slowdown in economic activities, sluggishness in the construction sector, weak performance of industrial and commercial activities, and uncertainty among investors have made the banking environment increasingly challenging. According to the latest data published by Nepal Rastra Bank, as of Kartik 16, 2083, credit expansion in the banking and financial sector remains relatively weak compared to deposit growth. Total deposits have reached Rs. 85 trillion and 15 billion, while total credit disbursement stands at Rs. 60 trillion and 77 billion. Accordingly, the credit-to-deposit ratio stands at 70.79 percent. The average deposit interest rate of commercial banks is 3.11 percent, while the average lending rate is 6.38 percent. The interbank interest rate stands at 2.75 percent. These figures indicate that despite sufficient liquidity in the banking system, demand for credit remains relatively weak. The non-performing loan (NPL) ratio of commercial banks reached 5.64 percent by the end of Ashwin 2083. However, profitability has shown considerable improvement, with the net profit of commercial banks reaching Rs. 19.15 billion in the first quarter of the current fiscal year. Nevertheless, despite the improvement in net profit, distributable profit remains negative at Rs. 9.78 billion.
Opportunities Hidden Within the Cycle of Challenges
In recent years, Nepal’s banking sector has encountered several complex challenges that have increased uncertainty within the industry. These include mounting non-performing loans, court orders and legal disputes related to the banking sector, intense market competition, human resource and technology management issues, weak credit demand, declining interest rates, cybersecurity risks, regulatory pressures, sluggish economic activities, imbalances in imports and exports, and inadequate private sector investment. At the same time, several opportunities are emerging within the banking sector. These include the expansion of digital banking, financial inclusion, increased investment in agriculture and small enterprises, green finance, mergers and acquisitions, growing remittance inflows, and the application of artificial intelligence. If these opportunities are properly identified and effectively utilized, they can help transform existing challenges into avenues for sustainable growth. The banking sector must therefore adopt appropriate strategies to strengthen credit assessment mechanisms, control non- performing loans, improve cybersecurity systems, expand digital products and services, collaborate with fintech companies, and enhance customer-oriented services. Similarly, investment in agriculture, tourism, energy, and small industries should be prioritized. Promoting startup financing and youth-oriented investment, strengthening employees & technological and risk-management capabilities, introducing performance-based management systems, and expanding public awareness of financial literacy are equally important.
History demonstrates that every crisis also creates opportunities for transformation and reform. Through digital transformation, financial inclusion, green finance, investment in agriculture and entrepreneurship, improved risk management, and financial innovation, Nepal & banking sector can convert current challenges into opportunities. Therefore, searching for opportunities amid challenges should not merely remain a slogan; it should become a strategic direction for making Nepal & banking sector sustainable, efficient, and competitive. Declining Interest Rates: The Imbalance Between Depositors and Banks Interest rates represent the price of money. The return received by depositors for placing money in banks is known as the deposit interest rate, whereas the cost paid by borrowers for obtaining loans is known as the lending interest rate. Interest rates play an important role in maintaining a balance between savings and investment. The fundamental function of the banking system is to mobilize savings and channel them into productive sectors. This process requires a balanced relationship among depositors, borrowers, investors, and regulatory authorities.
However, Nepal’s banking sector has experienced a continuous decline in deposit interest rates over the past few years. In particular, interest rates offered on deposits have fallen to historically low levels. Despite adequate liquidity in banks, the absence of expected growth in credit demand has reduced the pressure on banks to offer higher interest rates to attract deposits.
When deposit interest rates fall below the inflation rate, the real return on savings can become negative. Consequently, the purchasing power of deposited money gradually declines. This may weaken the habit of regular savings among the general public and increase their attraction toward alternative investment opportunities. Another important aspect of declining interest rates is their impact on the financial condition of banks. A reduction in deposit costs can lower banks’s overall funding expenses. However, when credit expansion remains weak, excess liquidity may remain idle, while pressure on interest income may increase. This can affect banks & profitability, investment capacity, and long-term financial stability. On the other hand, lower lending rates provide opportunities to reduce business operating costs, establish new industries, increase production, and expand employment opportunities. Therefore, low interest rates are not necessarily a problem in themselves; their overall impact depends on how effectively available financial resources are utilized and the prevailing economic environment. Low interest rates can have both positive and negative implications for the overall economy. On the positive side, they can encourage investment, create employment opportunities, increase production, and provide financial relief to the private sector. On the negative side, they can reduce returns on savings, weaken financial discipline, increase the possibility of artificial price inflation in asset markets, and encourage riskier investment practices. Therefore, it is essential to ensure that the availability of cheaper credit is translated into productive investment.
In the present context, Nepal Rastra Bank has been influencing interest rates directly and indirectly through its monetary policy. When economic activities slow down, interest rates are generally reduced to encourage investment. Conversely, when inflationary pressure increases, interest rates may be raised to control excess liquidity in the market. However, reducing interest rates alone is not sufficient. Policy initiatives to increase credit demand, improve the investment environment, and channel financial resources into productive sectors are equally necessary. Protecting depositor’s interests is also an important responsibility of the regulator. It cannot be considered a balanced financial arrangement if the real value of savings held by a large number of depositors continues to decline merely to facilitate access to limited credit resources. In particular, appropriate policy provisions concerning minimum deposit interest rates and premium interest rates may be necessary to protect small depositors. Interest rate determination should maintain a balance among market conditions, inflation, banks’s financial costs, and depositors’s interests. Ultimately, low interest rates may create opportunities for borrowers and entrepreneurs while
presenting challenges for depositors and the banking sector. Whether their overall impact becomes positive or negative depends largely on how effectively available financial resources are mobilized into productive sectors. Therefore, interest rates should not be viewed merely from the perspective of cheaper credit but should also be linked to depositors & returns, the financial stability of the banking sector, and overall economic development.
Regulatory Intervention for Financial Stability
A balanced interest rate structure can serve the interests of both depositors and banks. Therefore, regulators must prioritize financial stability through appropriate monetary policies and interest rate management. They should also focus on credit expansion, liquidity management, lending to productive sectors, financial inclusion, financial literacy, and the promotion of digital banking. If economic activities begin to expand, excess liquidity available within banks can be mobilized into productive sectors. This may increase credit demand and help bring interest rates to a more balanced level. However, if economic sluggishness continues, banks may face additional pressure on profitability, depositors may experience further reductions in returns, and new challenges may emerge within the financial system. Therefore, the future course of action should focus on several key areas, including digital banking development, green finance, agricultural financing, financing for small and medium- sized enterprises, and the development of innovative financial services. Encouraging investment in productive sectors, strengthening private sector confidence, increasing government capital expenditure, promoting financial literacy and inclusion, strengthening risk management, and ensuring effective coordination between monetary and fiscal policies are equally important.
Low interest rates are not inherently a problem. Their impact depends on how effectively the economy utilizes available financial resources. If cheaper financial resources can be mobilized into productive sectors, they can contribute to economic growth and employment generation. However, if liquidity remains idle and the investment environment fails to improve, both the banking sector and depositors may face long-term challenges. Therefore, the government, Nepal Rastra Bank, the banking sector, the private sector, and the general public must work together to transform the current low-interest-rate environment into an opportunity for sustainable economic development. Effective mobilization of financial resources is one of the most important requirements for building a stronger and more sustainable economic future for Nepal.
