No lowering of interest rates in Nepal

A piece about Nepal’s banking sector on Bloomberg. The governor makes sense here--

Kshetry said he can’t lower interest rates to support economic expansion because of high inflation. Nepal’s inflation rate climbed to 11.9 percent in March from 9 percent a year earlier because of a shortage of food and fuel, Kshetry said.

The central bank raised the cash reserve ratio to 5.5 percent from 5 percent and the key bank rate to 6.5 percent from 6.25 percent in October 2008. It has kept policy rates unchanged since, Kshetry said.

Troubled banks in Nepal

A day after liquidating Nepal Development Bank (NDB), of which I argued for immediate liquidation, it has been know that another bank (I suspect there are many such low performing banks who play with balance sheet) is in trouble. World Merchant Banking and Finance Limited, after a year in operation, loaned Rs 9 million to a contracting company without properly assessing the loan-seeker’s ability to pay back the loan. Being unable to recover loans and to avert a negative balance sheet, it created a fictitious story-- that it recovered loan from the company and lent it to someone else.

When all this happened, the central bank was completely kept in dark by the incompetent management of the bank. Okay, it is partly the central bank’s fault to not tap on this shady practice for over five years.

This illegal practice of transferring the ´troubled´ loan into a new person´s name continued for five years till 2007, when borrowers started asking the finance company to release some of the land held as collateral by the finance company. "To coax the management the borrowers paid back Rs 700,000 of the loan amount. But we did not agree," said the source. Then subsequently, the borrowers started claiming they did not owe any money to the finance company and it had failed to deduct the installment amount that borrowers had paid over the years, which, the finance company calls a "total lie." "We challenge the borrowers to show cash receipt if they had truly repaid the loan amount," said the source.

Then the matter went to the police and in January 2008, it asked the finance company to submit all the documents involved in the loan transaction. Then the central bank became wary of malpractices going in the financial institution and in April 2008 it warned World Merchant to discontinue the illegal practice of transferring liability of loan amount to new persons.

And, a persistent problem of moral hazard because of the institutionally (and human resource wise) deficient and inefficient central bank.

On June 14 this year, Binit Mani Upadhyaya, CEO of the finance company, was arrested after borrowers lodged a complaint at the Commission for the Investigation of Abuse of Authority. Since then depositors have withdrawn around Rs 400 million from the finance company. "But we are not facing cash crunch as the central bank is indirectly pumping money into the financial institution," the source said.

M2 is going up and so is inflation, despite a deflation in India. If this continues, then the Nepalese financial market will be hit by a terrible storm!

Roads, connectivity and markets

The importance of roads in establishing a link between production site and market:

As recently as 5 years ago, farmers in Belanting had to pay Rp15,000 ($1.26) to take 100 kilos of rice to the market, a fee that significantly cut into their already narrow profit margins. Today, Mr. Maca says he only pays Rp1,000-less than 10% of what he previously did- and profits from his farm have more than doubled.

That’s from a project funded by ADB in Philippines.

Why Nepal Development Bank (NDB) should be put to rest?

 

My latest op-ed about why a troubled bank in Nepal should be put to rest (I provide the links to some stuff here):

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Let NDB go away

CHANDAN SAPKOTA

The banking sector is one of the few industries performing reasonably well most of the time. This has been one of the most attractive industries for employment and internship and investors, thanks to impressive performance of commercial banks and some development banks. However, there are some banks- whose balance sheet is weak; liabilities are in far excess of assets; who engage in risky deposit schemes with unreasonably high interest rate offers just to entice depositors; and engage in shady practices with backing from incompetent management and promoters- whose dismal performance is fueling anxiety among depositors and investors.

The failure of few of these banks to correctly assess their own capacity and ability to cater to the interests of depositors and investors has created an environment where the public is questioning soundness of the entire banking industry. This has impeded efforts to foster healthy competition, ensure market confidence, and promote a bankable banking industry where a run on one bank would not become a contagion and drag the whole industry down.

Nepal Development Bank (NDB) - which aspired to “enter the new millennium with profitability, size and efficiency on par with the best of the banks in the world”- is one of the zombie banks that have been a victim of its own irresponsible acts (recall the fate of Nepal Bangladesh Bank in 2006). The central bank has asked NDB management to furnish details on why it should not be liquidated. In any case, given the mess NDB is right now, it is in the interest of depositors, investors and the whole banking industry to liquidate NDB immediately.

According to media reports, the central bank estimated that NDB had bank deposits and cash worth Rs 196.20 million and its cumulative loss amounted to Rs 690.2 million (the bank management did not even know the full scale of its losses and claimed it amounted to Rs 640 million only). The non performing loans (NPL) comprised over 50 percent of its loan portfolio. The negative capital adequacy ratio of 48.31 percent was far less than 11 percent allowed by the central bank.

What is surprising is that even with dubious balance sheet and mounting losses, NDB management showed sheer irresponsibility by asking the NRB not to liquidate the bank. The irresponsible management team’s stubbornness is being amplified by lobby groups such as the Association of Nepali Development Banks (of which NDB is not even a member!) and the Association of Finance Companies. They have asked the central bank to revive the dead bank. For what? To vindicate NDB management of its reckless and stupid decision as if nothing wrong happened. The bank should have been liquidated back in 2004 and action taken against the then executive chairman and promoter Uttam Pun, who, unfortunately, went roundabout NRB’s weak regulatory power and used Appellate court, which itself is ineffectual in dealing with financial cases, to rescind the central bank’s action.

The central bank has rightly intervened and has also tried to calm down wary depositors and the market. Its plan to liquidate NDB to contain further losses and not let the bank operate with phony balance sheet that does not even satisfy minimum requirements, let alone prospect for profits, for sound banking practices is exactly what is needed at the moment. The NRB, despite regulatory and institutional weaknesses, has to show that it is tough and capable of reigning in banks that taint the image of the otherwise healthy banking industry. To avert the spread of contagion (of bank run) arising from the failure of NDB, NRB has also assured safety of deposits. This is required at the moment but should not be a permanent stamp due to fears of moral hazard. Now is the time to ponder upon establishing a national deposit insurer that would insure deposits up to a certain limit.

If the central bank does not liquidate banks like NDB, then the banking industry might engage in risky lending and unsustainable deposit schemes hoping that ultimately the government and NRB will bail them out in case of bankruptcy. The NRB needs to send a strong signal to the market that it is a responsible and strict watchdog of the banking industry.  Veering away from this responsibility might foster unhealthy banking practices, where a single bank failure could pose a systemic risk to the whole banking industry. At the moment, the failure of NDB does not pose this kind of risk. However, failure to let it go would foster malpractices by unscrupulous board of directors, loss of taxpayer’s money and risk consumer’s deposits, leading to more sicker and zombie banks whose downfall might be contagious. Continued existence of banks like NDB would decrease the industry’s competitiveness, which is the last thing the economy needs at a time when successful international banks are preparing to enter the Nepali financial market in 2010 according to the WTO rules.

For now, the government and the central bank should fully liquidate NDB, take action against its management team and promoters, and send a signal to depositors that their deposits are safe and to the market that the central bank is vigilant and committed to fostering healthy competition in the banking industry.

Samuelson on Mankiw, dollar, and bubbles

Part II of an interview with Samuelson:

In one of Greg Mankiw's articles, he said that maybe when the interest rate gets down to zero and it's threatening to be negative, you should give a subsidy with it. Well, that's what fiscal policy is!

I think it's almost inevitable that, with a billion people in China wide awake for the first time, and a billion people in India, there's going to be some kind of a terrible run against the dollar. And I doubt it can stay orderly, because all of our own hedge funds will be right in the vanguard of the operation. And it will be hard to imagine that that wouldn't create different kind of meltdown.

But there never has been a true macro efficient market. You just have to look at the record of economic history the ups and downs. Bubbles are self-generating. And I'm not sure most of the people that get caught up in the middle of a bubble can be described as irrational. It seems pretty rational to buy a house and flip it in the next few weeks at a profit when that's been happening for along time. It works both ways.

I think it would be surprising if, down the road -- not in the long long run but in the somewhat short run -- we don't have some return of inflation. On the other hand, I'm of the view that if we come out of this with some kind of temporary stabilization at least, and the price level is let's say 10-12% above what it was before we got into the meltdown, I think that's a price I would be willing to pay!

I'm against inflation, but what I worry about is continuing, galloping, self-reinforcing inflation. I would not try to roll things back to some sacred earlier price level.

Links of Interest (06/16/2009)

Interview with Paul Samuelson (Part I)

I am a cafeteria Keynesian. […] Well, reasonable men are not reasonable when you're in the bubbles which have characterized capitalism since the beginning of time.

Milton Friedman. Friedman had a solid MV = PQ doctrine from which he deviated very little all his life. By the way, he's about as smart a guy as you'll meet. He's as persuasive as you hope not to meet. And to be candid, I should tell you that I stayed on good terms with Milton for more than 60 years. But I didn't do it by telling him exactly everything I thought about him. He was a libertarian to the point of nuttiness. People thought he was joking, but he was against licensing surgeons and so forth. And when I went quarterly to the Federal Reserve meetings, and he was there, we agreed only twice in the course of the business cycle.

Krugman on new financial regulations

Good review of Dead Aid

A short (incomplete) review of (free) market system in Nepal

Remittances expected to fall by 5 to 8 percent in 2009

Health and growth

The hungry people are watching!

Javier Blas reviews Enough: Why the World’s Poorest Starve in an Age of Plenty. This paragraph shows the irony of ‘invisible hand’ belief.

“Much of the chronic, everyday hunger in the world is now a man-made catastrophe, caused one anonymous decision at a time, one day at a time, by people, institutions and governments doing what they thought was best for themselves or sometimes even what they thought at the time was best for Africa,” they write.

The global food industry typifies a market dominated by few players, vested interest groups, and predatory pricing in the form of food aid, which is not only lowering food prices (crucial for meeting household needs of a farmer in the developing world) but also discouraging farmers from engaging in agriculture business (because the rate of return is very low). The aid industry is tied up with food industry and basically supply their surpluses to developing countries leading to two fiscal effects: (i) increase in debt, and (ii) decrease in revenue as farmers get displaced by the inflow of cheap food from the West. The poor always remain poor and the masters always prevail!

Nothing could illustrate the shortcomings of US food aid policy, in which Washington sells American farmers’ output in Africa rather than sending money to buy local food, better than a dialogue between an Ethiopian farmer and a US executive at a food aid meeting in Addis Ababa. The farmer asks the executive enthusiastically: “Can you help our farmers sell their beans in America?” He receives an unexpected answer: “Actually, we represent American bean growers.”

Advice from the western world has not helped, however. It is telling that one of the best agricultural programmes in Africa – a subsidy system for fertiliser and high-yielding seeds in Malawi that has transformed the country into a net exporter of corn – was objected to, even to the point of threats to withhold some aid, by the Washington-based World Bank and the Department for International Development in Britain.