Financial System in Nepal

The Nepali financial system consists of banking and non banking sector. Banking
sector consists of Nepal Rastra Bank (NRB) as the Central Bank and the
Commercial Banks. The non banking sector includes, financial institutions licensed
by NRB like Development Banks, Finance Companies, Microfinance Development
Banks, Coop Financial Institutions, NGOs undertaking banking activities and those
under different Acts like Insurance Companies, Citizens Investment Trust, Postal
Savings Offices, Employees Provident Fund, Nepal Stock Exchange and
Commodity Markets.

History

The origin of the modern Nepali Financial System can be traced to the establishing
of Nepal Bank Ltd as the first commercial bank of the country. It was established
under Nepal Bank Act, 1994 B.S. The Government of Nepal owned 52% and
general public 48%. It started the banking system in the country and also public
private partnership in financial sector. In addition to commercial banking
operations, it was also permitted to function as banker to the Government.

Establishment of Nepal Rastra Bank under the NRB Act 2012 was another
important milestone for the development of banking system in Nepal.

Nepal Industrial Development Corporation was established in 2016 B.S. and it

brought in the concept of development banking in the country. Its objectives were
to provide technical and financial assistance to industries. Though it was licensed
to undertake banking transactions, its activities are subdued.

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Thereafter Cooperative Bank was established, which commenced the compulsory
savings scheme for farmers. Later, this was merged with Agricultural Development
Bank Ltd. The latter was primarily for Development of Agricultural Sector. It has
wide reach in both urban and rural areas and in addition to development banking is
actively involved in Commercial Banking also.

Rastriya Banijya Bank was established as a fully government owned entity in 2022
B.S. for Development of Commercial Banking Activities. It has a wide branch
network all over the country. A savings institution established as a fully
government owned entity in 2022 B.S. for Development of Commercial Banking
activities and has a wide branch network all over the country.

In the aftermath of liberalization of economy, Nepal Arab Bank (presently NABIL

Bank) was established in 2041 B.S as a first foreign joint venture bank. This was
followed by other banks like Nepal Indosuez, Nepal Grindlays etc.

A number of Commercial Banks were also established by Nepali Investors leading

to an emergence of a growing and competitive commercial banking sector in the
country.

In the last decade there was phenomenal growth of Financial Service Industry and
the present position of various participants including their share of business is
indicated below:

Number Share of Business

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 Commercial Banks 28 80.8%
Development 87 8.0%
Banks
Finance 79 9.6%
Companies
Micro Finance 21 1.6%
Development
Banks
Savings and 16
Credits
Cooperatives
NGOs 38
Rural
Development
Banks
Total 254
Nepal Rastra Bank

Under the provisions of Nepal Rastra Bank Act 2012, Nepal Rastra Bank (NRB)
was established in 2012 B.S. as Central Bank of the Country. It played a crucial
role for Development Banking Industry and has effectively circulated Nepali
Currency. NRB Act 2058 replaced the earlier act. This has made NRB a more
autonomous and responsible regulator as well as supervisor of Financial Sector.

Section 4 of NRB Act 2058 spells out the following as its objectives:

i) To formulate necessary monetary and foreign exchange policies in order to

maintain the stability of the price and balance of payment for sustainable
development of economy and manage it.
ii) To promote stability and liquidity required in banking and financial sector.
iii) To develop a secure healthy and efficient system of payment.
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 iv) To regulate, inspect, supervise and monitor the banking and financial
system.
v) To promote entire banking and financial system of Nepal and to enhance its
public credibility.

To achieve these objectives the functions, duties and rights of the bank have been
details as under:

i) To issue bank notes and coins.

ii) To formulate and implement monetary and foreign exchange policies.
iii) To determine the system of foreign exchange rate
iv) To manage and operate the foreign exchange reserves.
v) To issue license to banks and financial institutions and to regulate, inspect,
supervise and monitor their transactions.
vi) To act as a banker, advisor and agent of Government of Nepal.
vii) To act as banker to banks and financial institutions and to act as a lender of
last resort.
viii) To establish and promote a system of payment, clearing and settlement and
to regulate these activities.

As mentioned above Nepal's Financial System consists of banking and non

banking sectors. The banking sector includes NRB and A class Commercial Banks.
Non Banking sector consists of B category Development Banks, C category
Finance Companies, D category Microcredit Development Banks (including
Grameena Bikas Banks), Savings and Credits Co-operatives (SACCOS) with
limited banking license, and FINGOS with limited banking activities and other
financial institutions like Insurance companies, Employees Provident Fund
Organization, Citizens' Investment Trust, Postal Savings Offices, Nepal Stock
Exchange and the Commodity Exchange.

The semi formal sector consists of savings, credit or other cooperatives registered
with registrar of cooperatives. The informal sector consists of informal groups like
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Dhukuti groups who pool their savings and extend credit to members,
moneylenders and individual.

RMDC

The Rural Microfinance Development Centre is an apex wholesale lender and

capacity building institutions for promotions and development of Nepal's
microfinance sector. It was established with ADB support in 1998. It is promoted
by NRB and Commercial Banks. Major activities include providing wholesale
loans, institutional capacity building support to partner institutions, training
support to end users in areas like adult literacy, entrepreneurial and skills
development, group development etc.

Centre for Microfinance Ltd.

The Centre for Microfinance Ltd. was registered under Companies Act in July
2000, and is promoted by Canadian Centre for International Co-operation. It
provides training, technical assistance and consultancy service for microfinance
sector. Its mission is to promote and strengthen Microfinance Services through
capacity building, training, knowledge management, research, policy lobbying,
consultancy and networking with mutual trust and co operation among service
receivers, practitioners and stakeholders.

In addition to the aforementioned institutions the following institutions have

helped in formulating standards and ensuring compliance of the member
institutions:

i) Nepal Bankers' Association

ii) Microfinance Bankers' Association of Nepal
iii) Microfinance Institutions' Association of Nepal
iv) Nepali Federation of Savings and Credit cooperatives Union Ltd.
v) Insurance Board- the regulator for Insurance industry
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 vi) SEBON
vii) Development Bankers Association
viii) Nepal Finance Companies Association

Further, National Banking Training Institute functions as an apex training institute

for the entire financial sector.

Financial Sector Reforms

Nepal's inflation rate has been hovering around 10% for the last three years; the
food inflation has been higher than non food inflation. Historically, its inflation had
correlation with inflation in India due to a fixed peg of Nepali Rupee to the Indian
Rupee, the trend has changed to the lag in pass through of international oil prices
and increase in real interest rate.

Financial Sector Reforms (FSR) initiated from 2002 onwards has tackled the
following main issues:

a) Strengthening the autonomy of Nepal Rastra Bank and improving its

supervisory capability. This has been achieved by passing of new Nepal
Rastra Bank Act and divesting of ownership of NRB in institutions where it
has supervisory responsibility.
b) Improving the governance of Commercial Banks and Financial Institutions:
Banks and Financial Institutions Act and Debt Recovery Act were passed to
give a legal framework for improving Assets quality and Governance issues.
c) Restructuring the Problem Banks in the Public Sector; recapitalizing and
bringing professionalism in Nepal Bank and Rastriya Banijya Bank action
initiated.

Monetary Policy

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 The framework of the monetary policy of the country and the instruments of the
policy are given in the following table:

Instrument Operating Intermediate Goals

Target Target
Cash Reserve Ratio Short Term Monetary Price Stability
Interest Rate Aggregates
Policy Rates Monetary Base Interest Rate Economic
Growth
Direct Control Excess reserve Exchange Rate Employment
(interest setting and of Commercial
credit control) Banks
Open Market Domestic Credit Inflation Exchange Rate
Operations Stability
Moral Suasion BOP Surplus

The monetary policy is administered by Nepal Rastra Bank through the above
instruments. The position is reviewed periodically at least once in a year and the
necessary actions to achieve the goals, including course corrections are taken.

Capital Market

The history of Securities market began in Nepal with the issue of shares by
Biratnagar Jute Mills and Nepal Bank Ltd. in 1937. Introduction of Companies
Act, issue of Government Bond in 1964 and established of Securities Exchange
Centre in 1976 were other important milestones. The latter was established with
the objective of growth and development of capital markets. SEC was later
converted into Nepal Stock Exchange (NEPSE) in 1993. The basic objective of
NEPSE is to impart free marketability and liquidity to government and corporate
securities by facilitating transactions through its trading floor through members
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and market intermediaries like brokers, market makers etc. Government of Nepal,
NRB, NIDC and members are the shareholders of NEPSE. It has introduced fully
automated trading system from 2007. It has adopted a T+3 settlement system. A
provision for Blank transfer is also available with T+5 as the maximum
permissible time. The shares, preference shares, Government bonds and corporate
securities are traded in the above Exchange.