National 4 (Spotlight Weekly)

“Our Economy Is Being Weakened By Non-Economic Factors”

— Dr. TILAK RAWAL

Dr. TILAK RAWAL, governor of Nepal Rastra Bank (NRB), is one of the energetic young economists of Nepal. Having spent a decade in the country's two major commercial banks Rastriya Banijya Bank and Agriculture Development Bank, Dr. Rawal has seen many ups and downs in his career. He was wrongfully removed as NRB governor and was reinstated by the Supreme Court. Frank and open minded, Dr. Rawal is also known as a strong administrator. He spoke to KESHAB POUDEL on various aspects of the worst economic crisis Nepal is facing in its history. Excerpts:

As the governor of the central bank, how do evaluate the present economic situation?

I have stated several times in the past that our economy is in a very miserable condition. Prime Minister and Finance Minister Sher Bahadur Deuba stated this while presenting the budget. Exports have gone down and imports and balance of payments, too, have taken a negative trend. The only satisfactory indication is the level of inflation and the foreign currency reserve. The inflation rate is about 3 percent and the foreign exchange reserve still can fund imports for 12 months.

Are we going the way of Argentina, as you were quoted as saying a few months ago?

I never mentioned an Argentine-style crisis. I had made some remarks at the Finance Committee of the House of Representatives a few months ago, where some parliamentarians expressed concern whether the Nepalese economy was heading Argentina's way. All I said was that we needed some urgent steps to shore up the economy.

But the media quoted you as saying you feared an Argentina-style crisis?

I was surprised to read those misquoted lines. I do not understand how such reports came out in the media from a close-door meeting. Frankly speaking, I have never said that Nepal's economy is heading the Argentine way. Had the reporters verified the statement with me, such misleading stories could have averted.

Our balance of payments has gone negative in more than ten years. What do you think has contributed to this?

It is true that our balance of payments has taken a negative trend. But this is nothing new. Such things happened in the past as well. The service sector has stopped contributing significantly to the economy. You must have been seen the declining the number of tourists coming to the country. Likewise, we have not received a major loan and grant. The current account is also in deficit. So all these factors have contributed to this negative position of balance of payments in the last eight or nine years.

Since exports, expenditure and tourism are falling, what is the hope for economic growth?

I said some time ago that our economy is being influenced in a negative manner by non-economic elements like poor law-and-order situation. As you know, nothing can happen without improvement in law and order. It is very difficult for foreign investors to come here. You cannot expect tourists to come to a country gripped by deteriorating law and order. Nepalese investors, too, are shying away from new projects. So, primary stress should be given to improving the law-and-order situation in the country.

Don't you think there has been any improvement over the last few months?

There have been some improvements of late. I hope the current problems will be resolved and the country can return to normalcy.

There is plenty of liquidity in the market, but many manufacturing industries are at a standstill. Why is this so?

Our economy is in recession and internal demand is slowing. Talking about the liquidity situation, the banks are quite comfortable position. The liquid fund of the banking sector has gone down by 16.6 percent in the 12-month period between June 2001 and June 2002. For example, the banks have Rs. 47 billion in the form of liquid fund in mid-June 2001 and it has gone down to 39 billion rupees in mid-June 2002. That is why we decided to inject liquidity into the market by cutting the CRR. Basically, there is no demand. Our economy is heavily dependent on tourism and garment and carpet exports. After the September 11 terrorist attacks, the United States - which is the primary destination for Nepalese garments - has suffered. Of late, garments from African and Caribbean nations have displaced our products since those nations have been given preferential treatment in the US market. Because of recession in Germany, exports of woolen carpets have suffered. All these factors have contributed to miserable state of our manufacturing sector.You have both external and internal factors as the world economy is also in recession. World output grew just by 2.5 percent in 2001. In our context, 2001 was very bad. The Royal Palace incident and Maoist insurgency damaged our economy badly. The September 11 attacks added fuel to the crisis.

After the NRB cut the CRR rate, has the corresponding interest rate also come down? Can you give examples?

We have made it very clear to the commercial banks that we cut the CRR by one percent. We also want commercial banks to reduce their lending rates. When they do it, we will go ahead with another cut, which will be, again, hundred basis point. In the current fiscal year, we will be reducing the CRR rate by 2 percent. In this way, we will be injecting about 400 million rupees into the market. I am confident that the banks will do this. We have been closely monitoring the market situation.

What has the NRB done to channelize remittances through banks?

Remittances have started contributing in a very significant manner to the national economy. Remittances coming into the country through organized and unorganized sectors are about 18 percent of national income. It is about Rs. 74 billion but a major portion of it enters the country through Nepalese currency or Indian currency. In order to get the remittances in hard currency, we decided to give more incentives. We have stated that the remittances coming into the country in forms of hard currency through the formal sector will get more incentives. We are giving 15 paisa more on each dollar brought into the country through the formal way. We want to see more money to come in the form of hard currency. We are now concentrating our efforts on encouraging people to send it through organized channels.

What is the danger of Nepal facing a crisis because of poor performance of financial institutions?

The two major commercial banks of the country, the Rastriya Banijya Bank (RBB) and Nepal Bank, are not in a good shape. We are involved in the financial-sector reform program in cooperation with the World Bank to reform these banks. The management of Nepal Bank has already handed over to an external party, but we have some problems with regard to the management of the RBB. Deloit, which had promised to take over the management of the RBB, has walked out. We are now thinking of initiating proper action against Deloit. We have to be very careful about the future of these two banks which represent about 40 percent of the total banking business in the country. We are very serious about it. The economic crisis of 1997 in Southeast Asian countries started from the financial sector, as many banks collapsed. We don't want to see such a thing happening in Nepal. The weak economy of Nepal cannot withstand such shocks. We are concentrating to reform these two banks. We have initiated number of things and we are determined to take further measures.

What other steps have you taken in the reform process?

In addition to handing over the management of these two banks, some new acts have already been promulgated. We are now thinking in terms of establishing assets management or reconstruction company. The Debt Recovery Act is in existence. We intend to improve the non-performing acts of these banks. We are very careful and we don't want any major accidents to happen in this country.

A few months ago, you took action against a private bank for not abiding with the central bank's directives. Are you going to take similar action against commercial banks that are not performing well?

We did intervene in one of the private banks when we found that the board and promoters were badly divided. We issued several directives and instructions before taking action. When the bank management did not comply with our directives and instructions, we had no option but to intervene. In the case of Nepal Bank, too, we intervened. Recently, we made another intervention in the RBB at the request of the government. We are committed to protecting the interest of depositors and shareholders. If any bank management is found working against the pronouncements of the central bank, we will not hesitate to intervene.

What reform policies have you undertaken since becoming governor?

I worked with two public sectors bank and had burnt my finger in the process. I know the problems and the challenges. That is why I am insisting on a gradual process of reform in the financial sector. We have already taken steps to reform the NRB and the RBB. In the second phase, we will take the initiative to reform in Nepal Industrial Bank and griculture Development Bank. We are moving in the reform process with the basic objective of developing a sound financial system resilient to crisis. One of the objectives of the central bank is to develop a very sound financial system. We have already introduced several prudential norms. These norms are little bit difficult to comply but abiding by them would be beneficial for the commercial banks in long run. We are also working hard to understand the problems of the commercial banks. Accordingly, we have done a number of things to support the commercial banks. We have convinced the government about the need to support commercial banks.

What support do you provide for commercial banks?

We are slowly trying to get commercial banks from the private sector-lending program, which is a directed lending program. We have also approached the government and succeeded little bit in regard to relaxation in tax cutting. Any amount under the bad loans is taxable and only 3 percent of the outside is deducted. At our request, the government has deducted certain amounts. So we have been taking up the cases of the commercial banks and are trying to help them. We are hard on them when we find commercial banks are not complying with our instructions and vice versa. But on the whole, our objective is to develop a sound banking system.

You have gone for polymer notes. Is it going to benefit the country?

Much has been said about the polymer notes. We decided to polymerize Rs.10 notes with Note Printing Australia, which is the subsidiary of the Central Bank of Australia. In terms of cost, it will be little bit expensive compared to paper notes. But it is more durable than the paper notes and cost will subside in long term. After extensive evaluation of every aspect of the polymer notes, we decided to go ahead. If it gets a reasonable level of acceptance, we may polymerize other notes. If it does not, we will revert to where we are.

The NRB recently signed an agreement granting the Chinese yuan the status of convertible foreign currency. What are the highlights of that agreement?

This is a favor we have been able to gain from our northern neighbor. Our trade deficit with China is huge, amounting Rs.12 billion. We don't have many exportable items to bridge the gap. China has already declared Nepal as a tourist destination point. If you look at the number of Chinese tourists arriving in the country, it is far from satisfactory. The total number of Chinese tourists coming on yearly basis has not exceeded 7,000. I read in a newspaper that in 2000, about 10.5 million Chinese went abroad, 50 percent of them as tourists. You need to give some benefits to attract Chinese tourists. So we requested the Central Bank of China and Chinese government that Chinese coming into to Nepal should be able to spend their own currency. In addition to the dollar, they are entitled to their currency. After a long effort about 10 months, the central bank of China finally agreed to grant the facilities. Now Chinese tourists are allowed to spend their currencies as well. The Chinese currency accumulated in Nepal will be adjusted for imports from China. So, the Chinese currency has become as good as the US dollar and any other hard currency. This is a very beneficial step taken by us in the greater interest of the nation and we must thank the government of China.

Given the pegging arrangement with the Indian rupee, some people say the NRB cannot predict the percentage of inflation on its own. What do you say?

The Nepalese currency is pegged to Indian currency at 1 into 1.6. It has done well for our economy also. We said our inflation remained at 3 percent in the last fiscal year. In the current fiscal year, we have made it very clear in our monetary policy that the level of inflation will be kept at about 4 percent. We have said this considering the situation in Nepal and likely situation in India as well. In determining the level of inflation, you have t take into account external as well as internal factors. When we said the level of inflation will not cross 4 percent, we did not say it in isolation. Taking into account the current situation in India, we have also delved into the future and have some kind of estimate of what the situation might be there six or seven months from now. Look at the food grain situation in India. They have stockpiled grains amounting 60 million tons, which is under the disposal of Indian government. So the price of food grains is unlikely to go up in India. The price of food grains is a major issue of explanatory variable in the consumer price index. If you see the current price of India and future price and internal market in Nepal, then you can predict inflation of 4 percent. It is not that we came to this figure independent of existing situation in India and in Nepal. We have every right based on this kind of estimates to say that the level of inflation in current fiscal year will not cross 4 percent.

How will your policy help the national economy?

Since the economy is not doing well, we cannot remain a silent spectator. Of course, the basic objectives of the central bank is to concentrate on stability, but the economic fundamentals permit us to think a little bit about growth. The Central Bank Act 2058 also allows us to think a little bit about growth and development. The government is in a difficult position. No matter how much it wants, it cannot harp on spending programs and it has not been able to mobilize adequate resources in the forms of revenue. After consultations with the government and our board, we have opted for an accommodative monetary policy and decided to release liquidity into the economy. In the last fiscal year, NRB provided 1.11 billion Nepalese rupees to commercial banks at 3 percent interest rate and commercial banks in return provided capital to sick industry as 6.5 percent. In current fiscal year also, we have made provisions of about 1.50 billion rupees to help the sick units including manufacturing, hotels and airlines. This is how we have been trying to help the economy. The signing of the agreement with China on currency will also benefit the national economy.