Monetary Policy for 2006/07

Major Highlights of Monetary Policy

for 2006/07

Delivered by

Governor Mr. Bijaya Nath Bhattarai

on July 23, 2006

Interesting Points
2005/6
(1) Real GDP at factor cost is estimated at 2.3% in 2005/6.
(2) The revised estimates of annual average CPI inflation stands at 8 percent, higher than initially projected for 2005/06
(3) Broad money growth is estimated at 16.3 percent. Increased private sector remittances contributed to monetary growth.
2006/7
(4) The country is in transition. Foreign and local investment in the economy hinges on how quickly the current transitional period improves. However, a level of monetary liquidity warranted in support of intended rate of economic growth exists in ample.
(5) The budget speech of 2006/07 has targeted economic growth at 5 percent.
(6) Annual average CPI inflation is projected at 6 percent for 2006/07.
(7) The BOP surplus is projected at Rs 16 billion on the back of expected increased remittances and foreign assistance.

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Highlights
1. NRB has been making public its annual monetary policy statement each year since fiscal year 2002/03. This policy statement focuses on broader macroeconomic objectives of attaining price stability, maintaining adequate level of international reserves and ensuring financial sector stability and thereby facilitating high and sustainable economic growth.

2. The detailed monetary policy statement consisting of the implementation status of monetary policy of 2005/06 and comprehensive analysis of this year's monetary policy is published. This is the summary of the main document of monetary policy. Status of

Economic Goals of Monetary Policy of 2005/06

3. The Nepalese economy continued to suffer from a decade long internal conflict, political stalemate, adverse weather conditions and elevated levels of oil prices in 2005/06. As a result, incremental fixed capital formation remained low, economic activities remained sluggish and inflationary pressures continued to persist.

4. The political situation has improved following the successful conclusion of historic people's movement that lasted for 19 days in April 2006.

5. The actual economic growth happened to be lower than 4–4.5 percent, targeted for 2005/06.

6. Real GDP at factor cost is estimated at 2.3 percent for 2005/06. GDP at producers' price is estimated at 1.9 percent for 2005/06. While agricultural GDP is estimated at 1.7 percent, non-agricultural GDP is expected to grow by 2.8 percent.

7. The revised estimates of annual average CPI inflation stands at 8 percent, higher than initially projected for 2005/06. Upward adjustments in domestic oil prices in August 2005 and February 2006 due to the elevated level of global oil prices, a significant increase in transport fares by 25–28 percent in early 2006 2 and persistence of food inflation throughout the year fueled the overall prices in 2005/06.

8. In the first 10 months of 2005/06, the country's overall BOP stood at a surplus of Rs. 20 billion. The current level of BOP surplus is expected to remain till the end of 2005/06. A significant growth in private sector remittances contributed to the increased level of surplus in the current account and overall BOP of the country.

9. Since the last few years, consolidation of the financial sector stability has been one of the important objectives of this bank. To achieve this objective, various financial sector reform programs have been implemented. In this context, programs such as strengthening inspection and supervisory capacity of this bank, adopting prudential norms as per international standards, establishing and operationalising the Debt Recovery Tribunal (DRT), strengthening the Credit Information Centre, refining the provisions regarding the black listing procedures of willful defaulters as per the suggestion of Shankar Sharma Study Committee, forming a Grievance Hearing Cell (GHC) and handing over the management of two problem banks, namely Nepal Bank Limited (NBL) and Rastriya Banijya Bank (RBB) to the foreign management teams, are under implementation.

10. Non-performing loans (NPL) of commercial banks declined from 30.4 percent in mid-July 2002 to 18 percent in mid-April 2006. Various financial sector reform programs implemented over the past few years contributed to some improvement in financial health of problem banks. NBL and RBB, which were incurring losses in the past, have started generating operating profit since 2003/04.

11. However, the financial sector is still at risk. It is challenging to maintain the financial sector stability in the face of the current level of NPL at 18 percent. In terms of absolute amount, the level of NPL stood at Rs. 29 billion as at mid- April 2006. NRB has taken a serious note of high level of NPL of some private sector banks, besides RBB and NBL.

12. The NPL level of RBB and NBL could not improve significantly due to the recalcitrancy on the part of some big borrowers in repaying their debt. One 3 argument cited by willful defaulters for their inability to repay debt is unsatisfactory performance of the economy. Following the revision in black listing procedure, those borrowers have brought forth the concept of limited liability, the sole purpose of which is to obstruct the process of loan repayment. NRB is of the view that willful defaulters must be isolated. There is a need for big borrowers to make their business transactions transparent and encourage them to disclose their property publicly. It is also important to initiate harsh punishment against those who make false disclosure of their property. These types of loans require one time settlement and curative measures. On this issue, NRB solicits the active supports from all concerned, including the government of Nepal.

A Brief Review of Intermediate Targets of Monetary Policy of 2005/06

13. The fixed exchange rate regime is the nominal anchor of monetary policy in Nepal. In this context, NRBhas been monitoring a real effective exchange rate (REER) of NC. REER of NC has marginally appreciated due to relatively higher level of domestic inflation. However, this level of currency appreciation alone is unlikely to adversely affect the competitiveness of Nepalese goods and services.

14. Broad money growth is estimated at 16.3 percent. Increased private sector remittances contributed to monetary growth.

15. Bank credit off-take has been lower than expected. Lower level of investors' confidence and cautious approach adopted by banks in their lending resulted in a lower than expected growth of credit off-take.

16. Excess reserves of commercial banks have been chosen as an operating target of monetary policy for the last two years. Liquidity monitoring and forecasting framework (LMFF) is put in place to monitor excess liquidity of commercial banks. In this context, excess liquidity of commercial banks amounting to Rs. 13.5 billion was mopped up through sale auction in 2005/06. Likewise, on short-term basis, liquidity amounting to Rs. 6.5 billion was mopped up through reverse repo auction.

For rest of the Highlights, please click here (pdf file).

For full report, please click here (pdf file).