By Shanker Man Singh

The Nepal Rastra Bank has recently reviewed the first three months of the monetary policy for the current fiscal year 2081/82. The monetary policy for the fiscal year 2081/82 was made public on 11 Shrawan 2081 with the basic objective of maintaining price and balance of payments stability for economic stability and sustainable development of the economy. In the review conducted at a time when the industry and business are collapsing, it has been said that the cautious flexible policy has been continued. Nepal Rastra Bank (NRB) has said that the flexible policy has been continued while reviewing the first quarter of the monetary policy for the current fiscal year 2081/82.

NRB has said that it has continued the flexible policy based on the analysis of the current situation and scenario of the country's economy, the level of foreign exchange reserves and inflation. In terms of the implementation status of monetary policy, the monetary policy has been implemented to keep inflation at around 5.0 percent.

The average consumer inflation in the first 3 months is 4.26 percent. The people have not been able to feel this. In Asoj 2081, the price increase of the food and beverage group was 7.18 percent and the price increase of the non-food and service group was 3.49 percent, making the annual point consumer inflation 4.82 percent.

NRB has estimated that the increase in tourist arrivals, the increasing use of tourism infrastructure including airports, the expansion of the information technology sector, the progress of hydropower projects under construction, and the reconstruction of damaged projects will lead to an expansion in overall demand, which will help achieve the targeted economic growth for the current fiscal year.

The monetary policy target is to maintain foreign exchange reserves sufficient to cover at least 7 months of imports of goods and services, and as of mid-Asoj 2081, there are foreign exchange reserves sufficient to cover 14.6 months of imports of goods and services.

Large foreign exchange reserves can have both positive and negative effects on the economy. Here are some potential negative effects:

Opportunity cost: Holding large reserves means that funds are not used for domestic investments that could stimulate growth, such as infrastructure, education, or healthcare.

Inflationary pressures: If a country accumulates reserves through excessive monetary easing or by printing money, this can lead to inflation. This is especially relevant if the reserves are held in a way that increases the money supply in the domestic economy.

Currency appreciation: Large reserves can depreciate the domestic currency, which can make exports more expensive and imports cheaper. This can harm the competitiveness of local industries and lead to trade imbalances. Reliance on foreign assets: A significant portion of reserves is often held in foreign assets. If the value of these assets fluctuates due to changes in global markets, this can affect the stability of the domestic economy.

Pressure on policy autonomy: Countries with large reserves may be subject to external pressures, particularly from international markets or institutions, that may limit their ability to implement independent monetary or fiscal policies.

Political and economic risks: In times of geopolitical tension or economic crisis, large reserves may be the target of sanctions or may be at risk if the country experiences financial instability.

In summary, while large foreign exchange reserves can provide stability and a buffer against economic shocks, they can also lead to inefficiencies and vulnerabilities if not managed properly. The impact depends largely on the context of the economy, the reasons for the accumulation of reserves and how they are used.

Similarly, the Rastra Bank has noted in its monetary policy review that public finance management will be under some pressure as the heavy rains and floods in Asoj caused economic losses of about Rs 46 billion and the government has to spend significantly on repairing infrastructure including roads and rebuilding after natural disasters.

However, the NRB estimates that the expenditure on physical infrastructure will significantly help in mobilizing other sectors of the economy and that this will also increase the demand for bank loans for investment. The Nepal Rastra Bank has kept the policy rate unchanged in the review, as inflation remained within the target range until the first quarter of the current fiscal year, inflation in the food group has recently come under pressure in Nepal, leading to an increase in overall inflation for the past two months, and inflation pressure has persisted even when most central banks have started reducing policy rates.

The NRB estimates that the price of petroleum products will remain stable in the international market, while the price of non-food groups will not be under further pressure. Against this backdrop, the annual average inflation for the fiscal year 2081/82 is estimated to be within the range of 5.0 percent. While food inflation in India remains high, the risk of supply chain disruptions and pressure on consumer prices remains high due to geopolitical tensions in Middle Eastern Asian countries and the escalating Russia-Ukraine war, according to the Nepal Rastra Bank.

NRB has stated that the foreign exchange reserves held in Asoj 2081 can cover the import of goods and services for 14.6 months due to the increase in remittance inflows. Based on the estimate that the number of Nepali going for foreign employment will increase, leading to an increase in remittance inflows, the Rastra Bank has estimated that the foreign exchange reserves will remain favorable for the rest of the current fiscal year.

   The Rastra Bank has stated that it has been analyzing the situation of inflation and foreign exchange reserves and managing liquidity in a way that supports economic growth from the available resources. The policy arrangement has been implemented to increase the bank rate of the upper limit of the interest rate corridor mentioned in the monetary policy from 7 percent to 6.5 percent and the policy rate from 5.5 percent to 5.0 percent.In the first quarter of the fiscal year 2081/82, the weighted average interbank rate of banks and financial institutions is 3.00 percent. In the fiscal year 2081/82, broad money supply is projected to grow by 12.0 percent and credit flowing from the monetary sector to the private sector by 12.5 percent.

   On an annualized basis, broad money supply has grown by 13.3 percent and credit to the private sector by 6.2 percent in mid-Asoj 2081. This is a matter of concern and concern that this is half the expected growth. Monetary policy is silent on the need to take appropriate steps for this.

Analysis of Monetary Policy Review in Nepal

   Economic Growth Focus in the Analysis of Monetary Policy Review 2024 in Nepal: The policy has set a target of achieving a 6% economic growth rate, which is ambitious and can encourage economic activities. Inflation Control: Targeting a 5% inflation rate helps maintain price stability and consumer confidence.Interest Rate Adjustment: Reducing the policy rate from 5.5% to 5% and the upper limit of the interest rate corridor to 7% can encourage borrowing and investment.

Weaknesses

   Fiscal deficit: The need to address the fiscal deficit by easing import restrictions could lead to short-term economic instability.Liquidity management: Ensuring adequate liquidity while managing risk can be challenging, especially in the current economic environment.

   Credit growth projections: The first quarter showed that the projection of 12% growth rate in broad money supply and 12.5% ​​growth rate in credit to the private sector was very optimistic.Opportunities Technological advances: The use of new technologies can improve business efficiency and security, attracting additional investments. Global expansion: Attracting international investment and listings can diversify the economy and reduce dependence on the domestic market.Economic pressures: Global economic uncertainty can affect Nepal’s economic stability and growth prospects. Political instability: Political crosscurrents can affect the implementation and effectiveness of monetary policies.Natural disasters: Events such as earthquakes can disrupt economic activities and require additional financial resources for recovery. Since most of the economic activities in the country depend on monetary policy, the review is viewed meaningfully by stock investors, industrialists and businessmen. According to the Nepal Rastra Bank Act, 2058, the main objectives of maintaining price and balance of payments stability for economic stability and sustainable development of the economy. To achieve these objectives, Nepal Rastra Bank has been formulating and implementing the necessary monetary policy based on the existing economic and financial situation and scenario.

   Non-performing loans (NPLs) have increased on a quarterly basis due to the economic and financial slowdown. Therefore, temporary relaxation in asset classification and provisioning norms or refinancing of stressed assets (of MSMEs) can be expected to help banks and financial institutions maintain positive reserves and maintain adequate capital adequacy ratios.

   The recent review should take into account the analysis of various factors affecting the current inflation, the balance of payments situation, and the growth rate of bank credit to the private sector. The Nepal Rastra Bank has stated that the policy is expected to further support the expansion of economic activities while maintaining price stability and external stability. Nepal Rastra Bank says that there is no need to make the monetary policy stance more flexible as the risk of inflation remains.

   Inflation in neighboring India has increased. International geopolitical tensions remain. This can create disruptions in the "supply chain" at any time. There is no need to be more flexible due to the stable exchange rate with India and the risk of rising inflation in India. Nepal should be aware of this.

   Stating that Nepal suffered an economic loss of about 46 billion rupees due to floods after the heavy rains in Asoj 2081, the Rastra Bank has stated that there will be some pressure on public finance management as significant expenditure will be required for the repair of infrastructure including roads and reconstruction after natural disasters.

   The National Bank estimates that spending on physical infrastructure will help to stimulate other sectors of the economy and thereby increase the demand for bank credit for investment. The primary role of central banks is to conduct monetary policy to achieve price stability and help manage economic fluctuations. The policy frameworks under which central banks operate have been subject to major changes in recent decades. The benefits that this brings to the economy outweigh the disadvantages. This is a result of large foreign exchange reserve structures and the flow of trade surpluses that are either the result of higher exports or lower imports.

   The credit rating for Nepal is somewhat good and if it continues in the same pattern, FDI/FPI flows will be less in search of better markets. This may shed light on the complex relationship between rising foreign exchange reserves and inflation.

   Once upon a time, the economy of the small country of Moneria was booming due to a huge increase in exports, and foreign exchange reserves were skyrocketing. The central bank governor, Econo, decided to maintain the growing reserves to maintain the stability of the local currency. However, he did not realize that this decision would have a significant impact on inflation.

   As the reserves increased, the value of the local currency began to strengthen and imports became cheaper. This increased the demand for imported goods, which heated up the local economy. People were earning more, so they spent more, which increased inflation.

   To reduce this, Econo decided to take steps based on his past experiences and the advice of his fellow advisors. Exclusion of foreign reserves: The country had a history of successfully reducing the excessive demand for the local currency by giving up part of its reserves, reducing the strength of inflation. The country was forced to keep raising interest rates. Raising interest rates made borrowing more expensive, spending decreased, and inflation decreased.

   If inflation is to be focused, the central bank must set a specific inflation target to guide its policies and maintain price stability. It must also use techniques such as counterbalancing unnecessary liquidity in the market, and regulating inflation. In terms of the fiscal perspective, the administration must exercise fiscal restraint, preventing unnecessary spending that can increase inflation.

   Investment in infrastructure: Allocating resources to infrastructure initiatives increases productivity and reduces the cost of doing business. Therefore, while advocating austerity, and controlling inflation, the amount of money in circulation shrinks. Therefore, it is of utmost importance to understand the impact of foreign exchange reserves on inflation and implement the necessary measures to maintain economic stability. This review and the private sector, which has not changed the way the economy is operating, are probably not satisfied with this review.