Excerpt from

4 October 2002

All rights reserved to The Himalayan Times
Monetary policy
Where is it heading for?
Raghab D Pant
This article is a sequel to my article on Monetary Policy and the Governor published in this newspaper on 16 September, following the official rejoinder prepared by the Economic Research Department , Nepal Rastra Bank. (The Himalayan Times, September 27), and another one on the same issue by Mr. Tula Raj Basyal, Executive Director, Policy Planning Department, Nepal Rastra Bank (The Himalayan Times, September 30). Mr. Basyal ,it seems, has written the comment obviously to please the Governor. His rejoinder itself is a confusing, if not a confused, piece.
Reading both the rejoinders, it is safe to conclude that the public, as I am, are convinced more than ever before that the Nepal Rastra Bank, if it is allowed to continue to dance on the current tone will, in the not too distant future, create some serious problems in the economy, possibly through the channel of balance of payments or exchange rate or both.
I have signalled balance of payments largely because of the fact that the country is already facing problems in this sensitive area; and there are indications to the effect that it is developing into a trend, specially if the borrowing of the government from the central bank remains as high as in the last two fiscal years. The Nepal Rastra Bank, however, remains unconcerned about the emerging problem. In an interview to a weekly on April 10, the Governor has disclosed that he is trying to perform the job "that the Ministry of Finance intends to do but cannot do due to lack of financial resources".
Accordingly, Nepal Rastra Bank has asked the commercial banks to provide a soft loan of Rs.1.5 billion at an annual interest rate of 6.5 percent to the sick industries. This has led even this newspaper to advise the Nepal Rastra Bank to concentrate on its designated functions rather than involve itself in providing relief package to sick units. But the Governor presumably intends to behave as Dr. Alan Greenspan and, in particular, Dr. Bimal Jalan of the Reserve Bank of India, reducing interest rate here,cash reserve requirement there, providing credit to sick industries and refinance facilities to others but without realising that Nepal is not the United States or even India.
Thanks to the Governor and his close advisors like Mr. Basyal, Nepal Rastra Bank now believes that "It is natural for a country to face a deficit in BOP in the short run. In such a case, any knee jerk response will further aggravate the situation" They prefer to correct the balance of payments only in the long run. The reason is simple: they believe that the concept of balance of payments deficit has to be understood in a broader term, "linking the position of international reserve with it".
The foreign reserve position of the banking system, reflecting the surplus in the balance of payments in the past ten years,is more than sufficient for ten months of merchandise import. This was perceived by personalities like Mr. Basyal as a means to tolerate deficit in the balance of payments in the immediate future which, for their own convenience, has been defined as a 'short run' They have failed to realize that the long run is nothing but the sum total of several short runs , and, as Lord Keynes once remarked, "in the long run we will all be dead".
Mr. Basyal has charged that some of the data used by me are not correct. I am surprised by Mr. Basyal's remark, though he has, at several instances, misinterpreted my observation either to please the Governor or he does not have enough analytical knowledge of the subject. For example:
(i) According to him, the government's development expenditure on cash basis during 2001/02 has not declined by 16 percent as indicated in my article but increased by 2.3 percent. The source of my data is none other than the Macro Economic Situation of Nepal During FY 2001/02 published by the Nepal Rastra Bank itself in August, 2002.
I suggest that Mr. Basyal should read the publications of Nepal Rastra Bank regularly. If he would have done so, there was no need to write unnecessary comment on my article. On the contrary, the data on the deficit in balance of payments is different in Mr. Basyal's article (Rs. 4.1 billion) and the rejoinder prepared by the Economic Research Department (Rs. 2.5 billion) There is a strong need to strengthen cooperation and coordination among the various departments of the Nepal Rastra Bank to improve the quality and the appropriate use of data. Otherwise, if the doctors themselves are not sure about the seriousness of the disease, how can the patients survive?
(ii) I have not claimed that the credit demand has declined at a rate much faster than the deposit growth rate as charged by Mr. Basyal. In the same report cited above, it has been observed, "Despite sluggish growth in deposits, sluggish credit demand led to a decline of interest rates..". It is up to the Nepal Rastra Bank to reconcile the data among various departments and chiefs before they start lecturing to the outsiders about the use of data like Mr. Basyal did.
On the price front too, Nepal Rastra Bank can maintain the price movement at the desired level by manipulating various monetary means at their disposal. It is not suggested that they should maintain the relative price under control but they are not allowed to follow a narrow definition of price movement either.
It is by strengthening the balance of payments position and maintaining price stability that the central bank can promote growth in a country. Needless to emphasize, a strong balance of payments will also promote financial stability.
Comments from the Governor himself will be in order.
Dr Pant is with the Institute for Development Studies