Suspension of Nepal Rastra Bank governor may put Nepal in IMF’s bad books

One of the IMF’s conditions for approving $396 million credit facility is that central bank and its personnel’s autonomy should be strengthened further.

Prithvi Man Shrestha and Anil Giri

Prithvi Man Shrestha and Anil Giri

The Kathmandu Post

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Reuters

April 13, 2022

KATHMANDU – The suspension of Nepal Rastra Bank governor Maha Prasad Adhikari last week has raised questions about the government’s commitment to the autonomy of the central bank as well as its pledge to the donor community.

In a rare and sudden move, the Sher Bahadur Deuba government on Thursday decided to constitute an inquiry against Adhikari on charges of incompetence, leaking confidential information and failing to discharge his duties.

Purushottam Bhandari, a former Supreme Court justice, heads the panel. The government, however, has not released any official notice regarding the formation of such a committee.

The formation of the probe committee led to Adhikari’s automatic suspension, as the Nepal Rastra Bank (NRB) Act-2002 says so.

Post File Photo

While the move has charged up internal politics, with the CPN-UML sharply reacting to Adhikari’s suspension, experts say this is a matter of grave concern, with even the international community taking stock of the development closely.

The government has committed to further strengthening the central bank’s autonomy to receive loans from the International Monetary Fund (IMF).

In the ‘Memorandum of Economic and Financial Policies’ that the government sent to the IMF along with a letter making several commitments in December last year, the government has promised to enhance the autonomy and accountability framework of the Nepal Rastra Bank (NRB).

“By September 2022, we will submit to Parliament amendments to modernise the prevailing NRB Act, guided by key recommendations from the IMF safeguards assessment of the NRB (structural benchmark, 2nd review),” the memorandum reads. “The amendments will clarify the primacy of the NRB’s price stability objective, strengthen the NRB’s institutional and financial autonomy as well as personal autonomy of its key officials.”

Based on this commitment, along with many others, the IMF in January this year approved an Extended Credit Facility (ECF) of $395.9 million for Nepal, with about $110 million available for immediate disbursement in January.

The government’s action against Adhikari has drawn widespread criticism with even ruling party leaders, former finance ministers and leading economists opposing it, saying that such a decision at a time when the state of economy is not in good shape and election cycle is approaching fast would exacerbate the country’s political and economic situation.

But Prime Minister Sher Bahadur Deuba and Finance Minister Janardan Sharma on Monday defended the move.

After the governor’s suspension, questions have been raised as to how the IMF—and by extension other multilateral donor agencies such as the World Bank and Asian Development Bank—would take the government’s action.

Sources at the Finance Ministry told the Post that some donor agencies have already expressed concerns with senior officials at the ministry regarding the action taken against Adhikari, wondering what repercussions it may have and what could be the next step after this.

Multilateral lending agencies like the World Bank, Asian Development Bank and IMF are the biggest donors of Nepal. They have direct stakes in Nepal’s economy and financial sector reforms and they take the evaluation and recommendation of the IMF seriously. They prepare the policy in Nepal based on IMF recommendations too.

“I think the IMF will obviously raise the question about the government’s commitment to the central bank’s autonomy after the move to remove the governor from his post,” said Bhanu Acharya, a former auditor general.

“I feel there has obviously been intervention in the autonomy of the central bank based on arguments the government has been giving to the media.”

During a meeting of the ruling alliance on Monday, Prime Minister Sher Bahadur Deuba defended the decision to suspend the central bank governor, arguing that Adhikari did not cooperate with the finance minister and the Finance Ministry.

According to senior CPN (Maoist Centre) leader Dev Gurung, some leaders, including Nepali Congress General Secretary Gagan Thapa, raised the issue before the prime minister at Monday’s meeting of the coalition partners.

Deuba, according to Gurung, said that governor Adhikari did not support the government, leaked sensitive information regarding the activities of the central bank and others, and was critical to the government.

On Monday, Finance Minister Janardan Sharma held a press conference where he also defended action against the governor, saying that the government took the decision as per the law.

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Sharma said that the foreign exchange reserve is projected to decline by 16.2 percent to Rs1,117 billion by mid-March this year, expected to sustain the imports of goods and services for just 6.7 months against the central bank’s target of maintaining it for at least seven months.

Massive imports fuelled by uncontrolled credit expansion have been blamed for the current worsening economic situation.

Sharma blamed the central bank under Adhikari for uncontrolled credit expansion with loans going for imports and other unproductive sectors.

“I had asked the central bank to control excessive lending in the unproductive sector from the early months of the current fiscal year, which did not happen,” he said.

However, experts say the government and the finance minister could have coordinated with the central bank on addressing the economic issues as the crisis had been in the making for months.

“A rift between the Finance Ministry and the central bank is not new in the world. There is a need to bridge the growing gap between the two institutions,” said Acharya, also a former finance secretary. “Going to the extent of removing the governor for not abiding by the finance minister cannot be justified.”

According to him, the government’s move may not go down well with the donor community, particularly the IMF which had made the central bank’s strengthened autonomy one of the conditions for the ECF grants.

“It may withhold the additional financing under the ECF as long as the government fails to satisfy it regarding the central bank’s autonomy,” said Acharya. “Even in the past, the IMF had delayed providing its committed aid to Nepal.”

According to him, the IMF had withheld the pledged aid to Nepal in the early 2000s citing Nepal’s failure to fulfil its commitment made in the ‘Immediate Action Plan’ regarding macroeconomic stability.

“I am not sure about the exact time and amount withheld at that time. Fulfilling all the commitments made to the IMF was also difficult at that time because of the economic impact caused by the Maoist insurgency,” he said.

According to the Finance Ministry, the IMF has already disbursed $110 million to the government and the remaining amount will be provided to Nepal over a 38-month period.

“An additional $50-60 million is scheduled to be provided by June-July,” said Ishwori Aryal, chief of the international economic cooperation coordination division of the Finance Ministry.

He said the government expects the gradual disbursement of credit from the IMF as per the schedule.

The ECF was approved to assist the authorities’ Covid-19 response in mitigating the pandemic’s impact on health and economic activity, protect vulnerable groups, preserve macroeconomic and financial stability, and support sustained growth and poverty reduction. This is the budgetary support being provided by the international monetary adviser.

Despite the government’s hope that IMF lending would be available as per the schedule, experts say that it may not be as easy as expected.

“Ensuring operational and financial autonomy of the central bank is one of the key conditions for approving ECF,” said Shishir Dhugana, a former finance secretary. “Now, the government has been accused of intervening in the autonomy of the central bank and I think the IMF will definitely raise this issue with the government.”

He, however, said that he was not sure whether it would affect the additional assistance from the IMF.

Suman Sharma, another former finance secretary, believes one single incident like suspension of the governor may not affect the disbursement of the pledged aid from the IMF because it also has to maintain relations with the government.

“If the IMF believes that the action taken against the governor was not based on sound evidence and was politically motivated, the government may lose credibility before the donor community,” said Sharma.

Section 22 and its sub-section 5 of the Nepal Rastra Bank Act-2002 detail the conditions that allow the removal of the governor, deputy governor, and directors of the central bank.

A governor can be removed if they fail to do the due diligence, lack efficiency, harm the country’s banking and financial system, or if they are found to have acted dishonestly or with a mala-fide intention in any transaction related to the business of the bank, among other things, according to the Act. Section 22 (6) of the law bars the removal of the governor on other grounds, making it difficult for the government to remove the governor on a whim.

The IMF, however, had sought commitment from the government to further strengthen the central bank’s autonomy by amending the existing NRB Act.

A bill to amend the Act has already been registered in Parliament, but it has been in limbo.

“After making a commitment, it is the responsibility of the government to fulfil it,” said Nara Bahadur Thapa, former executive director of the central bank. “There can be renegotiations on the conditions if the existing conditions could not be fulfilled due to the factors that are beyond the government’s control.”

Though he believes the government’s latest move may not affect the promised assistance, he said since in the past too the IMF had withheld its support to Nepal, there certainly are risks.

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