Rising Bad Loans Put Pressure on Nepal’s Banks: Practical Fixes Needed

Mon, Jul 28, 2025 12:35 PM on Featured, National,

Nepal's economic growth has slowed in recent years. This can be partly attributed to decreased government infrastructure spending. The banking sector also faces challenges due to rising Non-Performing Assets (NPAs). While central bank relaxations have prevented a sharper rise in NPAs, the situation remains concerning. This is a temporary measure, not a long-term solution.

While the central bank's policy relaxation may have provided temporary relief by allowing banks to focus on their core business and delaying the full recognition of stressed assets, it's a classic case of kicking the can down the road. A comprehensive review of these assets is crucial. This short-term solution also has consequences. Selling distressed assets now will only attract deeply discounted offers. Ideally, banks should have recognized the problem earlier and dealt with it decisively. Unfortunately, this may have required letting a significant bank fail. An assets quality review is needed to prevent banks from holding onto troubled assets for too long. There needs to be a balance: banks need room to survive even with haircuts on bad loans, but the central bank must ensure any restructuring is of good quality. Ultimately, some distressed banks may need to shrink over time through restricted growth.

Possible Solutions for Nepal's Banking Sector Challenges:

  1. Tailor-made Solutions for Large Loans: For big-ticket loans facing stress, a one-size-fits-all approach won't work. Banks need the flexibility to create customized solutions that consider the specific borrower's situation and potential for recovery. This could involve extending loan terms, restructuring repayment schedules, or offering equity conversion options.
  2. Refinancing Facility for Interest Reduction: High-interest burdens can quickly sink even healthy businesses. A government-backed refinancing facility could offer borrowers lower rates, easing their cash flow and making debt repayment more manageable. This would incentivize banks to participate in restructuring efforts.
  3. NPA Dedicated Funding Window: The central bank could establish a special financing window for banks dealing with high NPLs. This window could offer access to funds at relaxed terms, allowing banks to extend credit to viable businesses currently struggling with stressed assets.
  4. Deferral for Working Capital Shortage: Many businesses experiencing a slowdown may not be technically bankrupt, but simply facing temporary working capital constraints due to declining sales. Deferring loan repayments for a set period could provide breathing room for these businesses to recover and resume regular payments.
  5. Stressed Loan Resolution Framework: A comprehensive framework for resolving stressed assets is essential. This framework should include clear guidelines for classification, provisioning, and restructuring of NPLs. It should also establish a legal framework for asset sales and potential bank mergers or acquisitions.
  6. Real Estate Relaxation: The real estate sector is often a significant contributor to NPLs. Relaxing loan-to-value (LTV) ratios and easing collateral requirements for real estate loans could incentivize new investment and potentially free up some currently stressed assets. However, careful monitoring is crucial to prevent a new bubble.
  7. Principal Repayment Flexibility for Rescheduled Loans: Standard loan restructuring often focuses on extending the loan term. This can create a situation where interest payments pile up, making it even harder for borrowers to repay the principal. Offering flexibility in principal repayment schedules, such as allowing for a grace period or balloon payments, could ease the burden on borrowers and improve the chances of successful restructuring.
  8. Infrastructure Loans: Long Tenure with Restructuring Flexibility: Infrastructure projects are often long-term endeavors. Offering longer loan tenures for infrastructure projects, coupled with the flexibility to restructure repayment terms during unforeseen circumstances, can improve the viability of these projects and reduce the risk of default.
  9. Equity Conversion with Capacity to Sell Off in Market: In some cases, converting a portion of a stressed loan into bank equity can provide a viable solution. However, this needs to be coupled with the ability for the bank to eventually sell this equity in a functioning market. Developing a secondary market for distressed assets would be crucial for the success of this approach.
  10. When the Market is the Problem: Not all NPLs are due to borrower mismanagement. Sometimes, broader economic slowdowns or sectoral disruptions can lead to otherwise healthy businesses struggling to repay loans. In these situations, industry-specific solutions or government stimulus packages might be necessary to revive the market and improve repayment prospects for borrowers. Banks need to be adaptable and recognize situations where the root cause lies beyond the individual borrower.
  11. Flexible Conversion of Facilities: One size doesn't fit all. Banks should offer greater flexibility in converting existing loan facilities to better suit the evolving needs of their customers. This could involve converting working capital loans to term loans for businesses facing temporary shortfalls, or vice versa.
  12. Transparent Loan Transfers: In some cases, transferring a stressed loan to a capable family member with a strong financial standing could be a viable solution. However, transparency is crucial. This process should be clearly defined and conducted with proper oversight to prevent misuse or potential manipulation.
  13. Excess Spread Management: Banks need to carefully manage their lending rates and ensure their spreads (the difference between borrowing and lending rates) are not excessive. Competitive interest rates can incentivize new borrowing and improve overall loan performance.
  14. Venture Capital for NPA Revival: A more active venture capital sector could play a role in reviving stressed assets. Venture capitalists might be willing to invest in viable businesses struggling with NPLs, providing them with the resources they need to get back on track.
  15. Extended Restructuring and Incentives: Extending the current loan restructuring window could provide much-needed breathing room for distressed borrowers. Additionally, offering incentives like reduced interest rates or relaxed collateral requirements for successfully restructured accounts with partial principal repayment could further encourage responsible debt management.

Conclusion: A Multi-Pronged Approach for a Sustainable Future

While the solutions outlined above offer a path forward, addressing Nepal's NPL challenge requires a multi-pronged approach. Finding "correct-priced" buyers for distressed assets remains a hurdle. The quicker these assets are resolved, the better for the banking sector's overall health. The involvement of private asset management companies specializing in distressed asset turnaround could be a valuable addition. However, outright debt forgiveness should be a last resort, as it could create moral hazard and discourage responsible borrowing behavior.

The establishment of a National Asset Management Company (NAMC) could be a game-changer. This entity could acquire large, complex NPLs from banks, potentially using government-guaranteed bonds for infrastructure projects as collateral. In tandem, stricter lending practices with tighter underwriting standards and improved risk-management practices within banks are crucial to prevent future crises.

Finally, for certain distressed assets with potential for revival, a hybrid approach could be explored. If a private buyer purchases the asset, it could be partially backed by government bonds, providing a safety net and attracting more investors. By combining these solutions with a focus on transparency, market development, and a willingness to adapt, Nepal's banking sector can navigate the current challenges and emerge stronger.

Article By: Nabin Bista