Pressure to Expand Loans After Floods, Banking Risk Rising

Kathmandu. After the devastating floods in the Bhote Koshi river, pressure is mounting on banks and financial institutions to expand credit as large sums are needed for reconstruction. However, with banks' own investments at risk due to the floods, the need to disburse additional loans is making risk management more challenging for banks.

The government estimates that more than NPR 700 billion (7 kharba) will be required for reconstruction of the flood-affected areas. Since large investments are needed to rebuild damaged homes, businesses, hydropower projects, roads, and other infrastructure, significant credit mobilization from the banking system is necessary. However, about NPR 2.43 billion in loans previously disbursed by banks and financial institutions in flood-affected areas is now at risk.

In some cases, the collateral property pledged with banks, along with the homes and businesses of borrowers, has been destroyed. Some borrowers are out of contact, making loan recovery even more complex. This has put banks under dual pressure. On one hand, they must manage loans of existing borrowers affected by the floods; on the other, they need to extend additional credit to the same affected areas for reconstruction.

Currently, loan demand in the banking system has not increased as expected. Despite low interest rates and excess liquidity of over NPR 1.3 trillion in the system, the private sector has shown little enthusiasm to take new loans. In such a situation, although post-flood reconstruction could increase loan demand, bankers say it will not automatically translate into bank credit expansion.

If an additional 5 percent credit is mobilized solely for reconstruction of flood-affected areas, banks' credit expansion could increase significantly. Credit expansion, currently around 6 percent, could rise by another 4–5 percent to near double digits. However, this requires a clear reconstruction plan and policy arrangements for bank credit mobilization.

The government needs to create an environment for bank credit mobilization by identifying affected areas and reconstruction priorities. Trying to mobilize necessary credit for reconstruction based only on normal market demand may not yield expected results.

Another major challenge for banks after the floods is non-performing loans (NPLs). If borrowers cannot repay loans when bank collateral is destroyed, the loan recovery process will become more complicated. Bankers say this could increase NPLs and also raise banks' non-banking assets.

With banks' NPLs already above 5.5 percent, if more loans are stressed due to the floods, banks' risk will increase further. In such a situation, as new loans must be disbursed for reconstruction, banks' risk-bearing capacity will become crucial.

Therefore, relief for flood-affected borrowers should not be viewed solely in connection with new loan disbursement. There is a need to move forward by coordinating restructuring of old loans, revaluation of collateral, insurance claim processes, and new loan disbursement for reconstruction.

The banking system currently does not lack investable funds. The challenge is to convert them into loans with reduced risk. If the government determines reconstruction priorities, facilitates banks and financial institutions in credit mobilization, and brings a clear policy for managing existing loans of affected borrowers, post-flood reconstruction can create a basis for increased loan demand. However, if a policy of increasing only new loans is adopted while old bank loans are already at risk, pressure on the banking sector could further increase.

Therefore, bankers say the challenge in post-Bhote Koshi flood reconstruction is not just providing loans but expanding new credit while protecting old loans at risk.