Background

After the restoration of democracy, Nepal has adopted more liberal and open economic policies. The process of economic liberalisation and reforms in the financial sector introduced in the early 1980s has led to significant changes in the banking industry. The open and liberal policy of the government in the financial sector has helped in establishing many banks and financial institutions in the country. These banks have contributed towards the introducing new technology, new banking systems and efficient service delivery in the country. These banks have been contributing inline with the thrust of economic liberalization and financial sector reform, i.e., making the financial system more competitive, efficient and profitable.

Consolidation in Banking Industry

Banks and Financial Institutions in Nepal

Banking industry was booming until a decade back. But, economic slowdown during that period started affecting their performance of commercial banks. This led to consolidation of banking industry resulting into merger between banks and merger of development banks and finance companies with commercial banks and development banks. Following picture shows consolidation in Nepalese banking industry:

Banking consolidation in Nepal. Source: Nepal Rastra Bank

The figure clearly shows that numbers of finance companies and development banks have gone down drastically due to merger with commercial banks. Even number of commercial banks have gone down due to merger of banks. This is mainly due to initiation taken by Nepal Rastra Bank to consolidate banking and financial service industry.

Consolidation as a corrective measure

Nepal Rastra Bank has taken consolidation as one of the tools to enhance the capital base, achieve operational efficiency and strengthen the resilience of banking and financial service institutions. Accordingly, merger and acquisitions have been considered as one of the effective measures of financial consolidation.

A question arises as to whether the consolidation in banking industry at present is enough or should the banks and financial institutions further consolidate. Answer to this could be found in the analysis provided in the following paragraphs.

Why do we Need Bigger Banks?

In banking and financial service industry, there is a colloquialism called “too big to fail”. Accordingly, the biggest banks are so vital to an economy that it would be disastrous if they went bankrupt. To avoid a crisis, the government can provide bailout funds which support failing business operations, protecting companies from their creditors and also protecting creditors against losses.

While banks in the USA and China are growing rapidly to become “systemically important” banks, growth of Chinese banks are more phenomenal. China’s four systemically important banks have more than tripled their asset sizes over the last 10 years. Chinees banks are now dominating the world as shown in the Table below:

Top Global Banks 2019

The table shows how domination in global banking is shifting towards China. Despite being one of the largest economies, SBI has been able to secure 57th rank (even after recent merger of 5 of its associates and a Bharatiya Mahila Bank into it).

Need for Mega Merger

Banking sector in Nepal is highly fragmented, especially in comparison with other key economies. The table presented below shows five-bank asset concentration in various economies:

Concentration of Banks in major economies

The five-bank asset concentration in Nepal is the lowest compared to other countries. It is close to Indian Banks. But, ratio in India is heavily criticized and need for further consolidation is proactively talked about. In USA and China, there are several large banks falling within top 100 list justifying the ratio. Therefore, we cannot compare our ratio with these countries. If we see other developed economies, concentration of business in top 5 banks is way higher. This shows the need for consolidation in Nepalese banking industry.

Conclusion

Consolidation is one of the important tools to enhance the capital base, achieve operational efficiency and strengthen the resilience of banking and financial service institutions. Banking sector in Nepal is highly fragmented, especially in comparison with other key economies. Therefore, there is need for further consolidation of banking and financial service industry.

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