KATHMANDU, June 3: Nepal Rastra Bank (NRB) asserts that the Standing Deposit Facility (SDF) that it introduced as a monetary tool two years ago to preserve the interest rate corridor floor has been effective amid a freefall in interest rate in the country’s banking system.
At a time when the country’s central bank has been criticized for failing to manage excessive liquidity, the NRB’s self-research has highlighted its effectiveness. For the past few years, Nepal’s banks and financial institutions have been unable to utilize their excessive loanable funds, resulting in the freefall of interest rates.
The central bank launched the SDF system in the country’s monetary system in February 2024, enabling banks and financial institutions to deposit their excess liquidity at the central bank to earn a three percent interest rate. The floor mechanism in the interest rate corridor was supposed to absorb excess liquidity in the banking system along with stabilizing interbank rates and ensure commercial banks earn guaranteed return on idle funds.
Revised interest rate corridor system introduced
A study carried out by the NRB, however, has underlined that the decision to implement the SDF is not just a simple administrative change but a decisive turning point in the operation of Nepal's monetary policy. “The tool has affected every financial sector of the economy ranging from the banking system to the general borrower in different ways.”
The report of the study led by NRB’s Assistant Director Victor Kumar Sapkota reads as of now, on days when the fixed deposit facility was not available, the interbank interest rate used to drop uncontrollably, which created an atmosphere of uncertainty in the market. With the availability of the daily facility, banks and financial institutions will be able to make their transactions and plans with more confidence as this rate will remain within the corridor.
Prior to the introduction of the SDF provision, the wide gap between the bank rate and the interbank rate had raised questions about the effectiveness of monetary transmission. With the facility now available on a daily basis, the rate set by the central bank has begun to exert a tangible influence on the market. This alignment ensures that monetary policy signals translate more effectively into market behavior, which is considered a fundamental prerequisite for maintaining a stable and healthy economy.
The report says that SDF is not continuously accessible and involves operational frictions, due to heavy compliance checks and manual operation mechanisms. Therefore, depositing institutions cannot always place surplus liquidity with NRB at the moment it arises.
Despite these challenges, it can be observed that SDF operations in Nepal have strongly supported maintaining the floor rate. The initial one-year period since the implementation of SDF was intentionally discarded from the data to allow for habitual adjustment in institutions after the announcement of a new policy, reads the NRB report.
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