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2. BRIEF INTRODUCTION OF INDUSTRY

2.1 The Context

Bank can be defined as a financial institution which provides financial services that
may be in the form of accepting deposits, accepting loan, providing technical advices,
dealing over foreign currencies, remitting funds, etc. The primary operating activity of
any bank is to collect fund in the form of deposit from the surplus sector of the
economy and transfer this collected fund to the deficit unit of the economy in the form
of loans. The benefit that the surplus unit gets by depositing their access fund in the
bank and the charge that the deficit unit pays for using the fund of the bank are both
expressed in percentage and that rate is known as the interest rate.

In simple words, Bank is an institution which deals with money and credit. It collects
deposits from general public, corporate bodies and private organizations by providing
them certain percent of interest, mobilizes the fund to productive sectors and
distributes the accumulated fund to others, who are in need of money by charging
certain percent of interest. Bank is therefore; known as a dealer of money that bridges
the gap between the savers of fund and users of fund. To know the precise meaning of
bank, some definition given by prominent writers, scholars and acts of different
nations are as given:

According to Nepal Rastra Bank Act 2002 "Bank is a financial institution, which
provides financial services that may be in the form of accepting deposits, advancing
loan, providing necessary technical advice, dealing over foreign currencies, remitting
funds, etc."(Source: NRB, 2002)

According to Indian Banking Company Act 1949 "Banking means the accepting for
the purpose of lending or investment of deposit of money from the public, repayable
on demand or otherwise and withdrawal by cheque draft order or otherwise."
(Source: IBC, 1949)

According to Commercial Bank Act 2031 B.S “A commercial bank refers to such
type of bank which operates currency exchange transactions deposits, advances loans,
performs dealing relating to commerce except the banks which been specified for the
cooperative, agricultural, of the similar other specific objective."(Source: CBA, 2031)
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2.2 History of Banking

The evolution of banking industry had started a long time back, during ancient times.
There was reference to the activities of the money messengers in the temple of
Jerusalem in the New Testament. In ancient Greece the famous temples of Delphi and
Olympia serve as the great depositors for people’s surplus funds and these were the
centre of the money lending transaction. The history of banking is nearly as old as
civilization. In the ancient Rome and Greece, the practice of storing precious metals
and coins at safe places and loaning out money for public and private purpose on
interest was prevalent.
(source: https://www.investopedia.com/articles/07/banking.asp)

The history of modern banks starts from the establishment of the bank of Venice,
established in Venice, Italy in 1157 AD. Subsequently, Bank of Barcelona (1401) and
Bank of Geneva (1407), Bank of Amsterdam (1607) and the bank of Hamburg (1619)
were established. The ‘Bank of England’, first English bank, was established in 1964
A.D. The bank of Hindustan established in 1770 A.D. is regarded as the first bank in
India. But these banks were not established according to the law. In 1833 A.D.,
Banking Act-1833 was introduced in the United Kingdom which allowed opening
Joint stock company banks. With the expansion of the commercial activities in the
northern Europe, there sprang a number of private banking houses in Europe and
slowly spread throughout the world. In 1838 A.D., New York adopted the Free
Banking Act, which allowed anyone to engage in banking business as long as they
met certain legal specifications.
(source: https://www.cfr.org/backgrounder/cryptocurrencies-digital-dollars-and-
future-money)

These modern banks gradually replaced the merchants, goldsmith and money lenders.
In 1960’s, banking was introduced to the world because of increase in their worldwide
operations and increase in multinational companies. Nowadays, banks are referred to
as lifeblood for business houses as they offer many facilities like travellers cheque,
insurance services, pension services and other investments.
(source: https://www.org.np)

2.3 Evolution of Banking Industry in Nepal

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Through the study of the historical evidence, it is found that the existence of banking
practices started in the eight century. The banking history in Nepal is relatively new
even though the numbers of banks can be found operating in Nepal. In the Nepalese
context, it is very difficult to trace the correct chronological history of the traditional
banking system due to lack of historical records of banking. In respect of formulation
8 of the financial institution in Nepal, simple lending and borrowing functions existed
during “The Lichhabi Period” by King Gunakamdav in 780 B.S. during the tenure of
Rana Prime Minister Randeep Singh was the first step towards institutional
development banking of Nepal. But their functions were limited only to granting the
loan. “Sainik Dravya Kash” was established in 1993 B.S. specially established for the
future welfare government staffs and Sainik only. Since 2019 B.S., Karmachari
Shanchaya Kosh has been performing more functions than Sainik Dravya Kosh to
give facilities not only to the staff of the government but also to the staff corporations.
(source: https://www.investopaper.com/news/historyof-modern-banking-in-nepal/)

In Nepal, banking in the true sense of term started with the inception of Nepal Bank
Limited. His Majesty king Tribhuvan inaugurated Nepal Bank Limited on Kartik 30,
1994 B.S. This marked the beginning of an era of formal banking in Nepal. Until then
all monetary transactions were carried out by private dealers, private moneylenders,
and trading centre. It function was to meet the need for the development of banking
sector and also to formulate monetary policies. Nepal Rastra Bank (NRB) was
established on 14th Baisakh 2031 B.S. under NRB act 2012 since then it has been
functioning as Government’s bank. The government established Rastra Banijya Bank
(RBB) in 2022 B.S. as fully government owned commercial bank. As the name
suggests commercial banks had to carry out commercial transactions. But commercial
banks had to carry out the functions of all types of financial institutions. So, the
industrial development corporation (IDC) was set up in 2013 BS. The agriculture
development bank (ADB) was established to provide finance for agricultural
producers so that introducing modern agricultural productivity.
(source: https://www.org.np )

After the restoration of democracy in Nepal there has been tremendous development
in banking sector. The economic and financial reform policies undertaken by the
government have increased both number of banks and the types of services offered.
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For the purpose of regulation and control, after 2041 B.S, Nepal government allowed
joint venture banks to operate in the country, which gave a new horizon to the
financial sector. Nepal Arab Bank Limited later renamed as Nabil Bank Limited
established in B.S. 2041 as a first joint venture bank proved to be a milestone in the
history of banking which gave hope to the sluggish financial sector. Thereafter, two
foreign joint venture banks, Nepal Indosuez Bank Ltd. (now called as Nepal
Investment Bank) and Nepal Grind lay’s Bank Ltd (now called as Standard Chartered
9 Bank Nepal Ltd.) was established in 1986 and 1987 respectively. Then after, several
commercial banks have been established in the recent years.
(source: https://www.org.np )

Types of Banks

NRB have divided the depository financial institutions into four classes on the basis
of minimum paid up capital requirement and functions. This classification is unique
feature of Nepalese banking industry only and there is no such classification globally.

Table no: 1 Categorization of Financial Institution in Nepal

Banks/ BFI class No. of BFI No. of branches

Commercial Banks (A) 27 4,613

Development Banks (B) 19 1,048

Finance Companies (C) 21 254

Micro Finance (D) 76 4,272

Infrastructure Development 1
Bank

Total 144 10,187

(Source: Nepal Rastra Bank as on Mid-January,2021)

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From the above tabular representation, we can see that there are currently 154
financial institutions under NRB under different classes as categorized by the Nepal
Rastra Bank.

In the present era, the Banking sector has an immense role in the economy in financial
intermediation, credit creation, fun/money transfer, facilitating trade, safe keeping of
valuables and providing employment opportunities. With the recent trend of the world
moving towards globalization and the emergence of the world as a global village, the
scope for banking has increased even more to expand their activities to various
locations within and outside the boundaries of their country origin.

2.4 Present Situation

Banks are gradually starting to realize that, in today’s competitive banking

environment, exemplary customer service is one of the distinguishing characteristics
that banks can exploit to establish a competitive edge. Since most banks offer
comparable products and services, they should continually search for a competitive
advantage that will attract new customers and help retain existing ones. Banks are
therefore, looking to develop innovative products and services to maintain superior
customer services levels while at the same time remaining profitable. With the
number of market players in the rise, the competition has been obviously growing in
the banking industry. The most obvious effect of the rising competition can be seen in
the interest rates offered by the banks.

Banks are gradually shifting towards the IT- based solution to enhance service
delivery in order to address customer concerns. Most banks are embracing E-Banking
and provisions of ATMs to reduce long queue in the banking hall. In addition, some
banks have launched mobile phone banking services which facilitates several account
query tools, including account balances, thereby minimizing the need for customers to
visit banks. This drive towards the IT-based solution will continue to gather
momentum in the future as banks will find it very difficult to survive in the ever
growing competition without some form of competitive advantages.

Another trend observed nowadays is large corporate houses explore the shift towards
multiple banking relationships. In order to remain competitive, banks are seen to be
increasingly encouraging business houses to transact with them. This has led to a
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creation of the large volume of unutilized limits with the bank and in order to get a
large piece of the pie banks are increasingly accepting risks, which they otherwise
would not have taken. The unyielding competition has also led the banks to accept
collaterals that are more risky and unsecured. The volume of loan against the 11
hypothecation of stock, receivable and other assets are on the rise. In the absence of
hypothecation in the current assets, the risk of over financing is eminent and banks are
exposed to a higher degree of risk.

2.5 Challenges and Opportunities;

2.5.1 Global Challenges

Banking institutions are continuously facing some structural challenges. There are
relatively large number of banks, some of which are sub-optimal in size and scale of
operations. The new international capital norms require a high level of sophistication
in risk management, information systems, and technology which would pose a
challenge for many participants in the banking sector. The biggest challenge for
banking industry is to serve the mass and huge market. Companies have become
customer centric than product centric. The better we understand our customers, the
more successful we will be in meeting their needs. Improving the worsening liquidity
crisis that is directly affecting the operation of banks is the major challenge for the
banking sector in the current scenario.

2.5.2 Global Opportunities

The biggest opportunity for the banking institutions today is the consumer.
Demographic shifts in terms of income levels and cultural shifts in terms of lifestyle
aspirations are changing the profile of the consumer. Revolution of information
Technology is also an opportunity for banking sector. Technology is the key to
servicing all customer segments – offering convenience to the retail customer and
operating efficiencies to corporate and government clients. The increasing
sophistication, flexibility, and complexity of product and servicing offerings makes
the effective use of technology critical for managing the risks associated with the
business technologies and products to the banking industry by the research institutions
could benefit the banking.
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2.5.3 National Challenges

The first challenge is maintaining domestic financial sector stability. Nepal Rastra
Bank as the regulatory authority of BFIs is committed to maintaining stability.

Stability is essential since it reflects BFI’s ability to fulfill its primary functions
(namely financial intermediation) and helps to enhance trust and credibility in the
overall Financial System. The current level of regulatory framework is inadequate
compared to international standards and is not commensurate with massive rise in
number of domestic BFIs. Nepal Rastra Bank maintains stability of the BFI sector
mainly through supervision of NRB licensed institutions.

The second challenge is to direct credit for contributing economic growth and
productive employment generation. Nepal Rastra Bank understands that the
relationship between the real sector and the monetary sector is through the
macrofinancial link – in other words credit from the BFIs to the real sector enhances
their growth and leads to employment generation. It is important to emphasize that
growth has to be productive since data on credit disbursement suggest that unfettered
lending by BFIs are providing disproportionate amount of credit to non-productive
(consumption loans) areas.

The third challenge is for promoting greater access of BFI. It is clear that finance
should support growth however there are a number of associated challenges including
poor financial literacy, volatility in liquidity and interest rate, urban centric BFIs
which is expanded to include poorly developed money and capital markets, have not
been supportive in tapping the growth potentials of the economy. There is thus limited
financial access and inclusion, lack of good governance, limited supervisory capacity
and lack of market monitoring.

2.5.4 National Opportunities

 Increasing investment potential

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Economic development requires investment and a conducive environment for

investment. One is the institutes that invest in the country and the other is the financial
institutions. If the investment climate is to be ensured and economic prosperity is truly
desired, there is ample potential for investment in Nepal. As the capital market has not
developed well in Nepal, the banking sector is the main basis of the country’s
development. If the demand increases and the investment area of banks and financial
institutions also increases, there are ample possibilities. If the government manages to
mobilize the private sector while maintaining political stability, the time has come for
opportunities for the banking sector to grow.

 Rural banking

The government is promoting the rural banking concept all over the country. The
banks and financial institutions are encouraged to establish their branches in the rural
areas too. With the vision to provide banking facilities and services to the people of
rural areas of Nepal, this concept has been brought into action. Still, the majority of
the people in rural areas do not have a bank account and are deprived of banking
facilities. The banks in rural areas help people to save their money and mobilize them
in an effective way.

 Technology

In the past few years, the banks in Nepal have shown drastic technological
development. Technology has become the backbone of every department in the bank.
They have come up with facilities like e-banking, mobile banking, mobile apps, etc.
to help their clients in every possible way.

 Robust demand

The number of working of the population has increased rapidly and it’s still in the
growing form. This increase in the working population increases disposable income.
To invest their money, or to safely deposit, the customers have increased their interest
in banking products. This shows the emerging opportunities of banking sectors in
Nepal.
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