Since Sunday, commercial banks have stopped offering interest of over 8 percent on money parked in savings deposit accounts. The move was made a few weeks after all 28 commercial banks entered into a “gentlemen’s agreement” to cap interest on fixed deposit at 11 percent. These decisions were made by the Nepal Bankers’ Association, an umbrella body of commercial banks, on the flimsy pretext of restoring stability in deposit rates, which had started increasing consistently after the banking sector faced a shortage of money that could be disbursed as loans. So far, all banks have abided by this instruction.

The bankers’ association was formed to protect the genuine interest of commercial banks in a legal and ethical manner. But the practice of regulating deposit rates has transformed the association into a cartel. This is not acceptable in a market economy, where supply and demand should determine prices.

What is even more surprising is that the Nepal Rastra Bank, the banking sector regulator, is defending these banks, stating that the move has prevented deposit as well as lending rates from shooting through the roof. High interest rates, especially lending rates, according to the central bank, would hit private sector growth, putting a drag on economic growth.

This is a valid concern because expensive loans will not only dampen investor sentiment but stoke inflation as well. But had the market been allowed to function on its own, money from sectors such as the stock market and real estate could have entered banks because of high returns on deposits. Rise in the flow of deposits would have exerted downward pressure on deposit rates, thus stabilising lending rates as well. But bankers did not have the patience to wait and took a controversial decision to cap rates, which will hurt the interest of retail depositors the most. Now, these depositors do not have anyone to turn to, as the central bank, whose main responsibility is to protect depositors’ interest, has taken the side of bankers, who are playing foul.

The central bank should stop this practice of rewarding those who play foul, as it would set a bad precedent and encourage bankers to flout other rules as well, creating a vicious cycle, which can be very difficult to dismantle.

It is well known that banks are currently facing a shortage of loanable funds because of haphazard disbursement of credit in the first quarter of this fiscal year. In other words, bankers were providing loans beyond their limit, which created an asset-liability mismatch.

So, instead of defending banks, the central bank, as a regulator of the banking sector, must direct banks to devise an annual business plan, incorporating framework on deposit collection and credit disbursement. This would prevent the problem of shortage of loanable funds from recurring.

However, even if these measures fail to address the problem, intervention in the market should be made by the regulator—not the banks.