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Financial Accountability in Nepal: Promoting Competitiveness and Stimulating Broad-Based Growth

Financial Accountability in Nepal: Promoting Competitiveness and Stimulating Broad-Based Growth

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Broad-based growth is one of the four pillars of the Nicaraguan Government’s Poverty Reduction Strategy. Living standards of the rural poor will continue to depend largely upon agriculture. This study takes stock of major developments in Nicaragua’s agricultural sector and argues that broad-based growth can be promoted by strengthening agricultural competitiveness. Export growth is the key, requiring immediate action within a coherent strategy. The case of coffee illustrates the proposed strategy. This report also identifies productivity constraints in rural factor markets, suggesting medium-and-long-term solutions. It concludes with a review of the issue of risk management and with descriptions of some promising pilot projects.
Broad-based growth is one of the four pillars of the Nicaraguan Government’s Poverty Reduction Strategy. Living standards of the rural poor will continue to depend largely upon agriculture. This study takes stock of major developments in Nicaragua’s agricultural sector and argues that broad-based growth can be promoted by strengthening agricultural competitiveness. Export growth is the key, requiring immediate action within a coherent strategy. The case of coffee illustrates the proposed strategy. This report also identifies productivity constraints in rural factor markets, suggesting medium-and-long-term solutions. It concludes with a review of the issue of risk management and with descriptions of some promising pilot projects.

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Publish date: Mar 26, 2003
Added to Scribd: May 23, 2009
Copyright:AttributionISBN:9780821354414

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9780821354414

Legal Framework

Nepal Rastra Bank

NepalRastraBank(NRB)isthecentralbankofNepalandthebankertoHMGN.Itwas
establishedin1955bytheNRBAct,1955(whichwasrepealedin2002bythenewNRBAct,
2002),asanautonomouscorporatebodywithperpetualsuccession.ItisfullyownedbyHMGN,
andmanagedbyaseven-memberBoardofDirectors,allappointedbyHMGN.TheNRBAct
authorizesNRBtoissuemandatorydirectivestocommercialbanksandfinancialinstitutionson
bankingoperations,currency,andcredit.Sofar,NRBhasissued10directivesdealingrespectively
with:maintenanceofminimumcapitalfundbycommercialbanks;loanclassificationandloanloss
provision;limitoncreditexposureandfacilitiestoasingleborrower,group,orsector;accounting
policiesandformatoffinancialstatements;minimizationofinherentcommercialbankrisks;good
corporategovernance;timeframeforimplementationofregulatorydirectives;investmentinshares
andsecurities;statisticsandinformationtobefurnishedtoNRB;andtransferorsaleofsharesof
thepromoters.

The NRB directives have prescribed principal accounting policies for commercial banks deal-
ing with: disclosure of accounting policies; consistency in accounting policies; explanations of

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108 WORLD BANK COUNTRY STUDY

accounting head; notes on accounts; and contingent liabilities. Commercial banks are required to
publish their annual financial statements in public newspapers, and to create Audit Committees
and carry out internal audits.
NRB has similarly issued to finance companies 13 directives dealing with a broad range of
credit and accounting-related issues. They are to have their financial statements audited within five
months following the year end. They are also required to create Audit Committees, conduct an
internal audit every six months, and submit their report thereon to the Audit Committee.
Nepal has 16 commercial banks including the Agricultural Development Bank of Nepal
(ADBN), which functions as both a commercial and a development bank. The other development
bank is the Nepal Industrial Development Corporation (NIDC). The two largest banks - Rastriya
Banijya Bank (RBB - 100 percent state-owned) and Nepal Bank Limited (NBL - 40.49 percent
state-owned) - account for 65 percent of total banking system assets. In addition, the country has
more than 100 other financial institutions including finance companies, insurance companies,
numerous micro-finance institutions, Grameen Replicator Banks, financial cooperatives, financial
NGOs, and a Stock Exchange. HMGN and IDA have, for the last two years at least, been dis-
cussing a possible Financial Sector Technical Assistance Project (FSTAP).
ThefollowingfiveActsgovernmostbanksandfinancecompanies:theCommercialBanks
Act,1974;theAgricultureDevelopmentBankAct,1967;theFinanceCompaniesAct,1986;the
NIDCAct,1990;andtheDevelopmentBankAct,1996.AlltheseActshaveremarkablysimilar
provisionsgoverningoperationsandfinancialmanagementofbanksandfinancecompanies.Allare
requiredtobesetupaslimitedliabilitycompaniesexceptthoseprescribedbytheLaw,andonly
withtheauthorizationofNRB.Allhavetoprepareaccountsaccordingtodirectivesissuedby
NRB;providestatisticalandotherinformationperiodicallyasrequiredbyNRB;havetheirannual
financialstatementspreparedinaformatapprovedbyNRB,andauditedwithinfivemonthsfol-
lowingtheendofthefiscalyear;laytheauditedaccountsbeforetheAnnualGeneralMeeting,
whichalsoappointstheirauditorsfromalistapprovedbyNRB,andonlyforthreesuccessiveterms.
InadditiontothemattersauditorsarerequiredtospecifybytheCompanyAct,1997,auditorsof
allthesethreetypesofbankinginstitutionsalsohavetospecifyeightto10matters,including,for
example,whethertransactionsconductedbythebankarewithinthescopeofitsauthority,and
whetherornotworkhasbeendoneinaccordancewithdirectivesofNRB.
Although the latest directives require commercial banks to prepare their accounts in accor-
dance with International Accounting Standards (IAS), there is no similar requirement for develop-
ment banks or finance companies. No auditing standards are prescribed for any of the three types
of financial institution.

Legal reforms in the banking sector are being articulated around two themes:

(a)A new NRB Act 2002 was recently enacted and is already enforced effective January 30,
2002. A single unified Act to govern Commercial Banks, Development Banks, and
Finance Companies is in the process of drafting.
(b)Establishing an appropriate body of lending legislation with laws covering, in particular,
collateral, credit activity, and bankruptcy.

The accounting and auditing environment is weak, with weak timeliness and reliability of
financial data particularly from the two largest commercial banks. Weak accounting in the corpo-
rate sector (i.e., among the banks’ clients) also makes lending decisions difficult. International and
joint venture banks with foreign management have tended to produce more informative, reliable,
and timely financial data than these two banks. Some are required by their foreign principals to
apply International Accounting Standards. Given the relative weight of the Nepalese banks, how-
ever, the joint venture banks’ impact on the accountability standards of the financial sector as a
whole is insignificant.

There have been numerous projects and efforts to develop and improve certain aspects or
institutions of the financial sector. Four technical assistance grants have been financed by the WB,

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FINANCIALACCOUNTABILITY IN NEPAL 109

21 by the ADB (8 loans and 13 technical assistance grants), while the International Monetary
Fund (IMF) and three German development institutions (KFW, DEG and GTZ) have financed
one project each. The latest is the FSTAP, currently under discussion between HMGN and IDA.
ADB’s assistance with the Corporate and Financial Governance Project, TA to support ICAN and
draft commercial laws have been acknowledged to be among the most comprehensive packages of
assistance in the financial sector. Reviews carried out in the course of preparing this project
revealed that NRB:

●prepares its accounts on an accrual basis, even though certain incomes (for example, interest
on loans to commercial banks) are recognized on a cash basis;

●has a relatively ineffective internal audit department, which does not have any qualified
accountant on the staff;

●does not record its accounting policies in its financial statements;

●has been unable to produce its annual financial statement within the four months specified
by law (the shortest period has been ten months); and

●has not had a clean audit report for many years, but has had several audit criticisms (reports
were “qualified”) repeated year after year.

With regard to the RBB and the NBL, which together account for 65 percent of total
banking assets in the country, a KPMG/Barents study in FY2000 found that:

●Bank management is basically dysfunctional;

●There are no reliable data available on the loan portfolio;

●Financial accounting is primitive and not according to international standards (perhaps this
will change under the new NRB directive);

●Business strategies are not in place;

●Human resource policy is weak;

●Management information systems and record-keeping are very basic; and

●RBB’s governance and management are highly politically driven and lacking a commercial

focus.”

In addition, both RBB and NBL have been unable for many years to produce timely audited
financial statements.

The conclusion of the above analysis is that, for the major part of the banking system, both
the regulator and the regulated are weak, with poor financial management and accountability sys-
tems in urgent need of improvement. Under the impetus of the proposed WB-funded project
under preparation, the NRB has revised its accounting manuals to meet the requirements of IAS.
These are now being implemented. In addition, the project under preparation contains substantial
financial management capacity building involving considerable use of information technology
expected to make a strong positive impact on NRB’s accounting systems. This capacity building,
however, will only start after the effectiveness of the IDA Credit, which still has to be negotiated
and agreed between WB and HMGN.
In the legal area, a recent NRB Act, 2002 involves:

●maintenance of accounts in compliance with internationally accepted accounting principles
and convention;

●ensuring that three Board members have expertise in finance, accounting or banking;

●constituting an Audit Committee headed by one of the board members; and

●strengthening the internal audit function, and bringing it up to international standards
either by using departmental staff or by hiring a professional audit firm.

As regards the RBB and the NBL, HMGN has decided to employ international management
firms to go in and strengthen the management of both banks and prepare RBB for eventual
privatization.

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110 WORLD BANK COUNTRY STUDY

Recommendations

Banking reform in Nepal, including upgrading of banking accountability and transparency, is a
long-term process. A lot of good sector and institutional analysis has gone into the preparation of
the FSTAP, and several good recommendations, some of which are already being implemented,
have resulted from that process. Therefore, although the project represents only a first step in a
long and complex journey, to try to short circuit the process would only create confusion and
unnecessary duplication. It is recommended, therefore, that efforts to improve banking accounta-
bility and transparency in Nepal should be exercised within the context, and through the effective
implementation, of the FSTAP, and the Financial Sector Reform Program, of which that project is
the first step. Meanwhile:

●NRB should:

(i)Give directives to all financial institutions to prepare accounts according to IAS (or
Nepal Accounting Standards based thereon), and have them audited according to
International Standards on Auditing (or Nepal Standards on Auditing based thereon).
(ii)Direct all financial institutions to adopt online software compatible with NRB, to facili-
tate and speed up data exchange between them and NRB.

●The proposed Accounting and Auditing Standards Boards should formulate accounting and
auditing standards based on IAS and ISA to apply to all companies, including financial insti-
tutions.

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