We discussed earlier that the regulator examines the safety and soundness of banks and compliance with relevant rules and regulations. Nepal Rastra Bank as a regulator of banks has a key role in the regulation of banks in Nepal. Provisions of Nepal Rastra Bank Act, 2002 and Banks, and Financial Institutions Act, 2016 have empowered Nepal Rastra Bank to regulate, inspect and supervise banks and financial institutions. It can play the following roles in the regulation of the banks:

No one other than banks and financial institutions licensed by NRB can carry on the financial transactions in Nepal. Nepal Rastra Bank may issue the license to the institutions applying to it for carrying on a financial transaction if it is satisfied that issuing license ensures healthy competition and make effective transactions relating to financial intermediation and serve the interest of depositors, and the financial institution is competent to carry on the financial transaction subject to the provisions of Banks and Financial Institutions Act and rules or bylaws framed under this act. Thus, it can create a competitive environment in the financial markets by issuing licenses to competent banks and financial institutions to carry on the financial transactions.

Nepal Rastra Bank has full authority to regulate and systematize the functions and activities of banks. It can frame the necessary rules and bylaws, and issue the directives necessary to regulate the functions and activities of banks to maintain the sound health of the financial system as a whole and individual banks. It has issued a number of directives to banks regarding the uniform financial reporting system, minimum capital requirements, risks and liquidity management, etc. It regulates banks to ensure that banks have complied with the directives issued to them and provisions of the Nepal Rastra Bank Act and Banks and Financial Institutions Act and keep the financial health of banks in good condition.

Failure of banks causes the loss of the money of a large number of depositors, a wealth of shareholders, and confidence of the general public in the banking system. The bad financial health of a bank reduces depositors’ confidence in the concerned bank. As a result, bank runs may take place and it further may deteriorate the financial health of the bank. So, Nepal Ras&a Bank constantly examines the financial conditions of banks. We discussed earlier that regulatory authority constantly examines the six indicators of the financial health of a bank. Nepal Rastra Bank also regularly examines financial health using the CAMELS rating model and it advises or issues directives for corrective action if indicators are found below-set standard.

Sometimes banks fail to comply with the directives of Nepal Rastra Bank to improve or keep up the sound financial health. If Nepal Rastra Bank, on the basis of its inspection and supervision report, is convinced that a bank has failed or is likely to fail to meet obligations, or that a bank has not been Operated smoothly, it may suspend the board of directors of such bank and take the bank under its control. Nepal Rastra Bank either manages such a bank on its own or appoints an appropriate person or institution or firm or company to carry out the management of such a bank. The new management team works for the improvement of the financial health of the bank. Once Nepal Rastra Bank is satisfied with the financial condition of the bank, it handovers the management of the bank to the board of directors. Thus, Nepal Rastra Bank as a regulator may play a vital role to improve the financial health of a bank.

As a regulatory authority, Nepal Rastra Bank also has a key role in the protection of the interest of depositors and shareholders. High credit risk, market risk, and liquidity risk take the bank on the verge of liquidation. Nepal Rastra Bank issues the directives regarding the minimization of these risks and carries out the on-site and off-site supervision to confirm whether a bank is complying with the directives and prevent bank failure. It is worth noting that in the worst situation Nepal Rastra Bank protects the interest of depositors and shareholders by preventing further deterioration of their interest by making applications to an appellate court for the liquidation of the bank. Thus, Nepal Rastra Bank has the role to protect the interest of depositors and shareholders.