Banking collapses tend to arrive slowly, then all at once. First come dubious loans and accounting gimmicks, then rumours of fraud and finally—when confidence vanishes—regulatory decapitation. So it goes at Karnali Development Bank, a regional lender in western Nepal, whose former boss, Rajendra Bir Raya, was arrested on Saturday while trying to sneak across the Indian border. He stands accused of embezzling over NPR 2.5bn ($18.25m). The sum is eye-watering, but the shock is not. In Nepal’s financial sector, Raya is less an anomaly than an omen.
Between 2019 and 2022, Raya served as both chief executive and, on occasion, chairman of Karnali—an overlap more common in banana republics than Basel rulebooks. During his reign, internal audits allege north of NPR 1.26bn was siphoned off, with help from colleagues both past and present. The scandal forced the hand of the Nepal Rastra Bank, the country’s central bank, which has since declared the institution “troubled” and installed a caretaker management team. The damage is extensive. But the real worry is not Karnali’s collapse: it’s that others may soon follow.
Take Narayani Development Bank (NABBC), a lender of similar scale but even shakier foundations. By standard prudential measures, NABBC is effectively insolvent. Its capital adequacy ratio—meant to provide a buffer against loss—is 0.64%, compared with the regulatory minimum of 11%. Nearly half its loans are non-performing, and accumulated losses now outstrip its total equity. Yet in a feat of financial absurdism, the bank’s share price has more than doubled since 2024. Market optimism, it seems, now thrives on denial.
Behind this is a culture of speculation masquerading as investment. Retail traders, lured by volatile scrips and a forgiving regulatory climate, bet banks too broken to survive will nonetheless be propped up. Rights offerings are announced but rarely executed. Rescue packages are hinted at but seldom scrutinised. In this perverse game of chicken, the boldest are rewarded—at least temporarily. Risk has been nationalised but reward remains private.
Regulators, meanwhile, seem perpetually behind the curve. The NRB placed Karnali under Prompt Corrective Action (PCA) last year, a supposed prelude to reform. Nothing happened until the hole in its balance sheet could no longer be ignored. NABBC, notwithstanding posting chronic losses and breaching multiple prudential norms, has faced little more than stern memos and gentle nudges. In Nepal the phrase “regulatory forbearance” usually translates to wishful thinking.
The consequences are mounting. Beyond the obvious threat to depositors and investors, the erosion of trust in financial governance carries broader economic risks. Regional development banks serve as lifelines for rural credit. When they fail, they drag local economies down with them. Unlike commercial banks with urban footprints and diversified portfolios, these institutions lack the scale to absorb shocks or attract serious capital. Their fragility is structural not cyclical.
Nor is this a uniquely Nepali pathology. Across the developing world, second-tier banks are prone to the same maladies: political interference, weak oversight and moral hazard. What distinguishes Nepal is its penchant for regulatory lax. Capital rules are detailed; audit procedures are lengthy. Yet when violations occur, punishment tends to be symbolic, and reforms cosmetic. Raya may be in custody, but the system that enabled him is largely untouched.
Fixing this will not be easy, but it is not impossible. The NRB must adopt a sterner, more credible posture—less patient doctor, more no-nonsense surgeon. That means forcing mergers, closing persistently undercapitalised banks and fast-tracking judicial action against fraudsters. It also means reassessing the logic of maintaining over 60 Class “B” banks in a country of 30m people. Quantity, in banking, is no substitute for quality.
As for NABBC, its fate hangs on a long-delayed rights issue meant to double its capital base. Whether the promoters can actually raise the money—and whether doing so would be enough—is unclear. Even if it survives the crisis, the underlying issues of governance, cost structure and credibility are unaddressed. A reprieve is not a cure.
In time, Raya’s story may be retold as a case study in financial hubris. But unless regulators act with urgency and consistency, it will be one of many. In the banking sector, the most dangerous contagion is not liquidity stress or credit risk. It is the creeping belief that accountability is optional. And that is a bet no economy can afford to lose. ■
