Nepal Rastra Bank (NRB), the central monetary authority of the country has initiated an exercise to establish a ‘hedging’ fund in order to address the foreign exchange risk that comes along with foreign direct investment (FDI) in public infrastructure project. The Foreign Exchange Management Department of NRB has prepared the concept note of the hedging fund and is planning to put it forward for stakeholder discussion. 

Hedging is a risk management strategy used to reduce the risk due to fluctuation of asset price. The hedging fund which the central bank is coming up with, is a type of insurance that will cover additional liability created to any party (investor or government) due to the fluctuation of exchange rate.

In order to be eligible for coverage by the fund, the investor or the government has to pay a fee or premium determined by the volume of the investment as well as the time period.

The central bank is planning to establish a separate unit under its Foreign Exchange Management Department to operate such a fund.

According to the NRB, there has not been any concrete development yet regarding the fund but the regulator is planning to flesh out the concept note after holding a stakeholder meeting in a few days.

“We have just initiated the process by preparing the concept note and we need to carry out lots of discussion before we establish such a fund,” said Bhisma Raj Dhungana, chief of Foreign Exchange Management Department of the NRB.

As per the concept note prepared by the central bank, energy projects with installed capacity of 100MW or more, transmission line projects and metro and monorail projects which will be developed by foreign investment qualify for the hedging service.

There is an urgent need for hedging service in Nepal, especially in developing hydropower projects in the country. Due to lack of hedging service, the Nepal Electricity Authority (NEA) is currently facing difficulty in signing power purchase agreement (PPA) in convertible currency with the projects being developed under foreign debt.

Recently, the NEA signed power purchase agreement (PPA) with Nepal Water and Energy Development Company (NWEDC) for the development of the 216 MW Upper Trishuli-1 Hydroelectric Project. As per the PPA, the power utility has to make payment in US dollars for the portion of the investment made with foreign loans.

In order to mitigate the exchange rate risk while making such payment in US dollars, both the developer and the NEA have agreed to hedge the investment, according to the PPA.

In absence of hedging service in the country, the project developer is facing difficulties in arranging funds for the project.