"The cabinet has cancelled the irregular ... agreement with Gezhouba Group to build the Budhi Gandaki hydroelectric project," Energy Minister Kamal Thapa, who is also the country's deputy prime minister, said on Monday in a twitter post in Nepali after a cabinet meeting. He did not give further details.
Nepal's rivers, cascading from the snow-capped Himalayas, have vast, untapped potential for hydropower generation, but lack of funds and technology have made Nepal lean on India to meet annual demand of 1,400 megawatts (MW).
In June a Maoist-dominated coalition government awarded a contract to China Gezhouba Group Corporation to build a 1,200 MW plant on the Budhi Gandaki River, about 50 km west of Kathmandu, to address acute power shortages.
Critics say the $2.5 billion project was handed to the Chinese company without any competitive bidding, which is required by law, and a parliamentary panel asked the government that succeeded the Maoist-led coalition to scrap the deal.
Officials of the Chinese company were not immediately available for comment.
China and India jostle for influence with aid and investment in infrastructure projects in Nepal.
Kathmandu has cleared a 750 MW project to be built on the West Seti River in the western part of the country by China's state-owned Three Gorges International Corp.
It has also permitted two Indian companies - GMR Group and Satluj Jal Vidyut Nigam Limited - to build one hydropower plant each, both capable of generating 900 MW of power each, mainly to be exported to India.