The import puzzle
Bangladesh's merchandise imports in the last half of 2021 grew by 54.6% while payment on account of services increased by 36.5%. How do we account for such a huge surge?
Proximate explanations
The possible candidates are an increase in import demand for intermediate inputs to meet the surge in exports, unlocking of pent-up domestic consumption and investment demand for imports, increased commodity prices in international markets, and exceptionally high international freight rates.
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Data bear these explanations out on the surface. Intermediate input imports increased by 66.2%, consumer goods imports by 55.8% and capital goods imports by 53% in the last half of 2021. These nominal growths in merchandise payments denominated in US dollars combine the effect of both volume and price growth. Payment on account of transportation services increased 39.3%.
What is puzzling is the extent of the increase in all categories of import payments. Yes, commodity prices did surge in 2021. Oil prices increased 67.3% and non-oil commodity prices increased 26.7% (IMF, WEO, January 2022). However, consumer price inflation averaged 3.1% in advanced economies and 5.7% in emerging market and developing economies in 2021, compared respectively with 0.7% and 5.1% in 2020. Prices of imported industrial supplies increased 27.8% in the first six months followed by 17.2% decline in the last half of 2021 (IMF, Global Price of Industrial Materials Index, February 2022).
Whether these can fully explain the boom in import payments is not immediately obvious. The expansion of $13.7 billion in merchandise and $2.9 billion in services imports so outweighed the $5 billion increase in exports and $4.4 billion increase in financial surplus that the overall balance of payments turned from $6.4 billion surplus in the last half of 2020 to $2.1 billion deficit in the last half of 2021.
What exactly is the story?
An alternative lens
There is an alternative way of looking at the same question to check that the proximate explanations are not missing any fundament driver of import payment other than global price spiral, exports, and domestic demand recovery.
Macroeconomic accounting teaches us that every economy must satisfy a fundamental saving- investment identity. The external current account balance during a given period is, by definition, equal to the saving investment balance in the private sector plus the saving investment balance in the public sector.
A deficit in the external current account implies a deficit in the public sector or a deficit in the private sector or both. It does not preclude a surplus in either of the two sectors but the deficit in one must far outweigh the surplus in the other if the external current account is in deficit.
These follow from the following identity:
(Private saving - Private investment) + (Government revenue - Government expenditures) = Current account receipts - Current account payments
A negative balance on the right-hand side (RHS) of the above identity necessarily means a negative sum on the left-hand side (LHS), not necessarily negative balance in each of the two LHS terms in parentheses.
Public surplus, private deficit
In the last half of 2021 in Bangladesh, the external current account had a deficit of $10.5 billion. This is the RHS of the identity. The government budget had a surplus equivalent to $0.13 billion, the second term on the LHS. These two numbers, by definition, imply a deficit of $10.63 billion in the private sector (the first term on the LHS). Private investment exceeded private saving by this amount, compared with $3.8 billion private sector deficit in the last half of 2020.
How much private investment could have occurred in the last half of 2021? One way of gauging is to look at how much the private sector could have saved and then solve for private investment since we already know the balance between private saving and investment. This equals external current deficit ($10.5 billion) plus the central government budget surplus ($0.13 billion). Private investment must, therefore, equal the known private sector deficit ($10.63 billion) plus the unknown private saving.
How do we know how much the private sector could have saved? A starting point is the $128 billion gross national savings last fiscal year. This is the sum of both public and private savings for the whole year. Dividing equally between the two halves implies $63.9 billion national saving in the last half of 2020. Finance Division data on revenues in the last half of 2020 (Tk1,658.1 billion in six months) and BBS data on general government consumption (Tk1,038 billion in six months) suggest total public saving was Tk620.1 billion, equivalent to $7.3 billion. This means private saving was $56.6 billion ($63.9 billion - $7.3 billion) in the last half of 2020.
To get to an estimate of how much private saving could have been in the last half of 2021, assume 15% (y-o-y) growth, which is above the 11.2% average nominal GDP growth in last five years to account for much higher inflation in FY22. This gives $65.1 billion private saving. Adding the $10.63 billion private sector deficit to this estimate of private saving yields a private investment estimate of $75.7 billion.
The investment puzzle
Is this plausible? One way to know is to figure what does it imply as a proportion of GDP? Bangladesh's nominal GDP in FY21 was $416.2 billion. A 15% nominal growth in FY22 will make it $478.6 billion. If investment in the first half is repeated in the second half of FY22, it will reach $151.4 billion, equivalent to 31.6% of GDP. Note that private investment was 23.7% of GDP in FY21 and the most recent peak was at 24.9% in FY18.
Nothing so dramatic happened in the investment climate and the policy environment to expect such a huge jump in the private investment rate in the last half of 2021. Yet this is what data on external account deficit and budget surplus in the first half implies, given the private saving estimate. The private investment estimate is 8.3 times the expansion in private credit and 6.5 times the imports of capital goods in the last half of 2021.
If private investment could not be as high as it seems, it must be the case that private saving was lower than estimated above. The investment estimate is derived indirectly from the estimate of private saving. The assumption of a constant private saving rate may not be valid.
One reason may be the $2.7 billion decline in remittances in the last half of 2021 relative to the last half of 2020. Taking this out from private saving reduces the estimated investment to $73 billion, equivalent to 30.5% of GDP; still too high.
Food and energy price increases and unlocking of savings forced by the pandemic may have reduced the private saving rate even more. So, try a private saving level as low as the $56.6 billion of the last half in 2020. This gives an investment of $67.2 billion, equivalent to 28.1% of GDP. This is still well above the recent peak not to mention FY21.
Even a flat private savings in nominal terms, equivalent to decline in real private saving, despite domestic income recovery in 2021, implies an implausible level of private investment. Private saving would have to be much lower than can plausibly be explained by decreased remittances, increased inflation and dissaving resulting from unlocking of pent-up demand.
Rebound in capital flight (?)
One hypothesis could be that the saving available was diverted to capital flight through over-invoicing. The pandemic made capital flight difficult by disrupting trade and travel. With reopening gaining ground in the last half of 2021 and trade rebounding, the usual vehicles of capital flights could have bounced back.
There is accumulated evidence on capital flight through import over-invoicing (Global Financial Integrity Reports). These are captured in the current account deficit (RHS of the identity above). On the LHS, taking it into account requires subtracting capital flight from private saving to balance the accounts, so to say. If we had a good estimate of such capital flight, we could get a better sense of the size of domestic private investments in the second half of 2021.
The point is that the investment levels implied by the observed large import driven current account deficits is hard to reconcile with plausible estimates of private investments, given the fiscal data. It requires assuming a drastic fall in private savings relative to last year in nominal dollar terms. Such a drastic fall is possible but not plausible even considering the decline in remittances, post-pandemic dissaving, and inflation.
The surge in the dollar value of imports was driven predominantly by invoiced price growth that could be "excessive" overall, notwithstanding spikes in world prices of commodities and industrial supplies, motivated by capital flight. If the latter is not a correct judgment, then we have a problem of explaining either too high a level of investment or too low a level of private saving, given the observed private sector saving-investment deficit in the last half of 2021.
