Bank borrowing Damocles’ sword

A proposed historic high borrowing from banks to foot the government's expenditure bill next fiscal year will act as the Damocles' Sword – it will fuel inflation, something that Finance Minister AHM Mustafa Kamal has mentioned several times all through his budget speech and at the same time will crowd out private sector credit that is so much needed if the ambitious 7.5% projected growth has to be achieved.

At a time when credit demand from the private sector has started picking up creating liquidity pressure on the banking sector, the government now wants to increase its bank dependency to source a major portion of deficit financing in the proposed budget for the next fiscal year.

The bank borrowing target was set at Tk1.06 lakh crore for the fiscal year 2022-23, which was 43% of the total deficit amount.

The bank financing target was raised by 225% from Tk32,673 crore which the government borrowed in 11 months of the current fiscal year.

The new target is 34% higher than the actual borrowing target of Tk76,452 crore set for the current fiscal year.

While Finance Minister AHM Mustafa Kamal set the high bank borrowing target, he also wants to boost private sector investment to increase supply at the same time.

The cut in the borrowing target from saving instruments has increased the government's bank dependency as it wants to ease interest payment pressure.

The government has to pay the highest 11% interest rate for borrowing from saving instruments, while it can borrow at single digit from banks.

The high bank dependency of the government will depress private sector demand, said industry experts.

Selim RF Hussain, chairman of ABB (Association of Bankers, Bangladesh) and also managing director of BRAC Bank, said high bank borrowing will reduce interest payment pressure for the government as interest rate on saving instruments was high.

The challenge from this will be that the money used for lending in the private sector will also decline, he said.

"But I think, this year that isn't a bad thing as aggregate demand will fall [as a result of this]. The government will obviously spend the money on our major development projects. This is good for the country. I think at this moment, if private sector demand can be reduced, this isn't necessarily a bad thing as it will have a positive impact on inflation."

The borrowing target from saving instruments was set at Tk35,000 crore in the proposed budget for the next fiscal year, which was 18.68% down from Tk43,040 crore already borrowed in the current fiscal year.

The borrowing target was 9.37% down from the set target of Tk32,000 crore set for the current fiscal year.

The government also slashed its borrowing target from foreign sources by 2.46% to Tk98,729 crore in the proposed budget from the running budgetary target of Tk1 lakh crore, according to the budget speech for fiscal year 2022-23.

Meanwhile, Saleh Uddin Ahmed, the former governor of Bangladesh Bank, said there was an opportunity for the government to take other measures instead of borrowing from the banking system to cover the budget deficit.

It would be best to reduce unnecessary expenditure in government spending to meet the deficit, he said.

The central bank governor said, "The main driving force of our economy is the private sector. But the credit flow to the private sector is declining. The banking sector is already in crisis. Dollar prices have risen. Bank savings have also declined due to irregularities. The SME industry suffers the most in this kind of tight money situation."

He further said, "If bank loans are not given to the private sector, there will be no employment. Achieving 7.5% GDP growth will be difficult as per the target."

Saleh Uddin said taking loans from savings certificates to meet the budget deficit could be an option to reduce the dependence on banks. But various restrictions, including lowering interest rates, have discouraged common people from buying savings certificates.

"Government employees can buy savings certificates up to Tk1 crore, but ordinary people can buy up to only Tk50,000. It is discriminatory," he said.

Besides, he added, it would have been better to adopt a strategy to meet the budget deficit by taking easy interest loans from multilateral development partners.

Banking sector liquidity scenario

Though the government in its proposed budget targeted banks for its major source of money, it did not relax the lending rate cap to increase deposit rate to divert savers to banks from saving instruments.

Rather, the government increased excise duty to Tk50,000 from Tk 40,000 on deposits of above Tk 5 crore, which will discourage big savers.

Currently, bank depositors get less than 5% interest rate on their deposits when inflation is above 6%. The lower deposit rate is because of the lending rate cap fixed by the government in the year 2020.

The deposit growth already slowed down to 9% in March this year which was above 14% in the same month of the last year.

Moreover, private sector credit growth picked up to 12.48% year-on-year in April, the highest in the last three years amid rising business expansion.

The Bangladesh Bank already increased its policy rate to 5% from 4.75% recently to curb money flow in the market aiming to tame inflation.

If policy rate is increased, money becomes expensive for banks to borrow from the Bangladesh Bank which ultimately tightens lending.

The rising credit demand has already put pressure on liquidity of the banking system which reflects on the rising interest rate on government bills and bonds.

Last week, the Bangladesh Bank called an auction for two-year bonds where banks bid at a 7.2% interest rate which was less than 4% just six months back.

The interest rate on government bonds goes up when liquidity is tight in the banking system.

Amid rising credit growth, the banking sector is experiencing a decline in excess liquidity. Moreover, the dollar sale by the Bangladesh Bank also put pressure on liquidity in the banking system.

The central bank has sold $5.5 billion dollars since August last year until 19 May, through which the authority mopped up around Tk50,000 crore from the market.

In total, excess liquidity declined by Tk31,000 crore in seven months from its highest level of Tk2.31 lakh crore in August last year to Tk1.99 lakh crore in May this year, according to the Bangladesh Bank data.