Where to invest amid rising inflation?

As Bangladesh's inflationary landscape continues to pauperise ordinary citizens while low and artificially fixed deposit rates devalue their deposits, depositors are looking for alternative sources to invest their savings.

With the country's financial system in shambles, many depositors are taking their savings out of the banks to reinvest elsewhere, land and other asset purchases being one of the favourite destinations. 

But depositors taking out their savings from the banks can lead to a shortage of loanable funds and may exacerbate the recession further. Currently, Bangladesh's deposit growth is merely 8-8.5% which was once 17-19%. 

The banking sector, the biggest financial sector in the country, has only around Tk14 lakh crore of deposit base, which is around one-third of the GDP. This should be about 80-90%, according to global standards. 

On top of that, a rise in demand for land and other assets among consumers can raise their value and therefore price in the short run, while adding no value to the economy or the households. 

This begs the question: are depositors wise to reinvest their deposits elsewhere? Why are they doing so? What should the rural people  - who have very little capital for farming - do to protect their savings from inflation? What can the government do to bring back the deposits to the banks?

Why are people withdrawing deposits? 

Due to unabated inflation, people are now preferring to keep cash in their hands instead of depositing the money in banks, while banks also are not welcoming deposits at higher interest rates as the central bank still holds on to a 9% cap on lending rates. 

Inflation remains beyond control and continues to shave off the value of deposits. Additionally, the government imposes a variety of taxes on banking. As a result, people are reluctant to save their money in banking or buying savings certificates. 

More importantly, how individuals adjust their portfolio among cash, deposits or assets depends on their assessment of the relative returns from alternate sources. Moreover, many consumers would rather increase their consumption with cash, than let their money sit idle at banks, while inflation soars beyond the interest received on their deposits. 

While taxing on interest is acceptable, imposing excise duty on bank accounts hampers financial intermediation. Unfortunately, Bangladesh's financial sector is very repressed, where banks pay the highest tax despite being a growth-augmenting sector. But in practicality, the tax burden is borne by the ordinary depositors and they are not compensated for their contribution. In all dimensions, depositors think they are the ultimate losers. 

On top of that, many economists believe that depositors simply do not trust the financial sector enough given the failure in governance, a substantial number of non-performing loans and a scam-ridden recent past. Moreover, the banking sector's return on equity is now 4.5-5% which was 24-26% in 2010-11. Except for the sponsors, the investors (general depositors) hardly receive a satisfactory return. 

The country's broad money (M2) growth (which defines the financial depth) had been increasing satisfactorily till 2015 at a 63-64% rate. Now it has decreased to 55%. 

As Dr Ahsan H Mansur, Executive Director at the Policy Research Institute, said, "In all of the different indicators of financial health such as broad money (M2), Bangladesh's financial sector is performing worse than before. Unfortunately, pre-existing irregularities in the sector continue unabated and remain unaddressed." 

So, it comes as no surprise that depositors looking for alternate avenues of investment like purchasing land or other assets, believing that these properties will substantially appreciate. 

Is it a wise decision to look for alternate sources?

It could be if the alternate sources were at least as reliable as the banks. Typically, in other countries, consumers can also invest in the stock market or the bond market, which is not necessarily the case for Bangladesh given its unreliable stock market and extremely small bond market. 

As Dr Mansur said, "In Bangladesh, the valuation of the stock market is only 40% of the GDP, as opposed to the global average of 174% (of GDP). The bond market, on the other hand, is practically non-existent, constituting only 1% of the country's GDP, against a global average of 135%." 

That leaves the depositors with only one option: investing in real estate.

Conventional wisdom suggests that investing in land or other real estate may seem like a lucrative opportunity, given how fast the value of land appreciates, or at least seems to have appreciated over the past few decades or so. 

That being said, economists caution about a bubble as a temporary economic shock pushes depositors to withdraw their money from banks and other financial institutions to invest in real estate. This sudden rise in demand for real estate may in the short run push the price of real estate, making it seem like a valuable investment with high returns. But as the demand soon dies out (given there simply aren't enough buyers with idle income to buy assets, especially during a recession), the growth in the value of these properties may become stagnant. 

As Dr Mansur said, "The value of land does not increase as fast as people assume it does. It is often artificially kept high even though there aren't enough buyers to buy said real estate." 

Then what should people do, especially given the unstable condition of the financial sector? 

 "I would suggest people keep their money only in well-performing banks instead of investing in land," Dr Mansur responded.   

What should rural people do?

The decision is a bit trickier for people living in rural areas who often do not have substantial disposable income, many of whom are also vulnerable to seasonality in income. On top of that, private banks in Bangladesh have failed to expand to rural or suburban regions, making it difficult for the people in the rural regions to access finance. Consequently, many rural citizens tend to deposit their savings in microfinance institutions in self-saving schemes. 

Dr Md Fazlul Kader, Additional Managing Director of PKSF, said "We know that depositors of MFIs are not investors. But their deposits need to be protected at any cost. This is possible if the MFIs abide by the existing good practices and the rules of the Microcredit Regulatory Authority. An MFI needs to protect its depositors' money as well as maintain the quality of loans." 

Hence, MFIs can be a good option for rural savers. Against a big saving, some MFIs are giving more than 6% interest to the depositors. It seems the MFIs are adopting a 'self-adjustment' policy to encourage their members to save money and enrich their debt fund. 

What policies should be taken to bring back the deposits

As mentioned before, ordinary depositors are losing trust in the banking system and investing in land or other real estate. According to economists, this is an alarming trend and needs to be addressed promptly. "People here are used to accumulating wealth in land purchase, especially plots in urban areas. The plots remain barren/unused for years, adding no value to the economy," said Dr Mansur. 

When asked what the government should do, Dr Ahsan H Mansur recommended that the government should properly reform the financial sector, as it did in the 1980s and 2001. These initiatives proved to be successful up until 2010-11. Afterwards, political tensions, poor governance in the financial sector, scams and mushrooming of new banks and their irregularity have dragged down growth in this sector. 

"If the government believes that the financial sector needs to thrive as a crucial ingredient for national growth, it should foster the development of the sector, not abuse it," he added. 

Governments of other countries, particularly in the Middle East, bind plot owners to build structures within 2-3 years so that the construction can create employment as well as generate investment. Otherwise, higher taxes are imposed on the plot owners. The government could also introduce similar policies to generate some economic activity in newly purchased lands or reduce purchases.