Why concerted and coherent policies are needed to wither economic woes

The economy is currently grappling with multifaceted crises, which require concerted efforts from the government. These crises have accumulated over the years and were not addressed earlier with due importance. 

The foremost economic challenge is inflationary pressure, which the country has been experiencing for the last three years. To control inflation, governments and central banks worldwide have taken various measures urgently, which the government of Bangladesh had initially neglected to undertake and implement. We have observed no success in controlling inflation due to inertia in taking the right measures at the right time. Moreover, whatever policies were taken, those were inadequate. Worse, some policies, such as capping the interest rate during high inflationary periods, have been rather harmful. 

Controlling inflation necessitates contractionary monetary policies through raising interest rates to curtail consumer spending, thus reducing the money supply in the market. This is an important policy tool that central banks use.  However, monetary and fiscal policies must be coherent to be successful in curtailing high inflation. In Bangladesh, we have seen that the earlier government's policies were going in two opposite directions.  While monetary policy was contractionary, we did not observe any reduction in public expenditures. There was no appetite for austerity measures to lower administrative and operational costs within the government.

On the other hand, ill-gotten money earned through corruption from mega projects and bank loan default was spent in the market, further fuelling inflation. 

Another important measure for addressing inflation in the context of Bangladesh is market management and monitoring. Ensuring an adequate supply of goods is essential. Initially, imported inflation was observed. However, under the pretext of imported inflation, prices are also often raised for domestic products. Besides, domestic prices also escalated due to increased transport costs, rent-seeking of middlemen and extortions at various points of the supply chain.

Several measures have been taken following the formation of the interim government and the appointment of the new Governor of Bangladesh Bank. Monetary policy was tightened by increasing the policy rates a few times and raising it to 10%.  Consequently, the interest rate on lending now stands at around 15-16%. While this was essential, the borrowing cost has gone up. However, such measures will not yield immediate results. It will take at least a year to a year and a half for inflation to come down, provided other conditions remain stable. As opposed to the tight monetary policy, fiscal policy and market management initiatives to control inflation remain limited. Monetary policy alone will not suffice for the conditions to improve significantly.

The interim government has reduced the projects- particularly the politically motivated projects, but administrative and operational expenses have not been reduced. On the contrary, an additional BDT7,000 crore is being allocated to government employees as a dearness allowance. This allowance was announced when the wages and salaries of other sectors had not increased much, and the increase remained much lower than the inflation rate. The allowance for government employees will exacerbate the inflationary pressure, making the lives of common people more miserable. It will also result in inequality in the society. 

At the same time, value-added tax (VAT) and supplementary duty on more than 100 products and services have been proposed to be increased recently.  Although the government has reduced taxes and VAT on some goods and services, increased VAT will continue for many products. While the government aims to generate higher taxes by imposing higher VAT, it will not help the government's efforts to reduce inflation. Common people have to buy essential goods, such as food, clothes, medicine, etc., albeit at a lesser quantity due to high prices. Such contradictory policies will make inflation control exceedingly challenging.

As far as market management is concerned, policymakers themselves acknowledge syndicates, market manipulation, and extortion in market management, all of which worsen inflation. Unfortunately, the government's efforts to reduce such unofficial and immoral practices add up to the costs of commodities. The government has to ensure a sufficient supply of commodities in the market. The government should procure enough from the farmers directly at a just price to encourage the farmers. 

Another issue to be addressed is maintaining a comfortable level of foreign exchange reserve. The country's foreign currency reserves, once at $48 billion, have now dwindled to around $21 billion. This significant decline is attributable to rising import costs and subpar remittance inflows. Another contributing factor was keeping the BDT overvalued artificially against the USD for a long time, which made our exports less competitive against comparable countries. 

In compliance with IMF conditions, the exchange rate was devalued to let the market determine its value. The crawling peg measure was introduced, where a band was fixed within which USD can be transacted with BDT.  However, the abrupt devaluation caused the Taka to lose almost 30% of its value in a very short time. While necessary for maintaining export competitiveness, it has also made imports expensive. To maintain reserves, imports of luxury goods were restricted, but the import of capital machinery and intermediate goods imports also declined. Investment levels, which were already low before, further deteriorated.

A crawling peg system has been introduced to allow the market to dictate exchange rates gradually. However, the IMF is pressing for complete market-based exchange rate determination. Recently, the Bangladesh Bank has increased the mid-rate of the crawling peg to Tk 119 from Tk 117. This is a positive step in moving towards a floating exchange rate. 

Notably, after the change in government, remittance flows through banking channels have increased. Remittance plays a critical role in strengthening foreign exchange reserves. However, the main issue is that remittance inflows still do not align with the number of workers going abroad. Many prefer informal channels like hundi due to higher rates compared to banks. The policymakers must also work towards tackling the hundi market, which runs through an international network. Another factor is that most of our migrants are employed as low-skilled and unskilled workers. Efforts to enhance worker skills are crucial, and the Ministry of Expatriates' Welfare & Overseas Employment should conduct training programmes to improve the skills of migrant workers. 

While reserves are now stable, they remain low. If this stability falters, imports could suffer, affecting investment and industrial production. Investments are stalled due to political uncertainty and high costs of doing business. If investment picks up and import demand rises, new challenges will emerge for reserve management. 

Another important task of the government is to increase domestic resource mobilisation. The tax-GDP ratio continues to remain at only around 8%. A narrow tax net, tax evasion, various undue tax exemptions, etc., make it challenging to increase tax collection. Much of the problem can be solved through technological adoption—complete automation of the tax system and capacity development of human resources. Separation of policymaking and tax collection has been emphasised time and again to reduce the hassles of the taxpayers and the overall improvement of the governance of the National Board of Revenue.  As Bangladesh will graduate from the least developed country (LDC) category in 2026, streamlining the tax structure and management is crucial. The country will have to rely on its domestic resources increasingly. 

Dr Fahmida Khatun. Sketch: TBS