Abstract
This 2001 Article IV Consultation highlights that Bangladesh’s economy became progressively more fragile after the mid-1990s owing to a persistent pursuit of expansionary fiscal and monetary policies along with slow progress on needed structural reforms, especially in the banking and state-owned enterprises (SOEs) sectors. Rising credit demands of the government, the SOEs, and the private sector were readily accommodated by monetary policy. These growing domestic imbalances were reflected in pressures in the foreign exchange market and by a marked decline in international reserves.
April 29, 2002
1. This statement provides information on developments since the issuance of the staff report (SM/02/107). These developments do not change the thrust of the staff appraisal.
2. The near-term outlook remains fragile, despite signs that the economic situation is stabilizing. Industrial production picked up marginally in November (0.3 percent y-o-y), following four months of consecutive declines. External trade has compressed further, but the trade balance has improved, as imports are still declining at a faster pace than exports. Workers’ remittances from abroad have rebounded strongly, partly in response to the expansion of official remittance facilities aboard, that has been instrumental in shortening the delay in transmittals and lowering fees. There have also been sizable flows of net foreign financing to the budget in January–February. Gross international reserves reached $1.4 billion by mid April (an import coverage of about 1¾ months), $340 million higher than at its lowest point at end-October 2001. Inflation, however, appears to be rising. Consumer prices increased in January by 3¾ percent (y-o-y), with above average increases for nonfood prices reflecting the upward revision in utility tariffs and the devaluation of the taka in January.
3. Monetary aggregates have continued to expand rapidly, driven by strong credit growth as interest rates have returned to relatively low levels. In the 12 months to February, broad money (M2) increased by 14 percent (compared to 14¾ percent in 2001), whereas domestic credit grew by 15¾ percent over the same period (17¾ percent in 2001). The expansion in the banking system credit has been mainly driven by rising lending to the private sector, as the rate of increase in credit to the government has declined somewhat since November 2001. The yield on one-month treasury bills has declined by almost 60 bps to about 4 percent in February. Interbank money market rates have fluctuated around 8-15 percent since mid-February.
4. The cash budget deficit has been contained so far, but it is likely to increase sharply in the last few months of the fiscal year. Based on very tentative data for the first eight months of FY01/02, the fiscal deficit is estimated at about Tk 70 billion (roughly 4 percent of GDP on an annualized basis). There has been a broad-based shortfall in revenue collection, but cash expenditures have been restrained, particularly since November. About two thirds of the deficit has been financed by domestic sources. However, since November, the government has consistently reduced its exposure to the banking system, making savings certificates the main source of domestic funding despite their much higher cost relative to treasury bills. The authorities have stated that they expect a sharp seasonal increase in cash outlays in the remaining four months of the year, but have reiterated their intention to keep the budget deficit to their self-imposed target of 5½ percent of GDP.
5. The government has recently introduced additional trade measures, but has committed to make existing exchange restrictions consistent with Bangladesh’s obligations under Article VIII. In March 2002, the government banned imports of yarn through land ports, and imposed a 20 percent regulatory duty on clinker cement. In April, the import tariff on rice was reduced from 43 percent to 33 percent. The government’s commitments as regards the elimination of exchange restrictions subject to Fund approval under Article VIII, are detailed in the supplement to the staff report (SM/02/107, Supplement 1, 4/25/02).
6. Efforts to strengthen monetary and foreign exchange management are under way. The Bangladesh Bank is currently drafting a new manual for its foreign exchange dealers and laying the groundwork for the introduction of repo operations in line with recommendations of the January 2002 MAE/LEG technical assistance. They have also prepared a revised list of amendments to the Bangladesh Bank Order to enhance its independence and broaden its supervisory and regulatory powers following assistance from LEG in February; these amendments are being reviewed by the Ministry of Finance.
Circulation of a draft I-PRSP within government, civil society and the donor community is expected in May, with a view to completing the document by end-June.