This Selected Issues paper reviews Bangladesh’s recent growth experience and per capita income. The paper identifies several key impediments to growth, namely: poor governance; restrictive trade and regulatory regimes; and inadequate investment in human capital and physical infrastructure. The paper makes the case that the medium-term fiscal strategy should be centered on boosting the revenue performance of the National Board of Revenue (NBR) by reorganizing it along functional lines, adopting a system of self-assessment, establishing a risk-based auditing system, and introducing a unique taxpayer identification number.

Abstract

This Selected Issues paper reviews Bangladesh’s recent growth experience and per capita income. The paper identifies several key impediments to growth, namely: poor governance; restrictive trade and regulatory regimes; and inadequate investment in human capital and physical infrastructure. The paper makes the case that the medium-term fiscal strategy should be centered on boosting the revenue performance of the National Board of Revenue (NBR) by reorganizing it along functional lines, adopting a system of self-assessment, establishing a risk-based auditing system, and introducing a unique taxpayer identification number.

II. Growth in Bangladesh1

9. This chapter examines Bangladesh’s economic growth in comparison to that of other low-income countries (LICs) and some countries in Asia, and looks at the country’s relative progress toward some of the key MDGs in view of these growth trends. Section A describes Bangladesh’s recent growth experience from 1976-2003 and compares its growth performance with that of other countries. Section B provides a brief comparative analysis with respect to some key factors that have been positively associated with economic growth. Section C draws on the existing growth literature on Bangladesh to provide a descriptive analysis of the sources of growth in the country and also looks at the structure of GDP and the ratio of exports to GDP across countries in the region. Section D assesses Bangladesh’s progress on some key MDGs and concludes.

A. Bangladesh’s Growth Experience

10. Bangladesh’s growth performance has improved steadily since the mid-1970s. Real GDP growth accelerated from an average of 3.8 percent in 1976–1985 to 4.8 percent in 1996–2003 (Table 1). The improvement in average per capita GDP growth over the same period was even more impressive as a result of the sharp decline in the population growth rate beginning in the early 1990s.

Table 1.

Bangladesh: Output and Population Growth, 1976-2003

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Sources: WDI; and Fund staff calculations

11. This strong recent per capita growth performance, aided by the beneficial impact of NGO social programs and broad-based micro credit programs, has been pro-poor. The incidence of poverty in Bangladesh, as measured by the proportion of the population falling below the national poverty line, fell by about 1 percentage point per year during the 1990s, from 59 percent in 1991 to just under 50 percent in 2000.

12. Notwithstanding the substantial improvement in its growth performance over the past 30 years, Bangladesh has continued to lag behind LICs as a group and other Asian economies for most of this period. Bangladesh’s growth performance was less strong than the average for groupings of low income countries and countries in Asia throughout the period. Beginning in the late 1990s, however, Bangladesh’s growth performance began to outstrip that of some of its neighbors, and also that of countries that were severely affected by the Asian crisis (Figure 1).2

Figure 1.
Figure 1.

Per Capita Output Growth, 1976-2003

Citation: IMF Staff Country Reports 2005, 242; 10.5089/9781451804157.002.A002

Sources: WDI; and Fund staff calculations.

B. Some Key Factors Associated with Growth

13. This section provides a simple comparative analysis of Bangladesh, LICs as a group, and other countries in Asia with respect to a number of indicators that have been associated with growth prospects.3 The factors assessed in this section are initial conditions, macroeconomic policy stability, financial market depth and efficiency, physical infrastructure and human capital development, external conditions—as measured by the terms of trade and foreign assistance for development, trade openness, and the quality of institutions or governance.

14. Bangladesh’s initial economic conditions were below average for LICs in the first half of the 1970s. Per capita GDP in PPP dollars was 94 percent of the LIC average (Table 2) and also lagged behind the average for South Asian countries. Both life expectancy and the literacy rate, which can be taken as indicators of past investment in human capital, were below the average for countries of similar income levels or in the same region. Traditional growth theory postulates that countries with low initial conditions should grow relatively fast, so growth in Bangladesh would have been expected to be stronger due to its relatively weak starting point.

Table 2.

Initial Conditions, First Half of the 1970s

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Sources: Bangladesh authorities; and Fund staff calculations.

15. Macroeconomic policy indicators in Bangladesh have been better than in neighboring countries. Inflation has been well below that in other Asian countries over the period 1987–2003 and price volatility has been somewhat less than in other countries in the region for much of the same period. Moreover, inflation in Bangladesh has declined at a steady pace, falling from an average of 6 percent in 1987-95 to 4 percent in 1996-2003. Bangladesh’s central government debt as a percent of GDP is moderate compared to other countries, with most external debt (two-thirds of the total) contracted on concessional terms. Growth has been shown by numerous studies to be strongly and positively correlated with a stable macroeconomic environment.

16. Bangladesh is characterized by shallow and inefficient financial markets. Broad money as a percent of GDP has been consistently lower than the LIC average and than in other South Asian countries throughout the period 1976–2003. Average interest rate spreads since 1990—measured as the difference between prime lending rates and commercial bank deposit rates—in Bangladesh have also been greater than in other countries. These facts indicate that financial markets in Bangladesh have been relatively inefficient at financial intermediation, which has probably undermined growth performance. However, over the past five years interest rate spreads have declined as the economy has become more monetized, reflecting the positive outcomes of reforms in the banking system.

17. Physical and human capital development in Bangladesh lag behind most of the sample countries and the averages for Asia and for countries of similar income levels. Physical infrastructure development, as proxied by the percent of roads that are paved and by the number of mobile and fixed line telephone subscribers per 1,000 people, is significantly lower in Bangladesh than in comparator countries. The pupil-teacher ratio, a reasonable indicator of opportunities for effective human capital development, remains very high in Bangladesh. Adult literacy rates, which were low initially, have improved, but remain well below those in other LICs and the average for South Asia, indicating insufficient investment in human capital. Gross domestic investment and gross foreign direct investment have also lagged well behind that in the comparator countries (Figure 2).

Figure 2.
Figure 2.

Investment Indicators, 1976-2003

Citation: IMF Staff Country Reports 2005, 242; 10.5089/9781451804157.002.A002

Sources: WDI; and Fund staff calculations.

18. External conditions have been mixed. Bangladesh’s terms of trade were relatively favorable, but quite unstable, throughout the 1980s and 1990s, reflecting volatile export prices. Bangladesh has benefited from very substantial foreign remittances, especially in the past decade, with remittances reaching more than 6 percent of GDP in 2004. The country also received large amounts of foreign assistance over the past 30 years, though this has fallen off since the mid-1990s.

19. Bangladesh’s economy has been relatively closed over the past several decades. Total trade, taken as a measure of trade openness, has accounted for around 20 to 30 percent of GDP over this period. This is well below the average for LICs and countries in East Asia, although somewhat better than the South Asian average. Trade taxes collected in Bangladesh have imposed a relatively heavy burden on the economy and reflect Bangladesh’s relatively closed trade regime. Finally, as noted above, gross foreign direct investment, which can be taken as a reflection of economic openness, has always been low in Bangladesh.4

20. Empirical studies support a strong positive relationship between better governance and good institutions, and high per capita incomes and better growth.5 A set of well-known and recently updated indicators developed at the World Bank serve as good proxies for the measurement of how strong and transparent institutions in a country are.6 Bangladesh’s position in this regard is mixed. The country performs better than the average for countries at its income level in terms of the perceived effectiveness of government (meant to capture bureaucratic competence and the effectiveness of public service delivery) and in voice and accountability (a measure of civil and political rights) (Table 3). On other indicators, however, Bangladesh lags behind the comparator countries, particularly for the measures relating to regulatory quality (incidence of market-unfriendly policies) and control of corruption (exercise of public power for private gain).

Table 3.

Governance Indicators for Bangladesh, 2004

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Source: Kaufmann, Kraay, and Mastruzzi (2005).

21. Aside from the factors above associated with growth, it is instructive to look at how Bangladesh compares with other countries in terms of the structure of its GDP and the evolution of exports to GDP in recent years. The shares of agriculture, industry, and services in GDP in Bangladesh have been comparable to those in other countries in South Asia over the past 20 years and these shares have been quite static (Figure 3). This differs substantially when compared to the average sector shares for GDP in countries in East Asia and the Pacific, with these countries characterized by decreasing, and much smaller, shares of agriculture and increasing shares of industry. At the same time, Bangladesh’s ratio of exports to GDP is low when compared to most other countries in South Asia and to countries in East Asia and the Pacific (Figure 4). This suggests that export-led industrialization, which has contributed substantially to growth in many Asian economies, is an important consideration for Bangladesh, and Bangladesh’s success in recent years with the development of the export-oriented ready made garments (RMG) sector reinforces this notion.

Figure 3.
Figure 3.

Sector Shares in GDP, 1980-2003

Citation: IMF Staff Country Reports 2005, 242; 10.5089/9781451804157.002.A002

Sources: WDI; and Fund staff calculations.
Figure 4.
Figure 4.

Exports as a Percent of GDP, 1976-2003

Citation: IMF Staff Country Reports 2005, 242; 10.5089/9781451804157.002.A002

Sources: WDI; and Fund staff calculations.

C. Proximate Sources of Growth in Bangladesh

22. This section examines sector contributions to growth in Bangladesh over the past decade and refers to some of the existing evidence on the sources of growth in Bangladesh based upon a growth accounting framework.

Recent sector contributions to growth

23. Average annual GDP growth in Bangladesh increased from 4.8 to 5.3 percent over the past decade(Table 4). This higher growth has been accompanied by a slight shift between the shares of agriculture and industry in GDP; the share of services has remained roughly constant.

Table 4.

Bangladesh: Average GDP Growth and Average Sector Shares in GDP, FY1994-FY2004

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Sources: Bangladesh authorities; and Fund staff calculations.

24. Different sectors made widely varying contributions to the acceleration in growth over the past decade. Table 5 shows the incremental increase in value added in the economy in the most recent five years compared to the previous five years, and the contribution of each sector. While the sector shares in GDP have remained relatively stable, the contributions to growth have been mainly from services and industry, in particular from manufacturing, construction, retail trade and transportation. Crop production also contributed very significantly to the growth trend, although the overall contribution of agriculture was small due to the collapse in value added from fishing.

Table 5.

Bangladesh: Sector Contributions to Growth Acceleration, FY1994-FY2004

(In billions of taka in 1995/96 prices, unless otherwise indicated)

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Sources: Bangladesh Bureau of Statistics; and Fund staff calculations.

25. Some of the key factors associated with growth in Bangladesh—discussed above in Section B—can be linked to recent sector growth performance. Sound macroeconomic policies, complemented by recent financial sector reforms, have permitted the financial sector to grow and become more efficient. The corresponding expansion in private banking has helped to finance investment in the RMG sector, as well as in associated (and other) construction and distribution activities, and thereby has helped to fuel growth in these sectors. Similarly, trade reform has helped the country to generate enough export earnings to finance the import of capital machinery and this has helped to drive industrial growth. Recent efforts to improve the energy infrastructure and energy service delivery have helped boost productivity and have thereby contributed to growth.

26. Within manufacturing, the RMG sector is estimated to have been the largest single contributor to growth over the past decade, and is now contributing between 20 and 25 percent of total value added in large and medium manufacturing.7 The RMG sector has also come to dominate the export earnings of Bangladesh, rising from 10 percent of total export earnings in 1984 to 75 percent in 2004. Moreover, RMG exports have accounted for almost 83 percent of the growth in the value of exports of the country over this period. Thus, this sector, which has benefited from trade reforms, is providing a very substantial portion of the export earnings needed to finance investment in this and other sectors and boost growth.

Evidence from recent growth studies on Bangladesh

27. Growth equations estimated in two recent studies provide strong evidence that the factors outlined in Section B are relevant to the growth process in Bangladesh.8 Both studies show that investment and educational attainment boost growth and that poorer initial economic conditions, as postulated in the growth literature, are associated with stronger growth in Bangladesh. The comprehensive study of growth and productivity in Bangladesh by Mahajan (2005) shows that growth is negatively related to an indicator on financial market concentration (presumed inefficiency) and is positively related to better institutions/governance, macroeconomic stability, and lower volatility in the terms of trade.

D. Conclusion

28. The factors common to the growth literature that are explored in Section B indicate that Bangladesh’s growth performance over approximately the past 30 years would have been expected to gain from poor initial conditions and prudent macroeconomic policies. The country has, however, probably been held back for much of this period by its weak financial markets, inadequate development of physical and human capital, relatively closed economy, and governance problems. These results are borne out by recent empirical studies of growth and productivity in Bangladesh. Bangladesh’s external conditions have been mixed, with substantial volatility in the terms of trade but also very rapid growth in worker remittances that should have acted to stimulate domestic demand and, either directly or indirectly, domestic savings and investment.

29. Bangladesh has become very reliant on the RMG sector for export earnings and this sector has served as an engine of growth in the manufacturing sector and for the economy. Agriculture, particularly crop production, remains an important contributor to growth and incomes in Bangladesh, especially in rural areas. Because of the concentration of relatively poor manufacturing workers in the RMG sector and the rural poor in agriculture and rural nonfarm activity, continued growth in these sectors is crucial to ensuring further reductions in poverty and meeting Bangladesh’s MDG goals.

30. Bangladesh derives a substantial comparative advantage from its very low wage base. The country should be able to benefit from this so long as reforms continue to improve infrastructure, reduce corruption, and otherwise improve the investment climate, which should allow for an increase in both domestic and foreign direct investment. This would support economic diversification into other export-oriented activities that require an abundance of low-cost labor (electronics assembly, toys, bicycles, etc.) and that could fuel further growth. This diversification would also benefit the economy by reducing the country’s reliance on export earnings from the RMG sector and providing alternative sources of funding for investment and imports of capital machinery.

31. While Bangladesh’s growth performance has improved steadily, it nonetheless continued to lag behind the average growth rate for LICs and South Asian countries in recent years, and its poverty rate remains relatively high. At the same time, Bangladesh strongly outperformed LICs and the South Asian average on some key indicators related to attainment of the MDGs, namely primary education completion rates, the ratio of girls to boys enrolled in school, and child and maternal mortality rates. This paradox may be partly explained by the historically strong role of NGOs in Bangladesh in delivering social, education, and health services.

32. The establishment of independent regulatory bodies and the reduction of rent-seeking opportunities through structural reforms of the financial, energy, and other sectors are therefore crucial in order to remove constraints on growth. The governance indicators in Table 3 suggest that the delivery by government of public services and the quality of the bureaucracy are relatively strong, while at the same time the government is seen to be heavy handed in the regulatory sphere, and regulatory capacity and rent seeking in the public sector are problematic. This indicates that the government is perceived to be relatively efficient at delivering public services, such as education and health, but there are different perceptions with respect to its other responsibilities.

References

  • Bosworth, Barry, and Susan M. Collins, 2003, “The Empirics of Growth: An Update,Brookings Institution.

  • Kaufmann, Daniel, and Aart Kraay, 2002, “Growth Without Governance.Economia, Volume 3, Number 1.

  • Kaufmann, Daniel, and Aart Kraay, and Massimo Mastruzzi. 2005, “Governance Matters IV: Governance Indicators for 1996–2004,The World Bank (Washington, D.C.).

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  • Osmani, S. R., Wahiduddin Mahmud, Binayak Sen, Hulya Dagdeviren, and Anuradha Seth, 2003, “The Macroeconomics of Poverty Reduction: The Case Study of Bangladesh,UNDP.

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  • Mahajan, Sandeep, 2005, “Sources of Growth and Productivity in Bangladesh.The World Bank, mimeograph.

  • Roberts, John, and Sonja Fagernäs, 2004, “Why is Bangladesh Outperforming Kenya? A Comparative Study of Growth and its Causes since the 1960s,ESAU Working Paper No. 5 (London: Overseas Development Institute, London).

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1

Prepared by Jonathan Dunn (APD).

2

Unless otherwise noted, for comparability and consistency across countries, all data used in this chapter are drawn from the World Bank’s World Development Indicators (WDI) database. GDP in all cross-country/region figures is measured in constant 2000 PPP international dollars.

3

The countries compared differ across the factors being assessed due to data availability constraints.

4

For example, Bangladesh only recently removed restrictions on FDI in the garment sector.

6

Kaufmann, Kraay, and Mastruzzi (2005). This study standardizes the measurement of governance indicators on a scale of -2.5 (worst) to +2.5 (best).

Bangladesh: Selected Issues
Author: International Monetary Fund