Bangladesh: Fifth and Sixth Reviews Under the Extended Credit Facility Arrangement—Debt Sustainability Analysis
Author:
International Monetary Fund. Asia and Pacific Dept
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Publication Date:
10 Nov 2015
eISBN:
9781513512525
Language:
English
Keywords:
ISCR; CR; ECF arrangement; debt; upside inflation risk; prudent fiscal policy; support from the Extended Credit Facility; creating flow; debt trajectory; sustainability framework; service-to-revenue ratio; DSA update; Public and publicly-guaranteed external debt; Public sector; Global; public and publicly guaranteed
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The current Extended Credit Facility (ECF) arrangement, approved in April 2012, is drawing to a close. Over its three years, macroeconomic stability has been buttressed: growth is strong, inflation has eased, the public debt-to-GDP ratio has remained stable, and foreign reserves remain adequate. Progress on revenue mobilization, however, has been weak. Political uncertainty remains a key risk to the outlook.

Abstract

The current Extended Credit Facility (ECF) arrangement, approved in April 2012, is drawing to a close. Over its three years, macroeconomic stability has been buttressed: growth is strong, inflation has eased, the public debt-to-GDP ratio has remained stable, and foreign reserves remain adequate. Progress on revenue mobilization, however, has been weak. Political uncertainty remains a key risk to the outlook.

A. Background

This Debt Sustainability Analysis (DSA) presents staffs’ macroeconomic outlook and assumptions about the public sector’s external and domestic borrowing paths.2 The DSA incorporates the authorities’ estimates of the stock of public external and domestic debt and private external debt as of end-FY14 (fiscal year 2014, July 2013-June 2014) and analyzes the likely trajectories of standard debt sustainability (solvency and liquidity) ratios through FY35.

As of end-FY14, total public sector and public sector-guaranteed external nominal debt amounted to US$26 billion (15 percent of GDP or 79 percent of exports of goods and services). The World Bank and the Asian Development Bank are—by far—the two largest creditors, with outstanding loans of US$12 and US$7 billion, respectively. The largest bilateral creditor is Japan, with an outstanding loan of US$2 billion (text table).

Bangladesh: Public and Publicly Guaranteed External Debt

(At end-June 2014)

article image
Sources: Bangladesh authorities; and IMF staff estimates.

Total public sector domestic debt as of end-FY14 amounted to 2.8 trillion taka (21 percent of GDP or 190 percent of central government revenue, including grants). Domestic debt comprises mostly commercial banks’ holdings of treasury instruments and non-banks’ holdings of national savings certificates.3 It also includes net credit by Bangladesh Bank and the outstanding liabilities of state-owned enterprises to the banking system (text table).

Bangladesh: Public Domestic Debt

(At end-June 2014)

article image
Sources: Bangladesh authorities; and IMF staff estimates.

In FY12–14 economic growth and inflation outcomes were broadly in line with what had been projected in the FY12 DSA (the last full DSA), but the outturns for some other macroeconomic variables were significantly different (text table). In particular, exports, imports and real primary fiscal spending grew significantly slower than what had been envisaged. The real US$/taka bilateral exchange rate (using GDP deflators) appreciated by 7 percent over the three-year period against the expectation of no change.

Bangladesh: Selected Macroeconomic Indicators, FY2012–14

(Average annual percent change, unless otherwise mentioned)

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Sources: Bangladesh authorities; and IMF staff calculations.

The public sector’s debt to GDP ratio has declined relative to the FY12 DSA. This is the result of two main factors. First, the authorities introduced in FY14 a rebased and higher GDP series (base year shifted from FY96 to FY06), which led the debt-to-GDP ratio to decline from 41.9 percent to 36.3 percent in FY13. Second, actual fiscal deficits have been lower than expected. As a result, the public debt-to-GDP ratio fell by 2.3 percentage points from FY11 to FY14 (using the new GDP series for both years) as compared with a 0.7 percentage point increase projected in the FY12 DSA. The public sector’s external debt to GDP fell over the same period by 3.5 percentage points of GDP as compared with a projected decline of 1.9 percentage points of GDP in the FY12 DSA.

B. Underlying Assumptions

The new set of macroeconomic projections and assumptions is elaborated in Box 1 and also shown in Table 1. These projections and assumptions are broadly in line with those in the FY12 DSA (text table). The new DSA incorporates a significant ramp up of public investments financed by the revenue gain expected from the new value-added tax (VAT) that will be introduced in FY17.

Bangladesh: Main Macroeconomic Assumptions Underlying the DSA

In the medium term (FY15-20), average annual real GDP growth is projected to accelerate to 6.8 percent up from 6.1 percent in recent years, reflecting the demand-pull effect from a significant expected jump in public investment spending. Private investment is expected to benefit from a deepening of the financial sector and an improved trade and investment climate. Over the long term (FY21-35), average annual growth is assumed to converge down to a steady state of 6.5 percent, with the increase over the historical average growth rate of 6.1 percent reflecting the growth impact from expected reforms to improve the investment climate and remove infrastructure bottlenecks.

Inflation, as measured by the GDP deflator, is expected to remain broadly stable over the medium term on the expectation of a broadly unchanged monetary policy framework (although global currency shifts and commodity price shocks pose risks to the inflation projections).

The real bilateral taka-dollar exchange rate is projected to remain constant from FY16 onward following a 4 percent increase in FY15.

The tradable sector is projected to continue to expand rapidly (both exports and imports are expected to increase about 9 percent annually in nominal terms).

Moderate current account deficits are expected to prevail during the projection period. The deficit will increase slightly over time to reach 2.3 percent from FY30 onward, reflecting mainly an assumption that growth in workers’ remittances will slow to 6 percent on average. The capital and financial account surplus will strengthen gradually over time led by higher FDI. The overall balance of payments is expected to register surpluses of close to 1 percent of GDP, allowing for the accumulation of reserves broadly in line with the growth of imports.

The real interest rate on external debt rises gradually over the projection period, reflecting an assumed decline in the grant element of new external borrowing to less than 10 percent. The government’s real domestic borrowing rates are expected to increase to between 4-4.5 percent over the medium term, where they remain over the longer term.

The primary fiscal deficit (including grants) is expected to average 1.8 percent of GDP over the medium term as compared to an average annual deficit of 1.2 percent in recent years. The higher primary deficit over the medium term reflects the impact of a public sector pay hike (effective from FY16, and adding about 1 percent of GDP) and a significant increase in public investment, partly offset by higher revenue from the implementation of the new VAT and by lower energy subsidies. In the long term, the primary fiscal deficit stabilizes at a lower share of GDP as public investment moderates following the expected spike in coming years, more than offseting an expected increase in pension costs due to population ageing..

Bangladesh: Comparison of Selected Macroeconomic Assumptions in Different DSAs

(In percent; unless otherwise indicated)

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Sources: Bangladesh authorities; and IMF staff projections and calculations.

The historical average covers the years FY02-FY11, FY04-FY13, and FY05-FY14 for the three DSAs respectively.

The medium-term projection covers the years FY12-FY17, FY14-FY19, and FY15-FY20 for the three DSAs respectively.

The long-term projection covers the years FY18-FY32, FY20-FY34, and FY21-FY35 for the three DSAs respectively.

Table 1.

Bangladesh: DSA Key Variables 1/

article image
Sources: Bangladesh authorities; and IMF staff estimates and projections.

Data on a fiscal year basis; e.g., 2014 corresponds to July 2013–June 2014.

C. External DSA

Under the baseline scenario, Bangladesh’s public and publicly guaranteed (PPG) external debt to GDP ratio is projected to trend down slightly from 15 percent of GDP in FY14 to 13 percent of GDP in FY35. All associated PPG indicators remain well within the respective policy-dependent solvency thresholds under the baseline scenario and all associated standard bound tests (Figure 1 and Tables 2–3).

Figure 1.
Figure 1.

Bangladesh: Indicators of Public and Publicly Guaranteed External Debt, 2015-2035 1/ 2/

(In percent, unless otherwise mentioned)

Citation: IMF Staff Country Reports 2015, 304; 10.5089/9781513512525.002.A002

Sources: Bangladesh authorities; and IMF staff estimates and projections.1/ Data on a fiscal year basis; e.g., 2014 corresponds to July 2013–June 2014.2/ The most extreme stress test is the test that yields the highest ratio on or before 2025. In figure b. it corresponds to a one-time depreciation shock; in c. to a terms shock; in d. to a one-time depreciation shock; in e. to a non-debt flows shock; and in figure f. to a one-time depreciation shock.
Table 2.

Bangladesh: External Debt Sustainability Framework, Baseline Scenario, 2012–2035 1/

(In percent of GDP, unless otherwise indicated)

article image
Sources: Bangladesh authorities; and IMF staff estimates and projections.

Includes both public and private sector external debt. Data on a fiscal year basis; e.g., 2014 corresponds to July 2013-June 2014.

Derived as [r - g - ρ(1+g)]/(1+g+ρ+gρ) times previous period debt ratio, with r = nominal interest rate; g = real GDP growth rate, and ρ = growth rate of GDP deflator in U.S. dollar terms.

Includes exceptional financing (i.e., changes in arrears and debt relief); changes in gross foreign assets; and valuation adjustments. For projections also includes contribution from price and exchange rate changes.

Assumes that PV of private sector debt is equivalent to its face value.

Current-year interest payments divided by previous period debt stock.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Defined as grants, concessional loans, and debt relief.

Grant-equivalent financing includes grants provided directly to the government and through new borrowing (difference between the face value and the PV of new debt).

Table 3.

Bangladesh: Sensitivity Analysis for Key Indicators of Public and Publicly Guaranteed External Debt, 2015–2035 1/

(In percent)

article image
article image
Sources: Bangladesh authorities; and IMF staff estimates and projections.

Data on a fiscal year basis; e.g., 2014 corresponds to July 2013–June 2014.

Variables include real GDP growth, growth of GDP deflator (in U.S. dollar terms), non-interest current account in percent of GDP, and non-debt creating flows.

Assumes that the interest rate on new borrowing is by 2 percentage points higher than in the baseline., while grace and maturity periods are the same as in the baseline.

Exports values are assumed to remain permanently at the lower level, but the current account as a share of GDP is assumed to return to its baseline level after the shock an offsetting adjustment in import levels).

Includes official and private transfers and FDI.

Depreciation is defined as percentage decline in dollar/local currency rate, such that it never exceeds 100 percent.

Applies to all stress scenarios except for A2 (less favorable financing) in which the terms on all new financing are as specified in footnote 2.

D. Public DSA

The present value (PV) of public debt to GDP ratio is projected to remain broadly stable over the medium term, but rise slightly in the long term, reflecting a gradual increase in real interest rates as the concessionality of debt is assumed to decline steadily. By FY35 the debt-to-GDP ratio will rise to 39 percent of GDP as compared with 36 percent of GDP in FY14. As in the case of the external DSA, all associated PPG indicators remain well within the benchmark value for all standard bound tests (Figure 2 and Tables 4–5).4

Figure 2.
Figure 2.

Bangladesh: Indicators of Public Debt, 2015-2035 1/ 2/

(In percent)

Citation: IMF Staff Country Reports 2015, 304; 10.5089/9781513512525.002.A002

Sources: Bangladesh authorities; and IMF staff estimates and projections.1/ Data on a fiscal year basis; e.g., 2014 corresponds to July 2013-June 2014.2/ The most extreme stress test is the test that yields the highest ratio on or before 2025.3/ Revenues are defined inclusive of grants.
Table 4.

Bangladesh: Public Sector Debt Sustainability Framework, Baseline Scenario, 2012–2035

(in percent of GDP, unless otherwise indicated)

article image
Sources: Bangladesh authorities; and IMF staff estimates and projections.

Central government gross debt including debt owed to the IMF, plus domestic bank borrowing by the nonfinancial public sector and external borrowing by public enterprises that is supported by central government guarantees, including short-term oil related suppliers’ credits. The years in the table refer to fiscal years. For example, 2014 refers to July 2013-June 2014.

Gross financing need is defined as the primary deficit plus debt service plus the stock of short-term debt at the end of the last period.

Revenues excluding grants.

Debt service is defined as the sum of interest and amortization of medium and long-term debt.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Table 5.

Bangladesh: Sensitivity Analysis for Key Indicators of Public Debt, 2015–2035 1/

(In percent)

article image
Sources: Bangladesh authorities; and IMF staff estimates and projections.

Data on a fiscal year basis; e.g., 2014 corresponds to July 2013–June 2014.

Assumes that real GDP growth is at baseline minus one standard deviation divided by the square root of the length of the projection period.

Revenues are defined inclusive of grants.

E. Alternative scenario

An alternative scenario has been constructed to consider the consequences of failing to introduce the new VAT. In that case, the tax revenue to GDP ratio would be lower by about 2 percentage points relative to the baseline. With no consolidation in expenditure assumed, the fiscal deficit would widen, leading to higher domestic borrowing costs. As a result, there would be a significant deterioration in all standard debt sustainability indicators, and the debt trajectory would become clearly unsustainable (Figure 4). This implies that in the absence of a boost to tax revenues through the introduction of the new VAT, to keep public debt on a sustainable path, a significant cut in public expenditure would eventually be needed with knock-on effects on economic growth and poverty reduction.

Figure 3.
Figure 3.

Bangladesh (Alternative Scenario): Indicators of Public and Publicly Guaranteed External Debt, 2015-2035 1/ 2/

(In percent, unless otherwise mentioned)

Citation: IMF Staff Country Reports 2015, 304; 10.5089/9781513512525.002.A002

Sources: Bangladesh authorities; and IMF staff estimates and projections.1/ Data on a fiscal year basis; e.g., 2014 corresponds to July 2013–June 2014.2/ The most extreme stress test is the test that yields the highest ratio on or before 2025. In figure b. it corresponds to a one-time depreciation shock; in c. to a terms shock; in d. to a one-time depreciation shock; in e. to a non-debt flows shock; and in figure f. to a one-time depreciation shock.
Figure 4.
Figure 4.

Bangladesh (Alternative Scenario): Indicators of Public Debt, 2015-2035 1/ 2/

(In percent)

Citation: IMF Staff Country Reports 2015, 304; 10.5089/9781513512525.002.A002

Sources: Bangladesh authorities; and IMF staff estimates and projections.1/ Data on a fiscal year basis; e.g., 2014 corresponds to July 2013-June 2014.2/ The most extreme stress test is the test that yields the highest ratio on or before 2025.3/ Revenues are defined inclusive of grants.

F. Authorities’ views

The authorities agreed with staffs’ view that the risk of external debt distress is low. This low risk results principally from the government’s commitment to maintain low fiscal deficits in line with long-standing practice. Moreover, most external borrowing is either on highly concessional terms (grant element of 35 percent or higher) or moderately concessional, but with long maturities. Domestic borrowing is more costly and with lower duration; however, it helps in developing local debt markets in addition to providing needed resources for the budget.

The risk of debt distress is further contained by an active and prudent debt management policy in line with the provisions in the Public Money and Budget Management Act of 2009. In the Ministry of Finance, debt management responsibilities are distributed between (1) Economic Relations Division (in charge of most external borrowing), (2) Finance Division (in charge of government guarantees), and (3) Internal Resources Division (in charge of domestic borrowing). In addition, Bangladesh Bank acts as fiscal agent and issues marketable domestic debt on behalf of the government. Overall responsibility for formulating the debt management strategy rests with the Finance Division. Interagency coordination has been strengthened with the creation of a Standing Committee on Nonconcessional Borrowing in 2013. In FY14, the Finance Division prepared a medium term debt strategy paper, which found that Bangladesh’s debt position was robust given the stable macroeconomic outlook.

G. Conclusion

The macroeconomic framework is broadly unchanged from the last full DSA. With no major changes to prospective borrowing assumptions (volumes and costs), the debt sustainability assessment remains unchanged and the risk of external and public debt distress continues to be classified as low. However, in the absence of a permanent boost to revenues, derived for instance from a failure to implement the VAT, and with no fiscal consolidation, there would be a significant deterioration in all standard debt sustainability indicators, and the debt trajectory would become unsustainable.

1

For the purposes of this DSA, the public sector comprises the central government and nonfinancial public enterprises. This analysis is based on the joint Fund-Bank debt sustainability framework for conducting debt sustainability analysis in low-income countries. Under IDA’s Country Policy and Institutional Assessment (CPIA), Bangladesh is assessed to be a medium performer, with an average rating of 3.28 during 2011–13. This DSA uses the indicative thresholds for countries for this category.

2

The last full DSA was prepared in FY12 and based on the end-June 2011 stock of debt (SM/11/278, Supplement 1 and IDA/SEC/65557). In line with the Staff Guidance Note on the Application of the Joint Bank-Fund Debt Sustainability Framework for Low-Income Countries (SM/13/292, IDA/SEC/82566), a full DSA is expected to be prepared once every three years for PRGT-eligible, IDA-only countries.

3

High exposure of commercial banks to the central government remains a concern (see Box 1 in IMF Country Report No. 14/149 for a discussion). Development of an active secondary market and a funded pension system could help weaken the bank-sovereign link.

4

Risks to the medium-term growth outlook are tilted clearly to the downside. In particular, the main risk is an intensification of domestic political unrest and uncertainty. A materialization of this risk in the short run is unlikely to derail the main debt trajectory: if the medium-term growth rate remains the same as the historical average, the public debt-to-GDP ratio would worsen by 1.8 percentage points of GDP by FY35 relative to the baseline. Another risk would be a slower-than-anticipated implementation rate for public investment projects, but the impact on debt sustainability would be offset by a smaller fiscal deficit. Failure to implement the VAT would make the debt path unsustainable (see Alternative Scenario).

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Cover IMF Staff Country Reports
Bangladesh: Fifth and Sixth Reviews Under the Extended Credit Facility Arrangement-Press Release and Staff Report
Author:
International Monetary Fund. Asia and Pacific Dept
Volume/Issue:
Volume 2015: Issue 304
Publisher:
International Monetary Fund
ISBN:
9781513512525
ISSN:
1934-7685
Pages:
67
DOI:
https://doi.org/10.5089/9781513512525.002
  • Figure 1.
    View in gallery
    Figure 1.

    Bangladesh: Indicators of Public and Publicly Guaranteed External Debt, 2015-2035 1/ 2/

    (In percent, unless otherwise mentioned)

  • Figure 2.
    View in gallery
    Figure 2.

    Bangladesh: Indicators of Public Debt, 2015-2035 1/ 2/

    (In percent)

  • Figure 3.
    View in gallery
    Figure 3.

    Bangladesh (Alternative Scenario): Indicators of Public and Publicly Guaranteed External Debt, 2015-2035 1/ 2/

    (In percent, unless otherwise mentioned)

  • Figure 4.
    View in gallery
    Figure 4.

    Bangladesh (Alternative Scenario): Indicators of Public Debt, 2015-2035 1/ 2/

    (In percent)

Figure 1.

Bangladesh: Indicators of Public and Publicly Guaranteed External Debt, 2015-2035 1/ 2/

(In percent, unless otherwise mentioned)
Figure 2.

Bangladesh: Indicators of Public Debt, 2015-2035 1/ 2/

(In percent)
Figure 3.

Bangladesh (Alternative Scenario): Indicators of Public and Publicly Guaranteed External Debt, 2015-2035 1/ 2/

(In percent, unless otherwise mentioned)
Figure 4.

Bangladesh (Alternative Scenario): Indicators of Public Debt, 2015-2035 1/ 2/

(In percent)