I recently attended a thought provoking lecture on the changing concerns of monetary policy delivered by a former governor of the Reserve Bank of India (RBI), C. Rangarajan. There were lot of discussions on central bank’s priorities during transitions, taming inflation or price hike and balancing between taming inflation and facilitating growth.
Central banks, particularly in developing economies like ours, are always faced with a precarious situation in their effort to ensure sustainable growth amid rising inflation.They also have a special responsibility in helping to create appropriate financial institutions and related policies to encourage investments and create employment opportunities.
With support from the World Bank and more importantly the IMF, Bangladesh Bank has, over the last 12 years, significantly improved its policy analysis capability. The watchdog agency has been announcing the half-yearly monetary policy statement (MPS) for the last twelve years or so.
Monetary policy is usually either expansionary or contractionary in nature. When the total supply of money is increased, it is expansionary, and it is contractionary when cumulative money supply is decreased. An expansionary policy is usually adopted in a situation where employment generation is a priority by lowering interest rates. Conversely, a contractionary policy is followed to stabilize the economy with a view to curbing inflation.
Few years back we have heard about “accommodative monetary policy” in Bangladesh, focusing more on a balance between taming price spiral and supporting growth. Under such a policy, we expected to see relatively quick shifts from expansionary to contractionary measures and vice-versa, to fine-tune growth in an economy prone to inflationary pressure. In line with that, Bangladesh Bank has recently been focused on a “macro-prudential policy” to maintain financial stability as its priority, creating a nexus between financial development and economic growth.
Since its inception, monetary policy in Bangladesh was conducted with full direct control on interest rates and exchange rates, as also on the volumes and directions of credit flows. However, as of today, the directed lending (other than loans at times directed by the state-owned banks’ boards) has been abolished, and gradual liberalization of interest rates has taken place. Thus, though there are debates, interest rates to a large extent have become market-driven.Exchange rate stability and financial stability of late are seen as competing objectives. The exchange rate has become floating, with Bangladesh Bank (BB) buying or selling currencies to keep liquidity at the desired level, though we do hear about “managed float” or “moral-suasion” at frequent intervals. However, the policy framework must be such that visible interventions to stabilize the exchange rate have to be an exception rather than the practice.
Bangladesh Bank’s MPS so far has been focusing on continuous watch towards locating and neutralizing likely inflationary pressures from the growth-supportive monetary and credit policies, to the extent feasible, targeted to selected priority sectors. Financial inclusion has become an issue of critical importance in recent years because of the failure of the systems meant to reach out to small borrowers and vulnerable groups. Deepening of financial inclusion of micro, small and medium enterprises (MSMEs) in agriculture, employment focused manufacturing and service sub sectors, renewable energy, and ‘for green’ ecological footprint sectors are mentioned to remain as the priority ones while the monetary watchdog has been trying to discourage expansion in lending for wasteful consumption and unproductive speculative investment.
Though Bangladesh Bank has mostly been talking about an accommodative monetary policy, in reality, through mopping up the surplus by increasing the CRR (cash reserve ratio), it rather followed a contractionary policy. However, at frequent intervals, they were trying to soothe the market by releasing more money through repurchase agreements known as REPOs. They were having a tough time differentiating unproductive sector credit growth from normal credit growth.
Though they are committed to protecting the banking sector from the effects of any possible stock market crash, the overall susceptibility to pressure from a popularly elected regime didn’t help them much in focusing on the execution of it.
Allowing black money to be invested in capital market or real estate or support packages to sick apparel industries creates enough policy contradictions and puts unnecessary pressure on the central bank in effectively managing its monetary policy. Added to these are increasing debt defaults in the state-owned banks and overall weak monitoring of the classified loans, specially releasing the reserve made against classified loans, that have impacted the overall liquidity in the banking sector.
Few years back Economists raised questions about whether Bangladesh Bank had performed its due role when the capital market needed their help. Analysts said, despite a huge increase in money supply, inflationary pressure on food and non-food items was not high since most of the surplus money went into the capital market.
However, when Bangladesh Bank started to mop up the surplus, the market felt the pinch, liquidity dried out, and market index came down from 8900 to 6300 and ultimately to below the 4000 mark, pushing many retail investors to the streets bewildered by the government policy planners. Now, the situation has improved much, but the confidence in general can still rise to bring back the lost investors.
There are more than 55 million formal bank account holders, and the number is increasing with the opening of more farmers’ accounts with the state-owned banks to channel subsidy. Should the monetary watchdog then be too concerned to protect the interest of about 3 million beneficiary owners account (BO) holders in the stock brokerage houses, which was already heated up warranting massive correction based on fundamentals?
If we go back to the basics, Bangladesh Bank is more responsible for real sector growth and, at the same time, it needs to protect and help nourish the country’s banking sector. However, a $45bn capital market with 563 traded issues, and that too being quite shallow, not depicting the real fundamentals, cannot do much to ensure “inclusive growth” in Bangladesh and, more importantly, make growth more equitably distributed. In a labour surplus economy, we need more employment at home and also abroad with an increasing rise in investments, both domestic and foreign. Only real sector investments can make it happen.
While it remains a tough job for the central bank to do justice between price hike of essentials and growth warrants, they need to be more watchful about private sector credit growth and unusual and undesirable support being provided to unproductive sectors.
It should tightly monitor debt default in the banking sector, especially in the state-owned banks and, more importantly, effectively manage the exchange rate. They should remember taming inflation has almost become an issue of “governance” or “ensuring rule of law” in a weakly governed country. Too much focus on taming inflation or, at times, forcing inflation down is not helping investment growth or even national wealth creation.
BB alone cannot contain inflation and achieve expected growth unless supported by the government, regulators of other wings of the financial systems and institutions. There always needs to be a close dialogue and coordination between the central bank and the government as monetary policy and fiscal policy pulling in different directions can jeopardize the economy. We can even consider specifying the areas in which the central bank should have a clear mandate to better implement the policies.
The national election will soon be upon us and I think policy makers will try to play it safe with least possible policy changes considering the impacts that might fall on the market. In other countries like India, Indonesia, Korea, during the election year things remain a little jittery. We can expect the same for ours.
Bangladesh is a growing economy offering policymakers all the challenges of “managing growth in a transition economy” with an apparently weak regulatory framework and continuous pressure on capacity. Even if we perform at 60% of the desired level, striving continuously to maintain a balance with fiscal measures, the country does not have a high risk of slipping from the growth track. However, misrule or mal-governance along with lasting tolerance for corruptionmay leave serious scar on the growth ways.
he writer is a leading banker and economic analyst in Bangladesh