Tuesday, 9 August, 2022
E-paper

Commentary

Built-up reserve helps standby weakening taka

Built-up reserve helps standby weakening taka

It has been reported in a recent Bloomberg Special Report that all central banks in Asia are trying to defend their weakening currencies by drawing down their meticulously built-up hefty foreign exchange reserves learning from vulnerabilities they faced in the Asian Financial Crisis.

“After years of building their foreign-exchange reserves, central banks in Asia are tapping into their stockpiles to bolster their weakening currencies against a rising US dollar,” says the report. The central banks of Thailand, Indonesia, South Korea, and India are reported to have the lowest foreign exchange reserves in recent years.

In response to the hawkish Federal Reserve move to boost the US dollar, most of the Asian central banks started selling the dollars to reduce the volatility in their currencies. These central banks have been trying to ‘lean against the wind’ using foreign exchange interventions to smooth exchange-rate adjustments of their currencies against the US dollar.

However, it may not be easier to stabilise the exchange rate of these currencies until the Fed finally stops tightening its monetary policy. Bangladesh Bank is no exception either in this phase of drawing down its well-built reserves to moderate the volatility in the exchange rate of its currency.

Although Bangladesh's economy is not fully integrated with the global economy, the growing importance of trade balance has been gaining traction in moving toward this foreign exchange intervention to smooth the exchange rate.

Both trade and current account deficits have been growing consistently that warranted such an intervention by the central bank. The central bank sold more than seven billion US dollars to the banks to stabilise the exchange rate which has been allowed to remain flexible to adjust to market demand.

This pressure on domestic currencies in Asia, including Bangladesh, owe to both the faster pace of recovery from the Covid-19 slow down of the global economy and the sudden starting of the Ukraine-Russia war. The latter came as a double burden when the economy was already fighting against the unprecedented supply-chain disruptions due to the pandemic.

There was already a huge mismatch between the supply and demand of major goods, including the oil, gas and food items, which was pushing up their prices. This also contributed to the fast rise in inflation which was already under pressure to the huge liquidity glut created by ultra-loose monetary policy to cope with the fallouts of the pandemic.

The Ukraine war only added more fuel to this fire of rising inflation by the further restraining supply side. The emerging countries dependent on imported fuel and gas are experiencing rising inflation due to higher prices of imported goods, particularly oil and gas. The prices of wheat and edible oil have gone up following the war, only to accelerate the spiralling inflation in these countries. Bangladesh is no exception in this predicament of global inflation. However, the rising value of US dollar vis-à-vis domestic currency of Bangladesh has been adding more fuel to imported inflation. Bangladesh Bank has been trying its best to moderate this segment of inflation by stabilising the exchange rate by selling US dollars as much as possible from its reserve which has been consistently built up during the last thirteen years. We started with a reserve of only about seven billion US dollars in 2009. Thanks to rising exports of RMGs and inflow of overseas remittances, the foreign exchange reserves started moving up the ladder consistently over the years. By 2016, the reserve went up to 32 billion US dollars which continued to grow subsequently until recently. Bangladesh Bank bought foreign exchanges from the banks to stabilise the exchange rate. Otherwise, the remitters would have opted for sending more of their money through the informal channel. Besides, the government came forward to give them another 2.5% cash incentive on their remittances to motivate them to send more money through the banking channel. All this helped grow the remittances significantly reaching about two billion US dollars monthly in 2021. However, this flow has been seeing negative growth in the current fiscal year, perhaps due to a higher base effect. If you compare this figure with the average of, say three years before the pandemic, the growth remains robust. It is, however, increasing in recent days due to a higher market dictated exchange rate with some positive impact on reserve as well. Of course, the exports have also been growing consistently touching the milestone of 50 billion US dollars recently. Despite all these gains in the supply side of the foreign exchange market in Bangladesh, the demand for foreign exchange remains much higher in the wake of the post-pandemic higher pace of economic recovery requiring higher import of raw materials, intermediary goods, and new machines to cope with rising demand for our exportable, particularly in the buoyant textile sector. The contribution of light engineering, ICT products and services, home textiles and agricultural processed products, each fetching more than a billion US dollar of exports in this fiscal year must also be recognised. However, as already noted the Ukraine war has further disrupted the supply chains which pushed up the cost of imports creating an unprecedented trade deficit in the country. This has thus led to a very high level of current account deficit causing additional pressure on the Taka-USD exchange rate. The central bank is doing its best to ease the foreign exchange market by selling billions of US dollars to the banks, particularly the public ones with huge obligations of settling import bills of the state-owned entities like Bangladesh Petroliam Corporation. It has also been taking macro-prudential measures like raising margins for importing non-essential items to reign on demand for foreign exchanges. The government has also complemented the central bank in reducing the demand for import of non-essential commodities by raising tariffs, albeit temporarily. The results of all these efforts by both the central bank and the government will be visible in the coming months as it takes some time to operationalise new regulations. For the moment, the pressure on Taka remains high for which there is a need for both restraining demand for foreign exchange and augmenting the same by further easing the transaction process. To be specific, let me put some pragmatic suggestions to work on both demand and supply sides of the foreign exchange market to achieve the much-desired stabilisation.

1. Continue restraining the import of non-essential items, at least until the pace of global inflation moderates and supply-chain disruptions are mitigated.

2. If needed, stop the import of luxury items like fancy cars and consumables for about a year to reduce the pressure on the use of foreign exchange.

3. Give more incentives to the local manufacturing entrepreneurs who are substituting imports of consumables used by middle and advanced consumers.

4. Continue supporting agriculture including the modern valued-added farming as they have been not only substituting many of the imported items like oranges, dragon food, but high-end vegetables in addition to providing food security to the entire nation. Imagine what would have happened if a few more billion US dollars were spent on importing staple food in absence of higher production of rice, maize, wheat, fish and dairies by our entrepreneurial farmers. This would have further depleted our reserve. So they need to be given more stimuli if needed.

5. The inflow of remittances should be further incentivised by easing the bureaucratic hassles like the need for a national ID for a non-resident Bangladeshi who may not have it. Why not his or her passport would be good enough as an identity while buying a wage-earner or other bond earmarked for the NRBs?

6. Continue the present cash incentive for the remitters for at least another fiscal year. If possible, raise it by another half a basis point.

7. Encourage banks to go for joint arrangements with mobile financial service and agent banking operators to get the fastest remittance transactions including the same for the freelancers.

8. Prioritise the release of foreign assistance already in the pipeline as was done during the current fiscal year hitting all-time high of eight billion US dollars. This pace of release of committed foreign assistance can, indeed, be repeated if there can be better coordination between ERD, line Ministries/Divisions and the development partners.

9. Try to get more emergency and conventional foreign assistance from international development/finance institutions that are relatively low-cost, long-term with a better grace period.

10.  Be prudent in designing repayment schedules of foreign loans after consultation with all stakeholders in a phased manner so that there is no unusual pressure on our foreign exchange reserve at a single point in time.

11. Be careful about the initiation of any development project as each of the Taka spent also has a foreign exchange component. So go for those projects that will have better yields in terms of promoting higher investment and employment. Don’t go for fancy projects under any local or group pressure.

12. Encourage smart diplomacy to cope with growing geopolitical tensions and the rising threat of the emerging cold war with huge implications for emerging economies like ours.

13.  Continue the kind of cooperation between the central bank and the government as seen during the formulation and implementation of the stimulus packages to cope with the economic and social challenges of the pandemic.

14.  Continue investing in people in the areas of agriculture, health, education and skill development, and social protection to encourage inclusive development which has been pursued by the current government led by a strong and committed leadership. This brand of inclusive development has also significant implications for macro-economic stability as both micro and macro strategies complement each other for a more stable outcome.

15. Incentivise remitters to send their money through banking channels by prioritising their inclusion in the Universal Pension scheme.

16. Continue implementing earnestly the reforms outlined in the budget for the next year in terms of providing similar incentives for all kinds of exports, better support for import-substituting entrepreneurs to promote the goal of ‘made in Bangladesh’ and bringing some order in the field of corporate taxation. All this will also help Bangladesh earn more foreign exchanges if we can link the investors, both local and foreign, with our emerging special economic zones with all the desired forward and backward linkage facilities. And certainly, developmental central banking can complement all these efforts of the government to make Bangladesh a resilient and sustainable brand name of inclusive development.

The writer is a noted economist and a former Governor of Bangladesh Bank. Email:[email protected]