The Forex Crisis Now Threatens Macroeconomic Stability
Like every country in the world, Bangladesh also faces volatility in the foreign exchange market. This was initially caused by the recovery in demand and supply chain disruption as struggling economies began to recover from the coronavirus pandemic.
Volatility has escalated over the past month due to Russia’s invasion of Ukraine and this not only threatens to derail the rebound from the health crisis, but also leads to a greater macroeconomic challenge for Bangladesh. .
Maintaining a stable exchange rate of the taka against the US dollar is a populist idea that has prevailed in the mindset of the government and the commoners. The same thought could still dominate although the country seems to be facing a crisis far bigger than the pandemic.
But the Bangladesh Bank appears to be undecided on whether it would opt for a gradual depreciation of the local currency or execute a rapid devaluation. The situation was created by the decrease in currency flows.
Bangladesh Bank injected a record $3.78 billion between July 1 and March 23 this fiscal year to halt the taka’s freefall, but the initiative did little to resolve the crisis facing banks short of dollars.
Although export earnings were on the rise, this was not enough to offset the volatility in the foreign exchange market caused by a sharp increase in import payments and a sharp drop in remittances.
Between July and January, imports amounted to $46.67 billion, up 46% year on year, while exports rose 29% to $27.97 billion, according to bank data. central. Remittances fell by 19.4% to $16.68 billion at the same time.
The imbalance between inflows and outflows of US dollars has forced many banks to buy the greenback from Bangladesh Bank to settle letters of credit for imports.
The central bank provides dollars to the banks with utmost generosity, as the taka would face a major drop if the support is not extended.
The exchange rate now stands at Tk 86.20 per US dollar, compared to Tk 84.80 a year ago. This means that the central bank has allowed the taka to depreciate within a certain range.
But Ahsan H Mansur, an economist who previously worked at the International Monetary Fund, describes the central bank’s decision as insufficient to provide macroeconomic stability in the current global turmoil.
“Bangladesh Bank shall immediately devalue the local currency by Tk 3 against the dollar,” he said.
Rising imports against subdued exports caused Bangladesh’s foreign exchange reserves to fall to $44.29 billion on March 23. That’s well down from the $48 billion recorded in August of last year.
And economists think the worst is yet to come.
Indeed, the impact of global supply chain disruption resulting from Russia’s invasion of Ukraine has yet to fully affect Bangladesh.
Companies generally open letters of credit two to three months before the arrival of imported products. Thus, the effect of the war will be visible a few months later.
“The crisis in the exchange rate regime will worsen if the increase in imports cannot be contained,” Mansur said.
He suggested bringing the country’s import growth below 30% from the current 46%, otherwise reserves will be hit hard by the current instability.
The depreciation may fuel inflationary pressures to some extent. The official Consumer Price Index figure hit a 16-month high in Bangladesh in February, due to soaring costs of essential foods ranging from staples such as rice, edible oil and vegetables with protein products.
“Inflation will go up, but you’ll have to accept that for now,” Mansur said when asked how the government would tackle the situation.
“We don’t want to become Sri Lanka, which has been facing a currency crisis for a long time,” he added.
Sri Lanka was hit by the financial crisis due to a lack of foreign currency. Therefore, traders cannot finance imports.
On Tuesday, the country was forced to order troops to petrol stations as sporadic protests erupted among the thousands of motorists queuing daily for the scarce fuel.
“Any delay in taking initiatives to deal with the current crisis will deal a fatal blow to macroeconomic stability,” Mansur said.
The flow of remittances through the official channel could further decrease as the exchange rate in the parallel market, a place of illegal trading, is higher than in the banking sector.
A forex trader says people now have to count Tk 91.80 per dollar, much higher than the interbank rate of Tk 86.20.
Volatility in the currency regime has even forced a bank to stop publishing US dollar rates in recent days as rates fluctuate abnormally, an executive at the lender said on condition of anonymity.
“If the sidewalk market continues to offer a higher rate, shippers will opt for the informal channel,” Mansur said.
“This will bring the reserves to a critical level. Thus, the central bank should close the gap because the 2.5% subsidy given by the government to remittance recipients is not adequate,” he said. added.
Md Habibur Rahman, Chief Economist of Bangladesh Bank, says the central bank has decided to gradually depreciate the local currency.
He thinks the exchange rate differential between formal and informal markets should be Tk 2.50 per dollar to overcome the current situation.
If his view is translated into reality, the exchange rate will have to be depreciated to at least Tk 89 per dollar, which is also supported by Mansur.
“The central bank will cause the taka to depreciate quickly to some extent because injecting dollars to keep the exchange rate stable is not an ideal position for long,” Rahman said yesterday.
However, he gave no indication of the amount of depreciation that will be allowed.
Another central bank official said the government would try to control inflation to protect people from rising prices as the next general election is not far away.
Mustafizur Rahman, a senior fellow at the Center for Policy Dialogue, said the reserves could cover import payments for more than nine months a few months ago, but now they can fund imports for about 5.5 months. .
He calls the gradual depreciation of the taka a timely move.
“Depreciation will lead to imported inflation. The government can alleviate the woes of ordinary people by providing tax supports such as exemption or reduction of taxes and value-added taxes, and providing subsidies to expand sales on the free market,” he said.
“But such tax measures will have an implication on the drawing up of the next budget,” added Rahman.
Syed Mahbubur Rahman, managing director of Mutual Trust Bank, says imports of non-essential and luxury items should be discouraged as some banks are now facing foreign exchange shortages.