To tame the runaway inflation and ensure price stability, the best practice in the free market economies is to control money supply through raising the interest rate by the central bank. In the face of high inflation, the country's central bank, the Bangladesh Bank (BB), had exactly been doing that by revising its policy rates upwards a number times. But the ceiling of 9.0 per cent lending rate purportedly to protect investment flow came in the way.
Thankfully, in its new guideline on lending rate announced on Monday (June 19), the BB has withdrawn the interest cap, through a benchmark reference rate based on the so-called SMART (Short-term Moving Average Rate of Treasury Bill) system. To be effective from next month (July, 2023), the reference rate will be calculated (by BB) by averaging six months' (182 days, to be exact) treasury bills between December 2022 and May 2023. Since the said (six months') average for the risk-free government securities till May was 7.17 per cent, addition of a maximum 3.0 percentage points (as provided in the BB's new guideline) to the SMART's reference rate will take interest to the double digit figure of 10.17 per cent. However, the commercial banks will be able to add up to 1.0 per cent more as supervision charge for personal and auto loans under the Cottage, Micro, Small and Medium Enterprises (CMSME) and consumer credit. Notably, this raise in interest rate as part of the BB's new monetary policy statement (MPS), which is designed to be contractionary, to all intents and purposes, aims, as elaborated by its governor, to contain among other issues, rising inflation having to do with fast-depleting forex reserve and exchange rate volatility. Sructurally, the new MPS, is claimed to be different from the previous ones in that it targets policy rate, now set at 6.5 per cent, supported by a lending corridor of plus-minus 100 basis points (1.0 basis point equivalent to an interest rate change of 0.01 per cent). The said corridor consists of the so-called Standing Lending Facility (SLF), formerly, the reverse repo at 8.50 per cent as well as the 4.50 per cent Standing Deposit Facility (SDF), previously known as the reverse repo. For the sake of stability in this supposedly market-oriented interest regime, the interbank call-money rate will align itself closely with the policy rate under the new MPS framework.
To go by expert opinions, the new MPS will no doubt increase commercial banks' borrowing rate from funds to be rendered costlier by the BB in the market. As a result, growth in the volume of money in circulation and the private sector credit are expected to be arrested. This would expectedly discourage further rise in the volumes of non-performing loans in the commercial banks. However, the government's increased borrowing from the central bank may come at cross purposes with the latter's (BB's) effort to mop up excess money from the market through its contractionary monetary policy.
The SMART system as the reference rate may also act as a partial cap on the interest rate. In fact, the central bank still controls interest rates of Treasury bills and T-bonds. Due to their lower interest rates, commercial banks cannot purchase them. The BB would do well to stop buying T-bills in order to introduce a fully market-led interest regime, some experts suggest. Overall, the central bank's move towards freeing interest from constraints is a step in the right direction. However, a lot will depend on how effectively the new measures are put into practice.
