Decoding the deficit: Current account dynamics

After more than two years of riding on current account surplus, we fell back to a deficit in September, 2014. A slump in exports, coupled with a hike in imports, was the main reason behind the negative current account balance. Looking back, we find that current account balance in Bangladesh has registered a surplus trend over the years (figure 1). Consistent rise in remittance was the launching pad to stave off any probability of trade deficit..
With deficit back again, a risk of volatility in exchange rate is also on the cards. Since adopting the floating regime in 2003 the currency was subjected to devaluation twice following current account depreciations. The first one in 2005, and the second one - perhaps still fresh in our minds - was in 2011. For developing countries like ours, spiralling current account deficits and uncontrollable currency devaluations suggest significant macroeconomic weakening. As such, it becomes necessary to understand how the current account determinants are positioned compared to the past and what implications the central bank should consider to deal with the deficit.
GROWTH IN IMPORTS: Led by capital machinery and petroleum and petroleum products, total imports have grown at 11 per cent in the first quarter of FY 15. This suggests that business confidence after national elections have returned, at least to some degree, and entrepreneurs are looking to revive momentum in industrial activity. However, some are taking this import figure with a grain of salt. Since credit growth to private sector is still nowhere near the monetary policy target, there is increased speculation of the possibility of money laundering inducing these encouraging numbers. Money laundering is not a new issue, and has been present in previous years' figures of imports as well. It would be a Herculean task to determine what portion of import growth is due to money laundering. But attributing the entire growth in imports to money laundering may not be a prudent analysis.
What is undisputable is that import of consumer and intermediate goods - two items which together compose 50 per cent of total imports - have both registered negative growth during the same period. Comparison with the composition of imports in FY 11 (entire year) reveal a strikingly different story. Total imports rose by 42 per cent. One of the reasons for this abnormal hike was a rise in global food prices in 2011. But what one cannot overlook is that the economy saw a staggering 55 per cent growth in consumer and intermediate goods, including non-food items.
Essentially, these numbers imply that Bangladesh, aided by prudent policies of the central bank, has made a gradual shift away from unproductive imports - a transition which must be strictly maintained for growth in capital productivity.

EXTERNAL SLACK OR INTERNAL CONSTRAINT: WHICH IS THE EASIER CHALLENGE? Since the last time Bangladesh faced current account deterioration, exports had actually posted an impressive growth. The story is quite different this time, and perhaps more unfavourable from a macroeconomic stability point of view. Exports grew only 1.0 per cent in the first quarter of FY 15. Fall in cotton prices in global markets has affected our RMG (ready-made garment) export performance and pushed down nominal exports.
But are we the only ones to take the hit? The answer is a resounding "No". Global gains in supply and fall in demand pushed down prices across the board. Oil, energy, industrial metals, agricultural produce etc. - everything has taken a battering since around April 2014 (Source: Wall Street Journal). Naturally, manufactured-product exporters have felt the pinch. The argument is that terms of trade have declined for many countries globally. What we need to remember is that the downturn in exports is not due to internal or country-specific constraints. Fundamental internal challenges might have driven out buyers and permanently reduced prospects of future growth.

This under par performance in exports will last as long as global demand remains stagnant, but with the world's richest economy already posting better-than-expected growth rates in 2014, a turnaround may not be too far away. According to the International Monetary Fund, global growth rates are expected to pick up from 2014 and continue in the coming years. As the table below shows, even the most dubious economic zone at present, the Euro Area, is expected to move out of recession by the end of 2014. Once this happens, demand will rise first for essential items, and Bangladesh specializes in basic ready-made garments.
THE REAL RISK: LOSS OF TRADITIONAL HEDGE: Remittance is the lone factor which helped us ensure current account surplus despite running trade deficits. The last episode of severe current account depreciation was brought about partially by a rare fall in remittance growth. With negative growth in remittance last year, one might think the symptoms in current account depreciation will be the same as 2011. But a closer look shows that the first quarter of FY 15 saw a 21 per cent growth in remittance over that of the last year. With fears of political turmoil dissipated, coupled with seasonal factors, migrant workers sent more money back home.
What remains a critical concern is the stagnation in growth of manpower export - largely attributable to recruitment restrictions by traditional markets like UAE, Saudi Arabia and Kuwait. Figure 2 reveals substantial volatility in growth of overseas recruitment. Despite talks by the government to set up manpower export channels with countries like Malaysia and Qatar, there is still no tangible surge in overseas recruitment.
So for once, this long-reliable macroeconomic driver is no longer present to hedge current account depreciation when trade deficit widens. With history serving testament to the critical role remittance has played for Bangladesh over the years, it is high time that the government allocates sufficient resources and creates stronger diplomatic links with newer markets to enhance labour export.
RESERVOIRS OF RESERVES: NOW WE CAN "MANAGE" THE FLOAT: Our exchange rate policy of managed-float is highly dependent on the level of international reserves. The last current account depreciation witnessed a currency devaluation of 17.8 per cent despite central bank interventions. During this period, foreign exchange (Forex) reserves fell below the minimum level of $10 billions required for three months of imports. Naturally, at such levels, FX cannot be used to peg the rate anymore and hence depreciation was inevitable.
In stark contrast, today Bangladesh sits happily on a record pile of over $21 billions of Forex reserves. With Forex stock worth approximately seven months of imports, the central bank today has the capacity to avoid currency depreciation - if it wants to. But the dilemma for Bangladesh Bank is no longer about avoiding depreciation, but whether to allow depreciation. Because with exports on the downturn due to external factors, allowing the Taka to depreciate may be the only option to improve export growth, at least until global demand normalizes again. A small depreciation, well within people's expectations and below panic levels might actually have greater upside potential than downside risk.
REVIVING REMITTANCE INFLOW: A lot seems to have changed in just around three years. The economy has made strong gains in some areas, while lingering doubts remain in others. But armed with greater reserves and stronger policy-framework oriented towards productive imports,  the central bank seems better poised than before in keeping the current account deficit within controllable limits.
What remains to be seen are stronger initiatives by the government in strengthening diplomatic connections with potential labour-export markets to revive remittance inflow. Once these initiatives work in tandem, Bangladesh can look at current account deficits without fear of macroeconomic instability.     
*Unless otherwise stated, all data and figures are taken from Bangladesh Bank. *Growth rates given are comparisons with the same period of the previous year.
The writer is a Graduate student of International Economics, John Hopkins University, USA.  [email protected]