Focusing on growth amid price stability
Tuesday, 2 December 2008
Dr. Salehuddin Ahmed
Keeping inflation at a reasonably low and stable level is one of the main objectives of monetary policy in Bangladesh. In view of the prominence of supply-side factors in present inflation dynamics, Bangladesh Bank (BB) has been pursuing growth-supportive and prudent monetary policy stance to contain the uptrend in inflation and provide support to output growth.
The Bangladesh economy witnessed continued upward inflationary pressures in fiscal year (FY)08. The persistent rise in inflation during FY08 was attributed to unprecedented rise in commodity prices in the international market particularly of food grains and fuel, shortfall in domestic food production and supply disruptions due mainly to devastating floods and cyclone, cost escalation of domestically produced goods resulting from price-hike of imported inputs, and market imperfections and disruptions in supply chains. While 12-month point to point Consumer Price Index (CPI) inflation showed an increase from 9.2 per cent in FY07 to 10.0 per cent in FY08, 12-month average inflation rose from 7.2 per cent in FY07 to 9.9 per cent in FY08.
The historical trend shows that inflation in Bangladesh varies directly with food prices. Higher food inflation fuels overall inflation since the weight of food items in the CPT is nearly 59 per cent. As the current inflation is dominated by soaring food prices, food inflation has been higher than non-food inflation. While the average food inflation was 1.4 per cent compared with the non-food inflation rate of 3.0 per cent in FY01, food inflation reached 12.3 per cent in FY08 widening the gap from the non-food inflation rate of 6.3 per cent . The gap between 12-month average food and non-food inflation further expanded in July 2008, as food inflation rose to 12.5 per cent and non-food inflation slightly declined to 6.1 per cent. In FY08, point-to-point food inflation showed mixed trends while non-food inflation mostly declined. Food inflation rose from 9.8 per cent in June 2007 to 14.5 per cent in December 2007 thereafter declining to 9.6 per cent in May 2008 with frequent fluctuations. The rate of food inflation increased to 14.1 per cent at the end of June 2008. The non food inflation, on the other hand, declined from 8.3 per cent in June 2007 to 3.5 per cent in June 2008
In Bangladesh, inflation is measured separately for rural and urban areas. The expectation is that food inflation will be lower in rural areas than in urban areas while the situation will be reverse in the case of non-food inflation. During FY01, average food inflation was 1.2 per cent in rural areas and 1.9 per cent in urban areas; while, in the case of non-food inflation, the rates were 3.8 per cent in rural areas and 1. 1 per cent in urban areas. In July 2008, average food inflation stood at 12.2 per cent in rural areas compared with 13.2 per cent in urban areas. In the case of non-food category, rural areas experienced an inflation rate of 6.2 per cent in the same month while the rate was 5.8 per cent in urban areas. This shows that, in general, the urban people face a higher rate of food inflation relative to the rural population, while the rural people experience a higher rate of non-food inflation relative to their urban counterparts.
The monetary policy of the Bangladesh Bank (BB) emphasizes the need to accelerate economic growth and ensure reasonable price stability for taking forward the country's poverty reduction agenda. For the purpose, the thrust is to ensure healthy macroeconomic fundamentals essential to sustaining high economic growth, shielding the economy from internal and external shocks (global price fluctuations and financial turbulences), and tapping new frontiers of development. The policy also intends to anchor inflation expectations on realistic assessment of growth and price developments.
For achieving the objectives, Bangladesh Bank (BB) uses monetary instruments in a prudent manner to achieve targeted real sector growth and ensure a reasonable rate of inflation. More specifically, BB routinely uses repo, reverse repo, and BB bill rates as policy instruments for influencing financial and real sector prices while cash reserve requirement (CRR) and statutory liquidity ratio (SLR) for banks remain as sparsely used instruments to influence the volume of credit as and when needed. On the other hand, annual monetary programme uses reserve money (RM) as the operating target and broad money (M2) as the intermediate target.
Moreover, it is now increasingly realized that the challenges facing the domestic economy in the present uncertain global economic environment require BB's monetary policy to play a key role in striking a balance between growth and price stability. This is critical for Bangladesh, especially in countering any threat to macroeconomic stability and achieving poverty reduction goals. While monetary tightening can bring down inflation, it has unacceptably high cost in terms of foregone output and employment which Bangladesh can ill afford in view of its growth and poverty reduction imperatives. This, however, does not negate the importance of avoiding excessive monetary laxity which harms macroeconomic stability and hence growth and poverty reduction efforts.
In view of the above imperatives, BB's recent priority has been to pursue prudent policies that are supportive of supply-side and growth promoting measures especially to ensure unhindered flow of credit to the economy's productive sectors especially agriculture, small and medium enterprises (SMEs), and the rural economy. The policies also encourage increased flow of credit to women entrepreneurs. In order to avoid the build-up of excessive demand pressure, special attention has been given to channelling credit to its intended productive and supply augmenting uses alongside discouraging credit flows to unproductive and speculative uses. Also, in addition to refinance support for agriculture, SMEs, and housing loans, new refinancing lines for socially desirable and emerging activities are under consideration by BB.
In the foreign exchange market, exchange rate stability through arresting any undue volatility is the target to facilitate the import of essential commodities and keep the pressure of imported inflation under control. Moreover, BB's efforts have been directed to enhance the inflow of workers' remittances and increasingly divert remittance receipts to investments in productive sectors for easing potential demand pressure and expanding the economy's productive capacity. Recently, BB has made available forward hedging mechanism to importers for ensuring more efficient import of essential goods.
Obviously, the success of anti-inflation policies requires greater fiscal and monetary coordination to ensure clear recognition of the importance of the monetary policy and support appropriate alignment of relevant policy parameters within the overall macroeconomic framework. Maintaining fiscal discipline by the government and minimizing the dependence on financing fiscal deficit from the banking system, especially from BB, generates less inflationary pressure. It is therefore important to increasingly generate more revenue earnings and find alternate sources of financing such as developing an active secondary market for government securities that would contribute toward improving the quality of BB's monetary management. Bringing appropriate changes in the government's debt management strategy is important to improve the balance between short (e.g. treasury bills) and long term borrowing (e.g. through issuing bonds) since any shift in the borrowing pattern has implications for the conduct of the monetary policy.
Moreover, the issue of reduction of government's dependence on bank borrowing to finance fiscal deficits needs careful consideration for which, like in other countries, fiscal responsibility laws can be enacted to restrict government borrowing from BB and limit the government's option of having large debts. Along with promoting government savings instruments especially targeted toward non-resident Bangladeshis, adopting fiscal responsibility and debt limitation law by the government to restrict the extent of debt monetization would enhance the effectiveness of monetary policy instruments. In addition, further strengthening of debt market infrastructure for promoting a vibrant secondary bond market and adoption of international prudential norms for banks and financial institutions would bring consistency and accountability and ensure financial inclusion of all.
During 2008, relatively good real sector growth despite significant domestic and global adversities, pursuit of prudent monetary measures by BB, and supportive fiscal and growth promoting measures by the government played key roles in containing inflationary pressures in Bangladesh relative to many other countries in similar situations.
At present, BB's monetary policy remains supportive of increased domestic production which, along with keeping demand side pressure under control, has been taken as the most effective strategy to fight the present inflation in the country. The compulsion for Bangladesh is to bring down inflation from its current level of around 10 per cent keeping in view the complexities of globally transmitted inflation and the need to conditioning perception of inflation in the range of 5.5-6.0 per cent in the next two to three years so that an inflation rate of around 4.5 per cent can emerge as the medium term objective. This is needed to ensure smooth integration of the domestic economy into the global economy and pursue the goal of sustained high growth over the medium term.
The writer is Governor of Bangladesh Bank, the Central Bank of the country
Keeping inflation at a reasonably low and stable level is one of the main objectives of monetary policy in Bangladesh. In view of the prominence of supply-side factors in present inflation dynamics, Bangladesh Bank (BB) has been pursuing growth-supportive and prudent monetary policy stance to contain the uptrend in inflation and provide support to output growth.
The Bangladesh economy witnessed continued upward inflationary pressures in fiscal year (FY)08. The persistent rise in inflation during FY08 was attributed to unprecedented rise in commodity prices in the international market particularly of food grains and fuel, shortfall in domestic food production and supply disruptions due mainly to devastating floods and cyclone, cost escalation of domestically produced goods resulting from price-hike of imported inputs, and market imperfections and disruptions in supply chains. While 12-month point to point Consumer Price Index (CPI) inflation showed an increase from 9.2 per cent in FY07 to 10.0 per cent in FY08, 12-month average inflation rose from 7.2 per cent in FY07 to 9.9 per cent in FY08.
The historical trend shows that inflation in Bangladesh varies directly with food prices. Higher food inflation fuels overall inflation since the weight of food items in the CPT is nearly 59 per cent. As the current inflation is dominated by soaring food prices, food inflation has been higher than non-food inflation. While the average food inflation was 1.4 per cent compared with the non-food inflation rate of 3.0 per cent in FY01, food inflation reached 12.3 per cent in FY08 widening the gap from the non-food inflation rate of 6.3 per cent . The gap between 12-month average food and non-food inflation further expanded in July 2008, as food inflation rose to 12.5 per cent and non-food inflation slightly declined to 6.1 per cent. In FY08, point-to-point food inflation showed mixed trends while non-food inflation mostly declined. Food inflation rose from 9.8 per cent in June 2007 to 14.5 per cent in December 2007 thereafter declining to 9.6 per cent in May 2008 with frequent fluctuations. The rate of food inflation increased to 14.1 per cent at the end of June 2008. The non food inflation, on the other hand, declined from 8.3 per cent in June 2007 to 3.5 per cent in June 2008
In Bangladesh, inflation is measured separately for rural and urban areas. The expectation is that food inflation will be lower in rural areas than in urban areas while the situation will be reverse in the case of non-food inflation. During FY01, average food inflation was 1.2 per cent in rural areas and 1.9 per cent in urban areas; while, in the case of non-food inflation, the rates were 3.8 per cent in rural areas and 1. 1 per cent in urban areas. In July 2008, average food inflation stood at 12.2 per cent in rural areas compared with 13.2 per cent in urban areas. In the case of non-food category, rural areas experienced an inflation rate of 6.2 per cent in the same month while the rate was 5.8 per cent in urban areas. This shows that, in general, the urban people face a higher rate of food inflation relative to the rural population, while the rural people experience a higher rate of non-food inflation relative to their urban counterparts.
The monetary policy of the Bangladesh Bank (BB) emphasizes the need to accelerate economic growth and ensure reasonable price stability for taking forward the country's poverty reduction agenda. For the purpose, the thrust is to ensure healthy macroeconomic fundamentals essential to sustaining high economic growth, shielding the economy from internal and external shocks (global price fluctuations and financial turbulences), and tapping new frontiers of development. The policy also intends to anchor inflation expectations on realistic assessment of growth and price developments.
For achieving the objectives, Bangladesh Bank (BB) uses monetary instruments in a prudent manner to achieve targeted real sector growth and ensure a reasonable rate of inflation. More specifically, BB routinely uses repo, reverse repo, and BB bill rates as policy instruments for influencing financial and real sector prices while cash reserve requirement (CRR) and statutory liquidity ratio (SLR) for banks remain as sparsely used instruments to influence the volume of credit as and when needed. On the other hand, annual monetary programme uses reserve money (RM) as the operating target and broad money (M2) as the intermediate target.
Moreover, it is now increasingly realized that the challenges facing the domestic economy in the present uncertain global economic environment require BB's monetary policy to play a key role in striking a balance between growth and price stability. This is critical for Bangladesh, especially in countering any threat to macroeconomic stability and achieving poverty reduction goals. While monetary tightening can bring down inflation, it has unacceptably high cost in terms of foregone output and employment which Bangladesh can ill afford in view of its growth and poverty reduction imperatives. This, however, does not negate the importance of avoiding excessive monetary laxity which harms macroeconomic stability and hence growth and poverty reduction efforts.
In view of the above imperatives, BB's recent priority has been to pursue prudent policies that are supportive of supply-side and growth promoting measures especially to ensure unhindered flow of credit to the economy's productive sectors especially agriculture, small and medium enterprises (SMEs), and the rural economy. The policies also encourage increased flow of credit to women entrepreneurs. In order to avoid the build-up of excessive demand pressure, special attention has been given to channelling credit to its intended productive and supply augmenting uses alongside discouraging credit flows to unproductive and speculative uses. Also, in addition to refinance support for agriculture, SMEs, and housing loans, new refinancing lines for socially desirable and emerging activities are under consideration by BB.
In the foreign exchange market, exchange rate stability through arresting any undue volatility is the target to facilitate the import of essential commodities and keep the pressure of imported inflation under control. Moreover, BB's efforts have been directed to enhance the inflow of workers' remittances and increasingly divert remittance receipts to investments in productive sectors for easing potential demand pressure and expanding the economy's productive capacity. Recently, BB has made available forward hedging mechanism to importers for ensuring more efficient import of essential goods.
Obviously, the success of anti-inflation policies requires greater fiscal and monetary coordination to ensure clear recognition of the importance of the monetary policy and support appropriate alignment of relevant policy parameters within the overall macroeconomic framework. Maintaining fiscal discipline by the government and minimizing the dependence on financing fiscal deficit from the banking system, especially from BB, generates less inflationary pressure. It is therefore important to increasingly generate more revenue earnings and find alternate sources of financing such as developing an active secondary market for government securities that would contribute toward improving the quality of BB's monetary management. Bringing appropriate changes in the government's debt management strategy is important to improve the balance between short (e.g. treasury bills) and long term borrowing (e.g. through issuing bonds) since any shift in the borrowing pattern has implications for the conduct of the monetary policy.
Moreover, the issue of reduction of government's dependence on bank borrowing to finance fiscal deficits needs careful consideration for which, like in other countries, fiscal responsibility laws can be enacted to restrict government borrowing from BB and limit the government's option of having large debts. Along with promoting government savings instruments especially targeted toward non-resident Bangladeshis, adopting fiscal responsibility and debt limitation law by the government to restrict the extent of debt monetization would enhance the effectiveness of monetary policy instruments. In addition, further strengthening of debt market infrastructure for promoting a vibrant secondary bond market and adoption of international prudential norms for banks and financial institutions would bring consistency and accountability and ensure financial inclusion of all.
During 2008, relatively good real sector growth despite significant domestic and global adversities, pursuit of prudent monetary measures by BB, and supportive fiscal and growth promoting measures by the government played key roles in containing inflationary pressures in Bangladesh relative to many other countries in similar situations.
At present, BB's monetary policy remains supportive of increased domestic production which, along with keeping demand side pressure under control, has been taken as the most effective strategy to fight the present inflation in the country. The compulsion for Bangladesh is to bring down inflation from its current level of around 10 per cent keeping in view the complexities of globally transmitted inflation and the need to conditioning perception of inflation in the range of 5.5-6.0 per cent in the next two to three years so that an inflation rate of around 4.5 per cent can emerge as the medium term objective. This is needed to ensure smooth integration of the domestic economy into the global economy and pursue the goal of sustained high growth over the medium term.
The writer is Governor of Bangladesh Bank, the Central Bank of the country