Monetary Policy Statement: Is it growth supportive?

The Bangladesh Bank (BB) announced on January 27 the Monetary Policy for January-June, 2014 period. Taking recent economic and financial sector developments into account the Monetary Policy stance in H2 FY14 (half two of FY 14) emphasises much on controlling inflation instead of growth, and targets a monetary growth path that aims to bring average inflation down to 7 per cent. To achieve the goal of sizing inflation BB aims to contain reserve money growth to 16.2 per cent, broad money growth to 17 per cent and private sector credit growth to 16.5 per cent as important monetary tools.

FEATURES OF MONETARY POLICY STATEMENT OF CENTRAL BANK: The major points set in the monetary policy are as follows:

* To manage the persisting inflationary pressures:

* Keeping policy rates unchanged.

* In the context of ample liquidity in the banking system reserve requirement ratios will not be eased further.

* Contain reserve money growth to 16.2 per cent.  

* Broad money growth to 17 per cent.  

*  To attain inclusive growth:

* Private sector credit growth of 16.5 per cent.

* Advising to lend only to creditworthy clients for productive purposes.

* These ceilings are flexible and the monetary program can be recalibrated.

* Government borrowing from the banking sector will remain around the FY14 budgetary figure of 260 billion taka.

* In order to stimulate entrepreneurship among low-income rural households who have opened 10-taka accounts, BB is launching a new Tk 2.0-billion refinancing facility to be implemented by Micro-Finance Institutions.

* In order to cushion the impact of recent domestic disruptions on businesses, BB has taken a number of important policy steps:  

* Broadening the scope of the Export Development Fund.

* Reducing the borrowing costs (but how not devised).

* Instructing banks to offer loan rescheduling facilities to genuine borrowers facing cash flow difficulties, especially SMEs who are temporarily affected by the recent strikes and disruptions.

* Effective transmission of monetary policy requires strengthening credit and debt markets and this will remain a key focus for H2FY14:

* In order to spur secondary market activity BB has recently embarked on secondary trading in Treasury bonds and will continue to do so in H2FY14.

* A new Islamic bond of 3-month tenure is expected in H2FY14 which will contribute to better liquidity management of Islamic banks.

* While not directly under the purview of BB, various monetary- and financial sector-related actions are expected to have contributed to stabilising the capital market:

* BB will continue to collaborate with Bangladesh Securities and Exchange Commission (BSEC).

* Encourage larger borrowers to access the capital market as banks will need to comply with the recently revised regulation on single-borrower exposure limits for business groups.

* to preserve the country's external sector stability bb wished:  

* Further building-up of foreign reserves in FY14 though at a more moderate pace than FY13.

* To ameliorate the projected decline in remittances, it is imperative that manpower exports resume its growth.

* Opportunities such as investments in government securities are marketed to non-resident Bangladeshis (NRBs), so that remittances can remain an important part of medium-term external balance.

* BB will continue to support a market-based exchange rate while seeking to avoid excessive foreign exchange rate volatility.

REVIEW OF THE MONETARY POLICY STATEMENT: Monetary Policy Statement is aimed at tapering off inflation expectations and influencing policy rate to soothe the market and business activities by eliminating uncertainties about the policy change.

In the policy brief of the Planning Commission's General Economics Division (GED) titled "Review of the Monetary Policy Statement of 2013 and the Next Monetary Policy Stance", it was suggested that the upcoming monetary policy stance should target achieving higher economic growth rather than managing mainly inflation while a new government is in place. It means that, the broad money growth (M2), inflation, reserve money growth, private sector credit growth, public sector credit growth, government borrowing etc. should be targeted to achieve the growth of around 7.2 per cent and not to achieve only the primary target of bringing the inflation down to 7.0 per cent. Higher growth at the cost of mild inflation is more acceptable than lower growth with lower inflation. In confronting inflation phenomenon, Monetary Policy stance remained as continuation of the earlier stance rather than redesigning it towards a more growth supportive stance.

The Perspective Plan (2010-2021), the aim of which is to promote Bangladesh as a Middle Income Country within 2021, has been prepared. For this, the government has been implementing Sixth Five Year Plan (SFYP) for FY11-FY15 in order to accelerate GDP (gross domestic product) growth. Sustained growth is the key factor of generating employment and reducing poverty. Monetary Policy should also be supportive of accelerating growth in line with the national plan document (SFYP) and the Vision 2021. It is understood that in any election year monetary policy should be driven to contain any threats of inflationary pressure (as done in MPS H1) but which is over now. A new euphemism would emerge or demand will grow for higher growth now for a new government. That is the reason for which we suggested a more growth-supportive policy stance.

If we analyse the performance of the monetary sector in the first half of the current fiscal year, it can be seen that, the Broad Money Growth (M2) was around 16-17 per cent, as targeted in the last monetary policy statement of the central bank. But private sector credit growth hovered at 11 per cent for the last six months, while as it was expected to be at 16 per cent. Domestic credit growth has fallen from 13-14 per cent of the FY13 to 10-11 per cent in first half of FY14. Targeted credit growth was 15.2 per cent but it is at 10.7 per cent currently. It seems that as one of the two components of M2, which are Net Foreign Asset (NFA) and Net Domestic Assets (NDA), NFA has grown more than targeted and was the major actor behind the high-powered money or M2 growth of 17 per cent. Ultimately the M2 expansion was due to NFA increase rather NDA, which comprises public sector credit, private sector credit and other net assets. One of the reasons for private sector low credit growth is relatively higher interest rate. Apparently, nothing has been suggested about lowering or facilitating low interest rate regime in the new policy stance.

Domestic credit (public and private) growth may be hampered with the recent political unrest. In order to widen the scope of investment and open up the economic activities, domestic credit needs to be expanded by M2 expansions. If we set the same M2 target in second half of FY14 it would not create enough liquidity for the domestic credit expansion. Though the government borrowing from the banking system was significantly lower in the first half of the FY14, it will certainly increase in H2FY14 as the major portion of the Annual Development Programme (ADP) expenses is done in that period. As liquidity is available in the market, private sector will not be hindered if government borrowing is increased. More government spending is needed to cover up the losses made owing to political turmoil and to make the economy buoyant.

Currently the growth path is not on proper track to reach the targeted average growth of 7.3 per cent as expected in the Sixth Five Year Plan. So we need to review the credit expansion policy for boosting investment which will help growth. Investment as percentage of GDP has been hovering around 27-28 per cent for last couple of years. If we analyse the previous data we can find that M2 growth was 22 per cent and 21 per cent in FY11 and FY12 respectively, which supported the government's fiscal expansion by increasing public investment. Public investment, including ADP, as percentage of GDP increased from 5.01 in FY10 to 6.50 in FY12 and estimated to be 7.05 in FY14. Fiscal expansion is envisaged for meeting heightened investment need to support economic growth.

On the other hand, we are currently experiencing 17 per cent M2 growth since last fiscal year which is tightening the economy to contain inflation which is the major task of the central bank. But to have growth-supportive monetary policy, it should seek the path for encouraging investment-friendly credit expansion. Global growth is also an important factor for growth in Bangladesh. As the global growth prospects for 2014 (3.6 per cent) is higher than the previous two years (3.2 per cent in 2012 and 2.9 per cent in 2013), the trend of global demand will also be upward. To utilise the scope of export, more investment is needed. To boost up investment, credit facilities to the investors need to be enhanced by easing the credit procedure and lowering the interest rate which is not overtly reflected in BB's current MPS.

Inflation has declined from double-digit figure to 6.8 per cent in FY13. The nature of inflation was not only 'demand pull' type, it was also, more or less, 'cost push' inflation, due to higher price level in the rest of the world. In that connection, the central bank has well managed its floating exchange rate in the last fiscal year. In support of that, we can see that the local currency has been appreciated in last fiscal year too. US dollar has been exchanged for around Tk 77 per USD. Of course, this managed exchange rate helped contain the imported inflationary pressure at tolerable level on the domestic economy. But that was also not so congenial to reap the benefit of competitive export advantage.

Under the current circumstances, inflation would apparently be a little bit higher than the last fiscal year. It was 7.53 per cent in the past month which is higher than last fiscal year average inflation of 6.78 per cent. Present situation demands a higher M2 growth to open up the economy to grow at a faster rate to go closer to the targeted growth rate. The reasons relate to higher transportation costs due to the frequent nationwide strikes, and the fact that Indian food inflation has also risen sharply which is also correlated with Bangladesh food inflation. As domestic political situation is improving (the country is in election mode at least for next six months), it can be expected that inflation will be moderate because of relaxed supply constraints. That's why emphasis needs to be given on growth instead of curbing inflation. Economy can bear the inflationary pressure for the upcoming days, as it would not be that much high in the present world economic scenario. Imported inflation is not going to harm the economy that much, as the local currency has already been appreciated and there is more than USD 18 billion foreign exchange reserve. To promote exports (increasing competitiveness) and to encourage remittance receipt, a slight devaluation of Taka could also be considered. Accumulating big reserves may rather create inflationary pressure even in whatever way we want to desist.

Private sector credit, particularly credit to the small and medium enterprises (SME) is required to grow above 18 per cent for FY13-FY15 to achieve the target growth of SFYP. M2 growth, along with the private sector credit, could have been targeted to grow at higher rate in the monetary policy statement of the Bangladesh Bank, for revamping the economy in the second half of FY14 with a growth-supportive monetary policy rather than a tightening one. Monetary policy should be a dynamic and accommodative one to embrace the new economic opportunities and political demands of higher growth and income at the beginning of a new government.

Prof. Shamsul Alam is Member, General Economics Division (GED), Planning Commission, Ministry of Planning, Government of the People's Republic of Bangladesh. Syed Ali Bin Hassan, Shimul Sen and Sheikh Mainul Islam Main, Assistant Chiefs   at the GED provided support in preparing this policy brief. [email protected]