Bangladesh economy faces headwinds from rising inflation, tightened policies: World Bank, ADB

Bangladesh's economic growth is facing headwinds due to rising inflation, energy shortages, import restrictions, and monetary policy tightening, according to the findings of the World Bank and the Asian Development Bank (ADB), the two largest development partners.

The World Bank in its Bangladesh Development Update April 2023 released Tuesday has forecasted a GDP growth rate of 5.2% for the current fiscal year, which is below the government's target of 6.5%.

The ADB report – also released yesterday in Dhaka – expects the country's GDP growth at 5.3% in FY2023, reflecting subdued domestic demand and weaker export expansion.

Both the multilateral banks have emphasised the urgent need for trade and policy reforms, including removal of the lending rate cap, legislation in the banking sector, and a market-based single exchange rate to accelerate growth momentum and achieve upper-middle-income status by 2031.

World Bank findings

The World Bank has maintained its forecast for Bangladesh's GDP at 5.2% for the current fiscal year, citing inflationary pressures and their impact on household incomes and businesses' input costs, as well as energy shortages, import restrictions, and tightening monetary policy.

The Bangladesh Development Update April 2023, which marked the bank's second forecast with the first one in January, also keeps the same projection for the current fiscal year.

This projection falls short of the government's target of 6.5% for the fiscal year and is well below last year's growth rate of 7.2%. Nevertheless, the World Bank has suggested that the Bangladesh economy is expected to rebound in FY2023-24 and return to its potential pace. The latest report indicates that growth is expected to pick up to 6.2% in FY24.

The report highlights several challenges that the economy is currently facing, including global economic uncertainty, rising inflation, energy shortages, a balance-of-payments deficit, and a revenue shortfall.

Abdoulaye Seck, the World Bank country director for Bangladesh and Bhutan, said Bangladesh remains one of the fastest growing economies in the world but right policy reformation is needed to keep the growth momentum.

He suggested three policy reformations for accelerating the growth momentum – removal of the lending rate cap, legislation in the banking sector, and single exchange rate determined by the market.

He said removing the cap on lending rate will support monetary policy effectiveness and support will move towards inflation targeting.

On the legislation issue undertaken by the government in the banking sector, he said if these legislations are taken on board in line with international standards and good practice, then they will help the banking sector to grow.

Emphasising good governance in the banking sector, he said the Bank Company Act needs to be aligned with international standards. "The Bangladesh government has already finalised the draft amendment but we would like to see it so that we can give advice if needed."

He also said the market determined exchange rate will reduce pressure on forex reserves. If Bangladesh Bank lets market determination exchange rate based on demand and supply, it will bring more remittance and incentivise exporters.

Seck said trade reformation is a must as trade is the driving force of the country's economic growth. Low imports slowed down the investment and economic growth, he added.

"Russia's invasion of Ukraine and global uncertainty have impacted countries around the globe. Bangladesh's post-pandemic recovery has been disrupted by elevated commodity prices, rising interest rates, and slowing global growth," Seck said, adding that tariff and energy price hike also contributed to inflation along with external factors.

Addressing a question, Zahid Hussain, consultant of the World Bank Dhaka office, said the Bangladesh Bank has taken a multiple exchange rate policy to stop reserve depletion, but it did not work. In the same way, Bangladesh cannot save reserves by restricting imports, rather slow imports will hurt the economic activities as investors could not import required raw materials for investment. If the economic activities lose momentum, then it will put further pressure on the reserve, he added.

Citing an example of fixing the remittance rate, he said the result shows that remittance inflow through the banking channel declined after the Bangladesh Foreign Exchange Dealers Association (Bafeda) set the rate at Tk107.

When bankers started to offer higher rates ignoring the Bafeda rate, remittance inflow through the banking channel increased to $2 billion, which reflects that there is a supply response to the dollar rate, he said.

So, restricting imports and multiple exchange rates are not a long-term solution for saving reserves, he added.

The balance-of-payments deficit reached $7.2 billion in the first half of FY23, up from $5.3 billion in FY22, creating considerable pressure on foreign exchange reserves, said a World Bank press release.

A multiple exchange rate system has contributed to the balance of payments pressure, disincentivising export and remittance inflows. Moving towards a single market-based exchange rate will help restore external balance.

Improving trade competitiveness for export diversification will be critical to achieving Bangladesh's aspiration of upper middle-income status by 2031, said the World Bank.

"The ready-made garments sector accounts for about 83% of Bangladesh's exports. The Covid-19 pandemic underscored the risk of overreliance on a single sector," said Bernard Haven, World Bank's senior economist and co-author of the report. "Diversifying exports and improving competitiveness will help Bangladesh achieve upper-middle income status by 2031. For this, it will be important for Bangladesh to reduce both tariff and non-tariff barriers. A comprehensive reform programme can strengthen regional integration, particularly with South Asia and Southeast Asia."

ADB findings

In the Asian Development Outlook (ADO) for April 2023, the ADB said the slower growth forecast reflects subdued domestic demand and weaker export expansion due to slow global growth following the Russian invasion of Ukraine.

Besides, inflation is expected to accelerate from 6.2% in FY2022 to 8.7% in FY2023 as price pressures increase due to the upward adjustment of domestic-administered prices for fuel oil, gas, and electricity, and higher global commodity prices.

In addition, the current account deficit is anticipated to narrow from 4.1% of GDP in FY22 to 1.6% of GDP in FY23 as imports loosen and remittances grow.

The ADB further projected that private investment growth will be lower because of energy shortages and higher production costs. With a shortfall in revenue collection, austerity measures, and depleting foreign exchange reserves, public investment growth will also be slower.

As per the report, the main risk to this growth projection is a greater economic slowdown in Bangladesh's major export destinations driven by global uncertainty over the prolonged political tensions.

"The government is managing relatively well against the impact of external adversities and has embarked on the reform programs as precautionary measures," said ADB Country Director for Bangladesh Edimon Ginting.

He said, "Accelerating key reforms during these difficult times would help the country sustain higher growth in the medium term. These reforms include strengthening public financial management and domestic resource mobilisation, deepening the financial sector, and enhancing competitiveness to promote the creation of productive jobs in the private sector.

"This is also a high time for enhancing resilience against the global energy market volatility by creating an enabling environment for rapid expansion of domestic renewable energy supply to reduce dependence on fossil fuels in line with the country's climate agenda."

Ginting also noted that the ongoing geopolitical crisis has created an opportunity for Bangladesh to enhance its economic resilience by implementing several reform initiatives to address the crisis.

"The Bangladesh government has nothing to do about the geopolitical crisis as it is an international issue. However, Bangladesh can take measures to address the crisis through reform initiatives," he said.

He also acknowledged that these reforms may be challenging in the short term, but they will yield long-term benefits.

Ginting further stated that reforms are essential for Bangladesh to transition from a Least Developed Country to an upper-middle-income country by 2031 and a high-income country by 2041.

He said the ADB is currently collaborating with the Investment Development Authority and the Organisation for Economic Co-operation and Development to conduct a comprehensive evaluation of Bangladesh's investment climate.

"The assessment will concentrate on identifying the necessary reforms in investment development, particularly in foreign direct investment," he added.

Bangladesh in World Bank's South Asia economic update

Also, on Tuesday, the World Bank held a virtual press conference ahead of the launch of the World Bank's Spring 2023 economic update for South Asia. During the conference, the bank's chief economist for South Asia discussed issues of various countries in the region.

Hans Timmer, the World Bank's chief economist for South Asia, has said one of the major challenges for the Bangladesh economy would be to emerge from the ad hoc measures taken to support firms, individuals, and the balance of payments.

He said the country's financial sector is suffering from weak enforcement, and the actual scale of bad loans in the banking sector is hidden due to moratoriums offered.

Timmer emphasised the need for reducing distortions in the economy and aligning fiscal policies with sustainable growth. This includes generating more tax revenue, reducing subsidies, and promoting green investments.

Additionally, there should be efforts to diversify export products and services beyond the RMG sector, which currently dominates. The low productivity trap faced by informal workers should also be addressed.

Despite these challenges, Timmer said Bangladesh is not facing significant macroeconomic risks.