More devaluation this month

The Bangladesh Bank will devalue the taka again this month in an effort to narrow the gap between the dollar selling rate from reserves and the market rate as a visiting IMF review team has stressed faster implementation of a unified exchange rate to ease pressure on foreign exchange reserves.

According to a source within the central bank, the rate at which US dollars are sold from reserves is expected to be raised by Tk1 to Tk104 this week, with a further increase to Tk106 scheduled for June. This will align the central bank's selling rate with the current market average rate.

The decision was made on Sunday following a meeting of the central bank with the International Monetary Fund (IMF) delegation over Bangladesh's progress in performance indicators that were set by the global lender as the conditions for releasing the second tranche of the $4.7 billion loan approved for the country in February this year.

The taka has already been devalued by 19% over the last year, which has led to an increase in the dollar rate from Tk86.20 to Tk103, according to Bangladesh Bank data. 

Meanwhile, the Bangladesh Foreign Exchange Dealers Association (Bafeda) raised the dollar rate by Tk1 for both remitters and exporters to Tk108 and Tk106, respectively, in a meeting on Sunday, according to sources present at the meeting.

The Bangladesh Bank is going to devalue the local currency at a faster rate due to two main reasons. Firstly, it aims to reduce the pressure on dollar selling from the reserves, and secondly, it aims to establish a unified exchange rate, a senior executive of the central bank told The Business Standard.

The executive explained that currently, the rate of dollar selling from the reserves is Tk103, while the market average rate is Tk106. This creates pressure on the reserves, as government organisations demand dollars from the reserve at a lower rate to import fertiliser and energy.

To support the government's LC (Letter of Credit) settlement, the Bangladesh Bank sold dollars between $60 million and $70 million per day to commercial banks in April this year. 

The total foreign exchange reserve as of 27 April stood at $31 billion, which will decrease to $30 billion next week after a nearly $1 billion Asian Clearing Union (ACU) payment due this week, sources said.

The Bangladesh Bank sold nearly $12 billion from the reserves in the first 10 months of the current fiscal year, compared to $7.6 billion sold throughout the last fiscal year, according to central bank data.

The Bangladesh Bank executive also said that the central bank will prioritise a faster implementation of a unified exchange rate as it is unlikely to meet the other two major performance indicators set by the IMF, namely the net international reserves and non-performing loan targets. 

The executive explained that although the central bank will start calculating reserves based on the IMF's formula using the Balance of Payments and International Investment Position Manual (BPM6) from June, it will not be possible to achieve the targeted reserve position.

The IMF has set the floor on net reserves at $24.46 billion for June as the performance criteria. However, according to Bangladesh Bank data, if the new calculation is considered, the net reserve is now slightly above $20 billion after excluding the $5 billion export development fund and $4.5 billion liabilities, according to the Bangladesh Bank data.

The executive added that improving default loans is a political decision that may be difficult to address before the forthcoming general election slated for late this year or early next year. Therefore, in this situation, the central bank will intensify currency devaluation to implement a market-based exchange rate and introduce new reserve calculations. This will help the authority convince the IMF to provide the second tranche of the loan even after failing to manage the targeted reserve position.

Impact of faster devaluation on per capita income and GDP

The devaluation of the taka is expected to have a negative impact on two major indicators, namely per capita income and GDP size. 

The government has already revised down its per capita income target for the current fiscal year to $2,793 from the provisional figure of $2,824, based on an exchange rate of Tk86.30 per dollar.

If the dollar rate reaches Tk106 by this June, as per the central bank's target, the per capita income is expected to fall further to $2,274. This would take the country back by three years, as the per capita income for fiscal year 2018-19 was $2,209.

In addition, the GDP size will also reduce to $374.69 billion from the government's targeted size of $460.22 billion if the dollar price is Tk106.

Why real exchange rate is not working

The Bangladesh Bank is going for further devaluation of the taka at a time when the local currency is already at its fair value as the difference between the bilateral exchange rate and the real effective exchange rate narrowed to less than Tk1 in April from over Tk14 in April last year, according to the Bangladesh Bank data.

The Real Effective Exchange Rate (REER) index-based exchange rate was Tk106.85 on 18 April this year when the bilateral exchange rate was Tk106.85, central bank data show.

REER is measured against the currency basket of the top 15 trading partners mainly China, the EU, and India.

When the bilateral exchange rate and the real exchange rate become the same, the taka is said to be at fair value. At this point, Bangladesh gains export competitiveness with its peer trading partners. 

Despite the taka nearing its fair value, the demand for the dollar rate remains above Tk115, as some banks charged importers this rate even in April. So the gap between the real exchange rate and the market rate is still Tk8. 

However, the Bangladesh Bank measures the real exchange rate considering the administered exchange rate of Tk106. As a result, the market demand for the dollar rate is still above Tk115, despite the taka nearing the real exchange rate. This means that the real exchange rate is also administered.

A senior executive of the Bangladesh Bank stated that the central bank measures the real exchange rate to determine how much the taka needs to be devalued to be competitive with rival partners. However, when the rate is managed, it can mislead the central bank about making decisions.

At present, Bafeda sets the export, import, and remittance rates as per instructions from the Bangladesh Bank. The rates set by Bafeda do not reflect the market demand as many banks are not following the rates. 

For instance, last month some banks offered a dollar rate of up to Tk117 for remittance while the Bafeda-set rate is Tk107, according to industry insiders.

In this context, the central bank last month held a meeting with bankers asking them not to offer a higher rate than the rate set by the Bafeda.