The secret ingredient missing from Bangladesh's growth recipe

Every year, the banking system in Dhaka sends the new money it creates into some parts of the economy and not others. That choice is rarely made on purpose. It is spread across thousands of separate loans, a few large borrowers, and a central bank that watches mainly for inflation and weak capital. So, it happens by default. Credit flows wherever it is cheapest and safest to lend.

For years that has meant real estate, consumer loans, and the same circle of connected companies. The firms that could create jobs and earn foreign currency, our manufacturers and exporters, are left with what is not taken. This piece is for the people who can change that. The economies that grew at double digits for a generation began by choosing where their credit would go. Then they made sure it went there. Since we want to become a trillion dollar economy, where credit goes will determine how fast we get there. That is the central argument of this piece.

In fact, that such a choice exists rests on a fact most of us were taught to ignore. A bank does not lend out money that savers have already deposited. It creates new money when it makes a loan. The loan and the deposit appear at the same moment.

The Bank of England said this plainly in a 2014 report, so it is no longer a fringe idea. There is also a lot of research backing this up. Therefore, if new money is created by lending, then the lending decision is where a country's new spending power is made and pointed. Whoever shapes which loans get made shapes where that money goes.

Where the credit goes matters because credit does different things in different places. Money lent to build productive capacity, to factories, machines, and exports, adds to the supply of goods as it adds to the supply of money. It earns the income that pays it back. An economy can grow quickly this way without much inflation.

Money lent for consumption mostly raises prices. Money lent to buy things that already exist such as land, flats, and shares, raises the price of those things instead. For a while this feels like wealth. Then the loans go bad and the banks that made them stop lending. So, growth does not depend on how much credit a country creates. It depends on where the credit goes.

Japan shows who really drives a growth story and I posit that the government plays the starring role. In Japan, through the Ministry of International Trade and Industry, the government chose which industries to build: steel, ships, machine tools, then cars and electronics. It used the Bank of Japan and the commercial banks to fund that choice. Each major bank received a quarterly limit on how much its lending could grow, and the lending was directed into the chosen industries. The system was called window guidance.

The banks were used as the delivery system for a larger more cosmic industrial plan that the government envisioned. Toyota, Nissan, Matsushita, and Sony did not come from venture capital or open markets. They were built on bank credit that was cheap, patient, and tied to building real capacity. Richard Werner described this from the inside in his book Princes of the Yen, though the quotas and targets are well recorded and do not rest on his account alone. The central bank was the tool, and the state was the hand that used it.

South Korea shows the part that makes the whole thing work. In 1961, Park Chung-hee made credit creation the main tool of policy. He attached one rule he would not bend: firms that received credit had to export and keep exporting. Companies that met their export targets got cheaper credit.

This answers the common worry that directed credit always turns into favoritism. The government chose the industries. The world market chose the firms. Choosing a direction takes only a decision. Sticking to it is harder. It means letting your own favorite firms fail when the world will not buy from them. That discipline is what separated the few countries that broke through from the many that announced plans and then funded failure for years.

In one generation, a country as poor as Ghana was exporting ships, cars, and semiconductors. The scholars who studied this most closely, Alice Amsden on Korea and Robert Wade on Taiwan, were mainstream development economists, not outsiders.

China studied both and used the method on a larger scale. The People's Bank and the big state banks ran their own version of window guidance into the 2000s, pushing credit into infrastructure, manufacturing, and exports. The overcapacity and the unclear accounts are real. So is the main result. Four decades of growth near ten percent a year, and roughly eight hundred million people lifted out of poverty, were funded by a banking system aimed at production. Not by foreign investors, and not by a stock market.

The same tool turns harmful when the aim drifts. That is what happened to Japan after the discipline faded. In the 1980s, window guidance kept running, but now it pushed banks into property and shares. The credit bought assets that already existed instead of building new ones. The result was the biggest asset bubble in modern history, then a banking collapse, then two lost decades. Credit guidance does not stop when a government looks away. It simply starts funding whatever is easiest to lend against. In almost every country, that is land.

There is a second part to this, and it matters more for a country at Bangladesh's income level than for the giants. It is about who owns the banks and how big they are. Germany is the original export economy. It still lends to small firms mostly through several hundred local savings and cooperative banks. These banks are tied by law to their own regions and have no one else to lend to. So, they lend to the small manufacturer nearby.

A system of a few very large banks behaves differently. It drifts toward property, consumer loans, government bonds, and the biggest connected borrowers, because those are the cheapest and largest loans to make. The small producer is slow and costly to serve. So, the shortage of credit for small firms in Bangladesh is not a puzzle. It is what our banking structure was always going to produce. A government that wants credit to reach producers has to build the smaller local banks too.

This brings us back to the people in Dhaka who are closest to credit policy. The method is not secret or even complicated. It has only been out of fashion. Treat the destination of credit as something to measure and guide, not ignore. Steer new lending toward tradable goods, technology, and production. Keep it away from speculation in land and shares. Tie any state support to exports, because nothing disciplines a borrower like a foreign customer. Build the small local banks that can actually reach small producers.

The fastest sustained growth in history came from governments that used their banking systems on purpose. They pointed new credit at production and exports. They held to that aim for decades. They cut off their own favorites when they had to. Bangladesh has the same tool. It has always had it. It has spent its whole history letting the tool run on its own, toward whatever is easiest to fund. The choice that Japan, Korea, and China each made is still in front of us, unmade. It comes down to one question. Where do we want our credit to go, and who will make it go there?

Sajid Amit, PhD, is an experienced development professional, capital markets and macro advisor, with work experience in Morgan Stanley and BRAC EPL, and has been awarded investment research awards by Morgan Stanley and BlackRock UK. He can be reached at [email protected].

Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the opinions and views of The Business Standard.