Bangladesh was one of the fastest-growing economies in the world until 2019. In the past decade, Prime Minister Sheikh Hasina led the country through an extraordinary episode of economic growth, a sustained accumulation of human, physical and social capital, and a persistent decline of economic vulnerabilities on many indicators.
Under her leadership, in 2018, Bangladesh met all three criteria to become a developing country, and was set to graduate by 2024. While the prime minister has been successfully pursuing her Vision-2021, her government has been moving towards achieving a broader set of sustainable development goals (SDGs) by 2030.
Then came the coronavirus pandemic – and locked down modern life and businesses. The world economy is now facing the risk of a prolonged recession and Bangladesh is no exception. Covid-19 is reversing many of our critical developments of the past decade.
The government has been bold in addressing the initial phase of this unprecedented challenge. However, as the Covid-19 crisis is still evolving, the government is facing a critical financing challenge to balance between lives and livelihood.
Bangladesh cannot run fiscal deficits too large and for too long. And surely, Bangladesh, like other emerging economies, does not have "the US-style exorbitant privilege of having a reserve currency and borrowing in its currency."
A prolonged external account imbalance, due to excessive dissaving by either the government or the private sector or both, will harm Bangladesh's macroeconomic stability. It may also cause a balance of payment crisis.
So the planners are constrained by a difficult goal of keeping external account imbalance within limits. A policy question is how much space the planners have now in the face of unprecedented health and economic shocks which followed the outbreak of Covid-19 pandemic.
My argument is that Bangladesh is better positioned than many other developing countries. The country can finance a fiscal deficit of 10-20 percent of its GDP over the next 18 months. I predict a wide range of fiscal deficits over an extended period because of mounting uncertainty surrounding both revenue and expenditure plans of the government.
This is, however, not a critical problem for the government. The debt/GDP ratio of the country is 35 percent, which is considered "low" by sovereign rating agencies. Covid-19 pandemic has indeed decimated parts of our aggregate demand. Household consumption, private sector investment, government spending, and net foreign spending on domestic goods are all contracting. Aggregate supply too is contracting for a variety of reasons, including nationwide lockdown, lack of labour mobility, and supply chain disruptions.
The risk of an economic slump is still large. The critical challenge is that money and liquidity directly flow to the public health system, vulnerable households, and businesses.
The government has been primarily focusing on the provision of liquidity to households and businesses. It floated a series of monetary interventions in the form of "targeted lending programmes" by the central bank. Some of those schemes incorporated interest subsidies within the framework. Interest rates were also mostly capped within single-digits, a public policy goal of Prime Minister Sheikh Hasina.
Those stimulus schemes are in-progress and their rules are evolving. One would expect that credit and liquidity flow would accelerate to households and businesses in the months to follow. Bangladesh Bank is also keeping an accommodative monetary policy. It is argued that the central bank would need to bring down the repo rate to 4 percent and the risk-free interest rate on T-bills and T-bonds to the range of 5-6 percent.
I will argue that this monetary development will prove crucial for the stimulus schemes to be effective. We have observed some downward movements in these key rates but still, they are far from the target.
I feel Bangladesh Bank is aware of this challenge. The fundamental criteria of these lending programs should be that liquidity flows to those businesses which were otherwise profitable and solvent until 31 December 2019.
Even if the central bank keeps pumping money into the financial system pushing the key rates down as envisaged, some people are skeptical as to whether credit flows will rise to the private sector. Their fear is related to mounting uncertainty about corporate solvency.
It is somewhat valid that Covid-19 is eroding corporate profitability, liquidity, and ultimately solvency. Lenders are facing growing credit risks. But the perceived credit risk is exaggerated. I predict that excess liquidity in the financial system will soon translate into falling interest rates and rising credit flows to the private sector.
An argument for credit guarantee scheme is being forcefully put forward by bankers. It is, however, unclear if credit guarantee schemes would resolve this information problem in the credit market. Empirical evidence on this is mixed around the world.
Credit guarantee schemes may rather create a new risk of adverse selection and new fiscal burden for the government. A middle-of-the-road policy may be that treasury and banks share this credit risk at some reasonable ratio and only for unsecured SME credit market. Another alternative may be that banks exercise wider flexibility in the pricing of SME loans.
Finally, bankers must take back some power from controlling shareholders who are dominating the boards and corrupting the loan intermediation mechanism. Bankers can't deny their critical fiduciary duty that loanable funds are employed only for productive ends. Bankers are sadly weakened in the overall corporate governance system.
The role of the regulator is to restore the power balance between management, corporate boards, shareholders and depositors. We need a financial system which is well governed, transparent and free from absolute control of family owners, and/or their cronies.
We need a banking system which shall cater to credit demand of millions of small and medium enterprises. It is hoped that the 'targeted lending programs' would prove effective to this end. Bangladesh under the leadership of Prime Minister Sheikh Hasina will surely emerge stronger after Covid-19 pandemic.
Dr Mizanur Rahman is a Commissioner of Bangladesh Securities and Exchange Commission. Views are his own and not of the Commission. Any error is solely the author's personal responsibility.