Govt borrows more to finance deficit,
Raising debt and curtailing consumption legit.
Govt has decided to peg US dollar at TK 88.And it has instructed banks to enforce it without further delay. The decision came at a moment when US dollar was sold at TK 99 in the open market. In addition, it is implementing the decision when current account deficit reached a record level, $14 billion. Not only that govt is also facing a growing budget deficit. At the start of this year, govt found itself amid controversy after it had disbursed $7 billion of Forex reserve to the banks to contain dollar demand. The matter even prompted IMF to issue serious concern about this unreported incident that had not been reflected in the official reserve figure.
Such pegged US dollar rate may call for more govt intervention. When import expenditure outweighs export earnings and govt expenditure continues to rise, demand for dollar will evidently rise. If there were free fall of Taka against US dollar, then depreciation would work as a mean to curb the growing import expenditure and we would be back on trade surplus. Remittances would rise as a consequence of such depreciation.
Such pegged value of Taka against US dollar may help the govt to go with its development expenditures ahead of election year. However, government finds it difficult to finance its expenditures as trade deficit is rising and remittances keep falling. So we have a growing budget deficit. And to finance the deficit, govt is borrowing right and left.
In 2012-13,our budget balance was -3.7% of GDP. In 2016-17,it reached to -4.8% of GDP. For two consecutive years it remained same. In 2021, it worsened further and became -6.2% of GDP1.
To meet the deficit, government is borrowing both from foreign govt and domestic source. In 2012-13, Foreign financing accounted 1.4% of GDP while domestic financing accounted for 2.7% of GDP.In 2020-21,foreign financing accounted for 2.3% and domestic financing accounted for 3.8% of GDP. In recent years, government hinged heavily on NSD certificates apart from borrowing from domestic banks to finance the deficit. In 2021,govt set a target of raising TK 200 billion from selling NSD certificates2. NSD certificates come with a higher interest rate.
This heavy borrowing in the name of public spending did little help to improve the situation. In this part of the world, culture of accountability is notably absent. We frequently encounter reports of a doomed bridge in the middle of a paddy field or without any approach road. Moreover, corruption and misappropriation of public money rendered the public project a loosing concern. So "public investment" at the end of the day turns out to be public embarrassment and liability. Meanwhile, govt's borrowing from banks and people to finance such “public investment “ projects deprived other private investors to go ahead with viable projects as banks lack fund to finance their projects. Among the private investors those who have close political connection managed to get loan whatever left. Meanwhile, laundering activities put pressure on foreign exchange market. Because of their conducts, export incentives and earnings were misused. So such corrupt and misconceived projects failed to bring return to investment as well as to government coffer. But govt has to pay back the loans along with interest. So the deficit gets bigger and govt has to borrow more. There is some kind of vicious circle. Though there is no clear evidence of a link between budget deficit and current account deficit, a closer look at recent data yields that current account deficit gets bigger with increasing budget deficit. In 2012-13, we had a current account surplus of 1.7% of GDP in spite of having a budget deficit. In 2020-21, current account deficit became 1.1% of GDP. In 2016-17,current account deficit was 0.5% of GDP and rose to 3.6% in 2017-181.
| 2016-17 | 2017-18 | 2018-19 | 2019-20 | 2020-21 | |
|---|---|---|---|---|---|
| Budget Balance | -4.8 | -4.8 | -4.8 | -5.5 | -6.1 |
| CA Balance | -0.5 | -3.6 | -1.7 | -1.5 | -1.1 |
Source:Bangladesh Economic Review 2021
The rising inflation and deteriorating trade deficit will further widen this deficit. Meanwhile, govt is reluctant to increase its tax revenue. Rather, it announced corporate tax cut amid rising govt expenditures. Such fiscal expansionary policy hints that it will borrow more from the banks and foreign governments to finance deficits. In the previous post,I discussed how such tax cut may render useless and risk reversing the intended outcome. Furthermore, borrowing to finance deficit will raise our external debt,which will curtail output in the long run when we need to create more job opportunities.Not only that people who are investing in NSD certificates may find themselves on the loser’s side as they may pay more because of rising cost of living and/or increase in taxes and duties to service debt.
In the name of public spending or "public investment" amid a corrupt and opaque atmosphere,debt financing of budget deficit yields little benefits.Course correction measure for the government will be to check its spending, abandon fiscal expansion and let Taka find its true value as signaled by the market.
Notes And References:
- Bangladesh Economic Review 2021.
- “Budget FY 22: Deficit Financing And Public Spending”,CPD. For more read at https://cpd.org.bd/budget-fy22-deficit-financing-and-public-spending/