Who Is Running The Narrative Mill?

As tools to change economy's fate, Under scanner are real policy and exchange rate.

Recently, a strong argument was put forward against pursuing high policy rate and depreciation of Taka against USD in the past. The two key policy decisions have been termed as a result of specific narrative. The argument came from a gentleman who is executive director of a local think tank. I am a bit surprised by reading the opinion piece and expected more economic reasoning behind such argument. (See "Shud Har,Mudra Binimoy Har Ebong Mullo Sphitir Boyaner Punorbhabna(Rethinking The Narrative Of Interest Rate, Exchange Rate and Inflation)", Sajjad Zohir,February 16,2025,Daily Bonikbarta )

The gentleman belongs to the same school of thought who believe raising the policy rate is not the solution to tame the inflation and transitory effect of depreciation worsens the inflation.

In the past,we heard argument that higher tariffs on commodities barred bringing down the price levels. For edible oil and sugar, the NBR should not have lifted off the tariffs since the two are major sources of revenue. And the decision cost the govt at least Tk 3156.5 crore (See "Where Is The Change?" published here on January 18,2025).Now govt is facing a revenue shortage(27% of the first half of current fiscal year) amid high inflation and chronic soybean oil shortage. For five long years, we have not raised the interest rate enough to beat the inflation. Rather, sticking to 9% and 6% rates for all these years led to massive money laundering. To meet the liquidity crisis of the banks, the central bank literally printed and injected money into the trouble ridden banks.

High interest rate worked as a screen to discourage potential money launderers from taking further loan. It also helped the govt to check its spending on interests of National Savings Certificate(NSC). High deposit rates and restrictions diverted money from non-bank savings to other sources(see the MPS, page-10).

Govt's heavy borrowing from banks is another reason for not having enough money at the banks. Public sector credit growth (18.1%) is higher than the projection(14.2%). So there is not enough of the pie left for the private sector. This is happening when foreign budget support is drying up.

Governance crisis in the banks is the main reason many clients feel shy to go to the banks. However, the governor claims many clients resumed depositing money into trouble-ridden specialized banks. Bangladesh Bank claims tight liquidity situation is due to continuous support of the subsidized Taka against USD, poor recovery of credit,cash holding, size of NPL and dismal state of deposit growth( see the MPS, page-10).

Real interest rate has only become positive in January 2025 if our inflation reading is correct. It is true that large depreciation causes inflation through transitory effect in the short run. But look at the timing of our depreciation: once it was done when crude oil price was falling. Now prices of rice and other commodities are falling. This somehow offset the pass-through effect of depreciation in the long run. I somehow find the statement depreciation causes domino effect of inflation a bit banal. When nominal interest rate is below inflation rate,the central bank intervenes and raises the policy rate,causing the local currency to appreciate against major currencies. It holds back the currency to depreciate further. Meanwhile, the new exchange rate of Taka attracts export order and remitter. This is indeed the case. Last year, despite the political turbulence, our RMG export registered 7.23% growth and remittances registered 22% growth. Riding on this achievement, our overall Balance of Payment deficit declined to $384 million in FY 2025 from $3.5 billion in FY 2024(see The MPS,page-14). This further stabilizes the local currency and thwarts the depreciation pressure ( more USD coming in then going out).

If the central bank were stuck at the old exchange rate, then it might have to sell more USD from reserve (which is now more than $20 billion),print and inject more Taka into the system (worsening the inflation), to increase the size of NPL,leading to a macroeconomic disaster.

Another good thing about large depreciation is that it works as incentives both for the exporters and the remitters. The extra Taka the remitter/exporter get will help him/ her to mitigate the loss from inflation and higher policy rate. Govt also saves the money given as incentives to these two groups. Previously govt gave 5% incentives to remitters. It has now become 2.5% and this costs the govt Tk 70 billion every year,as claimed by the governor himself. We can still save this Tk 70 billion, by discontinuing this 2.5% incentive and without disrupting the remittances inflow.

Despite high interest rate, undocumented money or money at hand is not coming to the banking system due to governance or political reason. Some of the areas where undocumented money may find the safe sanctuary are real estate, IT and the stock market. Scam ruined the IT sector. Political uncertainty and misaligned interest rate bar developers to undertake new project in the real estate. In addition, govt doubled the registration and reregistration fees in a bid to boost revenue earning amid revenue shortfall,discouraging owners/buyers to sell/buy property. Again undocumented money not coming to the system is mainly due to political uncertainty and governance situation, which caused the macroeconomic instability.

I still do not find any logical explanation why he thinks real policy rate or real exchange rate concepts are mere "narrative". If real interest rate is negative, then investing the pension money into interest- bearing assets of local institution and govt will ruin millions of employees including those from public and private think tanks.This is what the IMF laid bare in their discussion with the Pension Fund Authority , which intended to invest pension fund into NSC when inflation rate surpassed nominal interest rate.

Yes it is true that inflation is sometimes wielded as argument to raise the salary. But it is true for those affluent countries where collective bargaining is strong and government is no short of resources. Neither of the two presents here. So the argument inflation is put forward as a reason to salary hike is not true for Bangladesh.

Misaligned policy rate ,pegged exchange rate and high inflation are some of the reasons international credit rating agencies in unison downgraded our credit ratings. Singapore and UAE based banks charge more conditions and interest rate to lend us credit. Most importantly, I have deep faith in standard text books which never include mere "narrative".