Macroeconomy Amid Trade War VII

Clashes of the titans in trade May prolong the struggling state.

Bangladesh Bank in a surprising move revealed that exports figure was erroneously inflated by $10 billion in July-March period of the current fiscal year. So it corrected the export earnings for the above duration, shrinking the total exports to $30.8 billion. The origin of the error was attributed to National Board of Revenue, which made "multiple entries" into the database of each shipment. This disclosure was made at a moment when the IMF cleared third tranche of $1.15 billion and Bangladeshi Prime Minister is going to visit China for a 7 billion yuan credit package. Before the error correction, both the trade and current account balances were surplus. Now ,trade deficit is $18.69 billion while current account deficit is $5.73 billion(Source: Bangladesh Bank). This will clearly put huge pressure on the exchange rate. Earlier, in my piece titled "BB's Twin Actions" in May this year,I argued how the depreciation of taka augmented the govt revenue when government was scratching head how to meet revenue target. This time I think the central bank is setting the context for such move. In this fiscal year, NBR collected a revenue of Taka 3.24 trillion against an IMF target of Taka 3.94 trillion. There is already a deficit. For 2025, the revenue target is Taka 4.8 trillion. Despite the tremendous growth in revenue generation, NBR may not achieve this target with its current capacity. The easy solution is to go for the depreciation. Moody's projection of 2% depreciation of Taka by the end of December will make the exchange rate Taka 119.34 against 1 USD. But current reality calls for larger depreciation. If the 7 billion yuan credit package plus the rupee swap unfolds before November 5 ,then we may avoid further pressure on foreign reserves. This somehow partly offsets the need for large depreciation.Anyway, depreciation is good for the economy when govt is pursuing contractionary monetary policy. When the trade war will be intensified, yuan will be further weakened to make Chinese goods more competitive in the global market. Because China has no obligation to comply US suggestion to appreciate its currency amid war. This means we are going to see more depreciation for sure. Now let's see what the macroeconomy will look like taking into account the exchange rate of Taka amid the trade war.

Exchange rate of Taka: More than Taka 117 /USD

Fed funds rate: 5.33%
Chinese policy rate: 3.45%

It will improve the forex reserves by improving both the trade and current account balances. However, it has the potential to deteriorate the inflationary situation. But previously we saw that trade tensions shrank global growth,which lowered demand of major goods. So trade war may translate into lowering of prices of major commodities including crude oil. So this reduction in prices of major commodities in the international market may offset the inflationary situation stemming from pass-through effect. At the same time, interest rate hikes are likely to deal with the inflationary pressure. Government's revenue target will be met through the increased revenue generation resulting from depreciation. More remittances will come from abroad. Export orders will be higher due to trade war and depreciation. Less borrowing from abroad as depreciation works as export incentives.

Fed funds rate: More than 5.33%
Chinese policy rate: Less than 3.45%

Remittances and export earnings will come in abundance but less in volume compared to the previous scenario as return on dollar deposits is high. Trade balance and current account balance will improve but not as much as the one depicted in previous scenario. Inflationary pressure will be higher than previous scenario. Government's revenue generation from depreciation will be lower than the previous scenario. Foreign borrowing will be lesser than previous scenario. Export orders will be lesser than previous scenario.

Fed funds rate: Less than 5.33%
Chinese policy rate: Less than 3.45%

Rapid improvement in forex reserves,trade and current account balance. Inflationary pressure will not matter as foreign goods will be cheaper due to low interest rate abroad. Government's revenue generation will be higher than previous scenarios. Export orders will be higher than any other scenarios.

Exchange rate of Taka: Less than Taka 117 /USD

Fed funds rate: 5.33%
Chinese policy rate: 3.45%

When Taka appreciates, trade and current account balance deteriorate. But inflationary pressure will be low and consumers at home will enjoy the benefit of low prices of commodities stemming from trade war. Less remittances and export earnings will come to the country. Government revenue target will not be met. So govt may opt for costly borrowing from abroad and domestic sources. Debt burden may worsen. Domestic borrowing may worsen future inflationary situation. Domestic goods will be less competitive as export orders will be lesser than earlier scenarios. As Chinese/Vietnamese goods will be cheaper ,Bangladesh may loose market share in nontraditional markets.

Fed funds rate: More than 5.33%
Chinese policy rate: Less than 3.45%

There may be current account and trade deficits. More reliance on Chinese credit. Inflationary pressure will be lower but a bit higher than previous scenario. Government and private sectors may go for costly borrowing. Loss of nontraditional market share to Chinese/Vietnamese goods will be higher than previous scenario due to appreciation of Taka and high interest on dollar borrowing. Export orders will be lesser than previous scenario. Government revenue generation may not meet the target. Low remittances inflow and export earnings repatriation due to high return on dollar deposits.

Fed funds rate: Less than 5.33%
Chinese policy rate: Less than 3.45%

Impact on trade and current account balance is not known. But it will be worse than the scenarios depicted when Taka depreciates. Government revenue generation will not be met. But cheaper borrowing options will be available both for the private and public sectors. Cheaper export credit will help exporters to deal with the appreciation challenges. Loss of market share to competitors will be less than previous scenarios.

Macroeconomy Amid Trade War V

Clashes of the titans in trade May bring the happy state.

Trade tensions between the two major economies shrank global growth in the past. According to IMF, decline in global economic growth was 0.30%. It definitely decreased demand of goods globally. Agricultural outputs concern us a lot as their price levels influence the inflationary pressure at home. In the past, soybeans and soybean related products were subject of trade sanctions. If this time another round of tariff imposed on soybeans and agricultural products, then their demand in major consumption center like China will decrease. But China will substitute its demand for American soybeans with Brazilian soybeans. Soybeans or soya meals are extensively used in making fish feed and poultry feed. Fall in prices of soybeans means fall in prices of poultry feed and fish feed. Consequently, keeping the cost of fish farming and poultry farming low results in low prices of fish and poultry products. On the other hand,Brazilian soybeans may see a demand spike. In general, food inflation will be low if trade tensions push down the price levels of agricultural products. Recent Saudi decisions of paying oil prices with other SDR currencies will play a role in easing the inflationary pressure in the low income countries. Because the countries will be able to get credit in Yuan at 3.45% or Yen at 2% from other wealthy countries or multilateral donor agencies to pay the oil bill, significantly lowering their dependence on dollar credit at 5.33%. Relying on other currencies to pay oil bill will discard the need of borrowing from domestic sources to pay interest and loans taken in dollar. Domestic borrowing often results in printing money and thereby aggravates inflation.

So far this depiction discussion limits to a situation where inflation rate is 9.89%. Now let's see what the macroeconomy will look like when inflation is more than 9.89% and when it is less than 9.89%.

Inflation: More than 9.89%

Fed funds rate:5.33%
China loan prime rate: 3.45%
In this scenario, we may not reap the benefits of low prices of agricultural products like soybeans in the international market. High inflation may eat away the resulting price reduction and domestic prices may not translate the global price reduction. Domestic policy rate will continue to rise. Contractionary policy will be longer. Depreciation will be larger. Pass-through effect on inflation will depend on the domestic production of food grains and exports.

Fed funds rate: More than 5.33%
China loan prime rate: Less than 3.45%
It will make the cost of living really hard. No benefit gain resulting from low prices of soybeans amid trade war. Inflationary pressure will be higher than the previous scenario. More borrowing of currencies like Yuan and Yen to pay the import bills particularly crude oil bills. External debt position may worsen. Delay in repatriation of export dollars. Depreciation of taka will be larger than previous scenario. Contractionary monetary policy will be prolonged. Economic recovery will be delayed.

Fed funds rate: Less than 5.33%
China loan prime rate: Less than 3.45%
Despite the high inflation at home, chances are there that international low prices of soybeans may translate into lower food prices. Because cost of borrowing will be lower than the previous two scenarios. More LCs will be opened. Depreciation will be less than earlier two scenarios. Contractionary policy will be shorter than the two scenarios but a bit longer than any other scenarios because of high inflation.

Inflation: Less than 9.89%

Fed funds rate: 5.33%
China loan prime rate: 3.45%
In this situation,we may reap the benefits of low soybeans prices at the international market due to trade war. Domestic policy rate may stop. Climbing cost of living will come down. Large depreciation is not needed. Contractionary policy will be shorter than the scenario of more than 9.89% inflation.

Fed funds rate: More than 5.33%
China loan prime rate: Less than 3.45%
Cost of borrowing will decide whether we may benefit from the resulting low prices of soybeans. Relatively less borrowing of other currencies compared to the scenario under more than 9.89% inflation. Depreciation of taka will be less than the scenario of more than 9.89% inflation. Contractionary policy will be relatively shorter.

Fed funds rate: Less than 5.33%
China loan prime rate: Less than 3.45%
Ideal situation for economic recovery. Discarding early the contractionary policy. No large depreciation of taka. Low agricultural products' prices at the international market will be fully translated into domestic prices of food amid trade war. Both domestic investment and FDI will increase as cost of borrowing will be low. Foreign credit including dollar credit will be available for both the public and private sectors.

Macroeconomy Amid Trade War III

Clashes of the titans in trade May prolong the struggling state.

Private sector credit plays a vital role in the growth of economy. Private sector makes good use of money. This year govt intends to borrow Taka 1.37 trillion from the banking sector. It will definitely shrink the flow of credit to the private sector. At the end of March 2024,private sector credit was Taka 1517.21 billion,registering a 10.49% growth. Whereas at the end of March last year, it was Taka 1553.69 billion,registering a growth of 12.03%(Source: Bangladesh Bank). Clearly, private sector credit in terms of absolute and relative size declined in one year. Less credit to private sector means less domestic investment, slash in domestic production. This piece sketches how the trade tensions between the US and China influence the macroeconomy by adding the private sector credit factor.

The first piece was written while keeping in mind the private sector credit was Taka 1517.21 billion. Let's see how the scenarios will look like when private sector credit is more than Taka 1517.21 billion and when it is less than Taka 1517.21 billion.

Private sector credit: More than Taka 1517.21 billion

Fed funds rate:5.33%
Chinese loan prime rate: 3.45%
It will depend on how the private sector credit will behave. If the money is laundered abroad then it will do harm. On the other hand, if it is invested back in the economy or is used to pay old debt then some vibrancy in the economy may be observed. More LCs will be opened, more capital machinery will be imported. Revenue earnings will be increased. NBR's revenue shortfall will be narrowed. Amid trade war, private sectors' access to domestic credit will grow. More Chinese credit will be on the table at affordable rate. Government may have to depend less on the banks in this situation. It may improve inflationary situation. No large depreciation is needed. However, private sector external debt may rise. And we may have to stick to contractionary policy for a long time.

Fed funds rate: More than 5.33%
Chinese loan prime rate: Less than 3.45%
In this scenario, chances of laundering of private credit are higher than before. Depreciation of the local currency is needed. Depreciation will be less than the default scenario. Because private sector will have access to more credit. More Chinese credit both for the govt and private corporations. Inflationary pressure will be there but it will be less than the default scenario since private sector credit will accelerate economic activities. However, rising policy rate in the West may slash consumption,affecting export growth of Bangladesh. If private sector credit is used in purchasing govt treasury bills ,then there is no productive use of private sector credit.

Fed funds rate: Less than 5.33%
Chinese loan prime rate: Less than 3.45%
This is an ideal situation for economic recovery. Inflationary pressure will be less. Policy rate hike does not need to be prolonged. Economic recovery will be earlier than any other scenarios. Both the Western and Chinese credit will be available. Western consumption will increase,boosting Bangladeshi export. FDIs will rise.

Private sector credit: Less than Taka 1517.21 billion

Fed funds rate:5.33%
Chinese loan prime rate: 3.45%
If private sector credit drops ,then economic activities will be slower. More depreciation is needed. More interest rate hike over a long period of time is needed to tackle the inflationary pressure. Private sector has to borrow more from abroad especially Chinese credit ,which will be in plenty. It will increase our external debt.

Fed funds rate: More than 5.33%
Chinese loan prime rate: Less than 3.45%
Large depreciation is needed to compensate the exporters. Trade deficit may grow. Long period of contractionary policy is needed to contain inflation. Private sector's dependence on foreign credit ,mostly Chinese,will be higher than other scenarios. Country's external debt position may worsen.

Fed funds rate: Less than 5.33%
Chinese loan prime rate: Less than 3.45%
Inflationary pressure will be less but more than the scenario under more private credit. Economic recovery will be earlier but take longer than the the scenario under more private credit. More foreign credit will be needed for the private sector.

Macroeconomy Amid Trade War II

Clashes of the titans in trade May prolong the struggling state.

In the previous piece ,I depicted a rough sketch on the macroeconomic situation amid a trade war between the US and China. Let's add few other factors to make the sketch a bit clearer. Here I start with adding the crude oil price. The previous piece is based on the assumption that crude oil price is $70/barrel. Now let's see what the scenarios will look like when the crude oil price is more than $70/barrel and when it is less than $70/barrel.

Crude oil price: More than $70/barrel

Fed funds rate:5.33%
Chinese policy rate: 3.45%

It will put pressure on existing import. It has the potential to worsen inflationary pressure. Continuation of policy rate hike for a long period. But tax revenue from oil import will rise. Depreciation is needed to make contend exporters. But depreciation of taka will also raise the revenue. Remittances from the Middle Eastern countries may rise.

Fed funds rate: More than 5.33%
Chinese policy rate: Less than 3.45%
It will worsen the strain of import expenditure. As foreign credits will be hard to get, financing existing import expenditure will see an uphill task. Exporters' cost of manufacturing goods will also rise. More depreciation is needed than the previous case. Inflationary pressure will be higher than the previous scenario. Interest rate hike will be higher and continuation of this policy will be longer than the previous scenario. Revenue earnings from depreciation will be higher but import bill of oil and food grain and other necessary items will cast shadow over it. Remittances may be lower than the previous scenario. Part of the oil revenue may be invested abroad and the the rest will be invested in local domestic infrastructure project. Chinese credit/FDI bound to US may enter Middle East amid trade war. China financed infrastructure project in the Middle East may see less participation of South Asian work force.

Fed funds rate: Less than 5.33%
Chinese policy rate: Less than 3.45%
Less stress on import spending. No depreciation is needed. It will put pressure on revenue earning if NBR fails to meet its target. Remittances will rise. Most of the oil revenue from high oil prices will be invested back in the Middle East. More Bangladeshi workers may find jobs in these countries. Part of the money may be invested in Bangladesh, giving a sigh of relief to Bangladeshi private sector that heavily depends on Dubai and Singapore based banks for foreign credit.

Crude oil price: Less than $70/barrel

Fed funds rate:5.33%
Chinese policy rate: 3.45%
Less pressure on import spending on oil. It will help easing the inflationary pressure. Economic recovery will be early. However, less Bangladeshi workers may find jobs in the Middle East. No bigger depreciation is needed. Chinese investment in Bangladesh may rise.

Fed funds rate: More than 5.33%
Chinese policy rate: Less than 3.45%
Depreciation is needed but less than the default scenario ($70/barrel). Inflationary situation will be better than the default scenario. China will be in a much more comfortable position to grab large share of EU market with weakened Yuan and low oil price. More Chinese credit and FDI for the Middle Eastern infrastructure projects may shrink the opportunity of Bangladesh workers. Less remittance flow than other scenarios. Money supplying measures by Bangladesh Bank will be less than the $70/barrel scenario. Chinese investment in Bangladesh will rise.

Fed funds rate: Less than 5.33%
Chinese policy rate: Less than 3.45%
More foreign credit and FDI will come to Bangladesh. Inflationary situation will be better than all scenarios described so far.Ongoing contractionary monetary policy will not last long. Economic recovery will be earlier than any other scenarios.