Transition from the pandemic and beyond

Bangladesh's economy is recovering from the pandemic. The challenge is to keep it going, prepare to face the new rules of the international trade game after LDC graduation, deliver on the SDGs and march towards the envisioned high-income country status by 2041.

Covid recovery

The economy is transitioning from the pandemic induced low towards the pre-pandemic state. Employment, labour income, business profits, trade, and credit are on a recovery path. Recent World Bank survey data from poor areas in Dhaka and Chattogram suggest a gradual restoration of livelihoods to pre-pandemic levels.

There are four challenges in keeping the recovery going:

Managing macroeconomic pressures: Cost-push (energy, transport) is likely to drive inflation up further the rest of the year. We need to revisit the energy pricing policy which seems to have shifted from keeping it upwardly rigid (pre-2009) to downward rigidity (last ten years). It is best to link domestic energy prices with movement in international prices based on a logical and transparent formula.

There is pressure on the exchange rate (1.2% depreciation in the last six months) and reserves. The Bangladesh Bank has sold $2.2 billion in the last half of this year. The IMF says official foreign exchange reserves are overstated by $7 billion. The lesson here is not to be complacent on the adequacy of reserves.

Bangladesh is currently facing an "impossible trinity" problem: (i) keeping inflation within the 5.5% target, (ii) managing exchange rate to prevent too much, too fast depreciation (to not exacerbate import cost push) while containing the drain in forex reserves, and (iii) boosting credit growth from 9.4% in October to 14.8% by June 2022 while keeping the lending rate at 9% for all credit. The Bangladesh Bank's foreign exchange sales to keep exchange rate stable are drying out liquidity in the money market, where public borrowing is increasing, the demand for credit is rising and the balance sheet weaknesses masked by regulatory forbearance are unravelling. Term deposit rate, floored at the inflation rate, is rising. Injecting reserve money through repo operations is unlikely to be useful in funding bank loans to industry when banks hit the lending rate ceiling most likely sooner than later. The Bangladesh Bank does not have enough instruments to simultaneously control inflation, exchange rate and credit growth when the lending rate is administratively fixed at 9% and the external balance is under pressure.

Reforming interest rate regulation: Ideally, interest rates should be left to market forces, as was the case before April 2020. Caps, if any, should be based on credit supervision cost and risk to prevent rationing out hard-to-reach borrowers. But this point is academic in the context of the prevailing policy mindset.

Given the lending rate cap, banks are facing the prospect of narrower spreads as the deposit rate gets pushed by the rising inflation rate. This has elevated the risk of financial disintermediation and expansion of shadow banking. The interest rate floor notwithstanding, depositors are vulnerable if their banks are not healthy.

What is an alternative "second-best" solution? Instead of capping the lending rate, the Bangladesh Bank can consider capping the spread around a reasonable level. The lending rate could be set equal to a predetermined spread plus the inflation rate. This will mitigate the risk of decreased supply of credit due to rising inflation.

Prudent fiscal expansion. The level of public debt has increased by about 4% of GDP in the last two years but, with total public debt currently at 40% of GDP the risk of debt distress is still low because of favourable debt dynamics (negative interest-GDP growth differential, manageable primary deficit). Below the line shocks (contingent liabilities, repayment of expensive suppliers' credit, valuation effects) and rising cost of external finance are concerns in the medium and long terms.

I used to think that the joke monetary policy (read Quantitative Easing) works in practice, not in theory, while fiscal policy works in theory but not in practice (legislative gridlock in passage) applies only to the US and Europe. The pandemic made me realise it is also relevant to Bangladesh! Of the total policy response to the pandemic, no more than one-fourth is fiscal (IMF estimate) and that too is hampered by structural bottlenecks (such as lack of data on eligible beneficiaries) and implementation rigidities.

The problem of excessive reliance on monetary policy is the limited inclusion of the fit-for-purpose financial institutions (MFIs, MFS) and the incompatibility of credit, no matter how concessional, with the support needs of what Dr Debapriya Bhattacharya has dubbed the "left behind" and "pushed behind".

Research since the Reinhart-Rogoff (2010) paper on growth optimal debt levels (90% for advanced and 60% for developing economies) has debunked, both theoretically and empirically, the idea that government debt becomes problematic at some precise level. What debt is for is far more important. Debt incurred to prevent a collapse in livelihoods is quite different from the debt incurred to fund overly ambitious government's agenda and "vanity" projects.

Spending on vaccination, targeted cash transfers and support to cottage, micro and small enterprises (CMSEs) in rural and urban areas should not be constrained by debt sustainability concerns and, for that matter, revenue mobilisation.

Covid management: Omicron probably will not cause as much havoc as its predecessors because the global community and science are now better prepared. However, Omicron is a serious reminder that the pandemic has not ended.

We need a data-based assessment of how interventions to "flatten the virus spread curve" worked in Bangladesh. We have some research-based evidence on the effectiveness of various strategies on increasing mask-wearing and the impact of community mask-wearing on rates of Covid-19 infection (Jason Abaluck and Ahmed Mushfiq Mobarak, September 2021).

We do not have any data-based assessment of how effective lockdowns (the versions we tried with varying degrees of stringency on the ground) were in flattening the curve. All we know is they severely disrupted livelihood systems, especially in urban areas. Systematic learning from experience could help shape better such draconian public health policy responses going forward.

SDG delivery, LDC graduation and HIC ambition

The pandemic elevated vulnerability to the same level of significance as inequality and low productivity. These are mutually reinforcing processes.

Vulnerability and inequality are two sides of the same coin. Each side needs serious attention. We seem to have an exaggerated estimation of our resilience – the capacity of individuals or groups to secure favourable outcomes under adverse circumstances. If a family survives eating less than three meals a day, is that resilience? To me, this is helplessness. Covid has unravelled the bounds and depreciated the resilience of the poor and the vulnerable. Whatever shallow capacity (savings, real assets, access to credit, social support) they had, is now probably used up in large part.

SDG delivery must reprioritise vulnerability reduction. The chronically insecure cannot limit risks and overcome vulnerability unless they are supported by the State to provide them with basic security. Technology and investments may be handy in pursuits such as building vulnerability reducing infrastructure, pushing for universal social protection and more e-government. However, insofar as these measures merely paint over the extractive institutions, they may deepen inequities and vulnerability over time.

LDC graduation will change the game in international trade and finance for Bangladesh. Achieving HIC by 2041 would require some doing. It is hard to disagree with any of the items in Debapriya's wish list in these regards presented in the closing session of the CPD Conference on "Bangladesh Emerging from the Pandemic: Coping Experiences and Policy Choices" (13 December). It is also hard not to be sceptical about how many of those are likely to be realised, not to speak of when, unless we are able to pull together social and economic policies that address the pain points underlying inequality, vulnerability, and low productivity.

Let me conclude highlighting the ones that seem to me to be very, if not most, critical.

Dysfunctional cities. The agglomeration economies in Dhaka are now far outweighed by the congestion costs. Dhaka is no longer a city that creates business ecosystems where firms can obtain the specialised inputs they require, enjoy easier access to their customers, knowledge, and ideas "spill over" across firms, and workers have unencumbered access to urban amenities and opportunities. In the BIDS Conference on Development (2021), we learned from Ahmad Ahsan (former Lead Economist, the World Bank) that frequent traffic jams in Dhaka eat up 2.9% of GDP.

Gender disparities: Bangladesh is among the few in South Asia where female employment increased in the last decade while also cutting the wage gap. However, women still have limited choices, control and decision-making power over their employment, finances, and economic assets. Despite reduction in child marriage in the past decade, about six out of every ten girls still get married before age 18.

Rent seeking and corruption perpetuate productivity, depressing inequality. Corruption, for instance, has been associated with lower access to education, lower levels and effectiveness of social spending, and negative impacts on health indicators. Rent seeking, the demand side of corruption, provides an easier alternative to production for obtaining financial benefits.

Role of the state: Despite lack of trust in government institutions, the global financial crisis in 2009 and the pandemic seem to have made a compelling case for the state to have more power to regulate individual and market behaviour. The pandemic has elevated the importance of nationwide collective action in contrast to the government's do-it-all-alone approach.

How far can we go on expanding the role of the state? Will more of the same public management model change the game? What will keep the state under control? Transparency and accountability for business and bureaucratic behaviour, as well as structural reforms that level the playing field, are therefore the key. Glorification of "resilience" while glossing over the cointegration between vulnerability, inequity and low productivity tends to shift focus from public accountability to complacence.