Monetary policy should be accommodative, not ultra-tight one: Task force

The Bangladesh Bank should adopt an accommodative monetary policy instead of an ultra-tight one, as recommended by the task force on re-strategising the economy and mobilising resources for equitable and sustainable development. 

The report submitted to Chief Adviser Muhammad Yunus Thursday night recommended adopting the monetary policy with a moderate tightening of the money supply that may keep lending interest rates below 15% to encourage more investments and productivity growth, gradually dampening inflationary pressure.

The central bank has used a combination of interest rate adjustments and reserve requirements to try to control inflation. Consequently, it has increased policy rates by 10%, leading to lending interest rates to over 15%, which has made investments costlier, says the report. 

This ultra-tightening of the money supply might not have produced better results due to the weak monetary transmission process in a weak financial system for overall aggregate demand management. As a result, higher interest rates made domestic products costlier and contributed further to inflation, it observes. 

The task force report says the RMG sector, the major exporting industry, faces a dire state in repaying the loans as it is difficult for them to adjust the prices of their products in the international market due to high-interest costs. 

"Moreover, monetary tightening alone is often insufficient when inflation is driven by supply-side factors like food shortages or global commodity price increases," it says. 

In its report, the task force recommended forming a Monetary Policy Committee with voting rights to pursue a credible policy and bringing discipline in the financial sector with cautious liquidity support to the crisis-prone banks.

It says a credible and independent central bank is essential for controlling inflation expectations. "In the process of deciding policy rates and their possible consequences, the current monetary committee consists of seven members [four from BB and three from outside) who mostly rely on Bangladesh Bank's policy suggestions in the absence of their voting rights."

For this, a strong monetary policy committee with monetary experts having voting rights, like the one in the Reserve Bank of India (RBI), might increase the credibility of the monetary policy framework, says the report. 

"It is necessary to review whether providing liquidity support by printing money to crisis-prone banks can lead to inflationary pressure. BB must be careful in public communication while dealing with crisis-prone banks."

The task force says if the liquidity support boosts confidence among the depositors and leads banks to invest in industrial production, it might help reduce inflation in the medium-to-long run.

It says the relations between policy rate hikes and inflation must be assessed periodically, and how interest rates and credit channels respond to policy rate hikes must be clearly spelt out for proper demand management.

The task force report on re-strategising the economy was handed over to the chief adviser by Education and Planning Adviser Wahiduddin Mahmud at the Chief Adviser's Office in Tejgaon, said CA's press wing.

The 12-member task force was formed on 10 September to reframe the development strategies, find out leakages in the financial system and restore discipline in project implementation, said CA's Deputy Press Secretary Abul Kalam Azad Majumder.

Exchange rate management to maintain short-term stability and long-term flexibility

The task force report says exchange rate volatility led to significant inflationary pressures in Bangladesh during the last two and half years, with a more than 35% depreciation of the Bangladeshi Taka against the US Dollar. As a result, being a net importer country, the cost of imports rises, which fuels inflation. 

Though BB often intervenes in the foreign exchange market to stabilise the currency when necessary, depleting foreign exchange reserves tied its hand to intervene, allowing further depreciation at the advent of rising imports and squeezing exports and remittances, it observed. 

The task force further says the current crawling pegged system might work in the short-to-medium term to stabilise the Taka. "However, these policies warranted to be undertaken at the early stage of currency volatility, which had not happened due to weaknesses of policy capacities."

Government budget and debt management

The task force report says fiscal policy must be aligned with monetary policy to manage inflation expectations. 

"If the government runs large fiscal deficits and borrows excessively, it can lead to higher inflation expectations, as people fear that excessive money supply growth will drive up prices," it says, mentioning that maintaining fiscal discipline through controlling budget deficits and public debt can help avoid excessive government spending that could stoke inflationary pressures. 

"Public spending policies must prioritise productive investments [e.g., infrastructure, education] over consumption-based expenditures that could inflate demand unnecessarily," it warns. 

Supply-side policies as recommended by task force to fight inflation

The supply-side policies recommended by the task force include easing imports of food and essential items by reducing LC margins and tariffs; increasing competition among the importers of edible oil, sugar, LNG, etc; and cautious attempts for energy price adjustments.

The report also talks about establishing a sustainable market monitoring mechanism to control prices, which involves tracking supply, demand, and price fluctuations in real-time. It says government agencies, such as the consumer directorate or the competition commission, should oversee this process, gathering data from producers, retailers, and consumers. 

"They should analyse trends to identify price manipulation or speculative activities that could harm market stability. If price anomalies are detected, measures such as price caps, penalties, etc. may be introduced to prevent excessive inflation," it added, mentioning that timely intervention would prevent economic distortions and promote a sustainable market system. 

The task force also recommended the enforcement of strict laws, increasing surveillance, and imposing severe penalties on offenders to combat extortion during goods transportation.