How will Bangladesh cope with IMF reform requirements?
In the banking sector, the IMF wants the government to ensure the autonomy of the central bank, to classify loans as non-performing after 90 days of failure to repay, and to allow the exchange rates as well as the interest rates to be flexible and market determined.
The IMF also wants BB to revise its method of calculating the forex reserve. In the energy sector, the IMF seeks the elimination or at least a substantial reduction of fuel subsidies.
In terms of domestic resource mobilisation, the multilateral organisation have, in the past, criticised the country's embarrassingly low Tax-to-GDP ratio and sought reform in tax policy and the implementation of VAT law. Although many economists originally feared that the IMF would also require the GoB to cut down on agricultural subsidies, that condition, for the time being, has not been requested.
Depending on how well the government can negotiate with the IMF, Bangladesh will have to adhere to some, if not most of the conditionalities associated with the loans, eventually.
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How would adhering to the IMF conditionalities affect the economy?
Several factors can determine the answer to this question.
Firstly, the extent and nature of the GoB's ongoing negotiation with the IMF, as well as, the multilateral organisations' considerations and flexibility (given it's funded by the taxpayers of member countries), will determine how far Bangladesh will have to go in terms of the implementation of the reform.
"As the negotiations are ongoing, it is difficult to readily identify the areas in which the GoB will have to concede. Be that as it may, it is certain the we will have to address at least some of the issues identified by the IMF," said Dr Selim Raihan, Executive Director at the South Asian Network for Economic Modelling
Moreover, the conditionalities may not be as stringent as many have been led to believe. There might be some wiggle room. Some believe that as long as the government shows initiative to adhere to the IMF conditionalities, we should be alright.
Professor Mustafizur Rahman, Distinguished Fellow at the Centre for Policy Dialogues thinks that it is likely that the IMF will set some goals for the government that need to be met for each instalment of the loan.
Furthermore, the reforms, in principle, need to make sense for the economy, as many have shown concerns regarding the IMF's record of recommending 'one size fits all' policy prescriptions in the aftermath of the Washington Consensus, especially in the 1980s. Finally, the efficacy of the reforms will also depend on the amount of time afforded to implement these reforms.
Reviving a banking sector in shambles
The country's banking sector is in shambles with an oversaturation of banks and non-bank financial institutions, financial scams and a high degree of non-performing loans.
Moreover, the central bank, at least initially, refused to let go of the Taka and still holds on to a rigid lending cap, despite rising demand for the dollar as well as cost-push inflation.
But it is futile to blame the central bank alone for this as experts, as well as, international development partners, have blamed Bangladesh Bank's lack of autonomy and influence of discretionary forces on the banking system, for this debacle.
According to them, Bangladesh Bank often has to rely on the Ministry of Finance and the power that be before introducing a policy that could address fluctuating macroeconomic trends. And to the extent, these power brokers can influence the system, they and their cronies can also get away with non-performing loans and financial scams.
However, as Dr Selim Raihan, said, "It is unlikely that Bangladesh Bank will be able to immediately address issues like non-performing loans or the mushrooming of banks. Implementing these policies will take considerable time."
"Bangladesh Bank will likely remove the cap on lending rates which should somewhat restore investor confidence in the market," said Dr Mustafizur Rahman, Distinguished Fellow at the Centre for Policy Dialogue.
Dr Selim Raihan, agreed with the assessment. However, he believed that the central bank might not entirely do away with the lending cap but simply raise it from 9%.
Doing so would make borrowing more costly, especially for SMEs, and may cause a transitory rise in unemployment as well. On the other hand, a rise in lending rate would also increase deposit rates. Consequently, ordinary citizens might be more interested in saving with the banks instead of holding on to their money or purchasing assets.
The IMF may also seek reforms with the national savings certificate, which according to them, has market distorting effects.
If Bangladesh Bank does adhere to these requests, i.e., rationalises interest rates on savings certificates, the middle and lower-middle class citizens class will be adversely affected as many of them depend on the interest from savings certificates as their primary source of income.
Dr Mustafizur Rahman believes that even if Bangladesh Bank does not entirely let go of the managed float exchange rate regime, it may further depreciate the currency. Further depreciation will make imports more expensive and further raise food and non-food inflation.
Tax reform and domestic resource mobilisation
When it comes to domestic resource mobilisation, Bangladesh has one of the lowest tax-to-GDP ratios in the world, even lower than most Least Developed Countries, thanks to the inefficiency of the National Board of Revenue (NBR) and the GoB's reluctance to reform existing tax policy. The low revenue collection leaves the government too fiscally constrained to substantially invest in education, health care or social security.
Reforming tax policies and the NBR would likely take many years. But at the same time, it would increase the tax collectors' capability to collect revenue, make tax avoiders responsible and allow more flexibility to the government in implementing and expanding its budget horizon.
If implemented correctly, a government with increased fiscal flexibility might be able to expand its social safety nets to more vulnerable citizens of the country. In the long term, ambitious policies such as universal pensions schemes or universal health care may also become viable. Fiscal flexibility will also allow the government to stimulate the economy in times of crisis and won't have to pick and choose between the working class and the business community, as was the case during the Covid-19 pandemic.
A potential hike in power tariffs
In terms of fuel subsidies, most of it is spent by the Bangladesh Power Development (BPDB). The BPDB's chronic lack of profitability requires the government to subsidise it in order to keep energy prices low and the problem stems from exponentially rising capacity payments to idle plants owned by rentals, quick rentals and independent power producers and the government's reluctance in adopting renewable sources of energy.
The IMF will likely require substantial reduction of fuel subsidies. And no matter when these reforms are implemented, the GoB is going to have to take some difficult decisions.
If the GoB decides to adhere to this policy, it will either have to allow the BPDB to raise electricity prices which would have a multiplier effect on the economy and raise price levels, much like it did when diesel and octane prices rose in August.
As Dr Raihan said, "The ordinary citizens will likely experience a hike in their utility bills if the government decides to cut down on fuel subsidies."
The only way to avoid this hike in power tariff would be cancelling the contracts with idle power plants, stopping LNG imports from international spot markets, prioritising domestic gas exploration and embracing more renewable forms of energy.
But implementing these structural reforms will require time and whether or not the GoB is granted this time remains to be seen.
Other issues such as the IMF's request to publish quarterly GDP reports or reform the BB's way of calculating the foreign exchange would also increase the transparency and allow economists better predict the course of the economy.
The GoB could have done this before
There seems to be a consensus among economists regarding the reforms requested by the IMF, as veteran economists have recommended these policies time and again in the past to no avail.
"Economic reforms like these should have been taken on the back of long-term macroeconomic stability, as Bangladesh exhibited in the recent past. But if the GoB tries to hastily implement these reforms now to meet IMF requirements, that might worsen the existing inflationary landscape," said Dr Selim Raihan.
Such reform should have been undertaken when the economy had been in stable condition and not in its current precarious state.
Dr Selim Raihan added, "The government has accumulated these problems over the past decade or so and refused to address cries for reform. Now that they are on the back foot, their hands are forced to address at least some of the issues plaguing the country."
In terms of implementation, the government obviously cannot immediately implement all of these reform policies at once or immediately. The economy is in dire condition and would need to get back on track for any of the reform policies to be properly implemented.
If the GoB again makes the mistake of not listening to its home-grown economists and introduces abrupt reforms for compliance purposes, the effects could be disastrous for the already deteriorating macroeconomy.
What will the loan be used for?
The loan from the IMF would be used to ease the pressure on the balance of payments and to lend support to the government expenses. Given the banking sectors' difficulties with LC settlement, it is likely that a considerable share of the loan will be used to address this issue.
Bangladesh is also scheduled to start repaying loans on many of its megaprojects in the coming years. In that regard, the loan will likely cushion the Forex Reserve from depleting too much and increase the resilience of the external sector.
If accepted, the funds for the $4.5 billion loans will be supplied from the IMF's Enhanced Credit Facility (ECF), Enhanced Funding Facility (EFF) and the newly created Resilience and Sustainability Fund (RSF), each providing $1.5 billion. The RSF was introduced to cushion economies from external shocks like the one experienced by Sri Lanka.
