Critically discuss the statement that high interest rate in hindering the private sector investment in

Bangladesh. (15 marks)

The recently announced six-monthly Monetary Policy Statement (MPS) by the Bangladesh Bank
indicates that the monetary policy in Bangladesh has so far restrained the growth-conducive productive
economic activities by way of limiting access of the private sector to credit and lowering the import of
raw materials, intermediate goods and capital machinery.

The new monetary policy has been announced when the economy of Bangladesh is confronted with the
problems of a slowed-down growth rate of its gross domestic product (GDP), decline in investment,
depreciation of Taka, continuation of inflationary pressure, and faux-pas in fiscal management. No
restrictive or contractionary monetary policy can address such problems effectively, more so in a
developing economy like that of Bangladesh.

The central bank has termed its current half-yearly MPS as 'balanced' monetary policy. This is for the
fourth time in a row the Bangladesh Bank has otherwise been pursuing such a monetary policy which
is, by essence, contractionary in nature, though it has variously styled those policies as 'restrained,'
'expansionary' 'balanced' etc.

The recently-announced MPS has targeted to ensure access to credit and promotion of the growth-
conducive productive economic activities through the twin measures of increasing private sector credit
by only 0.5 per cent and reducing all repo rates by 50 basis points. This is a matter of concern that
during the last six months the availability private sector credit was at the lowest in the last four years
and even this target -- the lowest one -- has not been achieved.

Private sector credit increased by 17.41 per cent in November 2012 against the target of the related
monetary policy at 18.3 per cent. It is also found that the access to credit during the rest five months of
this fiscal year is not sufficient to achieve the annual 7.2 per cent growth rate of GDP.

Net domestic assets increased by Tk. 541.796 billion or 13.47 per cent in November 2012, compared to
November 2011. On the other hand, net foreign assets increased by Tk. 320.499 billion (51.35 per cent)
in November 2012, compared to November 2011.

The goals of an inflation-targeting MPS alone, without considering the needs for proper fiscal
management, is not are well-nigh impossible to achieve. The lower international food price has been
the main reason behind the lower rate of food inflation for a considerable period of time until recently
in Bangladesh whereas non-food inflation has been increasing. Moreover, the observed moderation of
inflation from a peak of 10.96 per cent in February to 8.74 per cent in December 2012, though still
high, cannot be attributed by any means to any contractionary monetary policy. On the other hand, non-
food inflation increased from 11.15 per cent in June to 11.45 per cent in December, 2012.

There is also a negative impact of a tight monetary policy on import of intermediate goods, industrial
raw materials and capital machineries. Imports of capital machinery and industrial raw materials fell by
28 per cent and 6.31 per cent respectively during July-November period of the current fiscal year,
considering the settlement statistics in Bangladesh.

The growth prospects of the economy may be adversely affected while the failure in meeting export
targets may also pose a challenge to the attainment of the GDP growth target. In the month of
November 2012, total export earning stood at USD 1765 million against the corresponding target of
USD 1990 million -- a shortfall of 11.35 per cent.

In the month of November 2012, most of exports showed a downward trend of growth. In the month of
October 2012, export earnings from tea, fish & shrimp, readymade garments (including knitwear and
hosiery), fertiliser, and others (including EPZ) decreased by Tk. 10 million, Tk. 2210 million, Tk.
11640 million, Tk. 1290 million and Tk. 3400 million respectively compared to the corresponding
figures of October 2011.

The exchange rate of Taka has not been stable yet, in spite of purchasing 2.6 billion dollar by the
Bangladesh Bank to increase the reserve money.

It is to be noted that the depreciation of Taka against USD raised the value of import bills (measured in
Taka) which induces trade deficit. During the last six months of the current fiscal year, the average
exchange rate of Taka against USD was Tk. 81.39 -- Tk. 5.49 more than that of the same time of the
previous fiscal year.

Moreover, it can be added that the increasing savings-investments gap, the short-sighted fiscal-
monetary policy mix stipulated in the IMF-MEFP, inflationary pressure and confrontational politics
may hinder attainment of the desired level of growth in fiscal year (FY) 2012-13. For FY 2012-13, the
government targeted a 7.2 per cent rate of growth in GDP.

The lending rate has been increasing more than that of the deposit rate, albeit with a higher gap
between these two rates of interest. This hinders private investment. The spread on lending and deposit
rate expanded to 5.41 per cent in November 2012 from 5.23 per cent of November 2011. To implement
its monetary policy, Bangladesh Bank increased its rate of lending by 0.33 per cent in August, 0.23 per
cent in September and 0.11 per cent in November of FY 2012-13 over the same time of the previous
fiscal year.

Several studies have been conducted regarding these issues and the policies are being highly criticised.
Bangladesh needs to acquire momentum in private investment through reforming financial institutions
and removing political uncertainties if it wants to take the GDP growth to ‘Super Bangla Growth’ rate
of 8 percent from the existing 6 percent.Bangladesh now needs ‘Super Bangla Growth’ like 8.0 to 10
per cent, and that implies acceleration of private investment. The GDP growth has remained stuck at 6
percent for years. The 6 percent growth rate can be called as ‘Bangla Growth’. If it is to hit ‘Super
Bangla Growth’, by 8 percent, private investment has to be increased.

Attaining a 8 percent growth is challenging one but not impossible however. To achieve the target, the
rate of private investment should be raised to 25 percent from the existing 18 percent. The private
investment has remained stagnant since the January-5 parliamentary elections. Capital flight was taking
place in the forms of money laundering, trade mispricing and remittance outflow from the country.

Due to political uncertainty, the room for political coexistence and freedom of expression are shrinking
day by day. On one hand, there’s no growth in private investment and siphoning off money on the
other. According to sources, it is known that in 2012, $ 1.8 billion was siphoned off from Bangladesh.
Therefore, the uncertainty still there in investors’ minds and that has to be removed. Institutional
capacity of Bangladesh couldn’t catch up with the pace of economic development.
According to the economists, attaining even the Bangladesh Bank-estimated 6.5 per cent growth in the
current fiscal year would be a daunting task for the government. Three reasons behind the low private
investment in the country in recent years had been identified. First comes lack of land, infrastructure,
and utilities–power and gas. The second obstacle is lack reforms needed to modernize its services to
facilitate the private investment. The government Had taken many reform initiatives in 2009-10, but it
now remained far away from doing so. The third hurdle for private investment is the uncertainty on the
political front that discourages them to invest. On top of all of these, when the high interest rate comes
up, the investors are no doubt under huge pressure and ultimately the investment remains undynamic.

The CPD reports also stated that the declared prices of imported items such as base metal and articles
of metal, electrical equipment parts, vehicles, aircraft, vessels and associated transport equipment are
much higher than their actual value.This situation is graver for import of base metal and articles of base
metal that saw a growth of 595 per cent in July-November 2014 compared to the same period a year
earlier. During that period, import of electrical appliances rose 134.89 per cent and vehicles, aircraft,
vessels and associated transport equipment increased by 44.38 per cent

Bangladesh is mostly concerned about the remittance inflow, but it is not aware about remittance
outflow. Bangladesh is the fifth highest remittance source of India according to an Indian study. If the
institutional capacity doesn’t improve, the economy will be facing diverse challenges because of its
size and depth. The CPD assessment report titled ‘State of the Bangladesh Economy in FY 2014-15’
said a conducive political environment that generates confidence among entrepreneurs, and inclusive
politics that ensures predictabilities and business-friendly environment, will be the key determining
factor for stimulating private sector investment and regaining the growth momentum as the economy
enters the second half of 2014-’15 fiscal year.

an independent commission for the financial sector to identify the inherent problems and the emerging
challenges and make recommendations for an efficient banking system.

Private investment has yet to pick up steam after the last national polls, as the relative political calm
failed to remove investors’ uncertainty. Private investment should have rose after the parliamentary
election. However, investment has not increased despite political calm, economic stability and lower
commodity prices in the global market. On one hand, investment remains sluggish and on the other, a
large amount of capital is siphoned off, mainly through over-invoicing. The latest amount of capital
flight is higher than the net foreign aid. Reduced subsidy requirements for falling petroleum prices,
increasing remittance inflows and foreign exchange reserves and stable exchange rate were good signs
for the country’s economy.

But there were a number of challenges as well that included risk of revenue collection shortfall against
target, sluggish export growth and rising default loan in banks, and sluggish investment scenario, the
reading added. Stagnation in private investment is the major concern amongst all other. Uncertainty
relating to investment has yet to be over for dearth of confidence.

Continued problems of electricity and gas supply to industries, land availability and transport
infrastructure, sluggish progress of reform in financial, institutional and administrative sectors, and
political uncertainty had caused the failure to pick up investment confidence. The pace of financial,
institutional and administrative reforms had also slowed in recent times, CPD observed.

Lack of progress in reform acts as a major deterrent in accelerating economic growth,” said Debapriya,
adding, political uncertainty was another factor affecting investments. The space for political co-
existence and freedom of expression are getting more squeezed since the beginning of the year. On the
other side, fear of rising terrorist activities has also increased,” he said.

The labour market got almost 20 lakh new entrants every year and creation of jobs for those new
entrants would be difficult without acceleration of private investment and economic growth from the
present cycle of 18-19 percent and 6 percent a year respectively. Therefore, job creation has become
important against the backdrop of falling outflow of migrant workers abroad. This workforce could not
be absorbed in agriculture; so, non-farm sectors should be developed to provide jobs for them and steps
should be taken to lure investments.

The target of attaining 6.5 percent economic growth would be challenging without acceleration of
investments, he added. In order to stimulate private sector investment and regain the growth
momentum, a conducive political environment which generates confidence in entrepreneurs, and
inclusive politics that ensures predictabilities and business-friendly environment, would be key
determining factors as the economy enters into the second half of FY 2015. Banking sector and capital
market have played a supportive role in boosting investment. However, banking sector, which has so
far played a key role in investment financing, is struggling with rising default loans.

To boost investment, the prices of electricity and gas has been kept unchanged in order to keep the cost
of production lower to increase private investment. The total amount of subsidy requirements for
electricity in FY 2015 could be around Tk 8,000-10,000 crore, adding that total allocated subsidy was
sufficient to meet the current demand. The government, thus, should keep away from hiking prices to
protect the interests of investors and consumers.

Private sector investment has already slowed down due to the higher lending rate. On the other hand,
after adjustment for the rate of inflation, the real rate of interest on deposits becomes much lower than
the nominal one. Depositors thus continue to supply loanable funds at lower costs in real terms to
banks. The letter are in a better position to reap gains out of this situation.

Implementation of the current monetary policy might face some major macroeconomic challenges by
way of not facilitating expansion of investment activities at the desired level. Such a monetary policy
can hardly serve the real needs of the economy. Rather, it has the potential to widening further the
savings-investment gap.