Stopping the pace of economy will lead to disaster

Economics follows some common principles or policies. These principles are determined based on current realities. They are established focusing on people's daily behavior. Sometimes, in the course of time and changing realities, these principles may undergo slight alterations. However, the fundamental principles remain the same. If for any reason, these principles of economics are violated, adverse consequences may occur.

No economic principle operates automatically or yields results on its own. To ensure this, certain essential conditions must be met. These essential conditions require adherence to regulatory bodies. Just as obstacles created in the flow of a river's current create turmoil, similarly, when impediments are imposed on the general principles of economics, adverse consequences inevitably follow. When obstacles are created in the flow of a river, the water stagnates and inundates the population. Similarly, when economic principles are violated, society faces adverse consequences, which the general populace inevitably suffers.

If we engage in discussions, we will see that in recent times, decisions regarding the country's economy have been implemented in a manner that has resulted in unintended consequences rather than desired outcomes. Behind the evident economic challenges at present lies the consequence of shortsighted decisions by regulatory authorities. The most significant challenge or concern in the country's economy currently arises from excessive inflation. Despite various measures taken to control inflation, most of these measures have been partial and divorced from reality. As a result, inflation has not decreased but rather has remained at the same level.

When the global economy was in the midst of recovery from the COVID-19 pandemic, the conflict between Russia and Ukraine erupted. As a result of this conflict, the worldwide price of crude oil surged unexpectedly. Prior to the conflict, the price of crude oil per barrel, which was around $70 to $72, soared to $139 within a matter of days. For the recent global inflationary pressures, the responsibility lies more on the failure of market commoditization of goods and services than on the shortage of production. Ukraine and Russia together account for 30 percent of the world's total grain production. Many countries in Africa and the Middle East heavily rely on Ukrainian food products. However, Ukraine couldn't export their produced food items. As a result, severe food crises are observed in many countries in Africa and the Middle East. Like the United States, inflation in the economy has also surged to 9.1 percent, which is the highest inflation rate for the country in the past 40 years.

In response to this situation, the Federal Reserve, the central bank of the United States, has raised its policy rate (the rate at which central banks lend to commercial banks for short-term needs) 13 times within a span of eighteen months. Simultaneously, by implementing various other measures, their economy manages to tolerate the existing abnormal high inflation levels at an acceptable level.

According to economic principles, if a central bank of a country increases its policy rate, commercial banks (which charge interest on loans to entrepreneurs or ordinary loan recipients) are compelled to raise the interest rate on loans. This leads to an increase in spending compared to before. Unless absolutely necessary, entrepreneurs refrain from taking loans.

As a result, there is a decrease in the flow of money in the market. People can no longer purchase any goods or services as freely as before. Consequently, existing inflation begins to decrease to some extent. To make this principle effective, an essential condition is to simultaneously reduce the interest rate on bank loans in the market along with increasing the policy rate.

In at least 77 countries around the world, central banks have been able to mitigate the high inflation in their economies to manageable levels through increases in policy rates and other measures. Even economically distressed countries like Sri Lanka have managed to bring down their inflation rate from 35 percent to below 3 percent. However, there has been a deviation in the case of Bangladesh. Since the onset of high inflation tendencies, the Bangladesh Bank has increased the policy rate several times. Previously, the policy rate stood at 5 percent. Now it has risen to 8 percent. However, these initiatives have not yielded any results in terms of curbing inflation. One of the reasons for this is that although the Bangladesh Bank has repeatedly increased the policy rate, it had earlier capped the interest rate on bank loans at 9 percent. Consequently, despite the increase in policy rates, borrowers were still getting loans at a cheaper rate compared to before. Many individuals have taken loans from banks, whether necessary or unnecessary, and diverted those funds to accounts other than the intended ones. A significant portion of these loans has entered the market through various channels. Many economists even allege that smuggling has occurred abroad. The question is whether the Bangladesh Bank knows the consequences of determining the interest rate on bank loans after increasing the policy rate. Many believe that although the Bangladesh Bank is aware of the consequences regarding the policy, it has implemented such a self-destructive decision specifically for providing loans at lower interest rates to certain sectors. Although there has been some relaxation in controlling the highest rate of interest on bank loans, it has not been completely market-oriented.

Economists have long emphasized the importance of market-based exchange rates, especially in relation to foreign currencies, particularly the US dollar. Despite their insistence, the Bangladesh Bank has yet to take any effective measures in this regard. Consequently, the flow of foreign currency has decreased unnaturally. Perhaps the Bangladesh Bank fears that if they were to allow market-based exchange rates for foreign currencies, it would lead to widespread devaluation of the local currency, the taka. They may believe that this would lead to significant inflationary pressures and increased cost of imports, thus negatively impacting consumer welfare. However, it has already been proven that the notion that setting fixed exchange rates for foreign currencies would reduce import costs is not accurate. Keeping the exchange rate of foreign currency fixed, alongside ensuring an adequate supply of foreign currency reserves, could indeed make such an initiative somewhat successful. However, the current status of Bangladesh Bank's foreign currency reserves does not allow for meeting the demands of importers. The Bangladesh Bank has implemented various measures to control import expenditure. However, they have not been able to create any alternative pathways internally to meet the demand for goods domestically. As a result, importers are importing goods through alternative sources by purchasing foreign currency at higher prices from the curb market. Consequently, despite the depreciation of prices of various commodities in the international market, it is observed that it has no impact on the local market.

One of the most discussed issues in the country's economy currently is the identification of willful defaulters. Recently, the Bangladesh Bank has instructed scheduled banks to identify willful defaulters through a published circular. It's a positive development that the Bangladesh Bank has been actively taking measures against willful defaulters. However, the question remains: who will enforce these actions? While the Bangladesh Bank is showing a tough stance against willful defaulters on one hand, it's also opening the door for new defaulters at the same time. Isn't this contradictory?

The recent circular issued by the Bangladesh Bank states that from now on, if one or more entities within an industrial group default on loans, the remaining entities within the group will still be eligible to receive loans from banks. Previously, the rule was that if one or more entities within an industrial group became defaulters, the remaining entities would be considered ineligible for loans from banks until the defaulted loans were repaid.

Due to this new directive, willful defaulters now have the opportunity to access bank loans again. Instead of taking stringent measures to prevent the creation of new defaulters alongside identifying willful defaulters, Bangladesh has inadvertently facilitated the creation of new defaulters. It's like pouring water into a sieve; if someone pours water into a sieve, only the strained water will flow through.

It's natural to raise questions about the sincerity of Bangladesh Bank's actions in identifying willful defaulters and implementing punitive measures against them. Does the Bangladesh Bank actually intend to address willful defaulters by tolerating the amount of defaulted loans to manageable levels? Recently, default loans have been rescheduled for 10 years with a grace period of one year and a 2% down payment. 38,000 individuals and entities have taken advantage of this opportunity to regularize their defaulted loans. Among them, many are considered willful defaulters. However, due to legal weaknesses, they cannot be classified as defaulters anymore. How will those who have been granted relief from the status of willful defaulters be identified as willful defaulters again? Will Bangladesh Bank be able to revoke the special privileges granted to them and reclassify them as willful defaulters? In our country, willful defaulters often enjoy various privileges, while regular loan repayments are not rewarded.

Can regular loan installment payers not be charged 1 or 2 percent less interest? Regular loan repayments are not eligible for a reduction of 1 or 2 percent in interest rates. If Bangladesh Bank wishes to identify willful defaulters and bring them under punitive measures, then it may need to revoke the privileges of those who have rescheduled their loans for 10 years with a 2 percent down payment. Additionally, the program initiated in 2015 to restructure defaulted loans of 500 crores and above may also be subject to cancellation due to the political instability at that time.

A few days ago, the loan write-off policy was further simplified. A few years ago, the rule was that if a loan account remained classified as defaulted for more than 5 years, appropriate provisions were to be maintained, and the account could be written off with the approval of the relevant court. Subsequently, this law was amended to allow for the write-off of a loan account after three years of being classified as defaulted, instead of five years. For this purpose, the provision of maintaining 100% provision has been repealed. The condition for initiating a case for loans less than 5 lakh has been abolished. Through the latest legislative amendment, the period of being classified as defaulted has been reduced from 3 years to 2 years. The question is, who benefits from these changes orchestrated by the Bangladesh Bank? Are they genuinely aiming to recover defaulted loans, or do they intend to further disrupt the banking sector? If the Bangladesh Bank genuinely seeks to bring the level of defaulted loans to manageable levels, it could establish an independent commission to recommend effective measures based on its suggestions.

Author: Retired General Manager, Bangladesh Development Bank Limited, and an economics writer.