Was devaluation necessary?

Under the crawling peg system, Bangladesh Bank has set the intermediate dollar price at Tk 117 and instructed banks to trade freely around this rate. A few days ago, economists advocated for a 'floating exchange rate' to maintain the dollar's value as fully market-oriented. They argued that the exchange rate between our currency and foreign currencies should be determined by market forces, with no authority intervening. However, Bangladesh Bank opted not to introduce a floating exchange rate, instead implementing the crawling peg system to manage the exchange rate. Unlike a floating exchange rate, a crawling peg system is not entirely free and open, as it involves some degree of control by the authorities. In this system, the upper and lower limits of the currency exchange rate are set, and the currency must be exchanged within these specified limits.

In this case, Bangladesh Bank has set an intermediate rate without specifying the maximum and minimum rates. Commercial banks can sell currency at slightly higher or lower rates than this fixed rate. After a long period, Bangladesh Bank has adopted the suggestions of local economists and the International Monetary Fund (IMF) to make the foreign currency exchange rate market-based or flexible. To secure an IMF loan, they must comply with the IMF's conditions. Although not all IMF conditions are always seen as favourable to the economy, they must be accepted. The IMF evaluates everything based on economic terms, as they are not subject to public voting or political pressures; thus, supply and demand dictate their stance on currency rates. In line with the IMF, many local economists supported currency devaluation and criticized the Bangladesh Bank for not heeding their advice. The merits and demerits of the crawling peg method cannot be fully assessed at this time.

Currency devaluation is intended to reduce money laundering, but in Bangladesh, policies often fail to bring benefits due to widespread unethical and illegal activities. For those focused on laundering money or procuring goods through the black market, who need to pay for illicit drugs, the exchange rate is irrelevant, as they primarily use the hundi (Hundi is a way of money transaction outside the conventional banking system) for transactions. Additionally, significant corruption and bribery payments are made abroad through hundi. Wealthy businessmen fund their vacations and entertainment abroad via illegal remittances through over- and under-invoicing. In these cases, the official exchange rate of the dollar is irrelevant. Therefore, regardless of currency depreciation, the dollar will continue to sell at a higher price in the curb market or black market. Some expatriates may remit money through hundi if the dollar is overvalued in these markets. As a result, remittances are unlikely to increase significantly due to devaluation.

The local currency depreciated by 6.3 percent, with the intermediate exchange rate fixed at Tk 117 per US dollar. This significant devaluation is unprecedented in recent times. While it may benefit exports, it will also increase the price of imported goods. Higher import prices will likely reduce imports, leading to a decreased supply of goods in the market, which, in turn, will drive up prices. Despite recent changes in revenue and monetary policy, reducing the price of goods to the desired level has not been achieved. In this context, if import costs rise due to currency devaluation, prices will increase again. Our economy is heavily import-dependent, with imports nearly double the amount of exports. The decline in our foreign exchange reserves cannot be solely attributed to the rise in international fuel, oil, and gas prices. The devaluation of the taka will raise the import costs of these commodities, affecting every production sector. Higher import costs will not only reduce imports but also decrease GDP growth. The path of economics is never straightforward, and every policy has its advantages and disadvantages.

Many economists support the crawling peg approach, believing it will be beneficial in the long term, even if its immediate effects are not as apparent. They argue that this system will boost export earnings and remittances, which in turn will spur GDP growth and reduce inflation. These opinions are in line with the IMF's World Economic Outlook, which indicates that a 10 percent currency depreciation can increase exports by 1.5 percent of GDP. However, Bangladesh's primary export product is textiles. While devaluation may improve the bargaining power for textiles and other exports, the extent of this benefit is uncertain. Since most raw materials for textile production are imported, currency devaluation will increase their costs, as well as the costs of domestically sourced inputs. Additionally, rising electricity and gas prices will further raise production costs. It is unclear how much this devaluation will aid in boosting exports if production costs continue to rise. Moreover, if other textile-exporting countries also devalue their currencies, Bangladesh may not see significant export benefits from this devaluation.

However, the balance of trade could be maintained if exports increase while imports decrease. On the other hand, devaluing the currency will increase the government's foreign debt burden and create risks in repaying the foreign debt already taken on by the private sector. While there is an expectation of increased remittance flows due to the significant devaluation of the taka, it is uncertain how much expatriates will be encouraged by this. Hundi traders often offer higher rates for dollars, making it easier for expatriates to send money through them. Hundi traders provide convenient services, collecting money directly from homes, saving expatriates the hassle of visiting banks or exchange houses. Additionally, expatriates who have gained citizenship in other countries often do not send money back but instead, sell their fixed assets in Bangladesh and transfer the funds abroad through hundi. Those who received plots for various government projects are also selling these plots and transferring the money abroad via hundi. The official dollar rate has never been significant for their money laundering activities. Devaluation was necessary to address the dollar crisis, but it should be noted that Pakistan's foreign exchange crisis persists despite a substantial devaluation of the rupee.

The devaluation of the local currency is not particularly beneficial for import-dependent countries. It is crucial to address money laundering alongside devaluation. There's a growing concern about the increase in bad loans, as funds borrowed from banks are being illegally transferred abroad. Currently, the default rate stands at 9 percent, which is an improvement from the 35 percent default rate seen in the nineties. However, the extent of bad debt that has been 'written off' during balance sheet cleanups is not clear. The country's economy is facing multiple crises, and despite efforts by the government and Bangladesh Bank, the economy is struggling to recover to its pre-coronavirus state. Alongside policy implementations, Bangladesh Bank should work diligently and without hesitation to address these challenges.

There's a story that in the past, the deputy governor would write the company owner's name in pencil on documents and send them for approval to the governor, implying that approval was necessary even in case of irregularities. However, this is just hearsay and may not be accurate. Personal relationships should not influence judgments on irregularities. Dishonest individuals often try to deceive policymakers by highlighting their connections with influential figures. Bangladesh Bank's emphasis on maintaining good relationships with bank chairpersons has led to the deterioration of basic banking principles. This situation underscores the need to hold Bangladesh Bank accountable. Preventing money laundering abroad is of utmost importance.

Bangladesh Bank's approach of focusing on loan recovery instead of sending defaulting borrowers to jail is praiseworthy. However, it is crucial to take disciplinary action against bank officials engaged in irregularities. Bangladesh Bank should be more proactive in taking swift actions, as withholding documents without valid reasons can be more detrimental than bribery.

Author: Ex-Executive Director of Bangladesh Bank and Ex-MD of national money minting conservatory.