Recipe to deal with economic challenges

Inflation in many countries has been brewing for quite some time due to production disruptions and supply chain issues related to the Covid-19 pandemic.  

The supply of numerous commodities and goods has been unresponsive to higher demand reflected in, among other factors, bottlenecks, rising shipping costs, delivery delays, and shortages of key production inputs such as computer chips.

Productions have gone down with many firms struggling to cope financially, putting pressure on the prices of essentials. Furthermore, the transport sector and the intra- and inter-country movement of commodities have disrupted the supply chains.

Global oil prices were already up by 77 per cent in January 2022 compared to December 2021.

With the economy on its way to recovery and a lot of pent-up demand for foreign goods and machinery, Bangladesh has experienced an import surge of around 46 per cent this fiscal year.

While 75 per cent of our import basket comprises raw materials, intermediate goods and capital goods meant for the productive sector, the high global prices have expectedly put more pressure on the consumers, who usually take the burden of cost hikes.

Capital is flowing to the United States in pursuit of greater yields as the Federal Reserve tightens monetary policy by raising the key interest rates to combat inflation.

Most developing country currencies, including the Bangladeshi Taka, have lost substantial value in recent weeks in the face of a stronger dollar, potentially fueling additional imported inflation, increasing debt payment costs and increasing financial instability.

The ongoing conflict in Ukraine has further reinforced the surge of inflation. Shocks in global oil markets due to the sanctions on Russia have resulted in price hikes in the global market.

According to the World Bank, energy prices were more than four times higher in March 2022 compared to their April 2020 lows. Fertilizer prices rose by 220 per cent during the same period.

IMPLICATIONS ON BANGLADESH'S ECONOMY AND BUSINESSES

Global inflation has adversely impacted food and energy prices globally, and Bangladesh is not immune to that. As Bangladesh is a petroleum-importing country, the increased prices of oil in the global market have directly impacted Bangladesh.

Food and transport have been adversely affected. Since the average food consumption constitutes more than 60 per cent of the total consumption expenditure of marginal households, increased food inflation in Bangladesh devastated their livelihoods.

While 75 per cent of our import basket comprises raw materials, intermediate goods and capital goods meant for the productive sector, the high global prices have expectedly put more pressure on the consumers, who usually take the burden of cost hikes

According to World Bank estimates, energy costs might climb by more than 50 per cent in 2022 before declining in 2023 and 2024.

Oil prices may reach $150 a barrel, and non-energy prices such as agriculture and metals are expected to rise by more than 20 per cent in 2022. In such situations, Bangladesh's export competitiveness will suffer if inflation is not managed well as a rise in raw material costs will increase the overall cost of exportable commodities.

Finally, Inflation would be an added blow to small businesses, which are yet to recover from the Covid-induced shock fully, as the increase in input prices, the higher costs of loans and the decreased demand will put them in further misery.

WHAT OTHER COUNTRIES ARE DOING TO MANAGE UNCERTAINTIES 

Central banks around the world are concerned about the suffering of low-income people and moving expeditiously to prevent the situation from further escalating. Harsh steps such as increasing interest rates to the highest level in years and increasing the repo rate have been taken.

The Federal Reserve has raised interest rates by three-quarters of a percentage point.

India has prioritised inflation over growth and recently proposed a tax cut on gasoline and diesel to combat inflation while raising the repo rate by 40 basis points earlier. This reduction in excise duty and import taxes may result in a revenue loss of 1 lakh crore rupees per year, but it is expected to reduce inflation by 35-40 basis points.

In response to rising inflation, the Bank of England hiked interest rates by 0.25 percentage points to 1 per cent on May 5, bringing them to their highest level since March 2009.

PROPOSED BUDGET AND ITS OFFERINGS TO TACKLE CHALLENGES

The government has recognised inflation to be a key challenge for the fiscal year and has considered the possibility of a further increase in global prices of major commodities in the budget for the fiscal year of 2022-2023.

The reduction of customs duty for wheat gluten and feeds, plans for the procurement of 47,000 tonnes of food grain through the government procurement in case of shortages, and actions against hoarders through mobile courts should help increase the supply of essentials.

The increased sales of daily necessities at lower prices through the Trading Corporation of Bangladesh (TCB), the overall 21 per cent increase in subsidies on items, including food, fuel and other agricultural goods, and the 5 per cent increase in the social protection budget and planned increase in the number of beneficiaries should, to some extent, help the people in need and keep inflationary effects down.

The strategies to contain inflation and support the people who will be affected most could, however, have been more comprehensive. The tax-free personal income threshold remains unchanged despite the added burden of increasing prices, while for the lower-income who receive social protection benefits, the small benefit amount has remained the same as in the previous years.

The increase in the social protection budget has also been minimal. The support extended to the lower-income has been minimal as the large expenditure plan and the ambitious annual development programme (ADP) targets are expected to have high import components to put pressure on foreign exchange and lead to further depreciation of the taka and more inflation.

Allowing lower tariffs for some of the essential food items, including rice, lentils and palm oil, could have ensured better supply in the market, discouraged hoarding practices, and kept the prices down.

At a time when robust exchange rate management is critical to ensure an optimum supply of foreign currencies, the support provided in the budget for boosting exports and foreign direct investment (FDI), the two key drivers of foreign currencies, has much improvement room.

Provisions proposed with regards to transfer to the special reserve, the increase in the effective tax rate on the contribution to Workers Profit Participation Fund, mandatory submission of tax returns for global digital service providers like Facebook, Google, and Amazon, and the increase in source tax for exporters will decelerate FDI and export recoveries.

MEASURES BANGLADESH MUST CONSIDER

Monetary policy measures:

Effectively increase the interest rates: There are marked anomalies between the policy rate, the deposit rate, and the lending rate. At present, depositors are getting an interest return lower than the inflation rate, which erodes their purchasing capacity.

Maintaining an appropriate level of exchange rate: Bangladesh's real effective exchange rate (REER) has been higher than nominal since the pandemic, indicating exports have been more expensive and imports cheaper relative to trading partners.

The official exchange rate fixed by the central bank also discourages remitters from bringing in foreign currency through banking channels due to the marked difference in rates between official and other channels. It is, thus, important to further devalue the currency after thoroughly assessing the exchange rate pass-through ratio to inflation and market difference.

Fiscal Policy Measures: 

Social protection support for low-income groups: The safety net should be increased effectively with minimum exclusion error and the benefits must reach those in need with efficient monitoring and accountability in place in such trying times. Energy price increases should be delayed in order to keep inflation and inflation expectations in check despite this raising the budget deficit in the short run.

Reduction of tariffs and taxes on essentials: If some consumer goods like palm and soybean oil, are all imported, it is important to temporarily eliminate tariffs or substantially reduce them, for both crude and refined, as an emergency measure, similar to India, and take other necessary steps to increase supplies from imports to keep the price level low.

The market should be signalled that the central bank is determined to relieve inflationary pressures as much as possible, even at the expense of GDP growth, to reduce future expectations of inflation.

Maintaining energy prices affordable for businesses and citizens:  It is critical that the Bangladesh Energy Regulatory Commission reconsiders its plan to hike industrial/business energy prices. Such an increase will exacerbate the adverse effect of already spiralling commodity and dollar prices on businesses and citizens, diminishing competitiveness and adding to the cost of living.

The authors are, respectively, chairman of the Policy Exchange of Bangladesh and an economist.