1. The Bangladesh authorities wish to thank IMF staff for their positive engagement during the discussions on the proposed ECF Program. The main program commitments made under the request for a three-year arrangement under the Extended Credit Facility are highlighted in this statement. They embody the constructive dialogue between IMF staff and the authorities on various macroeconomic issues and the government’s economic and structural reform program.
Recent Macroeconomic Developments
2. As brought out during the Article IV Discussions held in October 2011, Bangladesh is steadily moving towards a higher growth path. It has achieved an average annual growth rate of 6.2 percent over the last 5 years; in particular- a growth rate of 6.1 and 6.7 percent during FY10 and FY11 respectively, despite global economic slow-down (Bangladesh follows a July to June fiscal). Stable growth in the agriculture sector and an improved performance in the industry and in the service sectors have contributed to this achievement. Moreover, the steps taken to reduce infrastructural bottlenecks in the power, energy, and communication sectors have made a positive impact on crowding in private investment and achieving increased real GDP growth. An additional 3,300 MW of electricity has been added to the national grid between January 2009 and March 2012. Bangladesh has also made remarkable progress in achieving the targets of most of the Millennium Development Goals (MDGs), particularly in halving income-poverty between 1990 and 2010.
3. However, macroeconomic pressures have emerged since the last fiscal year. Inflation has been in double digits and fiscal pressure has escalated, mainly due to increased subsidy costs as global oil prices have sharply risen. Reductions in the current account balance and sluggish capital inflows have led to the depletion of the gross international reserves with significant depreciation of the exchange rate.
4. In addition, international price-hikes mainly in food, fuel, and fertilizer have driven food and non-food inflation. The twelve-month average CPI has risen from 7.3 percent in FY10 to 8.8 percent in FY11. This increasing trend has continued in the current fiscal year. At the end of February 2012, the twelve-month average CPI is in the neighborhood of 11 percent, whereas point to point inflation has hit 10.4 percent. Although, food inflation has started to decline since the second quarter of FY12, the steady rise in non-food inflation has put continuous upward pressure on general inflation.
5. Fiscal pressure has emerged from rising fuel, electricity and fertilizer subsidies despite the remarkable growth in tax revenues, particularly in the National Board of Revenue (NBR) collected revenues. With the slow outturn in non-bank sources, government borrowing from the domestic banking system rose significantly in the first half of FY12, which strained existing liquidity in the banking system, and exerted upward pressure on interest rates. In response, the authorities have taken measures to contain recurrent expenditure and they have reprioritized development projects in FY12 to keep expenditure within current available resources. In addition, they issued a circular in January 2012 to restrict taka-funding if there are shortfalls in externally-funded Annual Development Program (ADP) projects. Further, they have raised the administered prices of fuel oil, compressed natural gas (CNG), and electricity several times to contain subsidy costs. Notwithstanding these measures, the rise in international petroleum prices in recent months (Brent Crude oil per barrel reached $125 on 27th March, 2012) is posing additional threats to fiscal management. The authorities recognize that further revisions to energy prices will be necessary to maintain a stable fiscal path.
6. On the external front, unprecedented but necessary import payments and the impact of the global economic crisis on exports have resulted in the trade deficit amounting to $ 7.3 billion in FY11. Growing petroleum demand for operating quick-rental power plants combined with a sustained rise in petroleum prices in the international market have greatly intensified pressure on import payments. These developments, together with reduced remittance inflows, have generated significant pressures on the current account. In June 2010 the current account balance was about $ 3.7 billion in surplus; this has reduced to only $ 462 million at the end of January 2012. In addition, slow external aid disbursements and stagnant FDI have contributed to larger deficits in capital and financial accounts. The twin deficits in the balance of payments have resulted in the reduction of the gross international reserve and a significant depreciation of exchange rate. Gross international reserves, on an official basis, have fallen from $11.3 billion in April 2011 to $ 9.3 billion in January 2012 and the exchange rate has depreciated by 12.5 percent during the period June 2011 to February 2012.
7. The authorities point out that the recent adjustments in interest rates and exchange rates have had a positive impact on the balance of payments. Remittance inflows have also picked up following currency depreciation. However, the balance of payments remains under increasing risk and vulnerability. Export growth has subsided with the economic slow-down in major trading partners like the EU. Indeed, the reserves could slip below two months’ of imports as import demand is expected to rise with higher investment needs in the power, energy, and transport sectors, required for sustaining growth.
8. It is against this backdrop that the authorities recognize that restrained fiscal and monetary policies together with strengthening the external position will help maintain macroeconomic stability and improve growth prospects. With these objectives the authorities have formulated a three-year reform program aimed at improving policies in the fiscal, monetary, financial, trade and investment sectors, along with data improvement, as outlined in the Memorandum of Economic and Financial Policies (MEFP). This three-year program is centered on actions aimed at preserving macroeconomic stability and gradually rebuilding foreign exchange reserve buffers. The authorities have already undertaken five prior actions set for the first year of the ECF arrangement consistent with the requirements in the proposed ECF arrangement.
9. The authorities have planned to increase revenue by 0.6-0.8 percent of GDP every year for providing adequate budgetary resources for the social and physical infrastructure sectors in the medium term. They have introduced a new tax regime with this objective by adopting new policies as well as modernizing revenue administration. The authorities have undertaken initiatives to adopt new VAT and income tax laws to widen the tax base and increase tax receipts., The Cabinet has approved the new legislation for the VAT in March 2012, and a draft bill will be submitted to the National Parliament by June 2012. Proposals for the removal of certain tax concessions and exemptions will be included in the FY13 Finance Bill. Apart from the tax policy reforms, steps have been taken to strengthen the revenue administration for enhancing tax collection and enforcement. The authorities have formulated an NBR modernization plan (2011-16), which includes process modernization, automation, upgrading systems, restructuring administration, tax payer outreach and education, HR and institutional development. Further, an Alternate Dispute Resolution (ADR) mechanism has been introduced. The authorities will make efforts to improve tax compliance and will establish dedicated Court branches for taxation issues.
10. The authorities have adjusted fuel prices to contain fuel subsidy costs and have a plan to adopt an automatic adjustment formula to ensure a pass through of the changes in international prices. In addition, electricity tariff adjustments are being pursued. Efforts are also being made to replace high cost temporary rental power plants with cost-effective large power plants.
11. Bangladesh Bank (BB) has raised its repo rate by 175 basis points over a year in pursuit of monetary tightening to bring down aggregate demand pressure and to contain inflation. Caps on bank lending rates that were remaining were removed in January 2012. Treasury bills and bond yields have been allowed to move according to market conditions. Greater interest rate and exchange rate flexibility has been permitted to help effective monetary transmission. To help achieve the program targets, BB is prepared to maintain the existing restrained monetary policy and to take further steps to strengthen liquidity management, backed by an appropriately tight fiscal policy. BB will undertake further hikes in its repo and reverse repo rates, as necessary, and continue to channel most liquidity support through the emergency repo window (currently provided at 300 bps above the regular repo window). BB will continue to allow greater exchange rate flexibility, to ensure orderly conditions in the foreign exchange market and facilitate external adjustment over the medium term.
Financial Sector Policy
12. The authorities recognize the importance of strengthening the financial sector to reduce risks and support growth. To improve the governance and performance of banks (including the state-owned commercial banks) the authorities are committed to submit amendments to the Bank Companies Act (BCA) to the National Parliament by September 2012. BB has issued a set of guidelines in February 2012 to strengthen the risk management framework and processes of commercial banks. The guidelines will encourage all commercial banks to maintain market-determined lending and deposit rates to facilitate monetary transmission and properly price risk. Furthermore, BB will strictly enforce its cash reserves, liquid asset, and credit-to-deposit ratio requirements, disciplining banks found in violation of these standards.
13. The authorities have undertaken institutional reforms to develop the capital market and to restore investors’ confidence. Two stock exchanges (the Dhaka Stock Exchange & the Chittagong Stock Exchange) have already submitted comprehensive concept papers detailing steps and legal requirements to be followed in the demutualization process. The Securities and Exchange Commission (SEC) is currently examining the demutualization model and plan. In addition there are commitments to reduce bank exposure to the capital market, supervision of merchant bank subsidiaries, compliance by banks to reduced margin lending and also collateral requirements.
Access to IMF Resources
14. The Bangladesh Government has drawn up a Vision-2021 program aimed to raise growth rates to 8 percent by 2015 and to 10 percent by 2021 in line with the objective to elevate the country to the status of a middle-income country over the next decade. In the process, the authorities also intend to reduce poverty and bring down the unemployment rate. A considerable amount of public and private investment in social and physical infrastructure is required to reach this goal. The authorities’ have indicated that the recent BoP pressures are due to insufficient external resource inflows to support the public and private sector investment demand needed to take the country to the desired growth trajectory.
15. In this context and with above prior actions and planned policy initiatives, the Bangladesh authorities request access to Fund resources under an ECF in the amount of SDR 639.96 million (120 percent of quota) over a three-year period to meet in part the BOP financing needs and to provide a buffer against shocks until the policy adjustments and reform measures take hold. They also take the opportunity to confirm that they are committed to implement the policies as outlined in the MEFP. The authorities strongly believe that the various reform programs meant to revamp economic and financial management will help maintain macroeconomic stability and improve growth prospects. During this time, they expect to secure support from other development partners to meet their overall financing needs. They believe that their commitments, as outlined in the MEFP and summarized above, are adequate to achieve program objectives, but are prepared to take further measures, as appropriate, for this purpose. To ensure a strong performance under an ECF-supported arrangement, they will maintain a close policy dialogue with the IMF and pursue technical assistance, as necessary, from the IMF and other development partners in support of the reform agenda. The authorities request Directors to support their planned program. They also authorize publication of the Letter of Intent and its attachments, as well as the accompanying staff report.