The Finance Ministry of Bangladesh has announced that the implementation of the crawling peg exchange rate system, alongside declining global interest rates, is expected to aid in rebuilding the country’s foreign currency reserves. According to the ministry’s medium-term macroeconomic policy statement, high interest rates in advanced economies have significantly contributed to the depletion of Bangladesh's reserves.
The revised target for gross forex reserves for the current fiscal year, which ends on June 30, was set at $29.1 billion. However, as of June 5, reserves stood at $24.23 billion according to the Bangladesh Bank's traditional calculation. To meet the target, an additional $4.87 billion needs to be added by the end of the month. Under the International Monetary Fund's (IMF) calculation, reserves were at $18.67 billion, a sharp decline from $41 billion in August 2021.
A positive development for Bangladesh is the trend of central banks globally either cutting interest rates or holding them steady, which benefits countries that experienced capital outflows and currency depreciation since late 2021. Recently, the European Central Bank made its first rate cut in nearly five years, and the Bank of Canada was the first G7 central bank to reduce borrowing costs in recent years. Central banks in Switzerland and Sweden have also lowered interest rates, and the US Federal Reserve is expected to cut its key interest rate in September and again later this year, according to a Reuters poll.
The Finance Ministry noted that while global interest rates appear to have peaked and are expected to decline in the medium term, the current high-interest rate regime in advanced economies may persist for some time, posing a challenge to increasing reserves in the near term.
On May 8, the Bangladesh Bank shifted from a fixed exchange rate mechanism to a crawling peg system for spot transactions of US dollars, setting the mid-rate at Tk 117 per USD. This new system is anticipated to stabilize the exchange rate and contribute to reserve growth in the coming years.
The macroeconomic policy report highlighted several challenges facing the economy, including higher inflation and increasing classified loans in the banking sector. Since mid-2022, the taka has depreciated against the US dollar due to falling reserves, driving domestic inflation through higher import costs. Between July and May of the current fiscal year, the taka depreciated by 7 percent, following a 14.4 percent fall during the same period in the previous fiscal year. Since the onset of the Russia-Ukraine war in February 2022, the taka has lost 36 percent of its value.
The report also pointed to issues of classified loans and a lack of financial discipline within the banking sector, suggesting that restoring discipline and potentially undergoing painful restructuring, such as mergers, might be necessary. The process is expected to be lengthy and challenging.
Containing high inflation remains the government's top priority for FY25. Inflation, which was projected to be around 6 percent in FY24, has remained high due to the significant depreciation of the taka. In May, inflation rose to 9.89 percent, a trend likely to continue for some months. The report notes that while developed countries have managed to control consumer prices through appropriate policies, developing countries like Bangladesh continue to struggle.
To address inflation, the government is tightening monetary and fiscal policies and supporting domestic agricultural and industrial production to stabilize supply. These measures are expected to ease inflationary pressures by FY25, with a target of reducing inflation to 5.5 percent by FY27. However, the report warns that contractionary policies might negatively impact the economy if inflation does not decrease soon, potentially affecting GDP growth.
Looking ahead, Bangladesh's impending graduation from the group of least-developed countries in 2026 will reduce certain benefits, making it essential to focus on export diversification, increasing productive capacity, and improving the business environment. The report also emphasizes the need for tax system reforms, noting that Bangladesh’s tax-GDP ratio is lower than in comparable countries.
Despite these challenges, the report projects strong agricultural and industrial production for FY25, contributing to economic growth. It also anticipates stable growth in advanced countries, which will support the export sector in Bangladesh.
