MACRO MIRROR: Monetary policy during the pandemic

The world is passing through unusual times, with the Covid-19 pandemic forcing countries to adopt policies which would otherwise not be adopted. The pandemic has shrunk economic activities resulting in loss of employment and income, and rise in poverty and inequality. Lack of income has reduced people’s purchasing power and consumption demand. Businesses, irrespective of size, have been affected severely. There have been production and supply chain disruptions. The combination of demand and supply-side shocks have prompted governments to initiate various fiscal and monetary measures. They have announced stimulus packages for the affected sectors and people in an attempt to save their economies and people’s lives. These include relief packages and credit support from commercial banks. In addressing economic shocks of this type and scale, expansionary fiscal policy has been supported by economists. This has worked in addressing several economic shocks in the past. The objective of such expansionary policies is to inject more money in the economy so that economic activities are revived, employment is generated, and people have money in hand to spend to meet their demand.

In addition to fiscal policy, the importance of monetary policy cannot be undermined during the pandemic. Monetarism has been found to be effective in addressing economic contraction and recession. The assumption in such measures is that the money supply determines the level of Gross Domestic Product (GDP). Higher level of money supply in the economy will reduce interest rates, which in turn will encourage higher investment—this will then lead to employment creation.

As soon as the pandemic broke out in Bangladesh in March 2020, the government announced stimulus packages. As of today, the total stimulus package amounts to about 4.4 percent of Bangladesh’s GDP. Following the start of the pandemic, the central bank had embarked on an expansionary monetary policy and created additional money for the economy by slashing the Cash Reserve Ratio (CRR) and Repo rates. It reduced the CRR of banks by 1.5 percentage point and the Repo rate by 0.5 percentage point. Bangladesh Bank also increased the Advance-Deposit Ratio for all conventional banks by two percent. This increased the amount of loanable funds for commercial banks.

The need for additional money arose since about 80 percent of the stimulus package of Bangladesh is loan support at a subsidised interest rate. The government was to share a part of the interest of the loans to be disbursed to the enterprises. The objective is to support affected businesses through less costly loans so that they can revive their activities and keep people engaged in those activities. This is expected to bring the production and supply chain back to normalcy and boost aggregate demand during the pandemic.

On July 29 this year, Bangladesh Bank announced the Monetary Policy Statement for fiscal year (FY) 2021-22. As was the case last year, the policy continues the expansionary monetary policy stance to support investments and employment generation. At the same time, it will also follow an accommodative monetary policy stance for FY 2022 in order to take measures as the situation arises.

Another welcome move in the Monetary Policy Statement is to bring the education sector under the refinancing scheme. The education sector has been hugely affected by the pandemic—not only keeping millions of students stuck at home, it could also create high inequality in education during and after the pandemic, which could lead to inter-generational inequality. This refinancing scheme has been designed to help teachers and students in accessing loans to purchase electronic equipment and devices needed to continue online education. In order to make this initiative meaningful, information about such a facility should reach needy teachers and students. Previously, the loan facility for the CMSMEs was not known to many small entrepreneurs. Many women reported this to us during a study by the Centre for Policy Dialogue (CPD) on access to stimulus packages by female entrepreneurs. Therefore, this information on loans for educational equipment should be publicised widely with the help of the media.

The Monetary Policy Statement has projected the growth of private sector credit to be 14.8 percent for 2022 as opposed to actual growth of 8.4 percent in FY2021. In FY2020, this growth was 8.6 percent. Because of the pandemic, investment is not picking up despite the low interest rate. In periods of unpredictability, private investment is unlikely to grow. It is uncertain how long the pandemic is going to stay with us. One does not really see any radical change in terms of tackling the health risk of the pandemic in Bangladesh by the middle of 2022 as all eligible people are not going to be vaccinated by then. So, the revival of investment may take longer and excess liquidity will be absorbed a bit slowly. Unless the population of Bangladesh is fully vaccinated, hesitation among investors will persist.

In the face of already existing excess liquidity which has reportedly reached Tk 2.31 trillion, an expansionary monetary policy may pose challenges such as pressure on the prices of commodities, leading to higher inflation. This will further affect the common people who are already living in distress.  It may be mentioned that inflation went above the government’s target of 5.4 percent and reached about 5.6 percent in FY2021 as food prices increased. Besides, the asset market could see price hikes and market distortion due to this policy stance. The central bank has, of course, pointed out that it would take appropriate measures in case of such a situation. Indeed, the central bank will have to be vigilant in maintaining the stability of the financial market in such unusual circumstances to avoid any price bubble.

The other challenge of the central bank is the perennial issue of loan default. How much of the stimulus package will be returned in time is a concern given the trend of high non-performing loans (NPLs) in banks. More concerning is the wilful defaulters who may take this opportunity to keep the money to themselves and never return it. Already, news of investing the stimulus money in the capital market has appeared in the media. How banks which have a reputation for poor loan management will ensure the return of the public money lent to so-called affected businesses is worrisome. A database on the repayment status of the stimulus packages should be made public.

There are questions about the adequacy of the proposed Monetary Policy Statement for FY2022, since there is a need for more targeted policy measures for the affected people. The two core objectives of the central bank—to keep inflation under control and help achieve the growth targets—require specific measures focusing on sectors and sub-sectors of the economy. While there is always more room for a further comprehensive Monetary Policy Statement, the implementation of the proposed measures effectively will help tackle the negative impact of the pandemic on the economy to a large extent.

Dr Fahmida Khatun is the Executive Director at the Centre for Policy Dialogue.

Views expressed in this article are personal.