Running to standstill

The rise in price of such a major import commodity for all oil importing nations has obviously had a severe impact on their balance of payments, especially in their ability to manage their current account. The trade balance of all major oil importing countries, whether developed, middle-income, or LDC, have resulted in massive deficits. The trade deficits of these countries have resulted in depreciating currencies, rising inflation, rising nominal interest rates and a risk to stable economic growth, which may result in a slowdown in the national savings and investment rates.

The change in these indicators also sends negative signals to global trading partners and multi-national investors. Most importantly, it becomes a major impediment to a medium-term growth strategy set about in middle-income and LDC countries by their respective finance ministries, central bankers, and multi-lateral institutional partners.

Recent developments in Bangladesh have definitely made this country better suited to manage this supply shock. Our country has managed 6.7% growth in GDP for FY 2006, a rise from 6.0% for FY 2005, mainly due to its ability to maintain aggregate demand. There was strong growth in manufacturing along with a galloping service sector. Of course, a good agriculture output remains a cornerstone of demand.

The switch to a floating exchange rate has been a solid success in managing short-term macro-economic imbalances. The effect of the oil price on the balance of payments has been dealt with by the depreciation in the value of the taka, which has partly resulted in export growth and increase in remittances. As a result, balance of payments has actually been slightly positive, with an increase in the overall foreign reserves. However, the impact of the oil price increase is felt directly through an increase in the price index, which was recently revealed to be over 7%. This is the highest in the past decade.

In an effort to combat rising trade deficit, the government has allowed the exchange rate to depreciate about 10% to increase the price elasticity of the consumer to oil and oil-related products. To combat the resulting rising inflation, the nominal interest rate has been increased by over 1%. The twin effects of rising inflation and interest rates will reduce aggregate demand in the country. While that is required to maintain balance of payment equilibrium, this may lead to slower economic growth. Moreover, a downturn in exports, especially knitwear, or a fall in remittances, will greatly affect our long-term balance of payments stability.

It is stated that the Bangladesh economy needs to grow consistently at 8+% per year for over 20 years to make any significant headway in poverty reduction. If the oil price increase remains, as is predicted for the medium-term, the ability to reduce poverty through continued strong economic growth may be hampered. As a result, as long as the oil price increase remains, the balance of payments of Bangladesh will continuously remain a factor to cause volatility in the key indicators mentioned earlier.

This brings us to the point of the cause of the oil price increase. As this rise is not solely a political event, it is difficult to forecast events whereby the price of oil shall immediately reverse its course. It is forecasted that the international crude oil price shall be $60-70 till 2008.

The main issue here is that the balance of payments crisis may linger for several more years, before which the world finds alternatives to oil based energy or more expensive energy sources come on line. The rising and continued trade deficit may not always be covered by rising remittances or exports or foreign aid to bring the current account into balance in the near future. The reserves cannot be expected to grow aggregately, even if proportionately at the pace of demand for oil imports, if there has to be purchases of taka to keep it from further depreciating.

The country should very seriously consider raising long-term funds from the global capital market to cover any impending fall in reserves and give the economy considerable room to maneuver. This idea is not that far-fetched as it may seem. Just recently, a country of similar size, income and economy with a population of 82 million, with very similar risk weight, raised $750 million from the international capital market. That country had huge foreign capital rush into it in 1986 and then the roof collapsed and investors ran. However, it has been able to recover global investor confidence, which greatly adds to domestic investor confidence.

The country is Vietnam, which completed its first dollar-denominated bond offering, selling $750 million in securities that mature in 10 years. The offer was 50 percent larger than planned after investors placed orders for $4.6 billion. Vietnam has one of the lowest levels of external debt among countries in its credit-rating category by Standard and Poors with its long-term debt rating being BB- to positive.

Our approach to globalization also is worth re-considering. Our nation of 140 million should want the benefits that come from trade and the increased movement of capital and people -- not just a luxury car showroom or franchised fast food outlet for the wealthy. Recent years have shown that globalization is no panacea for developing economies. Since the 1980s, Asian countries have opened to the world rapidly and enthusiastically. But while they saw Western-style fast-food outlets and shopping malls multiply, stable growth and increased foreign investment proved to be elusive in many Asian countries.

If we wish that the boom-and-bust cycle that so many have experienced in the last 20 years to be kept at arms length, we need to prepare ourselves with the right tools to maneuver. Remittances may grow or slow, foreign investment may grow or slow, as may global demand for our products. All of these affect balance of payments.

In the same vein, tapping international capital markets may allow us movement to maneuver storms, which inevitably will come, as we have seen in energy prices in 2005. And if it is done with the leadership of the multi-lateral partners, like the ADB or IMF, it will also serve as a strong signal to the global economy of the ability of Bangladesh as an economy where future USD returns are safe and promising.

The value of the taka will be protected. Even more important, the ghosts of inflation and high exchange rates shall be kept away from the bulk of our people who are on limited income where their real income increasingly decreases. Their aggregate demand, which is the strength of our economy, and our national savings rate, which is the key to investment, will be protected from forever running to standstill.