2 weeks Ago
The International Monetary Fund (IMF) mission left Bangladesh last weekend without any decision on the release of the fourth and the fifth tranches of a loan to the country. These two tranches amount to $1.3 billion under the $4.
7 billion package agreed upon two years ago. The first tranche of the loan, amounting to $476.2 million, was released in February 2023, the second tranche of $681 million in December 2023, and the third tranche of $1.
15 billion in June 2024. However, the lender has withheld the release of the fourth and fifth tranches. In fact, as a decision, the mission has neither approved the immediate release of funds, nor has it shut the door completely.
So, the whole situation reflects uncertainties. A few observations about the phenomenon can be pertinent. First, the release of the fourth and fifth tranches of the loan was tied to critical reforms under the Extended Credit Facility and the Resilience and Sustainability Facility.
The mission indicated that since Bangladesh has yet to meet all the IMF conditions, the disbursements of the two tranches were withheld. It mentioned that the country has made progress on the financial sector, but more is needed. It further pointed out that Bangladesh still has a path forward, but cautioned that time is running out.
Second, the release of an IMF loan is approved when a staff-level agreement is reached. A staff-level agreement is essential for securing the IMF board approval and release of funds. Without this, Bangladesh is in a limbo.
In the meantime, discussions between the IMF and the Bangladesh government will continue to reach a staff-level agreement soon, possibly by the April 2025 World Bank Group-IMF spring meetings in Washington. Third, the sticky points in the discussion between the IMF and Bangladesh were exchange rate management, tax reform, subsidy rationalisation, and the banking sector reforms. The government has made progress in these areas, but it has yet to satisfy the IMF requirements.
On the exchange rate policy, the issue is choosing between a managed rate, e.g. a crawling peg and a fully flexible rate.
Bangladesh has been following a crawling peg, and for the last two-three years, the issue has been on the table. The arguments that are put forward in favour of a fully flexible exchange rate include enhanced export competitiveness, rebuilding foreign exchange reserves, and making the economy more resilient to external shocks. In recent times, Bangladesh's forex reserves have at least been stabilised after they have been on a steady decline for two years.
Right now, the difference between informal and the official exchange rates is very small. Therefore, the pressure for a fully flexible exchange rate would be mounting. Arguments are also made that with a flexible exchange rate, there will be an accumulation of forex reserves in the short term.
On the other hand, a cautious approach to exchange rate policies also hinges on the arguments that a fully flexible exchange rate may fuel the inflation rate, which is already very close to double digit. In the last two-three months, food prices came down a bit with larger supplies of winter vegetables, while there have been steady increases in the non-food inflation. However, very recently, the market has become uncomfortable again as food prices are back on the rise.
Surely, taming inflation requires tighter monetary policy, which Bangladesh has been pursuing for some time, but that is not enough. It would also require structural and institutional measures. The issue of tax reforms has been in macroeconomic discussions for a long time.
Over the past 10 years, most developing economies have attained a tax-GDP ratio of about 15 percent. However, the ratio hovers around seven to eight percent in Bangladesh. This limits resource mobilisation for public expenditures, including development spendings.
Regardless of the IMF conditionalities in this area, Bangladesh has to increase its tax-GDP ratio. Even in the neighbouring countries like India and Nepal, the tax-GDP ratio is 12 percent and 18 percent, respectively. In Bangladesh, about 68 percent of people with taxable income (2018 data) do not pay income tax.
What's more, a staggering 87 percent of the country's rich and upper-middle-class citizens are evading taxes (2024 data). Meanwhile, the country relies more on indirect taxes like VATs and excise duties for resource mobilisation. This has three implications.
One, direct taxes can be used as an equalising factor to reduce inequalities in the economy. Indirect taxes may lead to inequalities, putting more tax burdens on the poor. So, if the instruments of direct taxes are not used, it amounts to not using an effective mechanism for reducing economic and social inequalities.
Two, resource mobilisation through indirect taxes may be affected by external shocks and vulnerabilities. Third, the issue of raising income taxes has a political-economy dimension. The richer section of the economy and the vested interest groups would always try to resist income tax.
Since the interim government is not a political government, it can go for the necessary tax reforms, tackling the political aspect of it. The need for tax reforms is of paramount importance. Building a more equitable, transparent and streamlined system, which would ensure sustainable revenue growth, reduce widespread tax exemptions, improve compliance, and distinctly separate tax policy from tax administration, is necessary.
In the past, subsidies were used not to help the poor and the marginalised people, who needed them the most, but as favours to certain social groups and vested interest parties and to provide undue support to certain entities. Thus, inefficient industries and public enterprises enjoyed subsidies without any economic rationale. The past government also used food and other subsidies for political purposes, to appease groups so that they remained loyal to it.
At the local level, the administration has been using subsidies as political means to control people. The issue of input versus output subsidy needs to be revisited. There are increasing needs for legal and regulatory reforms in the financial sector, particularly in the banking sector.
Yes, there has been a new loan reclassification rule. But it should be remembered that non-performing loans have not been caused by the reclassification, but by a legacy issue. For maintaining economic stability, well-sequenced reforms are necessary.
The legal reforms of the banking sector must conform to global standards. It is necessary to operationalise new frameworks that enable orderly bank restructuring, while protecting the small depositors. The banking sectors' health will be regained and people's confidence in banks and financial institutions will be improved with effective asset quality reviews, better governance, and transparency and accountability.
The government has been successful in recovering some of the defaulted loans within the country. The issue now remains with regard to the money laundered abroad. The Bangladesh Bank has been coordinating domestic and international efforts to freeze and confiscate, and recover stolen assets.
These efforts must be strengthened and more means must be explored for legal and financial actions to recover those laundered assets. The issue of financial reforms in Bangladesh cannot be complete without the necessary institutional reforms to enhance the Bangladesh Bank's independence and governance. This is crucial not only for macroeconomic and financial stability, but also for successful execution of the financial reforms.
Sustaining the pace of reforms is absolutely necessary to tackle Bangladesh's economic challenges. The IMF loan is quite important for Bangladesh. Apart from providing resources, disbursement of future tranches of such loans would represent a sign of financial credibility of the country, because such disbursements would encourage other global financial organisations to provide loans and would reassure foreign investors to invest in Bangladesh.
Selim Jahan is former director of the Human Development Report Office under the United Nations Development Programme (UNDP) and lead author of the Human Development Report. Views expressed in this article are the author's own. Follow The Daily Star Opinion on Facebook for the latest opinions, commentaries and analyses by experts and professionals.
To contribute your article or letter to The Daily Star Opinion, see our guidelines for submission . The International Monetary Fund (IMF) mission left Bangladesh last weekend without any decision on the release of the fourth and the fifth tranches of a loan to the country. These two tranches amount to $1.
3 billion under the $4.7 billion package agreed upon two years ago. The first tranche of the loan, amounting to $476.
2 million, was released in February 2023, the second tranche of $681 million in December 2023, and the third tranche of $1.15 billion in June 2024. However, the lender has withheld the release of the fourth and fifth tranches.
In fact, as a decision, the mission has neither approved the immediate release of funds, nor has it shut the door completely. So, the whole situation reflects uncertainties. A few observations about the phenomenon can be pertinent.
First, the release of the fourth and fifth tranches of the loan was tied to critical reforms under the Extended Credit Facility and the Resilience and Sustainability Facility. The mission indicated that since Bangladesh has yet to meet all the IMF conditions, the disbursements of the two tranches were withheld. It mentioned that the country has made progress on the financial sector, but more is needed.
It further pointed out that Bangladesh still has a path forward, but cautioned that time is running out. Second, the release of an IMF loan is approved when a staff-level agreement is reached. A staff-level agreement is essential for securing the IMF board approval and release of funds.
Without this, Bangladesh is in a limbo. In the meantime, discussions between the IMF and the Bangladesh government will continue to reach a staff-level agreement soon, possibly by the April 2025 World Bank Group-IMF spring meetings in Washington. Third, the sticky points in the discussion between the IMF and Bangladesh were exchange rate management, tax reform, subsidy rationalisation, and the banking sector reforms.
The government has made progress in these areas, but it has yet to satisfy the IMF requirements. On the exchange rate policy, the issue is choosing between a managed rate, e.g.
a crawling peg and a fully flexible rate. Bangladesh has been following a crawling peg, and for the last two-three years, the issue has been on the table. The arguments that are put forward in favour of a fully flexible exchange rate include enhanced export competitiveness, rebuilding foreign exchange reserves, and making the economy more resilient to external shocks.
In recent times, Bangladesh's forex reserves have at least been stabilised after they have been on a steady decline for two years. Right now, the difference between informal and the official exchange rates is very small. Therefore, the pressure for a fully flexible exchange rate would be mounting.
Arguments are also made that with a flexible exchange rate, there will be an accumulation of forex reserves in the short term. On the other hand, a cautious approach to exchange rate policies also hinges on the arguments that a fully flexible exchange rate may fuel the inflation rate, which is already very close to double digit. In the last two-three months, food prices came down a bit with larger supplies of winter vegetables, while there have been steady increases in the non-food inflation.
However, very recently, the market has become uncomfortable again as food prices are back on the rise. Surely, taming inflation requires tighter monetary policy, which Bangladesh has been pursuing for some time, but that is not enough. It would also require structural and institutional measures.
The issue of tax reforms has been in macroeconomic discussions for a long time. Over the past 10 years, most developing economies have attained a tax-GDP ratio of about 15 percent. However, the ratio hovers around seven to eight percent in Bangladesh.
This limits resource mobilisation for public expenditures, including development spendings. Regardless of the IMF conditionalities in this area, Bangladesh has to increase its tax-GDP ratio. Even in the neighbouring countries like India and Nepal, the tax-GDP ratio is 12 percent and 18 percent, respectively.
In Bangladesh, about 68 percent of people with taxable income (2018 data) do not pay income tax. What's more, a staggering 87 percent of the country's rich and upper-middle-class citizens are evading taxes (2024 data). Meanwhile, the country relies more on indirect taxes like VATs and excise duties for resource mobilisation.
This has three implications. One, direct taxes can be used as an equalising factor to reduce inequalities in the economy. Indirect taxes may lead to inequalities, putting more tax burdens on the poor.
So, if the instruments of direct taxes are not used, it amounts to not using an effective mechanism for reducing economic and social inequalities. Two, resource mobilisation through indirect taxes may be affected by external shocks and vulnerabilities. Third, the issue of raising income taxes has a political-economy dimension.
The richer section of the economy and the vested interest groups would always try to resist income tax. Since the interim government is not a political government, it can go for the necessary tax reforms, tackling the political aspect of it. The need for tax reforms is of paramount importance.
Building a more equitable, transparent and streamlined system, which would ensure sustainable revenue growth, reduce widespread tax exemptions, improve compliance, and distinctly separate tax policy from tax administration, is necessary. In the past, subsidies were used not to help the poor and the marginalised people, who needed them the most, but as favours to certain social groups and vested interest parties and to provide undue support to certain entities. Thus, inefficient industries and public enterprises enjoyed subsidies without any economic rationale.
The past government also used food and other subsidies for political purposes, to appease groups so that they remained loyal to it. At the local level, the administration has been using subsidies as political means to control people. The issue of input versus output subsidy needs to be revisited.
There are increasing needs for legal and regulatory reforms in the financial sector, particularly in the banking sector. Yes, there has been a new loan reclassification rule. But it should be remembered that non-performing loans have not been caused by the reclassification, but by a legacy issue.
For maintaining economic stability, well-sequenced reforms are necessary. The legal reforms of the banking sector must conform to global standards. It is necessary to operationalise new frameworks that enable orderly bank restructuring, while protecting the small depositors.
The banking sectors' health will be regained and people's confidence in banks and financial institutions will be improved with effective asset quality reviews, better governance, and transparency and accountability. The government has been successful in recovering some of the defaulted loans within the country. The issue now remains with regard to the money laundered abroad.
The Bangladesh Bank has been coordinating domestic and international efforts to freeze and confiscate, and recover stolen assets. These efforts must be strengthened and more means must be explored for legal and financial actions to recover those laundered assets. The issue of financial reforms in Bangladesh cannot be complete without the necessary institutional reforms to enhance the Bangladesh Bank's independence and governance.
This is crucial not only for macroeconomic and financial stability, but also for successful execution of the financial reforms. Sustaining the pace of reforms is absolutely necessary to tackle Bangladesh's economic challenges. The IMF loan is quite important for Bangladesh.
Apart from providing resources, disbursement of future tranches of such loans would represent a sign of financial credibility of the country, because such disbursements would encourage other global financial organisations to provide loans and would reassure foreign investors to invest in Bangladesh. Selim Jahan is former director of the Human Development Report Office under the United Nations Development Programme (UNDP) and lead author of the Human Development Report. Views expressed in this article are the author's own.
Follow The Daily Star Opinion on Facebook for the latest opinions, commentaries and analyses by experts and professionals. To contribute your article or letter to The Daily Star Opinion, see our guidelines for submission ..
