Banking sector bears some pressures from declining asset quality, particularly of the state-owned banks, and tighter liquidity in some fourth-generation private banks, said the central bank.
The Bangladesh Bank (BB) also indentified downside risks like any shock to remittance inflow and export due to growing political uncertainty in the Middle East.
"Risks to inflation could emerge from the second-round effects of elevated food prices and the pass-through of higher global fuel and commodity prices," it said in the latest Bangladesh Bank Quarterly (BBQ) assessment for July-September 2017, released Monday.
It also said: "High credit growth amid tightening liquidity in the banking system, strong import growth with a smaller overall BoP (balance of payments) balance, and the rising trend in food inflation warrant a cautious macroeconomic management for preserving monetary and financial stability in FY 18."
The central bank, however, predicted that political and macroeconomic conditions are likely to be broadly stable in the fiscal year (FY) 2017-18.
"Strong growth in capital machinery import reflects buoyant investment demand. In the light of the strong economic activities, output growth is expected to be attained at closer to the target," the BBQ explained.
The assessment found the pace of economic activities robust in the first quarter (Q1) of FY 18, aided by rapid private credit growth, a rebound in remittance inflows, and a pickup in export growth.
Focusing on the supply side, it said growth momentum was strong in the industry and the services sectors, while agriculture witnessed a softer growth due to the recent floods.
Inflation, as measured by consumer price index (CPI) on a year-on-year basis, has been on the rise since January 2017, driven mainly by food-price rises.
Consequently, inflation (12-month moving average) crept up, hitting 5.6 percent in the Q1 of the ongoing FY18, slightly exceeding the target of 5.5 per cent.
"Flood-related crop losses, a declining buffer stock of rice, excess demand due to the influx of refugees from Myanmar, and an uptick in food prices on the global market led to elevated food prices on the domestic market," the central bank said explaining the causes of food inflation.
However, non-food inflation eased during the Q1of FY18.
Growth in private-sector credit was on an upturn, having reached 17.9 per cent in September 2017, exceeding BB's FY 18 target. The large share of the credits went in to industry, construction and transport sectors.
Reserve money and broad money (M2) grew by 13.4 and 10.4 percent, respectively, largely in line with the programmed path for December 2017.
However, private credit growth overshot somewhat due to a sharp pickup in lending by the private commercial banks, according to the BBQ.
The central bank also said the gap between credit and deposit growth in a low-interest environment helped absorb the existing excess liquidity in the banking system.
"Liquidity conditions in the banking system remain adequate against the backdrop of stable capital-to-risk weighted asset ratio (CRAR), although non-performing loan (NPL) has slightly increased during the quarter under review," it noted.
The BBQ also says strong import growth (28.4 per cent in the Q1of FY18)-fueled by capital machinery and intermediate goods imports-against 7.7per cent export growth widened trade deficit.
"Wider trade deficit, coupled with improving but modest remittance growth, led to a deficit in overall BoP in the Q1 of FY18," the BB explained.
Fiscal performance improved in the period under review, reflecting an upturn in revenue collection, modest growth in expenditure along with an increased Annual Development Programme (ADP) spending.
"Fiscal deficit inched up during the quarter under review due to a faster growth in expenditure over revenue collection. The amount of deficit financing was more than met with borrowing from the non-bank and foreign sources," the BBQ said.
Regarding the foreign-exchange market, the BBQ said nominal exchange rate depreciated in line with the market forces.
"In order to avoid any disruptive fluctuations in the foreign- exchange market, the BB supported to smooth large fluctuations," it noted.
The BBQ also said despite the fact that nominal exchange rate depreciated slightly, real effective exchange rate appreciated a bit due mainly to decline in relative price of trading partners.
"Foreign-exchange reserves edged down slightly in the Q1 of FY 18 but remains adequate around seven months of imports," the BB noted.
The momentum in trading activities on the capital market continued during the Q1 of FY18, it said, adding that this momentum benefitted from strong economic growth, higher private-sector credit growth and negative real interest rates on deposits in the banking system.
The Dhaka Stock Exchange broad index (DSEX) reached the highest level in September 2017 (6092.8) since January 2013.