Warnings of recession in Bangladesh

The interim government's Planning Advisor issued a warning of a possible recession in Bangladesh. He singled out the lack of private investment as the major factor that would be contributing to the impending recession (FE, November 26). However, just two weeks before the Advisor's warning on November 11, the Governor of Bangladesh Bank assured the country that even if economic growth slowed down, there was no threat of recession in the country.

So, the signals for the recession in Bangladesh look mixed. However, since the Advisor gave his opinion at the end of the Executive Committee of the National Economic Council (ECNEC) meeting held on November 25 chaired by the Chief Advisor, it can be considered as the informed view of the government.

He said that if the current situation continued without any new private investment and almost stagnant public sector, development expenditure would result in a recession. He further added that the private sector was not showing any interest in investment and the interest rate had gone up. He also said that economic stagnation in the country was due to inflation and price hikes of essentials.

Numerous economic theories attempt to explain why and how an economy goes into recession. These theories can be broadly categorised as economic, financial, psychological, or a combination of these factors. Economic output, employment, and consumer spending drop in a recession. Interest rates are also likely to decline as central banks cut rates to support the economy and as a result budget deficits go up.

While there is no official definition of a recession, most analysts use the technical definition of two consecutive quarters of decline in a country's real GDP. A recession can also be defined as a sustained period of weak or negative growth in real GDP that is accompanied by a significant rise in the unemployment rate. But for Bangladesh a simpler definition can be applied where a recession is a significant, pervasive, and persistent decline in economic activity.

The Bangladesh economy is currently slowing down. Early in November, the World Bank slashed its growth forecast for Bangladesh by 1.7 percentage points to 4 per cent for the fiscal 2024-25. Recently, Moody's downgraded country's outlook from stable to negative and downgraded the credit rating from B1 to B2 citing the reason that "the negative outlook reflects downside risks to Bangladesh's growth outlook". Overall, currently there is a pessimistic outlook for growth in the country.

Rising inflation can create business and investor uncertainty. Rising inflation can also place upward pressure on interest rates and downward pressure on some asset prices. Inflation not only reduces the level of business investment, but also the efficiency with which productive factors are used.

Also, jacking up interest rates by Bangladesh Bank to fight inflation has become less effective, as reflected in resurging inflation in the country, nor has it helped stabilise the BDT. This is simply because exchange rates impact inflation through their effect on tradable prices.

Let us only focus on the two main determinants of investment-- interest rates and expected returns. Higher interest rates make borrowing more expensive and potentially reduce investment. A change in real interest rates, whether increase or decrease, will directly affect investment. The real rate of return is the nominal return less the inflation rate. The real rate of return, therefore, adjusts profit for the effects of inflation. It is a more accurate measure of investment performance than the nominal rate of return.

Industrial output growth has slowed down in Bangladesh due to stagnant private investment, import restrictions on inputs and higher energy costs. Foreign exchange reserve has declined, further compounding the problem to a point where the country is struggling to pay for fuel and imports. Bangladesh also imposed import restrictions to save foreign exchange.

Bangladesh is not only running a deficit on the current account but in the financial account as well in its balance of payments. If the financial account becomes negative, that creates further pressures on foreign exchange reserve. Consequently, over the past two years the taka lost about 40 per cent of its value against the U.S. dollar. For foreign investors, this exchange rate volatility causes currency risk and creates concerns about the overall economic environment.

Over the last decade or so, the private investment/GDP ratio remained at around 20 per cent. The industrial sector experienced a decline of 3.7 per cent in output growth in 2023-24. The picture is not very different in the services sector. Together these two sectors account for 87 per cent of GDP. In fact, the investment/GDP ratio has been on a declining trend since 2019.

Bangladesh's foreign direct investment (FDI) was on a downward trend for some time. Bangladesh FDI for 2023 was US$1.39 billion, a 15.28 per cent decline from 2022 and FDI for 2022 was US$1.63 billion, a 5.16 per cent decline from 2021. Overall, FDI remains at a very low level at around 2 per cent of GDP.

According to the US Department of State's "2024 Investment Climate Statements: Bangladesh, "corruption remains a serious impediment to investment and economic growth…Corruption is common in public procurement, tax, and customs collection, and among regulatory authorities. Off-the-record payments by firms reduces Bangladesh's GDP by two to three per cent, according to some estimates". The Statement further adds that foreign investors report that Bangladesh's weak and slow legal system, which is widely believed to be corrupt, is an obstacle to investment.

According to a survey conducted by to the Transparency International Bangladesh (TIB), judicial services ranked as the 4th highest corrupt government organ in the country. Between 2009 and April 2024, an estimated TK 1.46 trillion were paid in bribe to access services provided by the government (FE, December 4). Not surprisingly, the survey period coincided with the repressive and criminally syndicated regime of Sheikh Hasina.

According to the Financial Express (November 27) chief executive officers (CEOs) of multinational corporations operating in Bangladesh met the Chief Advisor and asked him to undertake a series of measures to improve the 'ease of doing business' and to  make the Bangladesh Investment Development Authority (BIDA) one stop service centre for them. The BIDA is the main authority that promotes and supervises private investment in the country. They also said that improved credit rating was also needed to encourage FDI flows into the country. For that to achieve, a stable and predictable economic environment is needed.

In view of the Planning Advisor signalling the likelihood of a recession, all investors, both domestic and foreign, in Bangladesh also factor in the vulnerabilities associated with a recession such as sustained profit margin compression, credit market stress, energy and financial market shocks. Also, a deeply crisis ridden banking sector, where the central bank has recently injected Tk 225 billion to six cash-strapped banks to meet depositors claims and the ratio of non-performing loan (NPL) is likely to hit 25 per cent in the coming days, notwithstanding additional uncertainties related to the political backdrop adding further to investors woes. The interim government, therefore, through its actions need to reassure investors and creditors that it can guarantee both the political and economic stability conducive to stimulate economic growth.

Bangladesh's private consumption accounted for 66.8 per cent of its nominal GDP in June 2024, compared with a ratio of 68.6 per cent in the previous year. On average across countries, private consumption is the component of GDP that accounts for the largest proportion of the overall changes to GDP. So, weaker private consumption will slow down the economy further. This is also relevant because private consumption is a prime indicator of the economic well-being of households.

But the real interest rate (bank lending rate minus inflation) has been on the decline since 2019 and stood at 0.629 per cent in 2023 against an average of 4.96 per cent between 1976 and 2023. The real interest rate in Bangladesh at 0.63 per cent is very low relative to the world average of 4.25 per cent, based on data from 81 countries. So, this can not be a major factor impeding private investment.

Over the past two years, the taka lost about 40 per cent of its value against the U.S. dollar. Since the end of September, the dollar has again started to appreciate devaluing currencies around the world, including BDT. For foreign investors this exchange rate volatility causes currency risk and creates concerns about the overall economic environment.

Lack of domestic private investments in Bangladesh can be attributed to a variety of factors ranging across infrastructure deficiencies, lack of finance, corruption, macroeconomic imbalances, ineffective enforcement of law, to mention a few. The inflow of foreign direct investment also remains low, mainly due to the poor regulatory framework and business environment as well as widespread corruption and red tape.

So, the slowdown in economic activity is not only for lack of investment but also for a host of other reasons. The state alone cannot stimulate the economy or pick up the slacks of the private sector to maintain the growth momentum. In fact, in view of the economic challenges resulting from the repressive and highly corrupt Hasina's 15-year rule, the present period does not hold out much hope of economic growth.

What is needed now is an industrial policy to build better Bangladesh with a sharp break with the economic policy consensus of the last five decades or so. This will require delinking industrial policy from high levels of bureaucratic and political controls carried out under the pretence of economic nationalism which has only resulted in creating an almost closed economy and helped a deeply corrupt bureaucracy and equally corrupt politicians to benefit from it.

A recently published draft report on the State of Bangladesh Economy revealed the extent of corruption involved in the public sector development expenditures under the Annual Development Programme (ADP) alone over the last 15 years. The report indicated that about 40 per cent of the allocated funds were embezzled by the politicians and public servants. What is more disturbing, US$16 billion on average have been transferred overseas annually during the past 15-year period (FE, December 1&2).

Therefore, industrial policy must also set the transparent parameters on the state's role in the economic realm. Such the necessary fine tuning of industrial policy will not only help woo private investment including FDI but will also help the country accelerate the economic recovery and strengthen capacity to withstand future shocks, enabling the country to achieve sustainable economic growth.

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