Bangladesh has historically adopted a policy of depreciating the Taka. At independence, the price of one US Dollar was just Taka 7.7. The current kerb market rate per USD is Taka 124 – a 94% erosion of value over 50 years. Keeping in mind that the US dollar itself lost 90% of its value through inflation during this period, a Taka from 2024 is nearly worthless compared to a Taka from 1972. To be exact, what used to be 60 paisa worth of purchasing power in 1972 is equivalent to Taka 100 today.
The major arguments for the devaluation policy are (i) to reduce the sovereign debt burden and (ii) to boost exports.
Our tax enforcement is not on par with more developed peers. Hence, depreciating the currency can be used as an alternate way to tax the citizens. In economics parlance, this arrangement is called “seigniorage” – anyone having savings of taka automatically has less purchasing power every day, while the government’s real debt burden keeps reducing.
The major problem with this arrangement is that it is a blunt tool and inadvertently hurts our most vulnerable citizens – such as retirees and low-income households. Improved efficiency of the NBR, and better fiscal discipline should reduce the need for supporting the budget through seigniorage. Projects, such as digitization of tax systems and better accountability of government spending, can help to bring about the necessary fiscal discipline.
The case for boosting exports by devaluing the currency also has a questionable long-term impact. Ultimately, most Bangladeshi exports heavily depend on imported materials – what we export is our working hours. Labour wages tend to adjust based on consumer prices, but there is usually a lag. This means that taka depreciation will not permanently impact exports – and all it does is support a few months of underpayment to the workers of Bangladesh.
Depreciating the currency is a poor way to improve competitiveness as it is a zero-sum game – some countries can win temporarily at the expense of others. The true way to improve our competitiveness would be by increasing the productivity of land, labour and capital – which can only happen through innovation.
Setting aside the limited benefits, the problem with this depreciation policy is that this leads to transferring wealth from savers to borrowers – the borrower, being on the same side as the government, has less debt burden each passing day. This creates a “moral hazard” for the borrower as they are inclined to over-borrow, leading to wastage of capital.
The borrowers, in order to preserve their wealth, often park these extra funds in real estate – and end up making housing unaffordable for the masses and increasing the cost of doing business. The absurd discrepancy between rents, which are relatively very low, and land value in Bangladesh is rooted in our long-term stance to devalue the currency.
The tilt towards borrowers, coupled with a fixed interest rate regime, means any person who can borrow money in Bangladesh stands to automatically enjoy gains every year – almost effortlessly. Banks in every country are given the collective responsibility of deploying capital and are expected to specialize in evaluating various investment opportunities. Unfortunately, in Bangladesh, bankers don’t have to think hard about where to deploy capital and, as a result, new businesses often don’t get adequate support. Banks get comfort in knowing that the appreciating land value will cover their capital even when the borrower fails to deploy funds effectively and is thus keen only to lend money against collateral.
By allowing someone to borrow, bankers know that they are doing the person a favour, especially when interest rates are capped – the long-term competency of the banking system is diminishing as a result, and as a country, we are misallocating hard-earned capital. The high non-performing loan rate is not just the result of scams but is also driven by this fundamental flaw in our monetary policy.
Finally, the policy of depreciating the currency encourages the “carry trade” – borrow Bangladesh taka, convert it to a foreign currency, wait for the taka to depreciate and then pay back the loan while pocketing the extra dollars. While such an arrangement is nearly impossible to execute legally, there are enough workarounds to get this structure in place. For example, exporters can choose to bring in their export proceeds later while fulfilling their local obligations with borrowed money. The carry trade has been a major reason for the forex crisis in Bangladesh in the past year.
The expectation of currency devaluation has further fueled the Taka devaluation – a phenomenon known as Reflexivity. The currency will continue to depreciate as long as everyone keeps betting on it depreciating.
As defined by George Soros, Reflexivity is the theory that a feedback loop exists in which investors’ perceptions affect economic fundamentals, which in turn changes investor perception – basically, a downward spiral. The concept was at play when Mr. Soros “broke the British pound” in 1992 and during the Asian Financial Crisis of 1997.
On the positive side, a stable currency provides clarity for every actor in the economy, leading to better planning and execution. There are already enough variables in our daily lives without having to add the “thrill” of a currency crisis. A stable currency between 2012 and 2021 was one of the cornerstones of Bangladesh’s decade of exceptional growth. Singapore, for example, has grown robustly even though it maintained a strong currency – so we should not worry much about the side effects of our value preservation target.
In order to become a trillion-dollar economy, we will need plenty of investments. A predictable currency will encourage both domestic and foreign investors. Investors are looking to mitigate risks and being on the brink of a “currency run” does not inspire confidence. A commitment to the long-term value of Bangladesh taka and clear communication of monetary policy is the equivalent of clear skies for the investment climate.
Our problems with the exchange rate began after we introduced a dual rate for remittances versus exports. While the “spirit” of the decision is praise-worthy, offering a higher rate for certain kinds of transactions creates an environment of speculation and encourages corruption through misreporting. It also creates the expectation that the currency will devaluate to the higher band – putting us in the slippery slope situation theorized as reflexivity. In the last two years we have destroyed the integrity of our currency markets and it will require active intervention to get back to where we started.
There are a lot of concerns about adopting a crawling peg mechanism for the Taka. Many of the concerns are related to consumer prices in Ramadan. Given the current liquidity crunch in Taka, this fear of adopting the new exchange rate system seems irrational. The crawling peg system is widely tested, and with our contractionary monetary policy, currency controls and bank restructuring plans, there should be no reason to think that the value of Taka has to fall drastically.
The key message here is that our government must clearly signal that it is committed to preserving the value of the Taka in the long run. Only then, economic actors will stop planning for a 99% value erosion in the next 50 years, and will we see a reversal of wealth outflows.
Most importantly, the rise of cryptocurrencies and the weaponisation of finance poses a life-threatening risk to our monetary sovereignty. Being forced to follow IMF prescriptions is just a first step. Will the Taka exist in the next 50 years, or will we be part of some currency bloc?
There is little room for making policy mistakes from here onwards – we must prevent leakages of funds through banks, get out of dual-exchange rates, improve fiscal discipline and communicate a clear economic vision. These are tough pills to swallow, but without these, the Taka will likely be doomed.
Our policymakers must realise that trying to regulate away mechanisms like the carry trade is futile. In the past two years of trying to dictate the exchange rate, we have only encouraged profiteering in the banking sector – the bid-ask spread per dollar has widened by orders of magnitude. Hundi existed before and will continue to exist in the future, and so will all kinds of bad actors and creative accountants.
It is easy to blame our troubles on the US Federal Reserve, the Russia-Ukraine war or the parliamentary elections, but we should also review our past monetary policy decisions. Once we change the long-term outlook on the Taka, the other pieces of the puzzle are bound to fall into place.
At least in the short term, given our focus on inflation, it seems like we are heading in the right direction. We will need consistent and continued action to bring back the confidence in the currency.
Author: Waseem Alim
