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Will the economy recover after Covid-19?

  • Published at 01:49 pm May 3rd, 2020
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How the perils of a closed economy will affect the nation

The ability and willingness of emerging markets to contain the outbreak by enforcing social-distancing measures is an open question because of its socioeconomic fabric: High urban density, a large informal economic sector, and demographic dividend. 

Less stringent lockdown regimes, in combination with weaker health care systems, may result in a disproportionately large number of Covid-19 cases and related deaths. Risks of social unrest are material in places with large informal economies. 

At the same time, EMs have less capacity to respond to the pandemic through fiscal and monetary stimulus than the developed world. Although it varies by country, there is limited ability to enact fiscal stimulus without raising debt-sustainability concerns and massive currency devaluations. 

According to the World Bank, only 15% of the Bangladeshi population earn over $6 a day, and over 90% of the workforce belongs to the informal sector. After the nationwide lockdown commenced on March 26, millions of rickshaw-pullers, day laborers, and factory workers rushed for their villages, leaving the streets of Dhaka eerily empty. 

But how will the perils of a closed economy affect the nation heading forward? The Bangladesh economy can take any form of recession arguably, in the absence of appropriate and timely policy decisions. Even from the limited amount of data available, it is obvious that the Bangladesh economy is in the middle of an unprecedented setback. 

With a very low tax to GDP ratio of 9.3%, the Bangladesh government does not have enough fiscal space to make large stimulus packages. Under such circumstances, the only possible option is monetary expansion, which most developed economies have already deployed. 

The Bangladesh government is trying to design a similar monetary expansion to avert the disaster, although the effectiveness of the stimulus package remains yet to be seen. According to Bangladesh Bank, exports fell by 4.8% on a year-on-year (YoY) basis from July 2019 to February 2020, as export performance in most Eurozone countries suffered. 

Even before Covid-19 struck, Bangladeshi garment makers had been losing bargaining power due to a slowdown in aggregate demand and an overvalued domestic currency. The top ten export destinations of Bangladesh contribute approximately 72% of the total export, out of which approximately 90% is ready-made garments and apparel export. 

Among these top export destinations, the United States, Germany, United Kingdom, Spain, France, and Italy -- the economies hit hardest contribute around 58.0% combined of total export. These countries are either cancel- ling their orders or putting a hold on their previous orders. 

So far, $1.8 billion worth of orders have been put on hold and another $1.4 billion worth of orders that were supposed to be delivered between April 2020 to Decem- ber 2020 have been cancelled. This amounts to 10.9% of the total nine-month export basket. 

The remittance, a factor that has proven to be life support for the Bangladesh economy since the last decade, fell by 11.6% YoY during March 2020. The top five remittance destinations include Saudi Arabia, UAE, the US, Kuwait, and the UK, which contribute approximately 63.0% to total remittance inflow. All these destinations are either affected by the lockdown or slump in oil prices. 

Moreover, potential job and salary cuts pose threats to remittance inflow. From January 2020-March 2020, around 1 million out of a total 10 million overseas workers returned to Bangladesh. With an estimated 50.0% YoY degrowth in remittance during March 2020 to June 2020, Bangladesh may lose $1.9 billion in remittance inflow in four months, which is equivalent to 0.6% of GDP. 

The only positive implication has been the slump in oil prices. On Tues- day, April 22, oil reached an all-time low of ($37.63) a barrel. A negative price simply implies that the countries exporting oil are much better off disposing of their inventory given the high storage costs. 

If Bangladesh can negotiate a deal with its import partners, it can save a substantial amount, since Bangladesh’s oil and petroleum import accounted for 12.0% ($55.6 billion) of its total import basket for 2019. Even though local sources estimate that the country has a maximum excess storage capacity of 50 days, it would ease the pressure on the Balance of Payment. 

With Foreign Direct Investment, tax revenue, and government mega-project expenditures expected to take a dip, the current account deficit is expected to widen by 1.2%. Corporations slashing salaries, defaulting on interest payments, and laying off a percentage of the workforce will impose extra pressure on banks and other NBFI’s designated to deliver the stimulus package. 

The banking sector will face liquidity pressure as deposit growth and loan recovery also declines. Private sector credit growth might go down to 5-6% YoY during March 2020 to June 2020. Cutting the cash reserve requirement (CRR) by 1% would add approximately Tk130 billion into banking sector liquidity. 

Bangladesh Bank should relax the advance-deposit ratio (ADR) as well. Since most corporations are unable to help, approaching donor organizations such as the IMF, World Bank, and ADB could prove to be effective since the IMF and World Bank have a lending capacity of $1 trillion for emerging markets out of which Bangladesh could avail $700 million and $100 million respectively. 

If the situation prolongs, at worst, the central bank might consider quantitative easing (QE) to increase money supply, and the government can consider a Universal Basic Income (UBI) scheme under a stimulating fiscal policy. The task of distributing UBI to 160 million citizens may be dubious, even with the availability of mobile financial services, but higher inflation and exchange rate depreciation are inevitable. 

With the overall budget deficit expected to reach up to 7% of GDP in 2020, it begs the question of whether such measures would yield anything economically beneficial. However, if the current pandemic is dealt with efficiently, the long-term benefits will set the economy back on track as we all begin to embrace “the new normal” heading forward. 

Sayeed Ibrahim Ahmed is Senior Lecturer of Finance, American International University, Bangladesh