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p. 29 of 54 BACK | NEXT I. Developing Asia and the World - Economic Developments and Prospects II. Economic Trends and Prospects in Developing Asia Newly Industrialized Economies Central Asian Republics, Azerbaijan, and Mongolia People’s Republic of China Southeast Asia South Asia Bangladesh Bhutan India Maldives Nepal Pakistan Sri Lanka The Pacific III. Asia's Globalization Challenge

Asian Development Outlook 2001 : II. Economic Trends and Prospects in Developing Asia : South Asia

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Bangladesh

Economic growth, at 5.5 percent in 2000, depended heavily on agriculture, as it has in the past few years. In 2001, growth is expected to improve marginally due to favorable prospects for agriculture and manufacturing. However, if the country is to achieve higher, sustainable, poverty-reducing growth, the Government needs to pursue comprehensive financial sector and fiscal policy reforms.

Recent Trends and Prospects

In 2000, GDP growth accelerated to 5.5 percent from 4.9 percent in 1999; growth in both years was mainly due to successive record crop harvests. In 2000, the country reached self-sufficiency in food grain. Production was estimated to be just under 25 million tons, or about 1 million tons in excess of requirements (see Figure 2.13). Apart from favorable weather conditions, the adequate supply of key agricultural inputs—fertilizer, diesel, fuel, and seeds—at stable prices boosted food grain output. For agriculture as a whole, value added increased by 6.4 percent in 2000 compared with 4.8 percent in the previous year. Industry sector growth improved to 5.6 percent in 2000 compared with 4.9 percent in 1999. However, growth in this sector remains lower than the growth trend of about 8 percent in the five years prior to 1999. Sluggishness in manufacturing is the main factor, caused largely by growing infrastructure constraints, high costs of doing business (high real interest rates and transaction costs), political uncertainty, scarcity of long-term credit, and loss of competitiveness. The services sector showed expansion of 5.0 percent in 2000, slightly higher than in the previous year.

Remittances from overseas workers were an important factor in raising the level of national savings to 21.4 percent of GDP in 2000 from 20.8 percent in 1999. Gross investment rose marginally to 22.4 percent of GDP in 2000 from 22.2 percent in 1999 due to higher private investment; public investment stagnated.

Export growth recovered to 8.2 percent in 2000, from the flood-affected growth rate of 2.9 percent in the previous year. Two products—ready-made garments and knitwear—accounted for most of the export improvement and 76 percent of total exports. Import growth was relatively low at 4.4 percent, due mainly to reduced food imports. With the trade deficit narrowing from the level of the previous year, and with strong growth (14 percent) in workers’ remittances, the current account deficit in 2000 declined to 1.0 percent of GDP from 1.4 percent of GDP in the preceding year. Despite an improvement in the current account, the overall balance-of-payments position remained fragile, and foreign exchange reserves were a mere $1.6 billion (2.3 months equivalent of imports) at the end of June 2000. A substantial residual outflow in the balance of payments under the category “errors and omissions” created pressures on the overall balance. This residual outflow reflected either the lags between shipment of exports and receipt of foreign exchange, or inaccurate recording of some categories in the balance of payments (or a combination of the two). It is also possible that a sizable amount of foreign exchange earnings was retained overseas.

In the 2000 budget, the Government attempted to reverse the deteriorating fiscal trend of the last few years and projected a revenue-to-GDP ratio of 10 percent. Despite this ambitious target, no serious efforts were made to implement key fiscal reforms, rationalize the tax structure, strengthen tax administration, or widen the tax base. As a result, actual revenue mobilization in 2000 turned out to be considerably below budget projections at 8.9 percent of GDP. A delay in introducing a preshipment inspection scheme and sluggish growth in imports contributed to the revenue shortfall. Nontax revenue collection was also less than projected due mainly to reduced profits and dividend income of state-owned enterprises (SOEs). In 2000, losses of nonfinancial SOEs were estimated at Tk31 billion, or 1.3 percent of GDP. As for government expenditure, the rising trend continued in 2000 with total expenditure amounting to 15.0 percent of GDP. As a result of weak revenue mobilization and higher expenditure, the budget deficit increased sharply to 6.1 percent of GDP in 2000, from 4.8 percent in 1999.

At the end of June 2000, the broad money supply (M2) accelerated steeply to 18.6 percent from 15.4 percent in June 1999. Government borrowing from the banking system rose by 31 percent, with the central bank accounting for about half of this. Annual growth of bank credit to the private sector declined to 11 percent at the end of June 2000 from 14 percent in the previous year, due mainly to slow growth in the industry sector and the high cost of borrowing. Consumer price inflation declined to 3.4 percent in 2000 from 8.9 percent in 1999. Improved availability of food items (following the two record harvests), weak business activity, excess capacity in manufacturing, and delays in adjusting administered prices contributed toward the low inflation rate.

During 2001, GDP is expected to grow by 5.7 percent despite the dislocation caused by the severe floods in the southwestern region from late-September to mid-October 2000. Another record harvest is anticipated, provided that the weather remains favorable. During 2001, manufacturing output is likely to return to its normal growth trend of over 7 percent due to steady recovery, especially in the export-oriented garment sector. On the external side, though export performance is expected to improve notably, the balance-of-payments situation will likely remain fragile with foreign exchange reserves staying at a critical level of $1.5 billion at the end of December 2000, or equivalent to about two months of imports. In the remaining months of 2001, the pressures on the reserves level and the balance-of-payments current account will depend primarily on the Government’s success in preventing large outflows of foreign exchange and in improving investor confidence. The taka’s 6 percent devaluation in mid-August 2000 was a delayed response to declining external competitiveness. Despite a mild boost in revenue performance, the fiscal deficit is likely to remain at about 6 percent of GDP during 2001 with sustained pressures on government expenditures prior to the general elections scheduled to be held by October 2001. The Government is expected to adopt a more prudent fiscal stance once the elections are over, and progress in pushing ahead with sectoral reforms should be considerable.

Over the medium term, growth prospects for the economy should improve. The Government is likely to favorably resolve the issue of exports of natural gas, which will have a positive impact on the balance of payments in subsequent years. In the 2001 budget, total government expenditures are projected to rise further to 15.3 percent of GDP.

Issues in Economic Management

Prudent fiscal management has emerged as a major challenge facing the Government. The ratio of tax revenue to GDP rose from 5.9 percent in 1991 to 7.3 percent in 1993, but since then has remained constant at about 7 percent, reflecting a lack of progress in widening the tax net and in improving the tax administration system. On the other hand, nontax revenues are comparatively small (a little less than 2 percent of GDP), and they too stagnated for much of the 1990s. Over the last three years, government expenditure, both current and capital, has increased rapidly. As a consequence, the fiscal deficit rose to an unsustainable level of 6.1 percent of GDP in 2000.

Fiscal management in recent years has been weak and needs to be improved urgently to restore macroeconomic stability. The Government needs to make serious efforts to strengthen revenue mobilization, contain unproductive expenditure, utilize scarce external assistance in the most efficient manner, address the mounting problems of the banking system (discussed below), and take bold measures to deal with SOE losses and inefficiencies. In mid-August 2000, the Government made upward adjustments to the administered prices of natural gas (15 percent) and various fuel oils (9–20 percent) to reflect changes in international prices. While these measures will, to some extent, help strengthen the Government’s fiscal position, it needs to do much more to reduce the fiscal deficit to sustainable levels.

Export diversification remains a major challenge for the Government. The situation is serious because the Multi-Fibre Arrangement, which shields the country’s exports of garments and apparel from external competition, is due to end in early 2005. Macroeconomic stability is also necessary for sustained export growth. In addition, a liberal trade regime that gradually eliminates the anti-export bias and supports competitive exchange rate management, is critical. Such management needs to be more flexible, as delayed adjustments often cause considerable uncertainty for exporters. Along with appropriate policy, sound institutional development should be pursued.

Although the economy has received substantial amounts of external assistance, the external debt portfolio has been managed prudently and external debt in 2000 is estimated at 33 percent of GDP, with a debt-service ratio of only 9.5 percent. The external debt is predominantly public or publicly guaranteed, most of it carrying long-term maturities and concessionary interest rates. However, over the medium to long term, debt sustainability could be under pressure due to exposure to nonconcessionary financing, especially suppliers’ credit and publicly guaranteed foreign direct investment with significant foreign exchange payment liabilities.

Policy and Development Issues

Despite a few significant policy reforms that the Government has launched in recent years, the financial sector remains shallow and underdeveloped, and while banking has expanded in terms of value added at a reasonable rate, a robust and efficient regulatory system is not yet in place. The capital market is also at a nascent stage, although progress has been made in improving market efficiency. A well-developed long-term savings market has yet to emerge. If the economy is to achieve higher growth and, consequently, poverty reduction, the Government will need to carry out a wide range of policy measures to comprehensively reform the financial sector.

The financial system, dominated by banking, is in distress mainly because of its large nonperforming loan (NPL) portfolio, low recovery rates, high spreads to cover provisioning and management costs, an inadequate legal framework, poor governance, and limited capacity of the central bank to effectively perform its regulatory and supervisory role. Many banks, especially the nationalized commercial banks, are unable to meet the capital adequacy requirements. As of 30 June 2000, bank NPLs had increased to 40 percent of total loans from 32 percent at the end of 1995. Only the private and foreign commercial banks have been able to reduce their NPLs in recent years. The nationalized commercial banks remain institutionally fragile and are subject to government and political interference. Lending continues through these banks to loss-incurring SOEs. In addition, insider lending has affected the portfolios of several private banks. Slow court settlement is another major impediment to recovering overdue bank loans.

Over the last few years, the Government has taken steps to address some of the financial sector’s problems, although progress has clearly been slow. The Bankruptcy Law 1997 was enacted to facilitate the recovery of bad loans. Also in 1997, the Banking Companies Act 1991 was amended to disqualify defaulting directors from remaining on the board of a bank. To hurry up the disposal of default cases, exclusive loan courts and bankruptcy courts have been set up in Dhaka and Chittagong. Recently, steps have been taken to regulate insider lending, restricting the size of such loans and making the process more transparent. Some progress has been made in removing major defaulters from the directorship of commercial banks. The Government is considering amending key banking legislation and policies to improve governance, the legal framework, and the institutional capacity of the banking system. However, banking reforms need to be expedited. In the capital market, the Asian Development Bank has helped the Government strengthen and regulate the system through a reform package via a loan. The Government has taken initiatives to address the fundamental weaknesses of the stock market, including strengthening the Securities and Exchange Commission, upgrading the professionalism of market practitioners, infusing greater transparency in market transactions, and introducing regulations that require higher disclosure and reporting standards of issuers. The old paper-based system of trading on the stock exchange has been replaced by an automated trading system. A central depository company has been established to facilitate scripless trading in corporate stocks. The Government has also taken some steps toward specific reforms for encouraging an increase in the supply of securities to the capital market, including passing legislation for exploring the possibility of investing a portion of the insurance and private provident and pension funds in the capital market.

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