BB’s move for greater rate flexibility makes forex market volatile

State banks set maximum transfer rate at Tk 123, central bank verbally asks private banks to follow it

Highlights

• The Bangladesh Bank’s move towards a flexible exchange rate, under the leadership of the IMF.
• Strong remittance flows and export earnings have helped foreign exchange reserves climb to $20 billion.
• Banks are facing payment pressures due to central bank instructions to settle outstanding letters of credit.

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The country’s foreign exchange market has become volatile again due to sharp fluctuations in the dollar exchange rate, as the Bangladesh Bank is set to implement greater exchange rate flexibility, in line with an agreement reached between its services and the International Monetary Fund (IMF).

Despite strong remittance inflows and impressive export earnings, the remittance rate jumped to Tk128 last week, up from Tk122-123 in November.

In this situation, four state-owned banks, including Sonali, Agrani, Janata and Rupali, came together on Monday, agreeing to purchase funds for a maximum of Tk 123.

Some private commercial banks have been instructed by the relevant department of the Bangladesh Bank to monitor the rate, according to bankers wishing to remain anonymous.

The Bangladesh Bank is likely to revise its official exchange rate upwards to Tk 123 from the current Tk 120, depending on market demand.

Explaining the reasons for the rate fluctuations, a senior central bank official told the Business Standard that the rate is expected to increase due to the adoption of greater exchange rate flexibility.

He said more flexibility meant there would be less interference, and the Bangladesh Bank agreed with the IMF during the latest visit of a review mission from the multilateral lender earlier this month.

In a December 18 press release regarding the third review of the Bangladesh Extended Credit Facility and Extended Funds Facility, the IMF mentioned that the central bank was committed to fully implementing the bond rate reforms. changes to ensure greater flexibility.

During the visit, the IMF mission also held a meeting with treasury managers of commercial banks regarding the exchange rate mechanism.

The dollar rate began to rise slowly in early December after the IMF’s meeting with commercial banks, with the Bangladesh Bank agreeing to adopt greater flexibility.

The IMF press release states: “To address the emerging external financing gap and persistently high inflation, short-term policy tightening is crucial. Fiscal consolidation should prioritize the rapid implementation of additional revenue measures, such as the removal of tax exemptions, while restricting spending.

“Coupled with monetary tightening, greater exchange rate flexibility and safeguarding foreign exchange reserves will strengthen the economy’s resilience to external shocks.”

The IMF’s instruction for greater exchange rate flexibility came at a time when the country’s inflation was on the rise, reaching 11.38% in November, causing immense suffering to the general population .

Tighter monetary policy to curb inflation

The Bangladesh Bank has also pledged to further tighten its monetary policy to control inflation.

Tightening monetary policy will further increase borrowing costs, hurting investment, and the end result will be slower growth, another senior central bank official said.

However, the government is now focusing on stabilizing the foreign exchange market and inflation instead of prioritizing growth, he added.

Private sector credit growth has already slowed to single digits amid rising interest rates, which now exceed 13%.

Stable reserves

At the same time, gross foreign exchange reserves increased again on Sunday to reach $20 billion after a month and a half, despite fluctuations in the dollar exchange rate.

Reserves remained stable at $19-20 billion under the caretaker government due to the increase in dollar price to Tk120, matching market demand.

The Bangladesh Bank also stopped selling dollars from its reserves after the overthrow of Sheikh Hasina’s regime on August 5, amid a massive student-led uprising.

Describing the current foreign exchange scenario, another senior Bangladesh Bank official said the rate fluctuation is not due to a dollar crisis but rather the expectations of a greater rate flexibility mechanism.

Additionally, some players are increasing the dollar rate to take advantage of the more flexible rate mechanism, he added.

Citing the inflow of current dollars, he said the primary inflow is greater than the outlay as the combined total of remittances and export earnings exceeds imports.

In November, dollar inflows totaled $6.7 billion, including $4.7 billion from exports and $2.2 billion from remittances, while imports reached nearly $6 billion. of dollars.

The inflow of funds was very impressive in December, as the country received $2 billion in the first 19 business days, and the central bank expects this figure to reach almost $2.5 billion by the end of the month.

The daily net opening dollar position at banks remained in surplus of $400 million to $500 million, compared to a deficit last year.

In December, the total inflow, including remittances and exports, is expected to reach $7.5 billion, while imports are estimated at around $6 billion, leaving almost $1 billion of surplus, the central bank official said.

Tk$128 is ‘illogical’

Speaking to TBS, the head of treasury of a private commercial bank said the dollar price of Tk128 was completely illogical as the market is liquid.

Sharing his experience, he said that exchange houses are taking advantage of the increased flexibility in the exchange rate. He admitted that the rate of Tk 123 fixed by state banks is logical.

He explained that the dollar rate increased up to Tk 122-123 due to the high demand for opening letters of credit (LC) ahead of Ramadan.

Additionally, the central bank allowed crisis-hit banks to open letters of credit to support businesses and resume regular operations, which contributed to a slight rise in the dollar rate, he explained.

Banks must settle their arrears

He also mentioned that there was pressure on payments as the Bangladesh Bank had strictly asked banks to clear their arrears.

In a November 12 circular, the Bangladesh Bank warned Treasury officials of punitive measures if import payments remained late.

Bangladesh Bank held two meetings in the first week of December with treasury officials of commercial banks, during which they were strictly reminded to ensure clearance of payments.

In October, import settlements exceeded $6 billion, the highest figure in a year and a half. This trend continued in November, although the latest data has not yet been released.

Another treasury official at a private commercial bank said the lack of transparency in dollar rates was one of the reasons for the rate hike.

Speaking to TBS, he said there is no public list of dollar rates, so buyers and sellers rely on media reports for rate information.

The banker said banks regularly report their buying and selling rates to the Bangladesh Bank, but the authority does not make this information public.

The central bank still uses the official rate of Tk120 on its website, even though the average market rate is between Tk122 and Tk123, he said.

The inconsistency between official and unofficial rates misleads market demand, he added.

Syed Mahbubur Rahman, managing director and CEO of Mutual Trust Bank, told TBS that banks were facing payment pressures at the end of the year. Additionally, the central bank has asked banks to clear overdue payments.

He added that the central bank governor also suggested that banks focus on clearing internal payments rather than rates.

However, there is some bundling activity as some buy dollars at different prices and resell them at the average price to make money, he added.

Speaking to TBS, Sheikh Mohammad Maroof, managing director of Dhaka Bank, said there was additional pressure on payments against government letters of credit during the first week of December, which contributed to the surge in dollar prices.

He added that banks were also under pressure to clear outstanding payments following the central bank’s instructions.

However, a free exchange rate will curb the tendency to enjoy additional benefits, which will bring discipline, he added.