• Policy Rate Hike: To combat rising inflation, Bangladesh Bank raised the policy rate.
• Lending Rate Increase: The central bank elevated the lending rate to 10.70pc, allowing a 3.50p margin on SMART, which is currently at 7.20p.
• Significant Surge: This move resulted in a significant rise from the previous 3p in September, exceeding the government’s 6p target.
• Continued Commitment: Bangladesh Bank’s action demonstrates its ongoing commitment to tackle inflationary pressures on the economy.

Just one day after implementing an increase in the policy Rate, the Bangladesh Bank has taken another decisive move in its ongoing efforts to combat the rapidly escalating inflation. The central bank, in its pursuit of stabilizing the economy and mitigating the intensifying inflationary pressures, has issued a notification allowing banks to apply a 3.50 percent margin to the reference rate, referred to as SMART, which currently stands at 7.20 percent.

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 Consequently, this adjustment results in a notable elevation of the lending rate to 10.70 percent, signifying a significant increase from the previous interest margin of 3 percent.

This latest decision is part of a series of measures undertaken by the central bank to address the inflation issue. In September, the six-month moving average rate of treasury bills denoted as SMART, remained steady at 7.20 percent, and this rate is set to persist through the month of October. The central bank had previously eliminated the lending rate cap back in June, introducing a new interest rate framework as stipulated by the International Monetary Fund (IMF) as a condition for a $4.5 billion loan agreement.

Despite the proactive steps taken, inflation in Bangladesh has displayed persistent resilience. In September, the average inflation rate surged to 9.63 percent, significantly surpassing the government’s targeted rate of 6 percent for the current fiscal year.

In response to this sustained inflationary trend, the Bangladesh Bank’s decision to raise the lending rate is viewed as a proactive measure to counter the inflationary pressures that have been exerting pressure on the country’s economy.

Leveraging the Policy Rate

The monetary policy committee of the Bangladesh Bank decided to elevate the Policy Rate, also known as the repo rate. The repo rate plays a pivotal role in the central bank’s monetary policy toolbox, enabling it to regulate the country’s money supply, inflation levels, and overall liquidity. When the central bank raises the repo rate, it directly impacts the interest rates on loans and deposits offered by commercial banks.

Lag in Rate Adjustments

Comparatively, Bangladesh has lagged behind the global curve in raising policy rates to combat inflation. For instance, the Federal Reserve of the United States and the European Central Bank have consistently increased their policy rates over the past year, responding to record inflation. The US, notably, raised interest rates to their highest level in 22 years, implementing 11 rate hikes since 2022. Consequently, annual inflation in the world’s largest economy was anticipated to have dropped to 3.6 percent in August, significantly lower than the peak of 9.1 percent observed in June 2022. The eurozone also witnessed a significant drop in inflation, halving from an all-time high of 10.6 percent in October of the previous year to 5.3 percent in August.

Bangladesh Bank’s Repo Rate

Bangladesh Bank initiated the process of increasing the repo rate in May of the preceding year, primarily in response to rising inflation attributed to surging commodity prices driven by the crisis stemming from the Russia-Ukraine conflict. However, the effectiveness of these rate hikes was curtailed, partly due to a longstanding 9 percent interest rate ceiling imposed since April 2020.

The central bank withdrew this lending rate cap in June, introducing a new interest rate regime to comply with conditions attached to the International Monetary Fund’s $4.5 billion loan. Regrettably, higher inflation has already resulted in a cost-of-living crisis.

Under the central bank’s new framework, banks are permitted to impose a 3 percent margin on the six-month moving average rate of treasury bills, abbreviated as SMART. In September, SMART stood at 7.20 percent, with the same rate applicable in October—up from 7.14 percent in August. Consequently, the rise in the policy rate has led to the highest rate of the standing lending facility increasing to 9.25 percent from 8.50 percent, and the rate of the standing deposit facility rising to 5.25 percent from 4.50 percent.

Expert Opinion

Ahsan H Mansur, the executive director of the Policy Research Institute, suggests that the success of the policy rate hike hinges on whether the central bank allows lending rates to rise accordingly. He recommends a gradual increase in the policy rate over several months as part of efforts to tame inflation and stabilize the exchange rate.

While rising interest rates may impact investments, Mansur contends that the primary objective should be to bring down inflation to a reasonable level and ensure exchange rate stability. Notably, the taka has depreciated by approximately 28 percent against the US dollar over the past 18 months.

The rate hike occurs against a backdrop of declining private sector credit growth, with banks and borrowers adopting a cautious approach due to economic stress and concerns over political instability in the run-up to parliamentary elections. In August, credit growth stood at 9.75 percent, slightly lower than the previous month’s 9.82 percent.

Market Impact and Ongoing Uncertainty

Syed Mahbubur Rahman, managing director and CEO of Mutual Trust Bank Ltd, anticipates that the policy rate hike will indeed impact the market, especially as the liquidity situation faces stress. He expects an increase in deposit rates but foresees a decline in credit flow to the private sector, with the net interest margin representing the difference between interest expenses and interest revenue, likely to decrease. While the move is anticipated to help contain inflation, there remains uncertainty surrounding its broader implications and outcomes in the evolving economic landscape.

Bangladesh Bank’s decision to raise the policy rate by 75 basis points reflects a determined effort to combat inflation. While it may have implications for lending and deposit rates in the country, the central bank’s primary focus remains on addressing inflation and stabilizing the exchange rate in a challenging economic environment.

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