Monetary Policy in Bangladesh-libre

8/11/2019 Monetary Policy in Bangladesh-libre

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NAME Page no

Chapter- 01

Introduction

Introduction 01

Rational of the study 01Objective of the study 02

Scope of the study 02

Methodology of the study 02

Limitations of the study 02

Chapter- 02

Body of the term paper

Monetary Policy 03Reason of publishing 03

Scope & Objective of Monetary Policy 04

Types of Monetary Policy 05

Monetary Policy in Bangladesh 06

Tools & Strategy of Monetary Policy 06

Major tools used by Bangladesh Bank 07Policy Target 12

Limitations of Monetary Policy 13

Chapter-03

Findings of the study 14

Conclusion 14

Bibliography 14


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Chapter- 01

Introduction

Monetary policy is the process by which the monetary authority of a country controlsthe supply of money, often targeting a rate of interest for the purpose of promotingeconomic growth and stability. The official goals usually include relatively stable prices andlow unemployment. Monetary theory provides insight into how to craft optimal monetarypolicy. It is referred to as either being expansionary or contractionary, where an expansionarypolicy increases the total supply of money in the economy more rapidly than usual, andcontractionary policy expands the money supply more slowly than usual or even shrinks it.Expansionary policy is traditionally used to try to combat unemployment in a recession byloIring interest rates in the hope that easy credit will entice businesses into expanding.Contractionary policy is intended to slow inflation in hopes of avoiding the resultingdistortions and deterioration of asset values .

In this report I tried to show that how monetary policy is related to the economy of ourcountry & how it works in our country.

Rationale of the study

The case study is assigned by our course teacher Nafisa Rounok as a part of ourMonetary Policy course. The topic of our case study is Monetary Policy inBangladesh . By conducting this study I can enhance our knowledge and skill to apply

various research methods in professional life on higher educational life. The report has givenus a chance to raise our quality in developing research instrument and its applications. Bydoing so, I can boost our acceptability in job market and develop our real life knowledge.

Objective of the Case Study

Primary objective

The main objective of the study is to know about the monetary policy used in our country.

Secondary objective :

The case study has the following objectives:

To know about monetary policy & its types.

Tools of monetary policy used by Bangladesh Bank.

To know about the strategy of monetary policy.


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Scope

There are huge scopes to work in the area of this Case Study. Considering the dead line, andexposure of the paper has been wide-ranging. The study Monetary Policy in Bangladesh has covered overall scenario of macroeconomics situation of Bangladesh. I have a chance towork on the economic variable used in modern economic world. By doing the assignment, Iare able to know that the importance of monetary policy of our growing economy. In the casestudy I discussed about the importance, types strategy of monetary policy & tools ofmonetary policy used by BB.

Methodology

I have used the concept of the course, information of the case study.

Sources of Data

Here the secondary sources of information are used. The secondary sources are:

Books.

Website.

Li itations

While conducting the report on Monetary Policy in Bangladesh , some limitations Ire yetpresent there:

Because of time shortage many related area cant be focused in depth.

Website in different organization of Bangladesh contains poor information.


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Chapter-!

Monetary "olicy

The regulation of the money supply and interest rates by a central bank, such as the CentralBank of Bangladesh in order to control inflation and stabilize currency. Monetary policy isone the two ways the government can impact the economy. By impacting the effective cost ofmoney, the Bangladesh Bank as a controller of monetary policy can affect the amount ofmoney that is spent by consumers and businesses.

Monetary policy is the process by which the monetary authority of a country controls thesupply of money, often targeting a rate of interest for the purpose of promoting economicgrowth and stability. The official goals usually include relatively stable prices and lowunemployment. . Monetary theory provides insight into how to craft optimal monetary policy.

Monetary policy is the process by which the government, central bank, or monetary authorityof a country controls

a) the supply of money,

b) availability of money, and

c) Cost of money or rate of interest to attain a set of objectives oriented towards thegrowth and stability of the economy.

d) Monetary theory provides insight into how to craft optimal monetary policy.

Reasons of publishing Monetary "olicy State ent The objectives for which The Central Bank of Bangladesh adopts the half yearly MPS H2FY11 are given below:

To support the governments goal of faster inclusive economic growth and povertyreduction, besides maintaining monetary and price stability.

To anchor inflation expectation of the markets is 7.5% in FY12 and the existing rate is10.17%. At present condition authority are unable to decrease the price of consumerproducts so it is wise to make the price stable by setting the inflation rate at 7.5%.

Achieving an inclusive economic growth by facilitating productive sectors whilekeeping inflationary pressure under control. By fixing inflationary rate the authority

trying to increase the outcomes using the maximum infrastructure of the productivesectors which will contribute in the national income.

Discouraging credit flows to unproductive sectors whereas increasing credit flow toproductive sectors. As we all know by increasing dependence on domestic goods anddecreasing dependence on imported goods one country can go up to our expectations.

To keep domestic borrowing conditions easy in a recessionary global environment,the central bank has refrained from Reverse Repo operations since the last quarter ofFY11 and has announced to continue it in the second half of the current fiscal year.

It is set to strengthen its oversight on liquidity, capital adequacy and risk managementin banks and financial institutions to protect the domestic financial sector from

instabilities of the kind now afflicting markets in advanced economies.


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Scope of onetary policy Monetary decisions today take into account a wider range of factors, such as:

Short term interest rates;

Long term interest rates;

Velocity of money through the economy;

Exchange rates

Credit quality

Bonds and equities (corporate ownership and debt)

Government versus private sector spending/savings

International capital flows of money on large scales Financial derivatives such as options, swaps, futures contracts, etc.

Objectives of onetary policy

The objectives of a monetary policy in Bangladesh aim at growth, stability and social justice.After the Keynesian revolution in economics, many people accepted significance of monetarypolicy in attaining following objectives.

Rapid Economic Growth Price Stability Exchange Rate Stability Balance of Payments (BOP) Equilibrium Full Employment Neutrality of Money Equal Income Distribution

These are the general objectives which every central bank of a nation tries to attain byemploying certain tools (Instruments) of a monetary policy. Let us now see objectives ofmonetary policy in detail:-

Rapid Economic Growth

It is the most important objective of a monetary policy. The monetary policy can influenceeconomic growth by controlling real interest rate and its resultant impact on the investment.

Price Stability

The monetary policy having an objective of price stability tries to keep the value of moneystable. It helps in reducing the income and wealth inequalities.


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Monetary policy in $angladesh

As stated in the Bangladesh Bank Order 1972, the principal objectives of the country'smonetary policy are

1. To regulate currency and reserves;

2. To manage the monetary and credit system;

3. To preserve the par value of domestic currency;

4. To promote and maintain a high level of production, employment and real income; a

5. To foster growth and development of the country's productive resources in the bestnational interest.

Although the long term focus of monetary policy in Bangladesh is on growth with stability,the short-term objectives are determined after a careful and realistic appraisal of the currenteconomic situation of the country.

#ools of onetary policy

Major instruments of monetary control available with Bangladesh Bank are the bank rate,open market operations, rediscount policy, and statutory reserve requirement.

The methods of credit control can be classified as follows:

Quantitative/ General Methods Qualitative/ General Methods

01. Bank rate policy 01. Rationing of credit

02. Open market policy 02. Direct action

03. Variation of reserve ratio 03. Regulation of consumers credit

04. Moral persuasion

05. Publicity

Strategy of Monetary "olicy

The MPS (Monetary Policy Statement) starts with expression of the monetary policyframeworks in terms of the goals, instrument, and the channels of transmission. Maintainingprice stability while supporting the highest sustainable output growth is the stated objectiveof monetary policies pursued by the Bangladesh Bank.

.


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Major Monetary "olicy Instru ents %se by $angladesh $an&

Bank rate

Bank rate, also referred to as the discount rate, is the rate of interest which a central bank

charges on the loans and advances that it extends to commercial banks and other financialintermediaries. Changes in the bank rate are often used by central banks to control the moneysupply.

The rate which central bank lends money to the commercial banks and discounts bill ofexchange is called bank rate. If central bank increases the bank rate then the commercialbanks will increase their marker of interest rates. As a result the borrowers borrow less formcommercial banks and amount of credit reduces in the economy. In an opposite way amountof credit will be increased in the country.

Impacts of Bank Rate ChangesBB(Bank rate) Effects: Increase

(cost of credit,unemployment,price level);Decrease(Production,export,investment).

Effects: Increase(other interestrate, investment,and export);Decrease(leakage ofdomestic capital,price level,import).

Effects:

An stablesituation isfoundCB(Interest rate)

Borrowers(Advance)

Increase= ; Decrease= ; Stable=

BB: Bangladesh Bank ; CB: Commercial Bank.


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Open market operations

Open market operations are the means of implementing monetary policy by which a centralbank controls the short term interest rate and the supply of base money in an economy, andthus indirectly the total money supply. This involves meeting the demand of base money at

the target rate by buying and selling government securities, or other financial instruments.Monetary targets such as inflation, interest rates or exchange rates are used to guide thisimplementation.

BB mainly injects or withdraws reserves from the banking system through open marketoperations (OMO). This is pursued in two ways:

The first type is the outright purchase or sale of approved securities through weekly auctionsin volumes consistent with the growth paths for RM and M2 targeted in the annual monetaryprogram. BB injects reserves into the banking system by purchasing approved securities andwithdraws reserves from the banking system by selling them. By adjusting the amount andthe officially acceptable interest rate at auctions, BB influences the successful bidding rate,and the subsequent public announcement of this rate can convey its intention regarding short-term interest rates.

For instance, if BB intends to raise short-term interest rates, it increases the scale of itsauction in absorbing operations and raises its internally acceptable bidding rate so as to pushup the successful bidding rate of the auction and thus mop up excess liquidity from thebanking system, which influences short-term interest rates. Any significant changes in theinterest rate may persuade the stockholders to recalculate their return through dividenddiscount window and may react accordingly.

The second type of OMO is repo (repurchase agreement) and reverse repo auctions. In order

to facilitate liquidity management on a day-to-day basis, BB goes for second type of openmarket operation, either through repurchase agreement (repo) to temporarily add reserves orthrough reverse repurchase agreements (reverse repo) to temporarily withdraw reserves.Repurchase agreements are essentially short-term loans collateralized by underlyingapproved securities. BB buys the underlying assets for a given price with an agreement by theselling institution to buy it back at a specified date and price. As the counterpart of repoauctions, BB accepts excess funds from the banks in ascending order of interest rates to theextent needed to maintain the intended level of liquidity. It can be mentioned that BB hasintroduced repo and reverse repo operations from July 2002 and April 2003 respectively.

Impacts of the OMO

Reverse repo and repo interest rates are BBs day to day instruments influencing the growthpath of reserve money, ultimately to influence inflation via growth path of broad money.

Recently, in the backdrop of the global economic slowdown the routine reverse repooperations are also being used sparingly, to keep credit conditions easy;


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Statutory reserve requirement

Statutory Liquidity Ratio(SLR)

The SLR is commonly used to contain inflation and fuel growth, by increasing or decreasingit respectively. This counter acts by decreasing or increasing the money supply in the systemrespectively. In terms of section 33(1) of the Bank Company Act of 1991, the StatutoryLiquidity Requirement (SLR) is the minimum (in percentage of total time and demandliabilities) that a scheduled bank has to maintain in liquid assets with BB. The rate was set at18 percent since 2005. Specialized banks are exempted while banks guided by Islamic lawsare required to keep reserve at the concessional rate of 10 percent.

The objectives of SLR are:

To restrict the expansion of bank credit.

To augment the investment of the banks in Government securities.

To ensure solvency of banks.

Value and Formula

The quantum is specified as some percentage of the total demand and time liabilities ( i.e. theliabilities of the bank which are payable on demand anytime, and those liabilities which areaccruing in one months time due to maturity) of a bank.

SLR Rate = Total Demand/Time Liabilities x 100%


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Cash reserve requirement (CRR)

The cash reserve requirement (or required reserve ratio or only reserve requirement) is a bankregulation that sets the minimum reserves each bank must hold to customer deposits andnotes. These reserves are designed to satisfy withdrawal demands, and would normally be inthe form of fiat currency stored in a bank vault (vault cash), or with a central bank.The reserve ratio is sometimes used as a tool in monetary policy, influencing the country'seconomy, borrowing, and interest rates.

BB requests banks to keep five percent of their demand and times liabilities on account at thecentral bank. Cash in till is not eligible for the CRR.

Impacts of SLR & CRR

Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR) for scheduled banks are theother monetary policy tools, used sparingly in situations of drastic imbalances from majorshocks.


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Changes of SLR, CRR and Bank Rate and Impact on Interest Rates (percent)

Y e a r

( e n d

J u n e )

S L R

C R R

B a n k R a t e

R e a

l d e p o s

i t

r a t e

R e a

l L e n

d i n g /

A d v a n c e r a t e

W e i g h

t e d

a v g .

l e n d

i n g /

A d v a n c e r a

t e

W e i g h

t e d

a v g .

D e p o s i t r a t e

I n t e r e s t r a

t e

S p r e a d

1 2 m o n

t h a v g .

i n f l a t i o n (

B a s e

:

- =

G D P g r o w

t h

1997-1998

20 5 7.5 2.71 9.73 13.69 6.67 7.02 3.96 5.40

1998-1999

20 5 8 -1.59 5.36 14.02 7.07 6.95 8.66 5.20

1999-2000

20 5 8 0.22 7.10 14.16 7.28 6.88 7.06 4.90

2000-2001

20 4 7 4.42 11.07 13.86 7.21 6.65 2.79 5.90

2001-2002

20 4 7 5.09 11.81 13.75 7.03 6.72 1.94 5.27

2002-2003

20 4 6 3.95 10.37 13.16 6.74 6.42 2.79 4.42

2003-2004

20 4 6 1.91 8.40 12.78 6.29 6.49 4.38 5.26

2004-2005

16 4 5 -0.18 5.18 11.01 5.65 5.36 5.83 6.27

2005-2006

16 4.5

5 -0.87 4.44 10.93 5.62 5.31 6.49 5.96

2006-2007

18 5 5 -0.48 4.90 12.06 6.68 5.38 7.16 6.63

2007-2008

18 5 5 -0.35 5.58 12.78 6.85 5.93 7.20 6.43

2008-2009

18 5 5 -2.99 2.35 12.29 6.95 5.34 9.94 6.21

2009-2010

18 5 5 11.9 7.0 4.9 6.50 5.90

Source: Annual Reports, BB

4 Lending channel: If SLR Bank lending Bank investment that will Y(output).


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Cash flow channel: If SLR Cash flow of bank Interest rate Bank investment that will Y (output).

#he "olicy #arget's(

In this backdrop it is necessary that the monetary policy framework be articulated for greaterclarity and transparency benefiting both the policy makers and thestakeholders. A policy system, where the goals are transparent and their achievementverifiable, directly adds to the credibility of the central bank, a major objective of thisdocument is to define such a framework. In contrast, however, the challenge in thedeveloping world is how to augment the capacity output through both productivity growths aswell as via the installation of additional capacity. Hence the appropriate monetary policystrategy in the Bangladesh context would be to achieve the goal of price stability with thehighest sustainable output growth.

Inflation Target

It is the general wisdom that monetary policy tools are of immediate influence in controllinginflation. However, contemporary evidence amply illustrates that monetary policy cannotdeal well with the inflationary impact of external shocks such as the recent international priceof oil & related energy products. Many central banks as a consequence focus on the coreinflation which is typically constructed by subtracting the most volatile components (e.g.food & energy prices, indirect taxes, etc.) from the consumer price index (CPI). As a policygoal, core inflation may be a more credible target then CPI inflation. While there is nostandard measure of core inflation in Bangladesh context at this time, the constructionmethodology is made complex by two facts. First is that food items constitutes nearly 60% ofthe CPI index, and while the appropriate commodity group weights may require a re-think, toignore food entirely in defining the core inflation may render the construction a bit likethrowing the baby away with the bath water. Secondly, in Bangladesh context, the volatilityof the international energy prices appear not to filter down to the CPI since the relevantdomestic prices is subsidized by the state. Periodic adjustment in administered energy priceshave always lagged the world market changes in both the time line as well as in magnitudeoften most dramatically. While it may be useful to focus on the non-food component of theindex (which occupies only 41.6% of the full CPI) in order to gauge at the build-up ofunderlying inflationary forces in the economy, it would be unwise to treat this alone as avalid measure of core inflation.

Growth target

GDP growth projections of the Medium Term Macroeconomic Framework (MTMF) in thegovernment's National Strategy for Accelerated Poverty Reduction (NSAPR), modifiedappropriately in the light of unfolding actual developments, are used as output growth targetsfor the purpose of monetary policies.


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Li itation of Monetary "olicy in )eveloping Country

In developing country, monetary policy suffers from the following limitations

In under developing countries, and capital markets are narrow and unorganized. Similarly, inthe situations, the instrument the reserve requirement does not function properly. By itsnature, monetary policy is not effective in the short run. The role of monetary policy is notcompulsive but permissive. This seriously limits the efficiency of monetary policy inbackward countries. In under developed society where liquidity trap is in existence monetarypolicy cannot work efficiently. Administrative honesty and firmness are not very rigorous inless regular countries which reduce the efficiency of monetary policy a policy a lot.

Lastly, the lag between the decision about a particular policy and its implementation alsohinders the monetary policy in its success. Here we found that monetary policy suffers fromvarious limitations in the developing country. So, it should be supplemented by fiscal policyto make it effective. Despite this information, monetary policy sets the tone of economicdevelopment in recent years.


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Chapter-0*

+indings and conclusion+indings of the study The intension of this study is to know how to work with digital information system. Themajor findings of the overall study are discussed below:

Objectives of the monetary policy. Tools of monetary policy used by Bangladesh Bank. Reason behind publishing the monetary policy. Know about the bank, interest, repo, reverse repo, etc. The overall economic & monetary scenario of Bangladesh.

Conclusion The Monetary Policy Statement (MPS) is intended to outline the objective and the modalitiesof formulation & conducting of monetary policy by the BB, its assessment of the recent andthe expected monetary and price developments, and the stance of monetary policies that willbe pursued over the near term. Objectives of the monetary policies of BB as outlined in theBangladesh Bank Order, 1972 comprise attainting and maintaining price stability, high levelsof production, employment and economic growth in such a directed regime with little or norole of financial prices in influencing the magnitudes or directions of credit the present MPSprovides the monetary policy stands that BB intends to follow during first half of FY11-12.The prime objective of the policy stance is to ensure the use of the financial instrumentstowards promoting real sector growth at its targeted level along with ensureing reasonableprice stability. The policy stance takes into account recent developments in real, external,fiscal & monetary sectors of the economy and the near term macroeconomic outlook for theremaining period of FY11.

$ibliography

$oo&s Frederic S. Mishkin; The economics of Money, Banking, and Financial Markets; 7 th

Edition. (International Edition: Pearson Book Company, 2008).

,eb Sites1. www.bb.org.bd 2. www.mof.gov.bd 3. www.economywatch.com 4. www.en.w ikipedia.org

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Monetary Policy in Bangladesh-libre