High inflation drains forex reserves, finds Bangladesh Bank study

The Bangladesh Bank Training Academy recently published its biannual journal ‘Thoughts on Banking and Finance’ (January — June 2022), featuring six research-based articles. One key study, titled ‘Does Remittance Inflow Affect Foreign Exchange Reserve? A Case Study of Bangladesh,’ highlights the significant but negative long-term impact of trade and inflation on reserves.

The study found that a 1 per cent decrease in inflation would increase reserves by 0.11 per cent.

As of April, Bangladesh's inflation rate reached 9.74 per cent consistently exceeding 9 per cent since March 2023. Consequently, the country's net foreign exchange reserves, per IMF guidelines, dropped to $13.15 billion, with gross reserves at $18.26 billion as of May 14, marking a 10-year low.

This is a steep decline from $48 billion in 2021.

The study emphasised that to maintain low inflation, stabilising the foreign exchange rate necessitates more reserves. Stable inflation, conversely, positively impacts reserves by making domestic products more competitive in foreign markets.

According to the Bangladesh Bank Order 1972, the central bank's primary role is to manage monetary policy, influencing the money supply, dollar rate, and interest rates to affect the economy's overall spending and inflation levels.

Foreign exchange reserves reflect the balance of payments (BoP); a surplus indicates reserve build-up, while a deficit shows reserve depletion or government borrowing from abroad. Significant reserves allow a country to intervene in the foreign exchange market, stabilising or strengthening the domestic currency.

Amid a severe dollar crisis, the central bank has sold over $32 billion to commercial banks over the past 34 months, including $11.6 billion from July-April of FY 2023-24. However, currency depreciation raises import costs, contributing to domestic inflation, while appreciation makes imports cheaper, reducing inflationary pressures.

The study suggested that the government and the central bank should work together to manage exchange rate fluctuations. By implementing appropriate measures, such as intervening in the foreign exchange market, when necessary, they can help maintain a stable exchange rate.

This stability assists in meeting targeted inflation rates and safeguarding the country's foreign exchange reserves.

Fibre2Fashion News Desk (DR)