Debt burden climbs as hard loans double in three years

Infographic: TBS

Foreign loans, the key source of financing development projects, is rapidly becoming costlier for Bangladesh with an increasing reliance on higher-cost borrowing, also known as hard loans, tied to market-based or floating interest rates.

Experts point out that this trend not only increases the burden of interest payments but also raises the pressure of principal payments.

This is because market-based interest loans typically come with shorter grace and repayment periods – three and 12 years respectively – compared to five and 20 years for fixed-rate loans.

According to the Economic Relations Division (ERD), commitments to market-based loans have witnessed a substantial rise, accounting for 28% of the total $8.46 billion for the fiscal 2022-23. This marks a significant increase from the previous year's 23.6% and nearly double the figures from just three years ago.

The Asian Development Bank (ADB), a top-tier development partner for Bangladesh, committed a $1.85 billion loan to the country in the last fiscal year. Nearly four-fifths of this amount will be subject to market-based interest rates that cost between 5% and 7%.

The impact of this shift is already evident in the country's interest payment projections which are expected to surpass $1 billion for the first time in the nation's history this fiscal year. The higher payments are also attributed to the ongoing depreciation of the local currency over the past year and a half.

Why market-based loans are a concern

Bangladesh borrows from development partners through fixed-rate and market-based floating-rate systems.

In the fixed-rate system, the country pays interest at the rate specified in the contracts, and it does not change.

For market-based loans, Bangladesh is required to pay interest based on the Secured Overnight Financing Rate (SOFR) and the Euro Interbank Offered Rate (Euribor).

Market-based loans were not a concern even two years ago, when the SOFR was below 1%. However, the SOFR has since surged, reaching 5.31% on 14 October, triggered by the Russia-Ukraine conflict.

In addition, Bangladesh now has to pay interest by adding a spread to the SOFR, which takes the interest rate to 6%-7% eventually.
It is the same with Euribor-based loans.

According to the latest ERD report, interest payments have increased by 68.5% in the first two months of the current financial year.

The ERD projects that interest payments will exceed $1 billion for the first time this fiscal year. The projection says that Bangladesh will have to pay $1.19 billion in interest payments in the current fiscal year to the development partners.

Last fiscal year, the country paid $937 million in interest, which was $491 million in the previous fiscal year.

Ahsan H Mansur, executive director of the Policy Research Institute, said, "Earlier, we used to get fixed-rate loans from the World Bank and the Asian Development Bank. But now this is gradually decreasing. As a result, we have to take floating-rate loans.

"Due to the floating-rate loans, the pressure will not increase only in paying the interest. At the same time, the pressure of the principal amount payment will also increase because floating-rate loans have a shorter repayment period."

In this situation, the economist said the government has to be careful when taking floating-rate loans. It is better not to take those projects that will not bring returns in coming years. Because such projects will increase the country's debt liability.

"For example, it would be better not to take on projects like the Padma Bridge rail link on foreign debt. To make this route profitable, the government has to earn Tk28 crore per day, which is absolutely impossible," he pointed out.

Scenario in the last fiscal year

In the last fiscal year, Bangladesh received $1.854 billion in loan commitments from the ADB, and 77.44% of this is market-based. ADB's market-based loans are increasing gradually.

Also, the multilateral lender provides loans to Bangladesh at a 2% fixed-interest rate, but the amount of this kind of loan is continuously decreasing, said ERD officials.

On the other hand, all loans that come from the Asian Infrastructure Investment Bank (AIIB) are market-based.

Due to the high SOFR rate, the country stayed away from obtaining any development project loans from the AIIB in the last fiscal year when it acquired only $650 million from the lender as budgetary support to bolster reserves. The budgetary support has come on the basis of a higher interest SOFR rate.

Now Bangladesh is gearing up to take loans from the New Development Bank (NDB). The country will get $1-1.5 billion every year from the Shanghai-based lender, 100% of which will be market-based.

So far, Bangladesh has borrowed $2.53 billion from the World Bank for seven projects at market-based interest rates. However, the country did not take any market-based loans from the multilateral lender in the last financial year.

The World Bank is lending to Bangladesh at zero to market-based interest rates. The country received a loan commitment of $3.6 billion from the Washington-based lender in the fiscal 2022-23, the highest ever in a single year, with 1.25% interest and a 0.75% service charge.

But there are proposals for $1.8 billion in market-based loans for the current and next fiscal years, amounting to $900 million each year.

Projections of fixed-rate and market-based loans:

The share of foreign loans at floating rates in Bangladesh's total external debt will climb to over 82% in 2041 from 23.6% in 2021-22, the ERD and the General Economic Division (GED) forecast.

As per ERD projection, Bangladesh's share of market-based foreign loans will be 42.4% in 2026 and 55.7% in 2031 when the country will become an upper-middle-income country as per government announcements.

In 2041, 82% of foreign debt will be market-based and only 4.2% of total foreign loans will come in the form of concessional loans, down from 59.4% in 2020.

According to an ERD report, the loss of concessional elements in financial support received from official donors will also lead to increased debt servicing costs.

However, Bangladesh's scope for obtaining foreign loans will increase significantly in the coming years. Besides, the country's graduation from the least developed country status will also open the door for market borrowing by both the public and private sectors.

Bangladesh is set to officially graduate to the group of developing countries in 2026 and is moving forward with the goal of becoming a developed country by 2041.

In recent years, Bangladesh has moved to blend financing with a mix of International Development Association (World Bank Group's concessional facility) and Ordinary Capital Resources (ADB's concessional facility) with non-concessional facilities.

According to the report, after the WB and the ADB, other multilateral development partners will also gradually decrease the disbursal of concessional loans to Bangladesh in the coming years.

Official development assistance is a key source of development finance, the ERD report says.