How currency devaluation costs govt dearly

The growth of Bangladesh's external debt in taka terms was much higher compared to its growth in dollar terms last year, as the high depreciation of the local currency increased the country's debt servicing costs. This has led to a liquidity crisis in both foreign exchange and local markets.

According to data from the Bangladesh Bank, the total foreign debt of Bangladesh in terms of US dollars grew by 6% year-on-year to $96.25 billion at the end of December 2022, compared to a growth rate of 24.5% in the previous year. 

In contrast, the total external debt in terms of taka grew by 22.3% to Tk9,52,875 crore last year, compared to a growth rate of 25.9% in the previous year.

Of the total debt in taka terms, the private sector accounted for 25%, according to the central bank's data.

The significant difference in growth rates between the debt figures denominated in US dollars and Bangladeshi taka in 2022 is primarily due to the substantial fluctuation in the exchange rate compared to the previous year, as stated in the recent report, "Foreign Direct Investment and External Debt" released by the Bangladesh Bank for July-December 2022.

The average exchange rate per dollar rose to Tk99 at the end of December last year from Tk85.80 during the same period in the previous year, central bank data show. 

Considering the current dollar rate of Tk109, the cost of external debt could surpass Tk1 lakh crore.

Fahmida Khatun, executive director of the Centre for Policy Dialogue (CPD), expressed concern over the high debt servicing cost, noting that it could create fiscal stress for the government, limiting budgetary allocation capacity. 

"The worst part is that the government is heavily dependent on borrowing money from the central bank through printing amid a liquidity crunch in the banking system. This will fuel inflation further," she further said. 

The high debt servicing costs have forced the central bank to opt for printing money to provide budgetary support to the government during the liquidity crisis. 

According to the Bangladesh Bank, Tk75,000 crore was printed during the last fiscal year.

Although the burden of foreign loans in terms of US dollars decreased due to higher payments than receipts, there are concerns about the erosion of foreign exchange reserve coverage of external debt. 

The ratio of foreign exchange reserves to total external debt fell to 35.1% in December last year from 50.8% in December 2021. The highest foreign exchange coverage of external debt was 65.4% in 2017.

Comparatively, India's reserve-to-debt ratio came down to 92% at the end of FY23 from an all-time high of 100.6% in 2021. 

The reserve-to-debt ratio serves as an indicator of how many dollars a country has in reserves for every dollar of debt owed to a creditor. This ratio is an indicator of how much money is set aside for future needs and a country's flexibility to react to adverse or unexpected events.

Traditional "rules of thumb" that have been used to guide reserve adequacy suggest that countries should hold reserves covering 100% of short-term debt or the equivalent of three months' imports.

Bangladesh's private sector debt was $24.31 billion at the end of December 2022. 

On the other hand, the Bangladesh Bank has a gross foreign exchange reserve of $29.77 billion as of 7 June this year. However, the central bank will have to exclude some components of nearly $8 billion from this figure following the IMF standard-based Balance of Payments and International Investment Position Manual (BPM6).

Moreover, the central bank will have to calculate the net reserve by excluding liabilities from the gross reserve. At present, the Bangladesh Bank has liabilities of nearly $4 billion. 

If the new formula is applied, the net reserves of the Bangladesh Bank stand below $20 billion. 

Therefore, the ratio of foreign exchange reserves to external debt indicates that the country's external payment capacity is below standard.  

Amid this situation, Moody's Investors Service downgraded Bangladesh's rating for the first time, placing it at B1 from the Ba3 category. 

The downgrade was attributed to heightened external vulnerability and liquidity risks, driven by a deterioration in foreign exchange reserves, exacerbating import constraints and leading to energy shortages.