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Bangladesh has overtaken India. Now he must learn from his neighbor

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In the midst of the Covid-19 pandemic, and exactly 50 years after its independence, Bangladesh has passed a major test. Last year, the United Nations decided to remove the South Asian economy from the list of the world’s least developed nations. In fact, its national income per capita is now higher than that of neighboring India. The celebrations, however, were interrupted by a sudden jolt: a shortage of hard currency severe enough to require a bailout by the International Monetary Fund.

Will the imbalance derail the graduation ceremony, which the UN has set for 2026? More importantly, will it slow progress toward the next stage: upper-middle-income status for its 167 million people over the next 20 years? Bangladesh’s larger neighbor can offer clues and lessons.

Dhaka’s central bank has seen its foreign exchange coffers shrink by 13% over the past year to $40 billion as it unsuccessfully defended the currency at around 86 taka to the dollar. Current reserves can pay for nearly four months of imports. Since coverage of less than three months is considered dangerous, the loan Bangladesh is requesting from the IMF appears to be preemptive – unlike bankrupt Sri Lanka where the authorities are in desperate need of funds. The problem, however, is that by belatedly allowing the taka to become more competitive – it has officially fallen to 95, despite the currency being quoted last week at 112 to the dollar in the market – the authorities risk worsening the internal imbalance.

A cheaper taka will accelerate inflation from a nine-year high of 7.6% by raising the cost of imported energy. Shortages of expensive natural gas threaten power cuts through 2026, hurting manufacturers. There could be ripple effects. If the dollar crisis precipitates a deep slowdown and an increase in bad debt, bailing out the financial sector with taxpayers’ money could put a strain on the government’s poor credit rating (Ba3, according to Moody’s Investors Service).

This is where policymakers could draw a parallel with India, South Asia’s largest economy. The first clue is that a crunch in hard-currency funding — the kind that occasionally hits nearly every developing country — slows things down if it hurts the domestic banking system. When India’s central bank ran out of dollars for imports in 1990-91 and New Delhi had to seek an IMF bailout, India’s per capita income was $390. For an increase from $10 to $400, the country had to wait until 1996. It took that long in part because – even three years after stabilization – a quarter of the assets of India’s banking system were non-performing.

A second lesson is that the lean years must be devoted to reforms that would give the economy a new spurt of growth: in the case of India, this meant lowering trade barriers, dismantling industrial licenses and involving local companies with global capital. This gave India enough fuel to almost quadruple per capita income from 1996 to $1,500 by 2012. But because India had not done enough to improve the governance of its financial system, a excessive credit directed to large projects of dubious value eventually became a drag.

While India lost momentum, Bangladesh took off. Per capita income, which was just over $1,000 a decade ago, topped $2,600 last year, a fifth higher than India’s. Real living standards, adjusted for inflation and differences in the purchasing power of their currencies, are still 4% higher in the wider economy, but Bangladesh has managed to narrow the gap by 11% in 2013, the year the dangerous Rana Plaza factory building collapsed in Dhaka, killing more than 1,100 garment workers.

What went well for Bangladesh? On the one hand, it played to its strength, garnering a share of low-skilled global exports – ready-to-wear clothing – in line with its share of working-age people among poor countries. India has shifted to highly skilled software, business process outsourcing and finance, benefiting a tiny fraction of its billion-strong workforce, according to a 2020 paper by economist Shoumitro Chatterjee of Pennsylvania State University and Arvind Subramanian, former Indian economic director adviser. A new study by Amit Basole, an economist at Azim Premji University in Bangalore, shows the difference in results: Bangladesh generated three times more jobs for every 1% growth in output than India between 2010 and 2018.

Bangladesh has an opportunity to use the IMF program to “start a round of cleanup,” Ahsan H. Mansur, executive director of the Dhaka-based Policy Research Institute, told Bloomberg News. He should seize the opportunity. But in doing so, perhaps the biggest lesson policymakers can take from their neighbor is not to sow the seeds of widespread wage growth and prosperity.

To leave the club of the world’s poorest nations after having multiplied its textile exports by 1,000 since the mid-1980s is a stellar achievement. Now comes the hardest part. To qualify for upper-middle-income status, the average Bangladeshi must earn 60% more. This will require funds for industry and infrastructure. But the financial system is underdeveloped: the 14 trillion taka ($150 billion) in assets of listed banks represent only about 40% of gross domestic product. Worse still, around 40% of bank assets are generating returns below 0.5%, suggesting poor capital allocation. India has left this issue unattended for far too long. Bangladesh should not repeat the mistake.

More from this and other writers at Bloomberg Opinion:

• South Asia should pay attention to their star star: Mihir Sharma

• The next China? India must beat Bangladesh first: Andy Mukherjee

• Big clothing brands still need workers in Bangladesh: Adam Minter

This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.

Andy Mukherjee is a Bloomberg Opinion columnist covering industrial companies and financial services in Asia. Previously, he worked for Reuters, the Straits Times and Bloomberg News.

More stories like this are available at bloomberg.com/opinion

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