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Inflation rose sharply to 9 percent in February 2010, from 2.2 percent in June 2009. 

The sharp rise in inflation was driven mainly by increases in food inflation from 0.3 percent in June 2009 to 10.9 percent in February 2010. Prices of food, particularly rice, wheat, and pulses reached a recent high in December 2009. The price of coarse rice in Dhaka in March 2010 was 17.8 percent higher relative to March 2009. Aman production is reported to be one million tons (8.6 percent) lower than last year. The market may be factoring in the possibility that the boro (largest rice crop) yield may suffer stunted saplings because of a cold winter. In addition, rice traders may be betting on likely shortfalls and holding on to current stock. Rising world food prices and high food inflation in India (around 18-19 percent) contributed to the surge in food inflation. International food markets suffered adverse supply shocks due to drought in India and successive cyclones in the Philippines. 

General inflationary pressures also emerged in asset and goods markets. Non-food inflation increased from 3.7 percent in July 2009 to 7 percent in December before declining to 6.1 percent in February 2010. Stock prices have risen by more than 78 percent since June. The Bangladesh Bank (BB) has been pursuing an accommodative monetary policy to guard against the downside risks to growth. BB promises stronger vigilance over the price situation and has indicated that it would like to reduce broad money growth to 15.5 percent for FY10 against the 21.9 percent growth through February. While domestic agriculture output and world food prices are likely to have a strong bearing on inflation in the next few months, an incremental tightening of monetary policy, as announced in the Monetary Policy Statement for the second half of FY10, can also help dampen inflationary pressures. Like other central banks, the dilemma for the BB is whether to tighten monetary policy and risk choking growth, or keep things as they are and risk higher inflation. The BB has come out in favor of the latter to hedge against the downside risks to growth, but it will be important to bring monetary growth back in line with the growth of nominal GDP.

Exports faltered in FY10, but reserves increased due to strong remittance and foreign aid inflows. 

Merchandise exports have declined by 3.2 percent in the first eight months of FY10 relative to the same period last year, driven by a 5.6 percent decline in RMG exports. Export price and volume declined by 2.6 percent and 0.6 percent respectively in the first eight months of FY10. The BGMEA (garment association) has reported a drop in garment prices of up to 20 percent compared to the previous year. The BKMEA (knitwear association) reported a decline in prices of 5-7 percent. Weak demand in US and Europe accounts for a significant part of the decline. The non-RMG exports have recovered, growing by 5.7 percent in the first eight months of FY10 after a 0.6 percent decline during the same period last year. The comparatively strong performance can be attributed to the rising global demand for raw jute and jute goods. Export of raw jute and jute goods increased by 46.5 and 52.6 percent respectively during the first eight months of FY10. Pharmaceutical exports grew by 15.9 percent. Frozen food exports declined by 17.2 percent, but are expected to increase in the coming months as the self-imposed ban on exporting shrimps has been lifted.

Foreign exchange reserves have remained above US$10 billion (equivalent to 5.7 months of imports) since November. 
Notwithstanding the decline in exports, the current account surplus in the first seven months of FY10 amounted to US$2.2 billion, compared to US$0.38 billion in the first seven months of the previous year. A 6.5 percent decline in imports narrowed the trade deficit which, together with strong 20.9 percent growth in remittance inflows in the first seven months of FY10, led to such a sizable current account surplus. This was complemented by a US$418 million surplus in the capital and financial account, thus leading to over US$2.1 billion in surplus in the overall balance of payments. The Bangladesh Bank intervened in the foreign exchange market and purchased (net) US$2.34 billion in the first three quarters of FY10 to keep the nominal exchange rate from appreciating.

The fiscal deficit remains sustainable, underpinned by good revenue performance so far. 

The fiscal deficit will likely be contained at around 4 percent of GDP, well within the sustainable threshold. The deficit target in the original FY10 budget was 5 percent of GDP. The realized budget deficit in first half was Tk.39.97 billion only. Although this is Tk. 46.7 billion less than the deficit in first half of FY09, the budget deficit in FY10 is likely to exceed last year’s 3.7 percent of GDP because of the implementation of the public sector wage increase with retrospective effect, increase in safety net expenditures, and a further boost in ADP implementation (as is typically the case) in the second half of FY10. There is positive news on the revenue front, with the National Board of Revenue (NBR) achieving almost 99 percent of the revenue collection target it set for the first eight months of FY10. Revenue collection during this period increased by 17.1 percent relative to the same period last fiscal year, driven by 26.1 percent growth in domestic indirect tax and 19.3 percent growth in income tax collections.

The impressive growth in domestic-based taxes is due largely to improved ADP implementation, increase in tax rates, broadening of tax base, and improved compliance: 

• Increased ADP implementation resulted in 37.4 percent growth in VAT collection from construction, and 69.3 percent growth from cement till November 2009. Meeting the VAT target of Tk 207.35 billion at the yearend is realistic if 90 percent of the revised ADP is implemented.

• The mandatory use of Electronic Cash Register (ECR), though not fully implemented yet, may have also contributed to high VAT collection. New VAT registration during the first 8 months of FY10 stood at around 9,000.

• The increased Advance Trade VAT (ATV) rate from 1.5 percent to 2.25 percent resulted in 56.1 percent growth in ATV collection to November 2009.

• The price slab for cigarettes and tariff value for domestic production of tobacco products were raised and a 10 percent supplementary duty on tobacco products was imposed in FY10. As a result, VAT collection from tobacco, which constitutes 30 percent of total domestic taxes, grew by 24 percent by November 2009.

• Better monitoring and compliance have contributed to income tax growth. The NBR is carrying out awareness campaigns and surveys to identify new taxpayers. Around 0.12 million new taxpayers had been identified by February 2010 compared to a 0.4 million target for FY10 and the NBR hopes to achieve the target by June 2010. The amnesty for legalizing undisclosed income has not had the desired revenue impact so far. 

Notwithstanding these improvements, mobilization of public revenues will remain a major challenge in the immediate future. 

The interest payment burden is increasing. The composition of deficit financing this year is likely to deviate significantly from the original FY10 budget target. Higher interest rates on national savings certificates relative to deposit rates boosted NSC sales, resulting in Tk52 billion non-bank borrowing, compared to the Tk38 billion target for the year as a whole. Net foreign financing in the first half was 36 percent higher relative to last year, boosted by the US$730 million budget support from the ADB. Flush with cash, the government repaid over Tk107 billion debts to the banking system by end-March, thus creating space for growth of bank credit to the private sector without hurting the monetary program targets. However, the rise in the share of non-bank domestic borrowing means an impending increase in interest payment on domestic debt.

Despite the recent increase in power prices at the retail level, energy and fertilizer subsidies are likely to rise again. Losses by state-owned enterprises (SoEs), which for the most part have been brought on the budget, arise mainly from administered prices that do not cover input costs. The rapid decline in international oil prices helped contain energy sector SoE losses in FY09. International oil prices have been rising in recent months. Consequently, domestic prices for petroleum products are again below the levels needed to cover the costs of the relevant SoEs. This remains true for electricity as well despite a recent 6 to 7 percent increase in power prices at the retail level.