Information about Asia and the Pacific Asia y el Pacífico
Journal Issue
Share
Article

Bangladesh: First Review Under the Three-Year Arrangement Under the Poverty Reduction and Growth Facility and Request for Waiver of Performance Criteria

Author(s):
International Monetary Fund
Published Date:
February 2004
Share
  • ShareShare
Information about Asia and the Pacific Asia y el Pacífico
Show Summary Details

I. Performance Under the First-Year PRGF

1. In the attached letter dated December 18, 2003 and the Memorandum of Economic and Financial Policies (MEFP, Attachment I), the Government of Bangladesh outlines the progress that has been made under the program, and requests completion of the first review under the PRGF arrangement and waiver for the nonobservance of structural performance criteria (MEFP ¶12 and ¶17).

2. Macroeconomic performance has improved markedly, and all indicative targets and quantitative performance criteria for end-June and end-September were met (Tables 12, Figure 1, and MEFP Table 2). Economic recovery is taking hold, driven by a rebound in external demand and domestic activity. Real GDP growth accelerated to 5.3 percent in FY03 (ending June), on the strength of exports, industrial production, and agriculture. Inflation was contained under 5 percent by September 2003 as programmed, despite increases in food and administered prices.

Industrial Production and Export Growth

(Year-on-year portent change)
Table 1.Bangladesh: Key Social Indicators, 1970–01
1970–751980–851995–01 1/Low-income 2/
Population
Total population, midyear (millions)75.697.1133.32,505.9
Growth rate (percent annual average for period)2.62.61.71.9
Urban population (percent of population)9.917.525.630.8
Total fertility rate (births per woman)6.65.33.03.5
Poverty (percent of population)
National headcount index33.7
Urban19.1
Rural37.4
Income
GNI per capita (in U.S. dollars)200200360430
Income/consumption distribution
Gini index (percent of income or consumption)25.931.8
Lowest quinlUc9.79.0
Highest quintile35.841.3
Social indicators
Public expenditure (percent of GDP)
Health1.41.1
Education0.81.42.52.8
Net primary school enrollment rate (percent of age group) 3/
Total505689
Male666588
Female334790
Access to an improved water Source (percent of population)
Total9776
Urban9990
Rural9770
Immunization rate (percent under 12 months)
Measles17660
DPT28361
Child malnutrition (percent under 5 years)6848
Life expectancy at birth (years)
Total46526259
Male47526158
Female45516260
Mortality
Infant (per 1,000 live births)1371135180
Under 5 (per 1,000 live births)22217577121
Adult (15–59) (per 1.000 population)
Ualti473383262312
Female486388252256
Maternal (per 100,000 live births)600
Source: 2002 World Development Indicators, World Bank.

Latest available single year data.

Countries with 2001 gross national income (GNI) per capita of$745 or less, calculated using the World Bank Alias method.

Net enrollment ratios exceeding 100 indicate discrepancies between the estimates of school-age population and reported enrollment data.

Source: 2002 World Development Indicators, World Bank.

Latest available single year data.

Countries with 2001 gross national income (GNI) per capita of$745 or less, calculated using the World Bank Alias method.

Net enrollment ratios exceeding 100 indicate discrepancies between the estimates of school-age population and reported enrollment data.

Table 2.Bangladesh: Key Economic Indicators, FY02–08 1/
2001/022002/032003/042004/052005/062006/072007/08
Prog.Prel.Prog.
National income and prices (percent change)
Real GDP4.45.25.35.56.06.56.56.5
GDP deflator2.74.84.44.04.04.04.04.0
CPI inflation (annual average) 2/2.85.24.44.54.04.04.04.0
Central government operations (percent of GDP) 3/
Total revenue10.210.410.410.811.311.812.112.2
Tax7.78.38.38.79.29.79.910.0
Nontax2.42.02.12.12.12.12.22.2
Total expenditure14.814.513.915.616.116.416.416.2
Current expenditure8.08.47.88.48.58.58.58.5
Of which: Interest payments1.82.01.82.02.12.02.02.0
Annual Development Program5.65.85.36.16.56.97.06.9
Extraordinary expenditures0.00.40.40.50.50.50.30.2
Other expenditures 4/1.2−0.10.40.60.60.50.50.5
Overall balance (excluding grants)−4.7−4.2−3.5−4.8−4.7−4.5−4.3−4.1
Primary balance−2.9−2.2−1.7−2.8−2.7−2.5−2.3−2.1
Financing (net)4.74.23.54.84.74.54.34.1
Domestic2.61.91.32.01.91.91.91.9
External2.12.32.22.82.82.62.32.1
Total central government debt (percent of GDP)53.251.751.752.251.150.549.848.9
Money and credit (end of year; percent change)
Net domestic assets11.910.612.214.214.813.513.113.1
Private sector credit13.911.412.615.615.513.513.113.1
Broad money (M2)13.112.515.614.114.514.012.812.8
Money velocity2.82.72.62.52.42.42.32.3
Balance of payments (in billions of U.S. dollars) 5/
Exports, f.o.b.5.96.16.57.07.47.98.69.4
(Annual percent change)−7.62.19.57.26.27.58.38.7
Imports, f.o.b.7.78.28.710.110.511.011.712.4
(Annual percent change)−8.76.813.015.74.05.55.86.0
Gross official reserves (in billions of U.S. dollars)1.62.12.52.83.23.73.94.2
In months of imports of goods and nonfactor services1.82.62.92.92.93.13.23.3
Memorandum item:
Nominal GDP (in billions of taka)2,7322,9963,0053,2943,6294,0194,4524,931
Sources: Data provided by the Bangladesh authorities;and Fund staff estimates and projections.

Fiscal year begins July 1.

CPI has recently been rebased using FY96 weights.

Starting FY02, central government fiscal positions are presented on a gross basis.

Consists of other capital, net lending, and food accounts (including check float and discrepancy).

Balance of payments is presented on the basis of BPM5. For FY04, export and import projections are based on the growth rates in the original program.

Sources: Data provided by the Bangladesh authorities;and Fund staff estimates and projections.

Fiscal year begins July 1.

CPI has recently been rebased using FY96 weights.

Starting FY02, central government fiscal positions are presented on a gross basis.

Consists of other capital, net lending, and food accounts (including check float and discrepancy).

Balance of payments is presented on the basis of BPM5. For FY04, export and import projections are based on the growth rates in the original program.

Figure 1.Bangladesh: Real Sector Indicators, FY91–03

Sources: Data provided by the Bangladesh authorities; and Fund staff estimates and projections.

3. The external position has strengthened more than expected, reflecting gains in competitiveness and rising external demand (Table 3 and Figure 2). Exports grew by 9½ percent in FY03 (against a projected 2 percent) and kept this pace through the first four months of FY04. This reflected a turn-around in the ready-made garment (RMG) sector, and buoyancy in knitwear and seafood. Remittances also remain strong, rising to $3 billion in FY03, and they amounted to SI billion in the first four months of FY04. Imports increased by 13 percent in FY03 and rose by 15 percent (year-on-year) in the first four months of FY04. Despite this pickup in import growth, the current account balance has remained relatively strong and financeable. With higher aid inflows and program loan disbursements, official reserves rose markedly to $2.4 billion (three months of imports) by end-November 2003, well above the program target.

International Reserves and REER

Table 3.Bangladesh: Balance of Payments, FY2002–08 1/(In millions of U.S. dollars, unless otherwise indicated)
2001/022002/032003/042004/052005/062006/072007/08
Prel.Rev. Proj.Proj.
Trade balance−1,768−2,207−3,109−3,082−3,107−3,088−3,038
Exporls (f.o.b)5,9296,4926,9597.3897,9408,6009,351
Imports (f.o.b)−7,697−8,699−10,068−10,471−11,047−11,688−12,389
Services−500−688−981−1,049−1,062−1,134−1,246
Receipts8648878829049509961,043
Payments−1,364−1,575−1,863−1,953−2,012−2,129−2,288
Income−321−195−230−307−326−345−364
Receipts50647073778184
Payments−371−259−300−380−403−425−449
Transfers2,8263,4183,6773,6813,7443,8123,845
Official currciii transfers 2/69608553545556
Private transfers2,7573,3583,5923,6283,6903,7573,789
Of which: Workers’ remittances2,5013,0623,2923,3253,3823,4433,472
Current account balance237328−643−756−751−754−803
Capital and financial account balance446577393449479426391
Capital account410392405349356363369
Capital transfers410392405349356363369
financial account36185−121001236322
Foreign direct investment65926052555860
Portfolio investments.−6220000
Netaid flows541634651710704686686
Aid disbursements 3/9631,0701,1471,1641,1881,2101,231
Debt unionization−422−436−496−454−484−524−545
Other long-term loans (net)−42−20−250000
Other short-term loans (net)2014300000
Other assets (net)−52−81−107−99−96−101−98
Trade credits (net)−482−656−544−512−490−530−576
Commercial banks (net)−971−50−50−50−50−50
Errors and omissions−354−9400000
Overall balance329811−250−307−272−328−412
Financing items−329−811−270−300−310−254−296
Bangladesh Bank−329−811−270−300−310−254−296
Assets (-increase)−276−871−394−395−420−267−308
Liabilities 4/−5360124951101312
financing gap 5/00520607582582708
Memorandum items:
Current account balance- (percent of GDP)0.50.6−1.2−1.3−1.1−1.0−1.0
Export growth rate (percent)−7.69.57.26.27.58.38.7
Import growth rate (percent)−8.713.015.74.05.55.86.0
Gross official reserves (US$ million) 6/1,5822,4542,8483,2433,6633,9304,238
(In months of imports of goods and services)1–82.92.92.93.13.23.3
Net international reserves (US$ million)7921,6041,8742,1742,4842,7383,034
Medium and long-term external public debt (US$ million)16,27617,02318,16419,48120,76722,03523,429
(In percent of GDP)34.432.932.932.431.630.729.8
(To exports of goods, nonfactor services and private transfers)170.4158.5158.9164.4166.1166.6167.6
Debt-service ratio 7/6.15.55.75.55.55.55.4
Nominal GDP (US$ million)47,30351,74455,28760,06365,73471,87678,594
Sources: Data provided by the Bangladesh authorities; and fund staff estimates and projections.

fiscal year begins July 1. Following an STA technical assistance mission in August 2002, presentation of the data has been modified to comply with the fifth edition of the balance of payments manual.

Excludes official capital grants.

Loans only.

Includes Asian Clearing Union balances.

The financing gap for 2003/04 is fully financed (see Table 9).

Gross foreign reserves of Bangladesh Bank, including resident foreign currency deposits.

In percent of current earnings defined as the sum of exports of goods, nonfactor services, and private transfers.

Sources: Data provided by the Bangladesh authorities; and fund staff estimates and projections.

fiscal year begins July 1. Following an STA technical assistance mission in August 2002, presentation of the data has been modified to comply with the fifth edition of the balance of payments manual.

Excludes official capital grants.

Loans only.

Includes Asian Clearing Union balances.

The financing gap for 2003/04 is fully financed (see Table 9).

Gross foreign reserves of Bangladesh Bank, including resident foreign currency deposits.

In percent of current earnings defined as the sum of exports of goods, nonfactor services, and private transfers.

Figure 2.Bangladesh: External Sector Indicators, FY97–03

Sources: Data provided by the Bangladesh authorities; IMF, Information Notices System, International Financial Statistics : and Fund staff estimates and projections.

4. Prudent macroeconomic policies have contributed to this favorable outcome. The budget deficit for FY03 was cut to 3.5 percent of GDP, below the target of 4.2 percent, on account of strong revenue perfonnance (particularly the VAT and customs duty) expenditure discipline (Table 4 and Figure 3). As a result, domestic financing was halved to 1.3 percent of GDP.

Fiscal Performance

(In percent of GDP)
Table 4.Bangladesh: Central Government Operations, FY02–08 1/
2001/022002/032003/042004/052005/062006/072007/08
Prog,Prel.Proj.
(In billions of taka)
Total revenue276.8310.5310.8356.9410.6475.9537.3601.0
Tax revenue210.3249.5248.4286.6333.9390.3441.7494.4
NBR taxes199.2237.5237.7273.4319.4374.2423.8474.7
Non-NBR taxes11.112.010.713.214.616.117.819.7
Nontax revenue66.561.062.470.376.685.695.6106.6
Total expenditure389.9435.0417.4515.4582.9657.7728.6800.9
Current expenditure218.2252.5234.6278.3306.3339.6379.3421.6
Pay and allowances68.872.971.480.781.490.199.8110.6
Goods and services33.243.742.247.852.559.769.180.0
Interest payments49.359.053.465.675.081.088.696.1
Subsidies and transfers58.461.764.164.776.085.095.5105.8
Block allocations8.415.23.619.521.423.726.329.1
Food account surplus(-)/deficit(+)2.1−0.50.13.52.52.52.52.5
AnnuaiDeveiopment Program (ADP)152.3173.0159.3200.0237.1275.7311.1342.6
Non-ADP capital and not lending17.29.411.218.717.018.423.424.9
Structural adjustment expenditures0.011.612.214.920.021.412.49.4
Cheque float plus discrepancy13.8−11.0−1.70.00.00.00.00.0
Overall balance (excluding grants)−126.9−124.5−105.0−158.5−172.3−181.8−191.4−199.9
Net financing126.9124.5105.0158.5172.3181.8191.4199.9
External58.168.064.892.5101.0102.7105.3105.0
Domestic68.155.939.665.068.876.284.493.5
Bank21.717.9−3.520.029.032.135.539.4
Nonbank46.438.043.145.039.844.148.954.1
Privatization receipts0.60.70.61.02.52.91.71.5
(In percent of GDP)
Total revenue10.110.410.310.811.311.812.112.2
Tax revenue7.78.38.38.79.29.79.910.0
NBR taxes7.37.97.98.38.89.39.59.6
Non-NBR taxes0.40.40.40.40.40.40.40.4
Nontax revenue2.42.02.12.12.12.12.12.2
Total expenditure14.314.513.915.616.116.416.416.2
Current expenditure8.08.47.88.48.48.58.58.5
Pay and allowances2.52.42.42.42.22.22.22.2
Goods and services1.21.51.41.51.41.51.61.6
Interest payments1.82.01.82.02.12.02.01.9
Subsidies and transfers2.12.12.12.02.12.12.12.1
Block allocations0.30.50.10.60.60.60.60.6
Food account surplus(-)/deficit(+)0.10.00.00.10.10.10.10.1
ADP5.65.85.36.16.56.97.06.9
Non-ADP capital and net lending0.60.30.40.60.50.50.50.5
Structural adjustment expenditures0.00.40.40.50.60.50.30.2
Cheque float plus discrepancy0.5−0.4−0.10.00.00.00.00.0
Overall balance (excluding grants)−4.6−4.2−3.5−4.8−4.7−4.5−4.3−4.1
Net financing4.64.23.54.84.74.54.34.1
External financing (net)2.12.32.22.82.82.62.42.1
Domestic financing2.51.91.32.01.91.91.91.9
Bank0.80.6−0.10.60.80.80.80.8
Nonbank1.71.31.41.41.11.11.11.1
Privatization receipts0.00.00.00.00.10.10.00.0
Memorandum item;
Nominal GDP (in billions of taka)2,7322,9963,0053,2943,6294,0194,4524,931
Sources: Data provided by the Bangladesh authorities; and Fund staff estimates.

Fiscal year ends June 30.

Sources: Data provided by the Bangladesh authorities; and Fund staff estimates.

Fiscal year ends June 30.

Figure 3.Bangladesh: Fiscal Sector Indicators, FY91–03

Sources: Data provided by the Bangladesh authorities; and Fund staff estimates and projections.

5. The FY04 budget targets a wider deficit, a further revenue effort, and a reordering of spending priorities. A larger deficit of 4.8 percent of GDP has been judged appropriate, given the spending need in critical sectors that is expected to be financed by concessional external sources; domestic financing is capped at 2 percent of GDP. The targeted revenue effort of 0.5 percent of GDP is to come from a set of measures including collection of tax arrears, an extension of the VAT net to cover additional services, a broadening of the income tax net, and a strengthening in tax administration. The latter includes revamping the bonded warehouse system, modernizing the LTU, and setting up a CIU. On the expenditure side, priorities are to be shifted to infrastructure and social sectors, with an increase of 1 percentage point of GDP in pro-poor spending, mainly education and rural development projects.

6. Budget execution overall was on course in the first quarter of FY04. Total revenue grew by an estimated 15 percent, largely on account of nontax revenue, while expenditure remained under control. Thus, domestic financing for the budget was kept below the program ceiling for end-September. However, tax revenue collection by the NBR was below target, due to shortfalls in import-related receipts. These shortfalls reflect in part a sharp decline in sugar imports, which are subject to the highest tariff rates, and labor action in customs administration protesting corruption charges against them.

7. Monetary policy was tightened as programmed in the second half of FY03 to smooth the transition to the floating of the exchange rate (Tables 5-6 and Figure 4). Reserve money growth slowed to 4 percent and treasury bill rates were raised by 1½ percentage points (from the first half of FY03). As the economic environment became more favorable, Bangladesh Bank (BB) shifted to an easing stance beginning in the first quarter of FY04. Key actions included cutting treasury bill rates by 3 percentage points and the bank rate by 1 percentage point, improving interbank market functioning and competition, and reducing the Statutory Liquidity Requirement (SLR) ratio from 20 percent to 16 percent. In addition, NCB deposit rates were reduced by 1 percentage point. As a result, bank lending rates have started to fall.

Money and Credit Growth

(Year-on-year percent change)
Table 5.Bangladesh: Central Bank Balance Sheet, June 2001-December 2004
FY-02Jun-02Sep-02Dec-02Mar-03Jun-03Sep-03Dec-03Mar-04Jun-04Sep-04Dec-04
ActualProg.ActualProg.ActualRevised program
(End of period; in billions of taka)
Net international reserves 1/2546615764789475103104104109114118
Net international reserves 2/4864808975969797103107111
Net domestic assets 1/137160136146143136121143110120124126119127
Net domestic assets 2/158142135125143116127130133126134
Net credit to central government92108697575696272365458325 16 0
Credit to other nonfinancial public sector21111111111111
Credit to deposit money banks444 7484849484848504848484848
Other items, net 1/0317221819922231716151918
Reserve money162206196203206215214218212224227230233245
Currency128139140147150158153160152161164170166175
Reserves3467565656576158606363666770
(Change since start of financial year, in billions of taka)
Net international reserves 1/−18201511183248−3910101649
Net domestic assets 2/2523−24−14−17−23−396−11036−71
Net domestic assets 2/−16−23−336−9269−71
Net credit (o central government2816−39−33−33−39−463−27−8−40−11−2
Credit to other nonfinancial public sector00000000000010
Credit to deposit money banks14111110200000
Other items, net−3414191416631487643
Reserve money844−9−20994−2101322−39
Currency16101811191521481017−15
Reserves−833−10−11−11−10−61−122515
Memorandum items:
Reserve money (year-on-year present change)5.026.818.52.16.44.34.211.18.110.210.210.19.99.6
Net international reserves (in millions of U.S. dollars) 1/4477921,0489881,0991,3491,6041,29917561,7741,7741,8741,9492,024
Flow since start of fiscal year (millions of U.S. dollars) 1/−401165256195306336811−5015317117127175150
Net international reserves (in millions of U.S. dollars) 2/8241,1021,3811,5461,2991,6581,6711,6711,7711,8461,921
Flow since start of fiscal year (in millions of U.S. dollars) 2/278557722−5011212512522575150
Required domestic cash reserves (in millions of taka)437384040414142434444474850
Execss domestic cash reserves (in millions of taka)3030191616162016171919191920
Sources; Data provided by the Bangladeshi authorities; and Fund staff estimates and projections.

Calculated from monetary data using end-of-period exchange rates.

Calculated using program exchange rates.

Sources; Data provided by the Bangladeshi authorities; and Fund staff estimates and projections.

Calculated from monetary data using end-of-period exchange rates.

Calculated using program exchange rates.

Table 6.Bangladesh: Monetary Program, June 2001-December 2004
FY-01Jan-02Sep-02Dcc-02Mar-03Jun-03Sep-03Dec-03Mar-04Jun-04Sep-04Dec-04
ActualProg.ActualProg.ActualRevised program
(End of period; in billions of taka)
Net foreign assets7696110101107124140123149151150159164169
Net domestic assets7968919069679599851,0001,0131,0271,0721,0851,1421,1671,229
Domestic credit8469579661,0311,0301,0591,0341,0891,0551,1111,1351,1801,2081,272
Net credit to central government162184184189183202173213172176186194205207
Credit to other nonfinancial public sector5659556357615562555555555555
Credit to private sector6287157277807907978068148288808949319491,011
Orher items, net 1/−50−67−60−64−71−74−34−76−28−39−50−38−41−43
Broad money (M2)8729861,0161,0691,0661,1101,1401,1351,1761,2231,2351,3011,3311,399
(Change since start of fiscal year; in billions of taka)
Net foreign assets−920116122945−19111019511
Net domestic assets1349516776895109272773851422588
Domestic credit13511297473102762921771011462893
Net credit to central government372205−118−1111−1313201113
Credit to other nonfinancial public sector113−44−2231000000
Credit to private sector88871264758290172274881261780
Other items, net−2−1773−4−733−26−5−16−4−3−5
Broad money (M2)124114308380124154263683951613198
(Year-on-year percent charge)
Net foreign assets−11.125.855.839.432.330.246.812.135.948.740.013.310.112.4
Net domestic assets20.211.911.311.112410.612.211.713.310.813.114.213.714.7
Domestic credit19.013.210.312.711.910.68.012.79.27.810.214.114.514.5
Net credit to central government29.413.41.4−1.26.49.7−5.815.5−6.6−6.81.711.818.917.3
Credit to other nonfinancial public sector23.54.82.312.96.94.2−5.713.60.5−11.9−2.8−0.40.2−0.4
Credit to private sector16.313.913.516.713.611.412.611.913.912.913.115.614.614.9
Other items, net3.534.2−2.945.55.010.6−48.726.9−52.6−38.8−29.510.644.510.2
Broad money (M2)16.613.114.913.314.112.515.611.815.714.415.814.113.214.4
(In billions of taka}
Memorandum items:
Broad money multiplier5.374.795.175.265.175.175.325.215.545.465.445.515.715.70
Broad money velocity2.912.772.752.682.752.702.642.702.622.572.612.532.542.47
Net domestic financing of central government (since beginning of FY)7969132735563820153150652133
Bank372205−118−1111−1313201113
Nonbank424713223638489162837451020
Sources: Data provided by the Bangladesh authorities; and Fund staff estimates and projections.

The large change in other items, net in June 2003, was due in part to writeoffs by commercial banks of longstanding nonperformaing loans, in response to changes in regulatory guidelines by Bangladesh Bank.

Sources: Data provided by the Bangladesh authorities; and Fund staff estimates and projections.

The large change in other items, net in June 2003, was due in part to writeoffs by commercial banks of longstanding nonperformaing loans, in response to changes in regulatory guidelines by Bangladesh Bank.

Figure 4.Bangladesh: Monetary Sector indicators, FY91–04

Sources: Data provided by the Bangladesh authorities; and Fund staff estimates.

1/ Bangladesh Bank bill rates until 1998.

8. Exchange market conditions have been steady since the currency was floated at end-May 2003. The taka has been broadly stable and BB’s interventions have only been to build up reserves in line with program objectives. With the weakness of the U.S. dollar, the taka has depreciated by 7.3 percent in nominal effective terms, and by 2 percent in real effective terms since June 2002. Moreover, external debt management was prudent, with no contracting of nonconcessional debt in the first quarter of FY04.

9. Structural measures on the margin requirements for imports and on the LTU for income tax were implemented with brief delays. The authorities are seeking a waiver of these two structural performance criteria (MEFP Table 3). To further reduce distortions, the remaining margin requirements for the opening of letters of credit on 55 import items were removed effective December 2 (an end-November structural performance criterion). After a slow start, good progress has been made more recently in modernizing and expanding the LTU (an end-September performance criterion) and in making the CIU fully operational. Specifically, over 1,000 large taxpayers—covering about 35 percent of the income tax base—have been selected based on objective and transparent criteria that were published in early November. They comprise the largest companies, and include all banks and nonbank financial institutions, telephone and satellite TV companies, and company directors. The transfer of tax files has begun, and staffing and logistical arrangements have been made. In the case of the CIU, the revised organization chart agreed with the Fund staff has been approved, and the process of selecting 1,000 taxpayers (based on compliance record) covering all major taxes and making other logistical arrangements is under way. In addition, the structural benchmark for revamping the bonded warehouse system has been broadly met, given the measures introduced with the budget, although imports of packaging materials are being exempted from required bank guarantees and part of the budgeted measures is being contested in the High Court.1

10. Moreover, BB has made good progress on elements of NCB reform, although the benchmarks relating to the strengthening of bank management have slipped. The special audits for each bank are under way and are to be completed by year-end. Moreover, bank performance under the Memoranda of Understanding (MOUs) agreed between the NCBs and BB has been satisfactory so far, with the NCBs adhering to lending restrictions and reducing operating costs. BB is intensifying its monitoring of these banks under the MOUs. However, the structural benchmark for contracting new professional management for Agrani by October 2003 was not observed, and the benchmark for contracting management support for Sonali and Janata for the second review by end-December is now unlikely to be met. The process for securing new management/management support lagged initially, owing to the longer time needed to build consensus for reform, and some formalities concerning the procurement requirements associated with the World Bank financing of the consulting contracts.

11. Progress has been uneven on state-owned enterprise (SOE) reform on account of rising political resistance. On the positive side, automatic pricing formulas adopted under the World Bank’s Development Support Credit (DSC) are being implemented for electricity, gas, and petroleum products, in a phased approach toward cost recovery and reducing subsidies. However, closure of manufacturing SOEs has slowed, owing to labor action, despite the offer of severance packages for affected workers.

II. Report on the Discussions

A. Outlook and Risks

12. The macroeconomic prospects for FY04 remain favorable, with upside potential from a brighter external outlook. With the global recovery, strong remittances, and the buildup in reserves, risks on the external front have diminished in the near term. Economic growth is thus expected to remain broad-based, and further boosted by accommodative fiscal and monetary policies. Accordingly, projections in the original macroeconomic framework for real GDP growth to rise to 5.5 percent and inflation to stay at 4.5 percent should be achieved. External reserves are targeted to continue rising, though at a more moderate pace.

13. However, considerable risks on the external front remain over the medium term. Bangladesh is particularly vulnerable to the phasing out of Multifiber Agreement (MFA) quotas at end-2004, given its heavy dependence on protected markets for RMG exports (Box 1). While the impact on net export earnings may be muted, the total impact on output and jobs could be larger, given the economy’s overall dependence on RMG. These risks have heightened the need for export diversification and for urgent improvement in the investment climate to boost growth and productivity.

Box 1.Bangladesh: Potential Impact of Removal of Multifiber Agreement Quotas

All textile and clothing quotas under the Multifiber Agreement (MFA) are to be phased out over the period 1995–05. However, due to the limited progress to date, many of the most restrictive quotas remain to be removed at the end of 2004, indicating the potential for countries to face a large shock at the beginning of 2005 (see “Market Access for Developing Country Exports,” Selected Issues (www.imf.org)).

Bangladesh is highly vulnerable to the quota removal as almost all its ready-made garments (RMG) exports are to protected markets (the European Union and the United States), and because RMG exports account for three-fourths of its export earnings. Bangladesh is reasonably competitive, given its low labor cost, and it has an established position in the low end, high volume market segments, as well as in knitwear. However, it will face stiff competition in some other product categories when quotas are removed.

The impact of the potential loss of market share post MFA could be significant for Bangladesh. For example, a 25 percent fall in RMG exports could directly reduce net export earnings by about $750 million per year 1½ percent of GDP). The direct impact on the balance of payments would be contained by the corresponding reduction in RMG-related imports. However, the overall adverse impact of such a decline on output and jobs could be substantial, because a large share of the manufacturing and service sectors is RMG-dependent. Moreover, RMG-related jobs account for nearly one-half of the formal labor force and are held mainly by women.

To remain competitive in the RMG sector and to diversify the economy over time, Bangladesh faces a number of competitive challenges, most notably in the low productivity of its labor force, inadequate infrastructure, poor law and order, and weak governance. A recent World Bank study on the investment climate in Bangladesh concludes that:

  • Defective and insufficient infrastructure poses some of the most severe obstacles to firms operating in Bangladesh, with lack of reliable electricity a key constraint.
  • Corruption is pervasive and costly, and is ranked by firms as a severe obstacle to business. Excessive regulations often lead to extortion and bribery. Transparency International ranked Bangladesh last for a third successive year in its Corruption Perceptions Index published in October 2003.
  • High levels of nonperforming loans keep bank lending rates high.

The reform program under the PRGF arrangement contains policy elements that address these key deficiencies.

14. Noting the positive economic performance so far, the authorities reaffirmed their commitment to macroeconomic prudence and a deepening of structural reform, as set out in their three-year PRGF strategy (IMF Country Report No. 03/205). However, in Bangladesh’s fractious political environment, they also pointed to the need to give due account to socio-political factors in the sequencing and timing of sensitive measures. Indeed, there have been nationwide shutdowns (hartals) to protest price hikes of essentials and the law and order situation. Moreover, after two years of reform that have resulted in significant job losses, the authorities believed that more visible gains in investment and jobs are now critical for the reform program to remain politically viable.

B. Fiscal Policy and Reforms

15. For FY04, while the overall budget stance is appropriately accommodative, the authorities agreed that achieving the revenue target is essential. NBR tax collection has been steadily rising, by 10.2 percent through the first four months (from the same period last year), but this increase still falls short of the target of a 15 percent increase for the year. Thus, efforts are being made to register more taxpayers and to strengthen tax assessment. In addition, the implementation of tax administration measures in the program is being stepped up. The authorities expect these steps to soon begin to help improve collection. Nonetheless, it was agreed that if shortfalls persist, additional revenue measures would need to be introduced in early 2004 (MEFP ¶11). In addition, to help ensure that the deficit target is met, quarterly expenditure ceilings (which are back-loaded) are being strictly adhered to.

16. Looking ahead, meeting the PRGF medium-term revenue target of raising tax collections by 1½ percent of GDP over three years will hinge on substantial further improvements in tax administration (Box 2 and MEFP ¶13). Modernizing the LTU and setting up the CIU should facilitate the expansion of the audit program, envisaged for March 2004. The mission noted that, to meaningfully strengthen tax collection, the authorities will need to ensure the effective functioning of the new LTU against resistance by vested interests. Strong efforts will also be needed to expand the LTU system to cover withholding tax and VAT for FY05. In addition, while these steps are significant, more fundamental reforms of tax administration are needed since the problems in this area are basic and deep-rooted. Consideration should therefore be given to further measures, including a moderni zation of the NBR, drawing on the recent recommendations of FAD technical assistance. The authorities agreed with this priority, noting the envisaged reduction in trade taxes in FY05, and have asked for World Bank assistance in collaboration with the Fund. Further improve ments in tax policy, including rationalization of supplemental duties, should also be considered.

Box 2.Bangladesh: Tax Administration

Bangladesh has the lowest tax to GDP ratios in the region despite comparable statutory tax rates, reflecting poor tax compliance and weak tax administration, as well as a relatively small formal sector and a comparatively large informal rural sector. Revenue performance has improved in recent years, owing to incremental modernization efforts, with donor and World Bank support. These efforts have been most notable in customs administration, especially in the installation of the ASYCUDA++ computer system in the Customs Department, and in income tax and VAT, primarily through registration of additional taxpayers and adoption of the post-auditing program.

However, the structure and culture of the revenue administration by the National Board of Revenue (NBR) have not undergone fundamental changes since its establishment 30 years ago. A recent FAD technical assistance mission found that the NBR is not organized along functional lines and that its operations suffer from deep-seated problems. These include notably the lack of coordination and information sharing among major tax departments, weak audit capacity, poor taxpayer services, and lack of computerization. To meet the revenue target over the medium term, modernization and reform of the NBR would be essential. Recent FAD recommendations include the following key elements:

  • Reorganize the NBR along functional lines to permit clear lines of accountability, streamline functions, and develop appropriate expertise;
  • Expand the LTU to cover VAT for large taxpayers;
  • Adopt a true self-assessment system, first in the LTU;
  • Establish a risk-based auditing system supported by third party information, and targeting scarce resources at the taxpayers most likely to be defaulting; and
  • Use modern technology, particularly an integrated computer system to handle the processing (assessment and collection), audit case selection, and the principal management information needs for all taxes that are administered by the NBR.
Central Government Tax Revenue in South Asian Countries, 2001/02(In percent of GDP)
BangladeshIndiaNepalPakistanSri Lanka
Tax7.48.39.612.115.0
Income tax1.43.22.23.82.5
VAT or sales tax3.92.85.76.7
Excise taxes0.13.20.91.33.3
Trade taxes2.01.93.21.32.1
Other taxes0.10.40.00.4
Memorandum items:
Standard VAT rates15101512.5
Corporate tax rates353545.235
Source: IMF staff reports.
Source: IMF staff reports.

17. At this early stage of the fiscal year, the authorities saw no compelling case for revising the deficit target on account of the overperformance of last year’s budget. The staff agreed that if external financing on concessional terms becomes available as projected, urgent spending needs in priority sectors should be met, especially since upgrading infrastructure is vital for private investment. At the same time, in view of the programmed substantial increase in spending and underlying governance issues, the authorities undertook to ensure that funds released from the budget are timely and used for their intended purposes (MEFP ¶14). In particular, attention is being given to improving project selection and execution, and strengthening the tracking and transparency of spending; three tracking studies are being undertaken in the education and health sectors. They also intend to take timely decision with respect to meeting policy conditions for project funding.

18. In this context, reforming the power sector is being given renewed impetus, to allow its upgrading and to resolve its arrears. Rigorous implementation of the energy pricing formulas will be important,2 which will be reinforced by the upcoming creation of an Energy Regulatory Commission. Most critically, given serious shortages of electricity, the authorities are giving priority to defining a financial and operational restructuring framework for urban electricity distribution systems, in collaboration with the World Bank and the Asian Development Bank (AsDB) (MEFP ¶23). The need is critical for the Dhaka Electricity Supply Authority (DESA), where the problems of system losses and billing and collection are the most serious and whose arrears (1½ percent of GDP) account for the bulk of inter-SOE arrears. With recent price adjustments, arrears are being curbed, and the authorities are considering options for improving billing and collection. Tentative staff estimates indicate that resolving SOE arrears overall could cost up to 4 percent of GDP over three years but would be consistent with fiscal sustainability (Box 4, IMF Country Report No. 03/205).

19. With respect to manufacturing SOEs, the authorities are focusing on containing budgetary costs associated with their operations, given that SOE closure has been slowed by public opposition. These SOEs are now subject to constraints on budget support and to performance targets, and workers are being encouraged to take voluntary separation with severance packages. In order to achieve the authorities’ goal of substantially downsizing the manufacturing SOEs by FY06, the momentum of closure/privatization of these SOEs will need to be stepped in the near future.

C. Monetary and External Policies

20. BB has taken timely steps to ease monetary conditions through lowering interest rates to stimulate investment and growth. This shift is warranted by the favorable inflation outlook, the stable exchange market, and reserves development. The mission thus endorsed BB’s market-based actions to lower rates. In addition, relatively high interest rates on NSCs have held up bank deposit rates as well as the cost of budget financing. To address these concerns, rates on new NSC issues are soon to be reduced under an agreed automatic formula that links NSC rates to yields on comparable government securities. Adjustments under this formula are expected semi-annually.

NSC, Lending, and T-Bill Rates

(In percent)

21. The monetary program has been revised to reflect the better-than-expected external performance and the easier monetary policy stance (MEFP Table 2). The target for accumulation of net international reserves has been raised, with gross reserves projected to reach $2.9 billion for end-FY04, some $300 million above the original program. Reserve money growth is being kept at 10 percent in FY04, but growth in broad money is now projected at 14 percent, reflecting higher demand for private sector credit. In addition, within the original limit on domestic financing, nonbank financing has been raised to reflect the greater NSC demand to date.

22. The authorities are committed to limiting interventions in the exchange market only to counter disorderly conditions and to build reserves. LEG/MFD technical assistance has also been provided recently to, inter alia, review issues relating to the phasing out of two remaining exchange restrictions subject to Fund jurisdiction (i.e., with respect to nonresident taka accounts and the advance payments for imports of goods and services).

23. External debt management will continue to be cautious. The authorities intend to minimize nonconcessional debt, and to first seek funding for infrastructure from concessional sources, especially from IDA. The staff has suggested improving the monitoring of new government external borrowing that is in the process of being contracted.

D. Reform of the Nationalized Commercial Banks

24. The authorities stressed their commitment to stepping up the pace of NCB reform and strengthening its monitoring (MEFP ¶19). Performance under MOUs with these banks will remain closely tracked, to curb their lending and the flows of new bad loans. Based on early experience, the timetables for NCB management/privatization have been revised, in consultation with the World Bank and Fund staff, to take fuller account of the capacity constraints in pursuing this process for four banks in parallel, and the greater-than-anticipated complexity of the legal and administrative requirements.

25. The revised timetables are on track, and the initial goals of improving bank management are likely to be achieved in the next year. The key steps ahead of the review completion include:

  • For new management for Agrani, the request for proposal has been issued, technical evaluation of bids has been completed, and the winning bid has been approved by Cabinet.
  • For Sonali and Janata, the requests for proposal for the management support contracts have been issued to allow technical evaluation of bids to begin before year-end.
  • For Rupali, technical evaluation of bids for a sales adviser on its privatization has been completed.

26. With these measures, the structural benchmark for contracting new professional management for Agrani is being moved to January 2004, and for signing contracts for management support for Sonali and Janata to May 2004. A new benchmark is also being set to bring Rupali to the point of sale by December 2004. hi addition, in view of the substantial work that lies ahead, the mission endorsed the authorities’ intention to set up a monitoring cell, with World Bank assistance (under an Enterprise Growth and Bank Modernization project), to support the current Working Group on NCB reform (comprising senior officials from the Ministry of Finance and BB).

27. Moreover, the authorities were encouraged to begin active consideration of the wide range of issues and options involved in defining bank-by-bank resolution strategies, in consultation with the World Bank and Fund staff. Such strategies are to be defined by end-April 2004 (a structural performance criterion for the second review). It was also agreed that detailed action plans for implementation of these strategies should be drawn up by end-November 2004.

III. Other Issues

28. With respect to the safeguards assessment, BB is working to bring its accounts in line with international accounting standards (IAS), with MFD technical assistance. An audit of BB financial statements for FY03 has been completed as envisaged, conducted by a local firm in compliance with international auditing standards and signed off by an inter national accounting firm. However, while the statements reflect some improvements, they still fall materially short of IAS, thus requiring further action. The authorities are committed to implementing the other critical recommendations of the safeguards assessment.

29. Work has been initiated to complete the full PRSP by end-2004. An interministerial steering committee, with oversight by the National Poverty Council chaired by the Prime Minister, has been set up to carry this work forward, although the timetable is quite tight. The mission stressed the importance of ensuring more effective consultations with stakeholders (including parliamentarians), a sharper prioritization of policies based on their impact on poverty and job creation, and a fuller costing and integration of pro-poor programs into the medium-term expenditure framework.

30. The overall poverty and social impact of the reform program should be positive over the medium term. This would be expected to arise from higher growth with job creation, and larger and more pro-poor budget spending, including improved quality of public services. The near-term adverse impact in terms of job losses from SOE and NCB reforms would be eased by retrenchment schemes that arc now in place or being developed in the case of the NCBs. A more comprehensive assessment of the poverty and social impact is expected to be undertaken in the context of the full PRSP.

31. Progress is being made in addressing governance issues, including through reform of tax administration and the NCBs, a more liberal exchange system, and greater transparency in budget spending outlined above. To further curb corruption, the authorities noted the recent adoption of new government procurement guidelines which have been designed to curtail the scope for abuses in this key area. Moreover, consultation is well advanced on a draft bill to set up an Independent Anti-Corruption Commission (lACC), with technical assistance from USAID and the AsDB. Parliament is expected to pass this bill in its first session of 2004. An early and effective functioning of the TACC is an important element of the authorities’ effort to combat corruption, and could help to improve international perceptions regarding corruption in Bangladesh. Making the TACC operational and defining a time-bound national anti-corruption action plan are among the issues for the upcoming DSC II discussions.

32. On program monitoring, the performance criteria and indicative targets through December 2004 are summarized in MEFP Table 2. Structural conditionality has been extended to the remainder of 2004 in fiscal and NCB reforms, in line with the approach taken for the first-year PRGF (MEFP Table 3, Box 6, IMF Country Report No. 03/205). To contain risks to program implementation especially with respect to tax administration, close monitoring—including through quarterly reviews by staff—will be continued, as well as technical assistance to strengthen administrative capacity. In addition, the monitoring of structural policies will continue to be coordinated with DSC II.

IV. Staff Appraisal

33. The authorities’ policies have succeeded in strengthening economic performance under the program. Macroeconomic discipline has been maintained and the structural agenda is moving ahead, despite political tensions and initial slippages. Growth has picked up, inflation is in check, and the external sector has improved more than expected. The first-year program is on track and all quantitative targets and performance criteria were observed. On the structural side, there were initial but modest delays with respect to steps in tax administration and NCB reform that are subject to one structural performance criterion and benchmarks, respectively, but these slippages have now been redressed. As for the other structural performance criterion, the delay in removing the margin requirements on the opening of letters of credit for imports was negligble.

34. Turning this progress into faster and lasting growth will, however, require deeper reform to improve the investment climate and credible action to strengthen governance. The authorities’ policy package for the next year is designed to meet these difficult challenges, including potential shocks associated with the phase-out of the MFA quotas. Determined implementation will be needed to realize tangible results that can help to build domestic support for reform. In particular, governance issues will need to be decisively tackled. In this regard, the effective execution of the programmed measures to strengthen tax administration and NCB reform, as well as the recent steps to liberalize the exchange system, should all help to improve governance. In addition, the newly adopted government procure ment guidelines should be helpful. Looking ahead, and more generally, an early and effective functioning of the IACC will also be critical to improving investor sentiment.

35. Given the manageable financial situation, the recent shift in the stance of macro-economic policies to better support growth is timely. With inflation under control and a stable exchange market, easier monetary conditions through lower interest rates are providing the appropriate stimulus. Recent market-based actions by BB to bring down lending rates, including the reduction in the SLR, were well-timed. Given the relatively high real rates due to structural rigidities, further strengthening interbank and broadening government securities markets can also be helpful. In addition, the staff welcomes the planned adjustment in NSC rates under an automatic formula to align them with market rates, to contain the cost of domestic financing for the budget, as well as to make interest rates more flexible.

36. Aimed at bolstering growth and reducing poverty, the targeted increase in the FY04 budget for infrastructure and social spending is well considered. This would be consistent with fiscal sustainability given the prospective external support on concessional terms. However, achieving these spending goals will require better public expenditure management, timely decision on meeting policy conditions for project financing, and closer tracking and greater transparency of spending.

37. Proper emphasis is being given to achieving the FY04 revenue target, but looking ahead, more fundamental improvements in NBR tax administration should be a priority. To protect the revenue target this year, the authorities arc taking actions to ensure timely functioning of the LTU and the CIU, but they will also need to make every effort to ensure their effectiveness. In addition, if shortfalls in tax collection persist, additional measures will be needed in the revised budget at midyear. To attain the program’s medium-term revenue target, the coverage of the LTU system will also need to be expanded in FY05. The staff also encourages the authorities to undertake fundamental reforms of tax administra tion, including modernizing the NBR, particularly in view of the envisaged reduction in trade taxes in the FY05 budget.

38. With respect to the NCBs, the process for strengthening bank management is being put on track and under close monitoring. Following teething problems, the time tables have been revised to factor in the requirements for advancing this process across four banks at the same time, and a critical mass of actions have now been taken to stay on course. The authorities will need to closely monitor this process to ensure progress, as well to to continue to track performance of these banks against memoranda of understanding with Bangladesh Bank. Looking ahead, the staff encourages the authorities to give active consideration to the resolution options, so as to be in a position to define bank-by-bank strategies by April 2004.

39. Early attention is being given to stepping up the reform of the power sector, to improve growth prospects and protect fiscal sustainability. In particular, the authorities are encouraged to work with the World Bank and the AsDB to define a framework for turning around the financial and operational performance of the urban electricity distribution systems, especially DESA. With respect to manufacturing SOEs, the pace of reform has been slowed by public opposition, hi light of this, even greater attention will need to be paid to curtailing budget support to loss-making enterprises. The momentum for closure/privatization of these SOEs will also need to be resumed as soon as is practicable if the authorities’ medium-term targets in this area are to be met.

40. Efforts to prepare the full PRSP are under way to complete work on target at end-2004. There is need to ensure that pro-poor programs are prioritized and fully integrated into a medium-term expenditure framework. The consultative process could also be extended to include broader segments of civil society and parliamentarians.

41. Risks to program implementation remain considerable in the structural areas but are judged manageable. They derive from resistance of vested interests in a fragile political environment and from weak administrative capacity. To mitigate these risks, close monitoring, including through quarterly staff reviews, and tecbcnical assistance should be continued.

42. Bangladesh’s record under the program so far is positive overall and going forward, the MEFP sets out a credible and coherent agenda. The authorities have reaffirmed their commitment to stay the course and are making efforts to forge domestic support for reform. Given the strength of the program, and that the initial slippage in tax administration has now been redressed and the delay in phasing out the margin requirements on imports was negligible, the staff recommends approval of the requested waiver for the nonobscrvance of structural performance criteria and completion of the first review.

Table 7.Bangladesh: Schedule of Disbursements Under the PRGF Arrangement
AmountAvailable DateConditions for Disbursement
SDR 49.5 million (9.3 percent of quota)June 25, 2003Observance of the end-March 2003 quantitative benchmarks, implementation of prior actions, and Board approval of arrangement.
SDR 49.5 million (9.3 percent of quota)December 15, 2003Observance of the end-September 2003 performance criteria and structural performance criteria for end-September and end-November 2003 and completion of the first review.
SDR 49.5 million (9.3 percent of quota)June 15, 2004Observance of the end-March 2004 performance criteria and structural performance criteria for end-December 2003 and end-April 2004 and completion of the second review.
SDR 49.5 million (9.3 percent of quota)December 15, 2004Observance of the end-September 2004 performance criteria and structural performance criteria for end-September 2004 and end-November 2004 and completion of the third review.
SDR 49.5 million (9.3 percent of quota)June 15, 2005Observance of the end-March 2005 performance criteria and completion of the fourth review.
SDR 49.5 million (9.3 percent of quota)December 15, 2005Observance of the end-September 2005 performance criteria and completion of the fifth review.
SDR 49.5 million (9.3 percent of quota)June 15, 2006Observance of the end-March 2006 performance criteria and completion of the sixth review.
Table 8.Bangladesh: External Financing Requirements, FY03–08(In millions of U.S. dollars)
2002/032003/042004/052005/062006/072007/08
Total financing requirements1,4652,1352,1722,1802,2122,368
Gross financing requirements5931,7411,7771,7611,9452,060
Current account deficit−328643756751754803
MLT debt amortization436496454484524545
Trade credits (net)494544512490530576
UPR (abstracting from expected Fund financing)35250000
Other Bangladesh Bank liabilities (net)−25−148−95−110−13−12
Other long-term loans (net)20250000
Other short-term loans and assets (net)−62107999610198
DMBs foreign exchange assets (net)−715050505050
Emirs and omissions9400000
Buildup in gross reserves (+, increase in assets)872394395420267308
Resources1,0941,6141,5651,5981,6301,660
Aid disbursements1,0001,5521,5131,5441,5731,600
Foreign direct and portfolio investment946252555860
Financing gap
Without expected Fund financing371656741717582708
With expected Fund financing300520607582582708
Identified program financing300520520520500500
Loans300450500500500500
World Bank300400400400400400
Asian Development Bank050100100100100
Grants070202000
United Kingdom020202000
Others0500000
Residual financing gap00876282208
Memorandum item:
Gross official reserves2,4542,8483,2433,6633,9304,238
Sources: Data provided by the Bangladesh authorities; and Fund staff projections.
Sources: Data provided by the Bangladesh authorities; and Fund staff projections.
Table 9.Bangladesh; Projected Fund Transactions Under the PRGF, FY03–08(In millions of SDRs)
2002/032003/042004/052005/062006/072007/08
Total use of Fund resources (UFR) outstanding74.0148.5247.5346.5346.5346.5
SBA24.50.00.00.00.00.0
PRGF49.5148.5247.5346.5346.5346.5
PRGF
Disbursements49.599.099.099.00.00.0
Debt service0.00.51.01.62.02.0
Repayments0.00.00.00.00.00.0
Charges0.00.51.01.62.02.0
Total debt service to the Fund61.026.01.82.42.82.8
SBA51.624.80.00.00.00.0
Repurchases49.124.50.00.00.00.0
Charges2.50.20.00.00.00.0
PRGF8.60.51.01.62.02.0
Principle8.60.00.00.00.00.0
Interest0.00.51.01.62.02.0
Other SDR charges0.80.80.80.80.80.8
Memorandum items:
Total UFR as a percentage of quota13.927.846.465.065.065.0
Total UFR as a percentage of GDP0.20.40.50.70.60.6
Debt service as a percentage of exports of goods and services1.20.50.00.00.00.0
ANNEX I

Bangladesh: Fund Relations

(As of October 31, 2003)

I. Membership Status: Joined August 17, 1972; accepted the obligations under Article VIII, Sections 2, 3, and 4 on April 11, 1994.

II. General Resources Account:

SDR millionPercent Quota
Quota533.30100.00
Fund holdings of currency533.30100.00
Reserve position in Fund0.190.03

III. SDR Department:

SDR millionPercent Allocation
Net cumulative allocation47.12100.00
Holdings2.795.91

IV. Outstanding Purchases and Loans: PRGF arrangements

SDR millionPercent Quota
49.509.28

V. Financial Arrangements:

TypeApproval dateExpiration dateAmount approved (SDR million)Amount drawn (SDR million)
PRGF6/20/036/20/06347.0049.50
ESAF8/10/909/13/93345.00345.00
SAF2/06/872/05/90201.25201.25

VI. Projected Obligations to Fund (SDR million; based on existing use of resources and present holdings of SDRs):

Forthcoming
20032004200520062007
Principal0.000.000.000.000.00
Charges/interest0.300.940.940.940.94
Total0.300.940.940.940.94

VII. Safeguards Assessment

The Safeguards Assessment Report issued in August 2002 concluded that the accounting, financial reporting, auditing, and control systems, as well as the legal framework, of Bangladesh Bank (BB) suffered from widespread vulnerabilities. Its risk assessments ranged from medium-high to high. The report recommended, inter alia, that: (i) BB’s financial statements for FY02 be restated in accordance with International Accounting Standards (IAS) and audited in compliance with International Standards on Auditing (ISA) by an international firm, possibly in collaboration with a local firm; (ii) the BB board should adopt IAS as BB’s accounting framework beginning with FY03, and ISA should be established as the auditing standard; (iii) the statistical classification of accounting data should be regularly validated and the data to be reported to the Fund under a future arrangement should be regularly reconciled against BB’s accounts and audited financial statements; and (iv) the reserve management functions should be adequately segregated between the dealing room and middle and back offices, and an appropriate reporting mechanism for reserves management established. BB has since made progress in addressing those weaknesses. IAS has been adopted as its accounting framework, its FY03 accounts were audited by a local auditing firm and signed off by an international accounting firm, and reserve management functions have been separated into front and back offices.

VIII. Exchange Arrangement

Exchange regime. Until May 31, 2003, the taka was fixed to the U.S. dollar, but was periodically adjusted. It was devalued on three occasions during 2000–02, when the trading band for BB’s transactions was correspondingly widened or raised. From January 2002 until May 30, 2003, the official band for the taka remained unchanged at Tk 57.4–58.4 per U.S. dollar. Authorized dealer (AD) banks set their own buying and selling rates for the U.S. dollar and other currencies generally within the band until October 2002. From November 2002, however, AD banks have set rates outside the band. Effective May 31, 2003, BB no longer announced a trading band for its foreign exchange transactions, thereby allowing the taka to float.

Exchange restrictions. In December 2000, BB introduced margin requirements on letters of credit for most commercial imports, which constitutes an exchange restriction subject to Fund jurisdiction under Article VIII, Section 2(e). In the period to January 2003, the scope and level of margin requirements were adjusted on four occasions. In October 2003, the margin requirements on 55 items were reduced from 100 percent to 50 percent and all margin requirements were removed effective December 2, 2003.

In August 2002, limits on the availability of foreign exchange for travel, medical, and educational expenses, as well as other services, were removed.

At the last Article IV consultation (June 2003), the Executive Board approved the maintenance by Bangladesh of margin requirements for the opening of letters of credit for the import of goods until November 30, 2003, and also approved the maintenance of restrictions on the convertibility and transfer ability of proceeds of current international transactions in nonresident taka accounts until the conclusion of the second review under the PRGF arrangement or June 30, 2004, whichever is sooner.

IX. Article IV Consultation

The next Article IV consultation will be held subject to the provisions of the decision on consultation cycles approved on July 15, 2002. The last Article IV consultation was held over two missions in January and April 2003, and was concluded on June 20, 2003 (IMF Country Report NO. 03/205).

X. Technical Assistance During 2002–03

2002
January:MFD/LEG mission advised on operational steps to facilitate the adoption of a more flexible exchange rate regime.
February:An external legal expert advised on amendments to the Bangladesh Bank Order to strengthen the independence of BB,
April:MFD consultant provided recommendations for the establishment of a repo market
May:A pre-FSAP mission advised on banking sector reform, followed by a full FSAP mission in October.
May-November:MFD peripatetic adviser assisted in foreign exchange operations and liquidity management.
August:FAD team conducted a fiscal ROSC, and STA conducted a multisector technical assistance mission.
October:MFD mission provided assistance in implementing the Safeguards recommendations.
2003
January and May:MFD missions advised on preparations for moving to a flexible exchange rate regime,
March-September:MFD resident adviser assisted BB with liquidity forecasting and monetary and exchange operations.
May:MFD mission assisted BB with nationalized commercial bank (NCB) reforms; a peripatetic adviser assisted BB with producing its FY03 accounts in accordance with lAS.
August:MFD mission provided recommendations for reducing interest rates.
August-September:FAD mission provided recommendations on tax administration.
November:MFD mission provided recommendations for the resolution of NCBs and on the functioning of treasury bill markets. An STA mission on monetary and financial statistics and a joint LEG/MFD mission on exchange restrictions were conducted.

XI. Resident Representative

The resident representative office was established in 1972. The current Resident Representative, Mr. Marijn Verhoeven, took up the post in August 2001.

ANNEX II

Bangladesh: Relations with the World Bank1

The World Bank has an ambitious assistance program in Bangladesh covering a wide range of instruments including investment lending, advisory and analytical services, and policy dialogue on a broad range of macroeconomic and sectoral issues. This annex focuses on the Bank’s activities in areas that are complementary to those of the Fund.

World Bank-Bangladesh relations and policy dialogue

Since taking office two years ago, the government has made progress on critical areas such as state-owned enterprises (SOEs), banking, energy, telecommunications, and economic governance. The Bank has been regularly interacting with the government team and has been providing inputs into the design and sequencing of reforms, as requested by the authorities.

To obtain inputs for the preparation of the country’s Poverty Reduction Strategy, the government organized a series of national consultation workshops, including various government and nongovernmental organizations, members of civil society, and development partners. The Joint Staff Assessment, prepared by the Bank and the Fund and presented to their Boards on June 2003, concluded that the Interim PRSP constitutes an adequate framework for enhancing growth and poverty reduction. The government plans to complete the full PRSP by December 2004.

As part of its nonlending services, the Bank has completed key reports. These include, inter alia, the Public Expenditure Review and the Poverty Assessment, which were prepared jointly with the Asian Development Bank, and which provided inputs for the I-PRSP. In addition, an Investment Climate Survey (jointly with the Bangladesh Enterprise Institute) and a Country Framework for Private Provision of Infrastructure have been completed and shared with government officials. More recently, the Bank has completed the Development Policy Review and a review of trade policies in South Asia.

Restructuring SOEs. The Bank has engaged in an extensive dialogue with the authorities on SOE-related issues. A report entitled “Bangladesh: Review of Public Enterprise Performance and Strategy” (November 2002) was prepared by the Bank and widely discussed at a national seminar in Dhaka in December 2002. In response to a request from the authorities, the Bank has also provided technical assistance to the Privatization Commission and assisted it in the preparation of the government’s new Privatization Policy, which has since been endorsed by Cabinet. Dialogue relating to SOEs in the energy sector has been particularly intensive and the Bank has provided detailed recommendations to the authorities in areas relating to pricing policy and the regulatory regime for energy and other utilities.

Restructuring the financial system. The Bank has been actively engaging the authorities in a dialogue on financial sector reform. Together with the Fund, the Bank comanaged the Financial Sector Assessment Program report that was prepared in October 2002. With IDA financing, the government is implementing a program to strengthen the Bangladesh Bank.

Trade liberalization. In response to requests from the authorities, the Bank has been regularly providing analytical support to the Ministry of Finance, the National Board of Revenue, the Bangladesh Tariff Commission, and the Ministry of Commerce. The Banksupported Export Diversification Project has a component designed to build capacity within the Tariff Commission for tariff analysis and WTO-related negotiations. In addition, the Bank has regularly provided brief trade-related policy notes to the government as inputs into the annual budget preparation process.

Infrastructure development. Infrastructure development is needed in the country for economic growth in general, and private sector development in particular. In this context, the Bank is helping to prepare a power sector strategy, and plans to approve a Power Sector Reform TA this fiscal year which will include a project preparation facility.

Strengthening governance. The Bank has engaged the government in an active dialogue aimed at improving the investment climate by strengthening accountability and transparency. The Bank has prepared several analytical reports on the subject, including an Institutional and Governance Review, a Country Financial Accountability Assessment, a Country Procurement Assessment, and user surveys on the quality of service delivery. In addition, the Bank is providing technical assistance to the government for improving its procurement policies and practices.

The World Bank’s Country Assistance Strategy

The FY01-FY03 country assistance strategy (CAS) for Bangladesh identified four main thrusts: (i) helping to build stronger institutions and governance across sectors; (ii) consolidating gains in human development; (iii) implementing an integrated approach to rural development; and (iv) accelerating and broadening private sector-led growth.

A CAS Progress Report was discussed by the Board on June 19, 2003. A new CAS is planned for FY2005, to ensure an adequate alignment of Bank assistance with the full PRSP. Details of the program for FY2004 and FY2005 are provided below.

The World Bank’s Assistance Program

The Bank has been assisting Bangladesh since FY1973. As of October 31, 2003, the World Bank Group has approved $10.6 billion for 196 projects (including one IBRD loan) to Bangladesh and the net commitment amount stood at $1.3 billion. During FY2003, new commitments totaled $554.2 million and disbursements totaled $560.3 million (including $300 million of adjustment lending). The Bank is currently supporting 25 projects in key sectors, including social development, rural development, energy and infrastructure, private sector development, finance, and environment. These operations emphasize policy and institutional reforms in line with the CAS and CASPR objectives.

In FY2003 the Bank approved five IDA Credits. These included four investment projects, namely Social Investment Program ($18.24 million); Rural Transport Improvement ($190 million); BD Telecommunications TA ($9.12 million); and Central Banking Strengthening ($37 million); and one adjustment operation, the Development Support Credit ($300 million). The latter marks a shift toward programmatic lending, and complements a three-year arrangement under the Poverty Reduction and Growth Facility (PRGF) approved by the IMF Board on June 20, 2003.

During FY2004, nine projects are scheduled to go to the Board. These projects2 include, Water Management Improvement Project ($80 million); Education Sector Development Support Credit ($100 million); Enterprise Growth and Bank Modernization ($250 million); Development Support Credit II ($200 million); Economic Management TA ($20 million); Power Sector Reform Support TA ($13 million); Second Primary Education Development Project ($150 million); Rural Water Supply ($35 million) and Increasing Access to Education ($80 million)

The projects currently planned for FY2005 delivery are: Road Sector Reform ($200 million); HNP Sector Program II ($250 million); Agriculture Technology Project ($50 million); and possibly the first Poverty Reduction Support Credit (PRSC) ($300 million). Bank financing is also under consideration for a possible power sector investment project.

As of July 31, 2003, IFC’s held portfolio was $156 million in 11 projects, of which $120 million was on IFC’s own account and $36 million was in B-loans. Projects span sectors such as power, telecommunications, cement, gas, and financial markets, In FY2003, IFC committed $12 million in a ceramic tile manufacturer and has approved investments pending commitment in rural power (Summit Power, $7 million), a commercial bank (BRAC Bank, $3 million), and a leasing company (ULC, $5 million) IFC also syndicated a $21 million loan for Khulna Power under its B-loan program in FY2003. In mid-2002, with the support of several bilateral donors, IFC started a regional SME technical assistance facility covering Bangladesh, Bhutan, Nepal, and north-east India. IFC has committed $5 million to the facility for the duration of the initiative.

The Bank continues to be involved in providing technical and advisory assistance to the government in a number of areas, including banking, energy, privatization, taxation, tariff and trade policy, poverty monitoring and analysis, and financial management.

World Bank-Fund collaboration

The Bank and the Fund have been working closely in Bangladesh, particularly in areas related to macroeconomic management, financial sector, reform of state-owned enterprises, public expenditure management, and issues relating to financial accountability. Bank staff routinely participate in Article IV missions and provide feedback, as requested, on the macroeconomic framework and other aspects of the Fund’s macroeconomic dialogue with the authorities. The Bank co-managed the Financial Sector Assessment Program report and Fund staff were regularly consulted during the preparation of the Public Expenditure Review. The Bank has also collaborated with the Fund in several areas related to the Report on Observance of Standards and Codes (ROSC) and safeguards assessment.

Dialogue between the two institutions has intensified in recent years, especially in the context of the preparation of the country’s poverty reduction strategy. In addition, Fund and Bank staff collaborated closely in preparing the Joint Staff Assessment of the I-PRSP, and in completing the complementary Development Support Credit and PRGF.

ATTACHMENT I

Dhaka, Bangladesh December 18, 2003

Mr. Horst Köhler

Managing Director

International Monetary Fund

Washington, D.C. 20431, U.S.A.

Dear Mr. Köhler:

The Government of Bangladesh is committed to implementing the reform strategy set out in our Interim Poverty Reduction Strategy Paper (I-PRSP), endorsed by the IMF Executive Board together with the approval of the arrangement under the Poverty Reduction and Growth Facility (PRGF) in June 2003. This strategy is aimed at moving the economy onto a path of higher sustainable growth with job creation, and faster poverty reduction. It will be further defined in the Poverty Reduction Strategy Paper (PRSP) that is to be completed by end-2004.

Based on discussions for the first review under the PRGF arrangement with the Fund staff in September and October 2003, the attached Memorandum of Economic and Financial Policies (MEFP) assesses economic and. policy performance through October 2003 under the arrangement, updates the macrocconomic framework, and discusses the financial policies and structural reform program through December 2004. It supplements the MEFP dated June 4, 2003.

All quantitative performance criteria for end-September 2003 were observed, and the structural performance criterion on the removal of margin requirements was also met with a negligible delay. However, the structural performance criterion with respect to modernizing and expanding the Large Taxpayer Unit to cover 1,000 income taxpayers was met with a brief delay. On this basis, and in view of the policies set out in the attached memorandum, including the strengthening of tax administration, the Government requests waivers for the nonobservance of these structural performance criteria and the completion of the first review.

The Government of Bangladesh will provide the Fund with such information as the Fund may request in connection with progress in implementing the economic and financial policies, and achieving the objectives of the program. The Government believes that the policies set out in the attached MEFP are adequate to achieve the objectives of the program, but it will take any further measures that may become appropriate for this purpose. The Government of Bangladesh will consult with the Fund on the adoption of these measures, and in advance of revisions to the policies contained in the MEFP, in accordance with the Fund’s policies on such consultation.

Sincerely yours.

/s/

M. Saifur Rahman

Minister for Finance and Planning

Ministry of Finance

Attachment

BANGLADESH: Memorandum of Economic and Financial Policies for October 2003-December 2004

December 18, 2003

I. Introduction

1. Bangladesh’s economic performance has strengthened over the past two years, with restoration of macroeconomic stability and a renewal of structural reforms. This allowed us to increasingly shift the policy focus to boosting growth and reducing poverty in a sustainable fashion. Thus, the government launched in June 2003 a comprehensive reform program based on a poverty reduction and growth strategy as set out in our Interim Poverty Reduction Strategy (I-PRSP). This memorandum reviews progress that has been achieved so far and lays out the objectives and macroeconomic and structural policies during the period through December 2004, supplementing our Memorandum of Economic and Financial Policies (MEFP) dated June 4, 2003.

2. We have begun preparation for a full PRSP, and aim to complete it by end-2004. An interministerial Poverty Steering Committee has been set up to follow a two-staged approach—a review of implementation of the I-PRSP and then detailed thematic studies of the key issues for poverty reduction. Furthermore, pro-poor programs will be more sharply prioritized, and more fully costed into a medium-term expenditure framework. In order to help solidify domestic support for reform, we intend to strengthen the consultation process, to include broader segments of civil society and parliamentarians.

II. Recent Performance Under the First-Year PRGF

3. Recent economic performance continues to be positive. The recovery that began in early FY03 (ending June) has been bolstered by a pick up in external demand and domestic activity. Real GDP growth for FY03 thus rose to an estimated 5.3 percent on the rebound of agriculture and industrial output (Table 1). For FY04, a further strengthening in economic performance is likely. At the same time, inflation remains manageable, at under 5 percent as of September.

MEFP Table 1.Bangladesh: Key Economic Indicators, FY00–04 1/
1999/002000/012001/022002/032003/04
Prog.Prel.Prog.
National income and prices (percent change)
Real GDP5.95.34.45.25.35.5
GDP deflator1.91.62.74.84.44.0
CPI inflation (annual average) 2/2.81.92.85.24.44.5
Central government operations (percent of GDP)3/
Total revenue8.49.010.210.410.310.8
Tax6.77.67.78.38.38.7
Nontax1.71.42.42.02.12.1
Total expenditure13.514.114.814.513.915.6
Current expenditure7.57.78.08.07.88.4
Of which: Interest payments1.61.61.82.01.82.0
Annual Development Program5.46.55.65.85.36.1
Extraordinary expenditures0.00.00.00.40.40.5
Other expenditures 4/0.6−0.21.2−0.10.40.6
Overall balance (excluding grants)−5.1−5.1−4.7−4.2−3.5−4.8
Primary balance−3.6−3.5−2.9−2.2−1.7−2.8
Financing (net)5.15.14.74.23.54.8
Domestic2.73.12.61.91.32.0
External2.42.02.12.32.22.8
Total central government debt (percent of GDP)47.950.853.251.751.752.2
Money and credit (end of year; percent change)
Net domestic assets16.920.211.910.612.214.2
Private sector credit10.516.313.911.412.615.6
Broad money (M2)18.616.613.112.515.614.1
Money velocity3.22.92.82.72.62.5
Balance of payments (in millions of U.S. dollars)5/
Exports, f.o.b.5,7016,4195,9296,1106,4926,959
(Annual percent change)7.912.6−7.62.19.57.2
Imports, f.o.b.−7,566−8,430−7,697−8,224−8,699−10,068
(Annual percent change)4.811.4−8.76.813.015.7
Gross official reserves (in millions of U.S. dollars)1,5961,3061,5822,1002,4542,848
In months of imports of goods and nonfactor services1.91.71.82.62.92.9
Memorandum item (in billions of taka):
Nominal GDP2,3712,5352,7322,9963,0053,294
Sources: Data provided by the Bangladesh authorities; and Fund staff estimates and projections.

Fiscal year begins July 1.

CPT has recently been rebased using FY96 weights.

Starting FY02, central government fiscal positions are presented on a gross basis.

Consists of other capital, net lending, and food accounts (including cheek float and discrepancy).

Balance of payments is presented on the basis of BPM5. For FY04, export and import projections are based on the growth rates in the original program.

Sources: Data provided by the Bangladesh authorities; and Fund staff estimates and projections.

Fiscal year begins July 1.

CPT has recently been rebased using FY96 weights.

Starting FY02, central government fiscal positions are presented on a gross basis.

Consists of other capital, net lending, and food accounts (including cheek float and discrepancy).

Balance of payments is presented on the basis of BPM5. For FY04, export and import projections are based on the growth rates in the original program.

4. The external position has strengthened more than expected. Exports climbed by 9½ percent in FY03, due to a turnaround in the ready-made garment (RMG) sector. This reflects gains in competitiveness and a recovery in external demand. Remittances also remain buoyant, so that in spite of strong import growth, the current account registered a surplus of 0.6 percent of GDP. With a substantial increase in external assistance, gross official reserves rose by about $1 billion from June 2002 to $2.4 billion (three months of imports) by end-November 2003, well above our target. The taka has remained broadly stable since the May 31 float, but depreciated in real effective terms by 2 percent since June 2002. Moreover, external debt management has been prudent, with tight monitoring of nonconcessional debt, keeping new borrowing well below the program ceiling.

5. Macroeconomic policies are on track, with over performance in key targets for FY03, and all indicative targets and quantitative performance criteria for end-June and end-September were met (Table 2). Strong revenue performance and expenditure discipline helped to narrow the budget deficit to 3.5 percent of GDP, below the program target of 4.2 percent of GDP. Tax revenue rose by 0.6 percent of GDP, with increases in VAT and customs duty more than offsetting a shortfall in income tax. As a result, domestic financing was halved to 1.3 percent of GDP, against the program target of 2 percent of GDP.

MEFP Table 2.Bangladesh: Quantitative Targets and Performance Criteria Under the PRGF, June 2003-December 2004 1/

(Cumulative flows, end of period) 2/

Jun-03Sep-03Dec-03Mar-04Jun-04Sep-04Dec-04
Indicative TargetsActualPerformance CriteriaActualIndicative TargetsPerformance CriteriaIndicative Targets
(In billions of taka)
Ceiling on net domestic assets of Bangladesh Bank−23−336−9269−71
Ceiling on net domestic financing of central government563820153150652133
Ceiling on net central government bank borrowing18−1111−1313201113
(In millions of U.S. dollars)
Floor on cumulative increase of net international reserves of Bangladesh Bank557722−5011212512522575150
Contracting or guaranteeing of short-term external debt by the central government000000000
Contracting or guaranteeing of noneoncessional medium-and long-term external debt by the central government150501000150200250100150
Of which: External debt with an initial maturity of over one year and up to five years000000000
Accumulation of external payments arrears (continuous performance criterion during the program period)000000000

The aggregates are defined in the Technical Memorandum of Understanding dated May 2003 (EBS/03/76).

Cumulative flow since start of financial year beginning July 1.

The aggregates are defined in the Technical Memorandum of Understanding dated May 2003 (EBS/03/76).

Cumulative flow since start of financial year beginning July 1.

6. The FY04 budget is in line with the program, and includes revenue efforts and a reordering of spending priorities. The budgeted deficit—up to 4.8 percent of GDP—is expected to be financed by more concessional financing to meet the urgent need for infrastructure and social spending. Total revenue is targeted to rise by 0.5 percent of GDP, on account of recovery of tax arrears, a broadening of the income tax and VAT net, and a strengthening in tax administration. Spending priorities are to be shifted to pro-growth and pro-poor areas, with an increase of about 1 percent of GDP in poverty reducing spending. Domestic financing is to be capped at 2 percent of GDP.

7. Monetary policy was tightened in the second half of FY03 to facilitate the transition to the float. Treasury bill rates were raised and reserve money rose by only 4 percent, below program. Nonetheless, private sector credit remained robust, growing by 13 percent in FY03 and the exchange rate has been stable. Given this favorable environment, Bangladesh Bank (BB) began to ease monetary conditions in the first quarter of FY04 to better support growth. Treasury bill rates were reduced by 3 percentage points during July-October, and deposit and lending rates have also started to decline.

8. On the structural front, progress has also been made (Table 3). In tax administration, steps have been taken to revamp the bonded warehouse system, and measures have been adopted to modernize and expand the Large Taxpayer Unit (LTU) (an end-September performance criterion) and are in train to establish a Central Intelligence Unit (CIU). Similarly, the key initial steps in nationalized commercial bank (NCB) reform are being taken in line with the program approach, albeit with slippages from some of the original timetables. In particular, the special audits of the four NCBs are now underway, to be completed as scheduled at end-2003. Performance under Memoranda of Understanding (MOUs) agreed with BB has also been satisfactory, with the NCBs adhering to their lending limits and reducing operating costs. However, the contracting of new management or management support for these banks lagged at first, due to the time needed for completing the formalities for Cabinet approval for the reform approach and some startup uncertainty about the World Bank’s procurement requirements for its funding support. Finally, closure of NCB branches and loss-making state-owned enterprises (SOEs) in the manufacturing sector has slowed, particularly owing to strong labor union opposition.

MEFP Table 3.Bangladesh: Structural Performance Criteria and Benchmarks Under the PRGF, June 2003-December 2004
MeasuresTimingStatus
I. Structural Performance Criteria and Benchmarks for the First Review
Contracts signed by MoF for audits of the four NCBs on international auditing and accounting standardsAugust 31, 2003Completed
Modernize and expand the LTU to cover 1,000 income taxpayers 1/September 30, 2003Complied on November 29, 2003
Contract new professional management for Agrani BankOctober 31, 2003Revised to January 31, 2004
Phase out margin requirements on the opening of letters of credit for imports 1/November 30, 2003Complied on December 2, 2003
II. Performance Criteria and Benchmarks for the Second Review
Secure management support for Sonali and Janata banksDecember 31, 2003Revised to May 31, 2004
Make fully operational a CIU to monitor compliance of 1,000 large taxpayers 1/December 31, 2003
Complete revamping the bonded warehouse system, including requiring bank guarantees for all imports going through the systemDecember 31, 2003
Expand the audit program to cover 1,000 large taxpayersMarch 31, 2004
Adopt resolution strategies for the four NCBs (in consultation with the Bank and Fund staff) 1/April 30, 2004
III. Performance Criteria and Benchmarks for the Third Review
Expand the LTU system, to cover withholding income tax and VAT, and expand the current list of taxpayers; coverage of the relevant taxes will be defined by the second PRGF review 1/September 30, 2004
Agree on action plans with the managements of Sonali, Janata, and Agrani, covering the period to June 2006, to operationalize the resolution strategies for each bank 1/November 30, 2004
Bring Rupali Bank to point of sale by issuing an information memorandum to the publicDecember 31, 2004

Indicates structural performance criteria.

Indicates structural performance criteria.

III. Macroeconomic and Structural Policies for October 2003-December 2004

A. Macroeconomic Framework

9. The original macroeconomic framework for FY04 (for real GDP growth of 5.5 per cent and inflation of 4.5 percent) remains attainable. Global recovery along with more accommodative fiscal and monetary policies bring these targets within reach, with some upside potential. Both export and import growth should remain robust, and the shift of the current account into a deficit of 1.2 percent of GDP is expected to be covered by additional concessional financing. Although the pace of reserve accumulation has tapered off, the external outlook remains favorable. While keeping the prospects of external financing under close review, given the very good performance so far, we intend to further build up reserves to $2.85 billion by end-FY04.

10. The main medium-term risk is the phase out of Multifiber Agreement (MFA) quotas at end-2004. Since Bangladesh is highly dependent on RMG exports, the adverse impact of quota removal on the external position, output, and employment could be substantial. In addition, risks to program implementation arise from uncertainties in the political environ ment and capacity constraints. To mitigate these risks, the program outlined below is geared toward creating a friendly climate for investment (domestic and foreign alike) so as to boost growth and create jobs. Moreover, flexible exchange and interest rate policies will help us to enhance competitiveness and better cope with external shocks.

B. Fiscal Policy and Reform

11. The fiscal program is broadly on course in the first quarter of FY04, reflecting good revenue collection and a backloading of discretionary expenditures. Total revenue rose by 15 percent year-on-year, but on account of nontax revenue, especially BB dividends. Lagging tax collection by the National Board of Revenue (NBR) is a matter of serious concern. NBR revenue in the first quarter rose by 9.4 percent, compared with the 15 percent annual target, mainly due to shortfalls in customs duty receipts. We expect tax revenue to grow faster in the remainder of the year, along with an acceleration in the registration of additional VAT and income taxpayers, and the phase in of the programmed revenue measures (see below). Nonetheless, we intend to track revenue performance closely and if shortfalls persist, we will take corrective actions in the context of a revised budget in February 2004.

12. To protect the program revenue target, we will ensure rigorous implementation of the following measures:

  • On the LTU for income tax, the September performance criterion was met with a slight delay. Appropriate steps have been taken, and the LTU has begun to function. Over 1,000 large taxpayers—covering about 35 percent of the tax base—have been selected on objective and transparent criteria that have been published. They comprise all banks and nonbank financial institutions, telephone and satellite TV companies, enterprises with paid-up capital in the range of Tk 60–1,200 million, and company directors. The transfer of tax files has begun from over 400 local tax offices, staffing and logistical arrangements are being made, and operational manuals have been finalized.
  • On the CIU, the revised organization chart agreed with the Fund staff has been approved in early December, and 1,000 taxpayers covering all major taxes are being selected for monitoring on the basis of compliance records and risk assessment. Other preparatory work is being completed, and the CIU is expected to be fully operational by end-December (a performance criterion).
  • As regard the bonded warehouse system, the December benchmark on revamping this system is expected to be met. All imports for domestic consumption and most imports for export production are now subject to bank guarantees of 100 percent and 25 percent, respectively, of import duties and VAT.

13. In FY05, revenue mobilization and improved efficiency of the tax system will remain critical. We are determined to make further efforts to strengthen tax administration, starting with plans to expand the LTU system in early FY05 to cover withholding tax and VAT; we will decide the appropriate coverage of relevant taxes by the second PRGF review in consultation with the Fund staff. Moreover, we will initiate efforts to modernize the NBR, drawing on recommendations of the recent FAD technical assistance and regional experiences, and in collaboration with the World Bank and other donors. In addition, we intend to rationalize the tax system by reducing trade taxes, including supplemental duties, in FY05 budget.

14. On expenditures, the agreed quarterly spending limits will continue to be observed. Moreover, steps are being taken to improve absorptive capacity in order to speed up project selection, preparation, and execution of the Annual Development Program (ADP), so as to ensure quality investment in infrastructure and social sectors. To this end and for trans parency, we have recently approved procurement guidelines to expedite release of funds and improve governance. Moreover, we intend to take timely decisions on policy reforms and fast track preparation of key infrastructure projects with the support of donors. In addition, we will strengthen the system for monitoring and tracking public expenditure, to ensure achievement of budget priorities.

C. Monetary and External Policies

15. BB will take further steps to lower lending rates to promote investment, while standing ready to react to any emergence of inflation and keeping interest rates positive in real terms. Already, BB has strengthened bank competition by publishing market informa tion, worked to improve the functioning of interbank money market, and developed a secondary market for government securities to better circulate surplus funds among banks. Moreover, the Statutory Liquidity Requirement (SLR) ratio was reduced from 20 percent to 16 percent in November. Additional steps will be taken to broaden and deepen the govern ment securities market, including through gradually phasing in volume-based auctions and introduction of long-term treasury bonds, so as to reduce rate volatility and develop yield benchmarks. In line with this overall easing stance, the monetary program has been revised and extended to cover the first half of FY05.

16. Reform of the National Savings Certificates (NSCs) scheme is vital, to contain the costs of financing the budget deficit as well as to make the interest rate structure more flexible and market-based. Consistent with this aim, and in view of the recent decline in other interest rates, we are making appropriate adjustments to interest rates on new issues of NSCs in line with market rates. In addition, we are taking steps to better enforce the limit on access by individuals to NSCs, and will consider affordable safety nets for the most vulnerable groups.

17. The floating exchange rate regime has increased the economy’s resilience to shocks. We intend to avoid intervention in the exchange market except to smooth out disorderly market conditions, and to further build up reserves so as to reduce external vulnerability. On December 2, in order to eliminate distortions, we liberalized the exchange regime further by removing the remaining margin requirements for the opening of letters of credit on imports. We are receiving LEG/MFD technical assistance relating to the phasing out of exchange restrictions subject to Fund jurisdiction, i.e., with respect to the convertibility and transfer ability of proceeds of current transactions in nonresident taka accounts, and the advance payments for imports of goods and services.

18. We will continue to exercise caution in contracting suppliers’ credits, and intend to stay below the ceiling for the contracting and guaranteeing of nonconcessional external debt. Funding for infrastructure will be sought first on concessional terms, especially from IDA. We will also enhance upstream monitoring and coordination of new loans in the process of being contracted.

D. Reform of the Nationalized Commercial Banks

19. The government remains committed to divesting the NCBs over the medium term, including by privatization in whole or in part. Our initial efforts are focused on curbing the flows of new bad loans and strengthening management of NCBs. For the remainder of FY04, the pace of NCB reform will be stepped up and monitoring intensified, for which a working group has been created. Accordingly, timetables for securing new management for Agrani, a sales advisor for Rupali, and management support for Sonali and Janata have been revised in consultation with World Bank and Fund staff. Over the last three months, implementation of the steps envisaged under these timetables has been on track.

20. Ahead of the completion of the first review, we expect to achieve the following: for Agrani, approval by the Cabinet’s Purchase Committee of the winning bid by mid-December; for Sonali and Janata, issuance of the requests for proposal for the management support contracts and the convening of the pre-bid conference; and for Rupali, completion of technical evaluation of bids for a sales advisor. In addition, a monitoring cell under the working group will be established as soon as possible, with technical support from the World Bank, to track performance under these contracts, Furthermore, we intend to bring Rupali to the point of sale by December 2004.

21. Looking forward, we have begun consideration of the options for comprehensive bank-by-bank resolution strategies, so as to be able to adopt such strategies by end-April 2004 as envisaged under the program. Following this, we intend to draw up action plans to operationalize these strategies by end-November 2004.

E. Other Issues

22. We continue to build upon the reform initiated in the energy sector, which is key to growth and fiscal sustainability. Automatic pricing framework for energy products has been adopted in collaboration with the World Bank, and initial price adjustments for power, gas, and petroleum products have been taken under the agreed framework. An investment/ program loan for the power sector from AsDB has just been approved.

23. The government is attaching top priority to ramping up the reform of the power sector, so as to urgently upgrade the quality of services and expand the capacity of the sector. An Energy Regulatory Commission is being formed to be in place by early 2004. Further more, given the critical need to improve the financial performance of the urban electricity distribution systems, we are considering options for improving billing and collection. This is critical for the Dhaka Electricity Supply Authority (DESA), since DESA is responsible for over half of power distribution and 80 percent (1½ percent of GDP) of the stock of inter-SOE arrears. The restructuring of DESA is thus integral to the reform framework, and must be centered on the basic problems of heavy system losses and poor billing and collection. To advance this reform, we are securing a technical assistance credit from the World Bank to define a robust turnaround program for urban electricity distribution. This is expected to pave the way for a program for a financial and operational restructuring of DESA with donor support.

24. With respect to safeguards assessment, an audit of BB financial statements has been completed on international auditing standards by a local firm and signed by an international accounting firm. While these statements reflect improvements, they still fall short of international accounting standards. MFD technical assistance is being provided to follow up on further actions to address the identified weaknesses. We are committed to implementing the other critical recommendations of the safeguards assessment.

25. We are taking actions to fight corruption and to enhance the climate for investment. In particular, the draft law for establishing an Independent Anti-Corruption Commission (IACC) was submitted to parliament in July, is under broad consultation, and is planned for passage in the next parliament session in early 2004. Support is being provided by the US AID and the AsDB. Moreover, as noted above, the new procurement guidelines should help to curb corruption.

26. Understandings have been reached on quantitative performance criteria for end-March 2004, quantitative targets for end-June 2004, and indicative targets for the remainder of 2004 (see Table 2). Furthermore, structural performance criteria and benchmarks have also been set to cover the remainder of 2004 on tax administration and NCB reforms (see Table 3). The second PRGF review will be completed by June 2004 to reach understandings for the second-year program, focusing on the formulation of FY05 budget, tax reform— drawing on the recommendations of FAD technical assistance noted above—and SOE and NCB reforms. To facilitate program implementation, we hope to continue receiving technical assistance from the Fund in monetary operations, banking and tax reforms, and statistics. In addition, the monitoring of structural policies will continue to be closely coordinated with the World Bank, especially in the context of the upcoming DSC II.

Attachments:

MEFP Table 1: Key Economic Indicators, FY00–04

MEFP Table 2: Quantitative Targets and Performance Criteria Under the PRGF, June 2003-December 2004

MEFP Table 3: Structural Performance Criteria and Benchmarks Under the PRGF, June 2003-December 2004

1

Pending the final court decision, such imports are subject to 100 percent bank guarantee on import duties and VAT.

2

Under these formulas, gas prices will be reviewed monthly and adjusted if the benchmark international price moves 10 percent away from the baseline; petroleum product prices are to be realigned every six months, unless the monthly review indicates an international price variation of over 5 percent from the baseline, in which case the adjustment will be immediate.

1

Prepared by Syed Nizamuddin, Aneeka Rahman, and Enrique Pantoja, Country Officer, World Bank, (202) 473–2516.

2

IDA Credit amounts are indicative.

Other Resources Citing This Publication