Cuts in interest rates wont have much effect
The Bangladesh Bank has made money cheaper and more cash available for banks in the wake of the withdrawal pressure amid growing concern of coronavirus that may lockdown the capital city for the time being. In a circular issued on Monday, the central bank reduced repo rate by 25 basis points to 5.75 percent and cash reserve ratio (CRR) by 50 basis points to 5 percent a year.
The new repo rate is effective from today while that of CRR will come into force from April 1. Both repo rate and CRR have been slashed to increase availability of cash in the banking system. Repo rate, also known as policy rate, is the central bank's lending rate for commercial banks. Currently, repo rate is 6 percent and average inflation in February stood at 5.60 percent. On the other hand, the reduction of CRR, the amount banks have to keep with central bank as reserves, will save cash money for banks to invest.
But will simply using these monetary policy instruments to increase the money supply work? Firstly we are dependent on the outside world for a lot of our demand -- the policy cuts wont affect RMG buyers or remittances---which are two of the biggest sources of free cash in our economy.
Secondly, an injection of free cash in our economy wont result in a multiplying effect towards the total level of demand in the economy because our main exports--RMG is down. If the economy halts and businesses cant pay their workers because there is decreased demand for their products then it makes no sense if they can get money at cheaper rates to invest as the demand simply wont be there.
Since consumers dont take loans to spend on everyday shopping it wont affect the vast majority of them -- no one takes out a loan for lakhs of takas to buy food or hand sanitisers. Ultimately until total demand in the economy recovers the cuts in interest rates wont have much effect.