In a perfect economy like the United States, an increase of the interest rate by the Federal Reserve leads to a decrease in the rate of inflation. A 50-basis points reduction in the policy rate by the Fed contributed to lessening the likelihood of a recession. Recession is described by economists as the worsening of economic conditions marked by rising unemployment and a decline in the demand for goods and services. This indicates that the change in the policy rate had an impact on the rate of inflation, aligning with the principles of monetary policy and its influence on inflation in a well-functioning economy. In an imperfect economy like Bangladesh under an interim administration the effect of a change in policy rate does not readily reflect changes to the economic indices. 

Many competing explanations exist about the nature of the imperfect economy prevalent in Bangladesh. Market manipulation, syndicates, and lack of strict enforcement of governmental policy appear to make it difficult for any changes in the policy rate to significantly impact inflation and escalating prices of goods and supplies in the market.

Inflation remained below 6 percent on average throughout 2020-2021. The Russian invasion of Ukraine on the 24 February resulted in a major disruption in the supply of food, fertilizers and energy, impacting markets worldwide.  The embargo on Russian oil exports had a devastating effect on food and energy security of import dependent nations like Bangladesh. Consequently, the rate of inflation in Bangladesh rose to 7.42% during May of 2022. Sanctions by the EU and US drove international market prices up to new heights, pushing the inflation rate in Bangladesh to 9.42% in August of 2022; and subsequently inflation hovered in high single digits and crossed into double digits by mid-2024 (June-July). A significant factor for this uptick is attributable to the increase of crude oil and LNG prices in the international market leading to the policy decision of the oil and gas authorities of Bangladesh to raise the price of fuel by 50% in the first week of August 2022.      

Departure of big spenders

The Central Bank (Bangladesh Bank) hiked the policy rate by 50 basis points, as announced by the then Governor on June 18, 2024, aimed at controlling inflation, stabilization of the currency, and economic stability. Inflation jumped from 9.72% in June to 11.66% in July, as shown in Chart 1. A surge in inward remittances and an increase in the inflow of foreign assistance to the newly formed interim administration in August and September replenished the reserve and contributed to a downward trend in the inflation rate. Intensive efforts by the newly appointed Governor of the Bangladesh Bank possibly contributed to an improvement in the exchange rate and economic stability. Inflation dropped to single digits in September, partly due to the strict supervision and financial management of the foreign exchange reserve by the new set of policymakers at the helm of the administration. 

However, there is no reason to believe that the declining trend in the inflation rate is due to the change in the policy rate. Other factors may have played a role in taming inflation, such as the departure of many big spenders from the country, which contributed to a drop in demand causing a slight dip in the market. Any claim that the change in policy rate by the administration led to the market cooling off may be misleading.

Need to rein in inflation

The consequences of high inflation on stability are not immediate but are potentially dangerous due to the possibilities of it being used by the followers of the deposed regime to foment unrest.  Regional conflict in the Middle East is bound to disrupt the transport of oil through the Strait of Hormuz in the Persian Gulf, resulting in a rise in oil prices around the world. High oil prices in the international market will spur inflation in Bangladesh and may lead to catastrophic consequences for an economy already reeling from unanticipated post-revolutionary aftershocks. A conflict between Israel and Iran could upend the chances of a full economic recovery for Bangladesh.

Time is of the essence for the interim administration to take the bull by the horns and rein in inflation by adopting innovative methods. Since the interim administration is composed mostly of professionals from NGOs, many people are beginning to believe that the newly appointed advisers lack experience in statecraft, strategic thinking, and crisis management. However, innovation is a strong suit for NGOs, and with the intellectual leadership of Nobel laureate Mohammed Yunus, the nation may still find its way out of a  challenging situation. It is therefore urgent for the Council of Advisers to beef up capabilities of the interim administration and adopt cost-effective policies for the maintenance of political and economic stability. 

(The writer is an international consultant with academic and professional experience in Bangladesh, South Asia, and the U.S. Indo-Pacific Strategy. Views are personal. He can be contacted at rsheikh2016@gmail.com )