Giffen Good, Geffen good

In economics, a Geffen good is an inferior good with the unique characteristic that an increase in price actually increases the quantity of the good that is demanded.  This provides the unusual result of an upward sloping demand curve.

This happens because of the interactions of the income and substitution effects.  Depending on whether the good is inferior or normal, the income effect can be positive or negative as the price of a good increases.  Imagine an inferior good being Top Ramen (an inexpensive noodle dish, common among students).  As your income rises, you actually consume less Top Ramen, because you may begin to buy more spaghetti, or steak, or something you enjoy more than Top Ramen.  But if you lose your job, and your income goes down, you will consume more Top Ramen, because it is inexpensive.

Next we have to consider the substitution effect.  No matter type of good, the substitution effect will be negative as the price of that good goes up.  So if the price of Top Ramen rises, the substitution effect will dictate that you will buy more spaghetti, or steak because that good has become relatively cheaper.

The interesting thing about a giffen good, is that when the price of a giffen good rises, the income effect is greater than the substitution effect.  So if a good is inferior, the income effect will be positive and larger than the negative value from the substitution effect.

 Summary:  if a good is inferior, a drop in income (represented by a price increase) increases the quantity of the good that is demanded.  The substitution effect is negative for any good that experiences a price increase.  A giffen good faces an upward sloping demand curve because the income effect dominates the substitution effect, meaning that quantity demanded increases as price rises.

 However, a good cannot have an upward sloping demand curve forever, because eventually the consumer will run out of money.  Remember that giffen goods have to be inferior goods, which implies that the consumer purchasing them has little money to begin with.  At some point, the rising price of the giffen good takes over the consumer’s entire budget, and a price increase will actually lower the amount of the good the consumer is able to buy.  This means that at high enough prices, we will see the traditional downward sloping demand curve.

 Let’s go through an example of a giffen good, using potatoes and steak as the choice set of the consumer.  Imagine the consumer has a budget of $30, and the cost of a potato begins at $0.50 and the price of a steak is $10.00.  Also consider that the consumer needs to buy meals for 10 days.

 With the original budget and prices, the consumer may choose to consume 2 steaks, at $20, and 20 potatoes for $10 over this time frame to use up their entire budget.  This is a satisfactory amount because they will have on average 2 potatoes a day, and 2 steaks over the period.

 Now imagine a price increase of potatoes to $1 each.  The consumer could still buy 2 steaks, but could now only buy 10 potatoes.  This might leave them hungry, so it is possible they will buy less steak, and more potatoes in order to get their calories.  This means that 20 potatoes will still be purchased, but now only 1 steak is purchased.

 If the price of a potato increased again, say to $1.25, then the consumer would only be able to get 16 potatoes for $20, which may not be enough calories to survive.  They will decrease their steak consumption by one, and use that money to buy more potatoes in order to get the necessary energy.  In this example, potato consumption would rise to 24 ($30/$1.25) and steak consumption would drop to zero.  This shows how consumption of a good would rise with a price increase (thus an upward sloping demand curve).

 At this point, the consumer’s entire budget is taken up by the giffen good, so any price increase now will result in a decrease of the amount of good the consumer is able to buy.  Thus, we will have our typical downward sloping demand curve.

 An inferior good is a good that decreases in demand when consumer income rises (or rises in demand when consumer income decreases). The demand for inferior goods goes down as income increases.  Consumers of inferior goods "trade up" to higher priced goods as soon as they can afford it.

Transportation provides a good example. When income is low, it makes sense to ride the bus. But as income increases, people stop riding the bus and start buying cars. It's acceptable to most people to ride the bus when they can't afford a car. But as soon as they can afford one, they buy a car and stop riding the bus. Bus riding declines as income increases. Rice, potatoes and instant noodles are other examples of inferior goods.

Inferior goods are not the same worldwide. Fast food can be considered an inferior good in many western countries, while emerging economies consider it a normal good as they trade up from rice, potatoes, etc.

Inferior good

An inferior good means an increase in income will causes a fall in demand. An inferior good has a negative income elasticity of demand. (YED)

For example, if average incomes rise 10%, and demand for holidays in Blackpool falls 2%. The YED of Blackpool holidays is -0.2 – an inferior good.

Inferior goods will have better quality alternatives. Therefore, when income rises, people can afford to forego the cheap alternative and buy the higher quality good instead.

For example, a person on low income may buy cheap gruel. But, when his income rises, he will afford better quality foods, such as fine breads and meat. Therefore, he stops buying gruel.

Examples of inferior good

• ‘Supermarket own brand’ goods. E.g. Tesco value bread 32p a loaf. When income rises you buy better quality, more expensive bread.
• Tinned meat / spam, corned beef. This is a cheap form of meat, when income rises you buy fresh meat and less of the tinned variety.
• Instant coffee. When income rises you buy expensive bread instead.
• Bus travel. When income rises you can afford to buy a car and therefore no longer need the car.
• Butlin family holidays in Skegness. In the post-war austerity years, these budget holidays were very popular. But, rising incomes enabled people to travel abroad and to be able to afford hotel rooms, rather than the more basic accommodation.

Importance of inferior goods

In a recession, with falling incomes, inferior goods can become in higher demand. Supermarkets may push these cheaper, value ‘inferior’ goods because there will be higher demand. Recessions, can be good for Pound Shops, which concentrate on value goods. However, rising incomes can lead to falling demand for inferior goods and firms will increase supply of the alternatives better quality goods.

Measures of Economic Development

•  Here is a list of the most commonly used measures of economic development:
• GNP per capita;
• Population Growth;
• Occupational Structure of the Labor Force;
• Urbanization;
• Consumption per capita;
• Infrastructure and Social Conditions  (literacy rate; life expectancy; health care; caloric intake; infant mortality & others)

Measures for attracting FDI in Bangladesh

 The present government in Bangladesh has identified public-private partnership (PPP) as one of the key focus areas and is committed to attracting foreign investors to thrust sectors. The government has resolved to ensure economic and political stability and foster transparency and availability of information.

 There are several other determinants of inward foreign direct investment (FDI) attractiveness of an economy. Economic growth trend, more importantly projected growth rate, is a key indicator. Subjective and more difficult-to-measure factors like level of terrorism, political stability, and corruption are also equally important. Various controllable and out-of-control factors play significant role in determining what portion of inward FDI of the world is going to which country.

 There are a few problems that are holding us back but we can create sufficient control over the situation. These must be fixed so we can reach our maximum potentials. We need to eliminate bureaucracy, make land acquisition and construction easier, up-grade and update regulations.

 Average wage of workers increased in India, Indonesia and China during the past years, which in turn increased our competitiveness. Despite all the challenges, during 2009-2010, a total of 89 new foreign and joint venture investment projects registered with Board of Investment (BoI) worth a total of $590 million. 82.5 per cent of these investments were in the service sector, distantly followed by 8.5 per cent in clothing sector. Within the next 2 years, the composition is expected to change. Larger shares will most likely be occupied by the thrust sectors such as energy and power, transportation, etc. A number of bilateral agreements are in place for avoidance of double taxation.

After much anticipation, public-private partnership (PPP) policy has been made effective since August 2010. With proper implementation, PPP can become the chosen vehicle for FDI. We have made good progress in the foreign relations, particularly with United States and India, during the recent years. It is hoped that some good news are also due from the ongoing discussions with trade authorities of India, Turkey, Japan and Denmark that we read about in the newspapers. Many multi-national companies (MNC) have re-invested their earnings from Bangladesh for expansion of their business and operations rather than remitting out, which shows their confidence in the country's growth prospects.

FDI inflow is most necessary for Bangladesh not only from the capital and foreign currency perspectives, but also because it transfers new technologies, skills and management practices embedded with the investors. After the global economic downturn, the world is turning to Asia and thus, it is much easier for us to attract attention than earlier times. Global FDI inflow is expected to head towards $2.0 trillion by 2012. In Asia, more countries and more industries are being included every year. All we got to do is create the right climate and allow the right investors as this is definitely the right time.

Local entrepreneurs' attitude to competition from FDI is really not very welcoming as they fear of being competed out. In theory we preach that competition makes us excel and put in our best. But when it comes to practice, local entrepreneurs start advocacy to protect their business by creating high entry barriers. This is also true that FDI follows strong domestic investment, which carries testimony to encouraging business environment as well as `opportunity to make money'. All the stakeholders therefore should understand and appreciate the synergy between domestic and foreign investment.

All the while we have to keep in mind that FDI is not an end in itself, it is a means towards economic growth. It is not wise to grant lower priced lands and utilities to investors just because they are foreigners. The policy-makers can perform a deep dive objective analysis and who knows, the conclusion may be against FDI! But the approach should be to assess how much investments we need to attain the aspired GDP growth, how much can be contributed by domestic sector in itself, and how much foreign investment we need to bridge the gap. Then comes the question: Does Bangladesh have the right investment climate to guarantee FDI? If not, what is the strategy to ensure the desired amount of FDI?

Current mechanism of FDI generation in Bangladesh and future trends: It has been argued that until the early 1980s the economy of Bangladesh was highly protected and inward-oriented and import substitution was the key aspect of the government's development strategy, which primarily attracted global multi-national enterprises (MNE) with the motive of capturing domestic markets or tariff jumping-type investments.

However, recently two forces have played a key role in the surge of FDI into Bangladesh. First, liberalisation of the economy, which began in the early 1990s, especially the lifting of restrictions on FDI. Secondly, MNEs' shift toward more integrated global investment and production strategies based on the country's chief resource endowments, namely low cost labour. The country's labour-intensiveready made garments (RMG) sector allows foreign MNE to set up offshore production facilities for duty free re-import of goods and components in the country's export processing zones (EPZ). Bangladesh has an abundant gas reserve, which is chiefly influencing global MNE toward FDI generation in Bangladesh, and also enabled them to shift their focus from the traditional forms of foreign investments, such as marketing seeking to more dynamic forms like resource and efficiency seeking export oriented production platforms.

It has been argued that if FDI is a substitute for imports, it can improve the host country's balance of payments, as has been seen that much of the FDI by Japanese automobile companies in the United Kingdom and United States in their initial phase of market entry were chiefly looked upon as substitution for imports from Japan, which improved the US balance of payments to a certain extent. However, it has been also argued that when foreign investments are directed towards third country markets or rich regional markets, they can substantially improve a country's balance of payment positions.

It is believed that export-oriented FDI is a special type of FDI and is governed by different factors than is domestic market seeking FDI. Being efficiency seeking in nature, export-oriented FDI could be more sensitive to availability of quality infrastructure than overall FDI. It has been argued that infrastructure development should become an integral part of any host government's strategy to attract FDI inflows in general and export oriented production from MNE in particular. Studies have also shown that in a number of developed and developing countries, governments have indulged in policy competition between themselves to attract FDI through a package of investment incentives.

However, countervailing arguments also suggest that investment incentives tend to distort the patterns of FDI in favour of developed countries given their capacity to provide substantial fiscal incentives. So, it has been argued that rather than getting sucked into competition with developed countries by offering investment incentives, governments of developing countries would do well to focus on the development of physical infrastructure in their respective countries. This would help to mobilise the domestic as well as foreign investments and help expediting the process of their development.

Therefore, the Government of Bangladesh should give top priority to more export-oriented FDI. This will help foreign subsidiaries to mobilise their resources both in the domestic economy and also global markets. Thus additional foreign exchange will be earned and the country's present balance of payments position will significantly improve. Besides, more local jobs will be created and the overall economic development of the country will be benefited.

Moreover, Bangladesh should leverage its core competencies for high-value added production activities, especially its RMG sector, for exploiting new potential markets. It should develop its other potential growth areas like leather, frozen food, silk or the emerging information technology (IT) sector. It should also tap some of its other unrealised potentials like fisheries, light manufacturing (for example, tools and consumer electronics) by working in close partnership with global MNE. This would help Bangladesh develop the kinds of customised assets such as skilled labour and public infrastructure. Global MNEs essentially seek these facilities in a host country in order to more efficiently deploy or harness their 'created assets', namely communications infrastructure, marketing networks, technology and innovative capacity to maintain their competitiveness in the global economy and more efficiently serve their host markets. Moreover, this would help Bangladesh promote its dynamic comparative advantages and add greater value to its own resources and competencies for additional foreign exchange generation, improving the country's present balance of payments position and also enhancing its overall export competitiveness in the global economy.

It could be safely assumed that Bangladesh is making good progress toward attracting truly outward-oriented investments or Direct Foreign Investment by adopting a very liberal trade regime in South Asia by means of a rich package of investment incentives (for example, the absence of any prior approval requirements on FDI or even limits on foreign equity participation, nor are there limits to profit repatriation), maintaining sound macro-economic policies and also giving top priority on issues like building knowledge related infrastructure (for example, the bulk of its current FDI is concentrated in the country's service sector). These are helping to create an environment conducive to the growth of these kinds of foreign investments in the future.

Prospects of Foreign Direct Investment in Bangladesh

 In early part of 1990’s Bangladesh introduced various reforms for liberalizing its trade and investment policies with necessary protection and alternative incentive package. As a result, potential investors from local and foreign countries have grown substantially in Bangladesh. A number of multinational companies are operating in various sectors in Bangladesh for decades. Among these sectors manufacturing, telecommunication, energy and gas sectors attract the foreign investment most in addition to this, the following sectors or sub sectors are very promising for potential private investment.

 Composite textiles and linkage industries: In the last two decades, the RMG (Ready Made Garments) of Bangladesh have grown substantially and now constitute 70% of total exports of Bangladesh. Currently, 2500 RMG units spend approximately 60% of their export earning on import of fabrics. To meet the import requirements of the RMG industries additional investment in spinning, weaving, dyeing, printing and finishing is required on a top priority basis.

 Telecommunication:

In Bangladesh, the systems and services of telecommunication have been expanded. Government has already allowed private operation in this sector and has plans to increase the number of fixed telephone lines by 1.6 million. As a result, it has emerged as one of the largest sectors having huge growth potential in the reform environment of telecom sector.

 Information and Telecommunication Technology (ICT):

Bangladesh has the scope of profitable investment of ICT. Bangladesh IT firms are interested to join in with foreign investors. In accordance with greater interest with the Government it would be given the highest level of support from the government.

 Energy and Gas sector:

The energy sector of Bangladesh has remained the chief recipient of FDI inflow up to the period 1988-1990. In the 1988-1990 fiscal more than half of the dollar 380 million of the FDI came to the gas sector alone. But, after that a share of energy and gas sector has sharply declined. This sector was able to attract 10.6% of FDI during January-June 2003. However, given the present utility infrastructure situation of the country and projection faster growth of industries in recent years, energy and gas could be attractive sector for investment in future.

 Infrastructure:

Bangladesh needs to develop its infrastructure facilities and a service in various sectors and in this context has encouraged private participant with a number5 of policy initiatives. The potential areas are:

Ø  Power generation.

Ø  Exploration and exploration of gas and other mineral resources.

Ø  Highway development including bridge, express-way and tunnels.

Ø  Port infrastructure facilities.

Ø  Industrial parks/private export processing.

 In addition to this sector, the following sectors are considered to be potential for investment in Bangladesh.

Ø  Computer software and electronics.

Ø  Diversified jute goods and jute based pulp and study.

Ø  Chemicals and petrochemicals.

Ø  LP gas, Environment friendly insecticides etc.

Ø  Leather and leather goods.

Ø  Tourism.

Ø  Food processing, Fruit canning and allied products.

Ø  Sports goods.

Ø  Light, Engineering and agro-based industry.

Competitive Strength of Bangladesh for Investment

 The democratic government has already taken a number of measures to stimulate the economy. In macro-economic terms, we have very prudent and market oriented fiscal policies. However, to improve the overall economy of the country and achieve the ultimate goal of eradicating poverty, annual investment has to grow rapidly from the present low base.

1. Location: Geographic location of the country is ideal for global trades with very convenient access to international sea and air route.

2. Natural Resources: Bangladesh is endowed with abundant supply of natural gas, water and its soil is very fertile.

3. Human Resources: We have a population of 130 million who are hard working and generally intelligent. There is an abundant supply of disciplined, easily trainable, and low-cost workforce suitable for any labor- intensive industry. 

4. Social Stability: Bangladesh is a liberal democracy and mostly a one race and one religion country. The population of this country irrespective of race or religion have been living in total harmony and understanding for thousands of years.

5. Language: Although Bengali is the official language, but English is generally used as second language. Majority of even moderately educated population can read, write and speak in English.

6. Market Access: As a result of low per capita GDP of only US$386, present domestic consumption is not significant. However, it should always be considered that there exists a middle class with some purchasing power. As economic growth picks up, the purchasing power will also grow substantially. And in a country of more than 130 million people, even a small middle class may constitute a significant market. 

7. GSP Facility: Most Bangladeshi products enjoy complete duty and quota free access to EU, Japan, USA, Australia and most of the developed countries. However, for apparel export to USA, we have certain quota regime which is generally favorable to Bangladesh.

Money Laundering

 Money Laundering is happened by launderers worldwide to conceal the proceeds earned from criminal activities. It happens in almost every country in the world, and a single scheme typically involves transferring money through several countries in order to obscure its origins. And the rise of global financial markets makes money laundering easier than ever, making it possible to anonymously deposit proceeds of crime in one country and then have it transferred to any other country for use.

Money laundering has a major impact on a country’s economy as a whole, impeding the social, economic, political, and cultural development of a society. Both money laundering and terrorist financing can weaken individual financial institution, and they are also threats to a country’s overall financial sector reputation. Combating money laundering and terrorist financing is, therefore, a key element in promoting a strong, sound and stable financial sector.

The role of small and medium enterprises

 Vision-2021 is the first document of its kind in Bangladesh which presents a roadmap for the country’s economic development. It projects that contribution of the industrial sector to the Gross Domestic Product (GDP) would increase from 28 per cent (2008) to 40 per cent, contribution of the agriculture and services sectors would fall from 22 per cent and 50 per cent (in 2008) to 15 per cent and 45 per cent respectively by 2021. That means emphasis would be put on local industrialization and rehabilitating the surplus labour force of the agriculture sector in the industrial sector.

To implement Vision-2021 the Planning Commission has drawn up the Perspective Plan of Bangladesh (2010-21). Perspective Plan target of achieving the annual GDP (gross domestic product) growth rate of 10 per cent by 2021 is premised on a competitive manufacturing sector growing at or nearly a double-digit rate during the 2010-21 decade. Consequently, the broad industrial sector will continue to  account  for  a  much  larger  share  of  GDP, approaching  37 per cent by  2021,  compensating  for  the decline  in  the  share  of the agricultural  sector,  which will fall to 15 per cent.

For  Bangladesh to reach the middle income threshold by 2021, industrial  expansion  must move hand-in-hand with  highly  productive  farm  and  non-farm  agriculture. Furthermore, a strong and competitive manufacturing sector is especially important for generating productive and high income jobs.  

Manufacturing is the predominant and leading sector within the broad industry which also includes such activities as power generation, water and sewerage, and mining and quarrying. Manufacturing is and will remain the driver of industrial growth and employment for years to come.

Vision 2021 stipulates the middle income status for Bangladesh by 2021 with the achievement of an annual GDP growth rate of 10 per cent by that year and averaging 9.2 per cent for the period of 2011-21. Fulfillment of this vision requires good performance of the manufacturing sector to take its share in the GDP to 27 per cent by 2021 and that of the industrial sector to 37 per cent.  

The small and medium enterprises (SMEs) sector was given priority in the National Industrial Policy-2010. It was stated that achieving the recently-announced Digital Bangladesh goal by 2021 and creating employment opportunities for at least one person from each household in order to reduce poverty and unemployment were among the central policy objectives of the government. There is no alternative to creating an environment conducive to development of small and medium enterprises for attaining that goal. Attaching priority to this very fact, the National Industrial Policy-2010 has considered the SMEs as the thrust sector, given the planned and balanced development of these labour-intensive industries as the engine of growth.

Definition Of SMEs: According to the National Industrial Policy-2010 medium industrial units in the manufacturing sector are enterprises with either the value (replacement cost) of fixed assets, excluding land and building, ranging between Tk 100 million and Tk 300 million or the number of workers ranging between 100 and 250. In the services sector, a ‘medium industry’ is an enterprise with either the value (replacement cost) of fixed assets, excluding land and building, ranging between Tk 10 million and Tk 150 million or the number of workers ranging between 50 and 100.

In the manufacturing sector, a small industry is an enterprise with either the value (replacement cost) of fixed assets, excluding land and building, ranging between Tk 5 million and Tk 100 million or the number of workers ranging between 25 and 99. In the services sector, a ‘small industry’ is an enterprise with either the value (replacement cost) of fixed assets, excluding land and building, ranging between Tk 0.5 million and Tk 10 million or the number of workers ranging between 10 and 25.

If a firm is in the ‘small’ category as per a certain criterion and in the ‘medium’ category based on another criterion, the firm will be deemed a ‘medium’ category one.

ROLE OF SMES IN BANGLADESH’S ECONOMY: Currently the economy of Bangladesh is witnessing transformation from an agro-based economy to an industrial one. As per the Word Development Indicators Study Report published by the Word Bank, the contributions of industry and agriculture to GDP were respectively 21.7 per cent and 30.4 per cent in 1991, 25.9 per cent and 24.1 per cent in 2001, 28.5 per cent and 18.6 per cent in 2010. As per recent statistics of Bangladesh Economic Review-2014 the contributions of agriculture and industry to the GDP were 13.09 per cent and 29 per cent respectively in the fiscal year 2012-13.

Small and medium enterprises (SMEs) proved their potentiality in productivity, employment generation and poverty reduction as a reliable tool. As a result, policymakers throughout the world emphasise SMEs as the engine of growth and reduction of unemployment and poverty. SMEs are generating more jobs with comparatively nominal investments.

Sme Cluster Development: There are 177 SME clusters all over Bangladesh. It is easy to transform these SME clusters into SME export processing zones, if the government and development organisations pay proper attention to it. A balanced development is possible, if the SME clusters are developed, because the clusters are located in different districts, upzilas, unions and even in villages throughout the country. It requires minimum resources to ensure all industrial facilities and utility services available in a specific area to develop an industrial cluster and get maximum output from it.

Diversification Of Exports: There are only a few products in the export basket of Bangladesh. Therefore, it is necessary to identify products having export potential and diversify the products in the export basket. Development of export-oriented SMEs could lead to robust employment generation, increase in export earnings and poverty alleviation.

Introducing An Industry-Friendly Tax Regime And Justification Of The Existing Tariff Structure: Export and import are linked with industrialisation. Export without import of raw materials is quite difficult. Therefore, an industry-friendly tax regime should be introduced to promote local investments and attract foreign direct investment (FDI). The existing tariff structure should also be justified to promote local industrialisation.

Exploring Prospective Export Markets And Signing Free Trade Agreements: The government should take necessary measures to explore the prospective export markets for Bangladeshi products and sign free trade agreements with them to ensure Bangladeshi products’ duty-free and quota-free market access there.

Technological Upgradation And Increasing Productivity: Most of the industries in Bangladesh are lagging behind in terms of technology and productivity. As a result, we are unable to produce high-quality products for sale at competitive prices. Therefore, it is the government’s duty to take necessary fiscal and monetary measures to facilitate technological up gradation to increase productivity of the local firms.

Establishing Testing Laboratory And Assisting In Achieving International Quality Certification: Most of the industrial sectors are suffering from the lack of proper testing facilities for their products to ensure their world class quality. Therefore, Bangladeshi companies are not getting international quality certificates. As a result, foreign buyers are not accepting our products on a large scale in the absence of quality assurance. So, it is the government who could help local entrepreneurs establish sector-specific testing laboratories and get international quality certificates and thus increase the acceptance of Bangladeshi products to foreign buyers. It will help to build the brand image and charge premium prices for quality products.

Ensuring Adequate Supply Of Raw Materials And Introducing A Syndicate Control Mechanism: Most of the industrial sectors are somehow dependent on foreign raw materials. Maximum SME entrepreneurs are unable to import raw materials directly for many reasons. By capitalising on this limitation, a small group of importers import raw materials and charge irrational prices. It makes our products uncompetitive in the international market. For this reason, the government should allow sectoral trade bodies or owners’ associations to import raw materials together in a group or introduce a syndicate control mechanism to ensure rational prices for raw materials in the local market.

Supply Of Industrial Loan As Per Sectoral/Local Demand: The demand for loan packages differs based on sectors and locations of firms. A single loan package of any of the existing commercial banks cannot meet the demand from all sectors. Therefore, the government may encourage the scheduled banks to design sector-specific loan products to meet the local or sectoral demand.

It is necessary to develop SME clusters, SME sector and export-oriented SMEs throughout the country to implement Vision-2021 and achieving the middle income status by 2021.

Monetary policy

 Monetary policy is the management of money supply and interest rates by central banks to influence prices and employment. It works through expansion or contraction of investment and consumption expenditure.

The Bangladesh Bank Order of 1972 outlines the main objectives of monetary policy in Bangladesh, which comprises—

Ø  To achieve the price stability (control of inflation)

Ø  To regulate currency and reserves (exchange rate stability)

Ø  To promote and maintain a high level of production, employment and real income, and economic growth, since independence BB operated under a variety of pegged exchange rate systems amid capital controls

Ø  To manage the monetary and credit system

Ø  To maintain the par value of domestic currency

Ø  To promote growth and development of the country's productive resources in the best national interest. (economic growth)

Ø  Although the long term focus of monetary policy in Bangladesh is on growth with stability, the short-term objectives are determined after a careful and realistic appraisal of the current economic situation of the country.

 INSTRUMENTS OF MONETARY POLICY:

Major instruments of monetary control available with Bangladesh Bank are the bank rate, open market operations, rediscount policy, and statutory reserve requirement.

The methods of credit control can be classified as follows:

a) Quantitative/ General credit control measures include:

v  Bank rate policy

v  Open market policy

v  Variation of reserve ratio

b) Qualitative/selective credit control measures include:

v  Prescription of margin requirements

v  Consumer credit regulation

v  Moral suasion

v  Direct action

v  Credit rationing

a) Quantitative/ General Methods:

The methods by which Central Bank controls the total amount of credit in the economy are termed as quantitative methods of credit control.

Bank rate policy: The rate at which the central bank advances loans to the commercial banks. Bank rate is also called as the discount rate. To contract money supply, bank rate is increased and vice versa.

Open market operation: The sale or purchase of securities by the central bank to withdraw liquid funds from the banking system (commercial banks) or inject the same into that system.To increase the money supply, the Central bank buys securities from commercial banks and public and vice versa.

Varying reserve requirements: There are two ratios (CRR & SLR) by changing those central bank control money supply. All the commercial banks have to maintain a certain percentage of their deposits as cash reserves with the central bank is called cash reserve ratio (CRR). Statutory Liquidity Ratio (SLR) refers to the amount that the commercial banks require to maintain in the form of cash, or gold or govt. approved securities before providing credit to the customers. To increase money supply, central bank reduces CRR & SLR ratios and vice-versa.

b) Qualitative/selective credit control measures include:

Prescription of margin requirements: Generally, commercial banks give loan against ‘stocks or ‘securities’. While giving loans against stocks or securities they keep margin. Margin is the difference between the market value of a security and its maximum loan value. Let us assume, a commercial bank grants a loan of Rs. 8000 against a security worth Rs. 10,000. Here, margin is Rs. 2000 or 20%. To reduce money supply, margin requirements are increased and vice versa.

Consumer credit regulation: Now-a-days, most of the consumer durables like T.V., Refrigerator, Motorcar, etc. are available on installment basis financed through bank credit. Such credit made available by commercial banks for the purchase of consumer durables is known as consumer credit. If there is excess demand for certain consumer durables leading to their high prices, central bank can reduce consumer credit by (a) increasing down payment, and (b) reducing the number of installments of repayment of such credit and vice versa.

Moral suasion:Moral suasion means persuasion and request. To arrest inflationary situation central bank persuades and request the commercial banks to refrain from giving loans for speculative and non-essential purposes. On the other hand, to counteract deflation central bank persuades the commercial banks to extend credit for different purposes.

Direct Action: This method is accepted when a commercial bank does not co-operate the central bank in achieving its desirable objectives. Direct action may take any of the following forms:

Central banks may charge a penal (punishing) rate of interest over and above the bank rate upon the defaulting banks; may refuse to rediscount the bills of those banks; may refuse to grant further accommodation.

Credit rationing: Refers to the situation where Central Bank (lender) limit the supply of additional credit to Commercial Banks (borrowers) who demand funds, even if the latter are willing to pay higher interest rates.

A repo or repurchase agreement: is an instrument of money market. Repo is a collateralized lending i.e. the commercial banks which borrow money from central bank by selling securities to meet short term needs with an agreement to repurchase the same at a predetermined rate and date. The central bank charges some interest rate on the cash borrowed by banks, but this rate (called repo rate) will be less than the interest rate on bonds.

Reverse repo: In a reverse repo central bank borrows money from commercial banks by lending securities. The interest paid by central bank in this case is called reverse repo rate.

The Money Measures announced by central bank were as follows-

1)      M ₁ : Cash + Net Demand Deposits + Other Deposits with central bank

2)      M ₂ : M ₁ + Post Office Saving Deposits

3)      M ₃ : M ₂ + Net Time Deposits With Banks