METHODS TO INFLUENCE THE EXCHANGE VALUE OF TAKA IN BANGLADESH

Under certain circumstances, Bangladesh Bank may want to intervene in the foreign exchange
market to influence the level of the exchange rate if it believes the exchange value doesnt fulfill
its objectives.
Exchange rate

S2

Supply of
Taka (S1)

USD
against 1
Taka

$1/75

$1/80

D2

Q2

Q1

Q*

Demand for
Taka (D1)
For Taka
Quantity of Taka in
Bangladesh Economy

Figure 3.4
Reserves and Borrowing: If the value of an exchange rate (e.g. Taka) is falling and the
government (Bangladesh Bank) wants to maintain its original value it can use its foreign
exchange reserves (approximately $12 b on 10/10/2012) - e.g. selling its dollars reserves and
purchase Taka. This purchase of Taka should increase its value.
From the figure 3.4, we can see when the demand for Bangladeshi taka is falling, the Demand
curve moves from D1 to D2. Now what could make the demand for Bangladeshi taka lower? It
could be many things that attribute to the lower demand for Taka. Few main reasons are
explained below:
Lower Export demand or higher import demand
If the demand for our exports mainly garments products, jutes, leather and frozen fishes go
down; it will translate lower income from our export proceedings and thus higher demand for
dollar and lower demand for taka. It could also be that our export is rising but our import value
and volume is rising faster than our export value and volume; to pay for that higher import bills
we need to spend more Dollar and thus higher demand for dollar automatically translates lower
demand for taka.

Lower FDI and Foreign Aid

Bangladesh so far has not attracted any significant amount of foreign direct investment. But with
this little over $900 million we have seen erratic ups and downs in receiving FDI. If FDI is been
reduced significantly we will see the effect on our currency value by having depreciation. Any
significant rise in FDI will appreciate the Taka since foreign investors would have to convert
their currency to our Taka from the foreign exchange market. The gradual fall of foreign aid is
putting more pressure on the valuation of taka.
Lower remittance
Due to Middle East political unrest and current global financial crisis if we see lots of our
expatriates are returning back to Bangladesh then it will lower the value of our currency since
inward remittance flow will be lower and thus we will have problem to finance our trade deficit.
A lower remittance translates lower dollar earnings for us and so will lower the foreign reserve
which could make the intervention in the Forex by Bangladesh Bank less likely.
Lower tourists
For some countries like Maldives, Sri-Lanka or even United Arab Emirates tourism is very
important earner of foreign currency. In Bangladesh so far it has very little impact. But make no
mistake tourists do bring foreign currencies. So, fewer tourists mean less foreign currencies and
thus lower dollar income but if more of our citizens are touring more foreign destinations which
means they are spending more foreign currency and thus higher demand for Dollar which
translates lower demand for Taka.
Speculation and expectation
If due to market trend or some big speculators are betting Bangladeshi taka is overvalued and it
will depreciate and they become successful in forming market expectation either by spreading
rumor or forming syndicate of speculators to attack taka. They may be successful given their
economic mightiness (Like George Soros) and our Bangladesh Banks foreign reserve. Political
instability sometimes acts as a catalyst to speculate further.
Now coming back to figure 3.4, when the demand for taka goes down it will make taka value to
depreciate from 0.01333 to 0.0125 (1/75 to 1/80). But if Bangladesh Bank desires to keep the
exchange rate to its previous level of $1/75 or 0.01333; it will have to cut the supply of
Bangladeshi taka from the currency market. Since Bangladesh Bank has around $12 billion
foreign reserve (14.09.2012), it may try to sell the dollar from the reserve. For example, sell
$500 million and buy 37500 million BDT ($500X75=37500) from the currency market. So a
reduction in supply of taka means an increase in dollar supply. Now all banks dealing with
foreign currency will have Dollars and so the value of dollar will gradually ease and Bangladesh
Bank will use trial and error to reach that previous point of $1/75. That means if it is $1/77 then
it will sell more dollars in the currency market and continue to do so until it reaches that desired
rate. From the graph 3.4, the new equilibrium is reached at the intersection of D 2 and S2 where
Bangladesh Bank got their desired exchange rate of $1/75 but at the expense of lower quantity of
Bangladeshi Taka Q2 in our national economy.

Now instead of intervening directly in the foreign exchange market, Bangladesh Bank can resort
to other tools to have the same desired outcome.
Borrow: The Bangladesh government can also borrow foreign currency from abroad to be able
to buy foreign imports. So there is no need to depreciate the taka.
Changing interest rates: Even though Bangladesh is not yet the destination of hot money; the
money that moves around the globe quickly to take advantage of higher interest rates but when it
becomes a destination; a rising or falling interest rates will cause taka to appreciate or depreciate.
(In Bangladesh, interest rate is not set by BB but from time to time it provides guidance to
commercial banks). Higher interest rates will cause hot money inflows and increase demand for
taka. Higher interest rates make it relatively more attractive to save in Bangladesh and thus lower
consumption translates lower inflationary pressure in the economy and a rise in taka value.
Reduce Inflation:
Through either tight Fiscal or Monetary policy, aggregate demand and hence inflation could be
reduced. By decreasing AD, consumers will spend less and purchase less imports and so will
supply less taka and less dollar will be needed to finance less import. This will increase the value
of taka. Lower inflation rate will also help the exporters because Bangladeshi goods will become
more competitive in the international market. Thus the demand for taka will rise.
Now look at the situation from American perspectives.
When the demand for USD rising; the increased demand will shift the demand curve from D1 to
D2 and appreciate the dollar value against BDT. From the figure 3.5, we can see that taka has
depreciated from 72 to 85 against USD. Now made in USA products will be very expensive for
Bangladeshi residents and so lower imports from USA to Bangladesh. Now if the Federal
Reserve Bank of USA wants to keep the dollar value against taka at its previous rate of 72 taka
per dollar then it will have to intervene in the foreign exchange market and need to increase the
dollar supply by buying up the excess taka and thus supply curve will move from S 1 to S2. Now
new equilibrium will at Q3 which translates higher money supply in the U.S economy. So from
the currency valuation we could see the Central banks can influence the valuation of their
respective currencies. By doing so, they change the value of foreign currencies. Please do keep in
mind that there must be some conditions met before intervening in the Forex market and one
thing that is necessary for a small economy like Bangladesh, it will have to have a healthy
foreign currency reserves in BBs vault. For example, Bangladesh Bank couldnt intervene in the
beginning of 2012 since the foreign reserve dwindled below $10 billion at that time from the
earlier $11 billion. But when the exchange rate went up as high as 88 BDT against USD then the
import bills were reduced since foreign goods became very expensive and also Bangladesh Bank
took some measures to discourage importing luxurious goods and remittance inflow went up
sharply since expatiates got higher rate for their currencies which has helped Bangladesh Bank to
manage the valuation of taka and now it is quite stable within the range of 82-83 BDT per USD.
Bangladesh Bank must not intervene regularly instead let the market forces equilibrate the
exchange value of our taka and that way, it negates the possibility of speculation about the value
of our taka.

Exchange rate

Supply of
Dollar (S1)

S2

Taka
against 1
USD

85

72

D2
Demand for
dollar (D1)

Q*1

Q2

Q3

Q of USD in
U.S economy

Figure 3.5

Role of Bangladesh Bank in the Foreign Exchange Market:

1. Bangladesh Bank is the sole authority in regulating the foreign exchange rates in Bangladesh
economy. In countries where there is no free floating valuation of currency then the central
bank intervenes through various monetary policies.
2. Bangladesh Bank is regulating and supervising all financial institutions that are involved in
the foreign exchange market in order to safeguard the interests of customers and citizens.
3. Bangladesh Bank issues the license to become a member of BAFEDA. Since only the
banking institutions can not be the only member in the forex; BB increased participation by
adding more participation of other players.
4. Bangladesh bank sets the minimum and maximum balance of foreign exchange which
commercial banks and other financial institutions can hold at any one time. These minimum
balances are reserves amount, which banks have to maintain with the central bank.
5. Bangladesh Bank may restrict the exchange spreads which dealers in the foreign exchange
may earn and thus restricting their profit margin.
6. Bangladesh Bank controls the remittances of foreign exchanges to foreign countries. In some
instances, BB fixed the minimum amount to be remitted and the commission to be paid to
their licensed dealers.

7. Bangladesh bank has got the power and tools to intervene in the foreign exchange market by
buying and selling foreign currencies directly or through changing the money supply or
interest rates.
8. Bangladesh Bank is the sole authorized regulatory financial institution who maintains a
foreign currency reserve which was above $12 billion dollar on 18.09.2012 and it possesses
the jurisdiction power to use the reserve to influence the foreign exchange market.