IMPACT OF DEVALUATION ON BANGLADESH'S FOREIGN TRADE

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP86T00608R000600060012-8
• Release Decision: RIPPUB
• Original Classification: C
• Document Page Count: 25
• Document Creation Date: December 19, 2016
• Document Release Date: May 24, 2005
• Sequence Number: 12
• Publication Date: May 29, 1975
• Content Type: MF

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CENTRAL IN'1-f.L_LIGENCr AGENCY
WASHINGTON, D.C. 20506
Control No. 9633
29 May ].975
ME ORAI'~DUM FOR: Mr. Harvey Shapiro
Office of the Assistant Secretary
for International Affairs
Department of the Treasury
SUBJECT Impact of Devaluation on
Bangladesh's Foreign Trade
The attached assessment of the potential effects
of the recent Bangladesh devaluation may be of irterest
to you. Our conclusions are somewhat tentative in view
of data gaps and unceri-ainties surrounding underlying
assumptions. Any questions or comments concerning this
analysis should be addressed
Attachment:
As stated
Chief
South Asia Branch
Economic Research
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CENTRAL, INTELLIGENCE AGENCY
WASHING-TUN, DA:. 20505
Control No. 9630
27 May 1975
MEMORANDUM FOR: Ann T. Criffin
NEA/PAI3
Department of State
SUBJECT Impact of Devaluation on
Bangladesh's Foreign Trade
1. The-attached research notes explore potential
effects of, the 17 May devaluation of the taka.
2. Copies of this paper will be made available
to other offices of the federal government iflit is
deemed in their interest. Any questions or continents
should be addressed to
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Attachments
As stated
C ie
South Asia Branch
Economic Research
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Impact of the Deya lu H.on of the Taka
On 17 May, Bangladesh devalued the taka by 37 from
19 taka = El to 30 taka = Ll. At the present exchange
rate of $2.30 = Li sterling, the devaluation is probably
insufficient to induce a substantial increase in the
supply of jute for export. This conclusion is tentative,
however, because it is based on sparse data and speculative
assumptions about farmer behavior. The effects of a
variety of assumptions are projected below. The devalua-
tion should help sales from existing stocks.
The combined effect of the decision to devalue and
to maintain low ration prices for grain is to increase
tic pressure on government officials to sock aid financing
for foodgrain imports. Aid financed grain will not now
provide additional counterpart funds for development
projects, but the harm to urban consumers has been
minimized. The total quantity of imports will probably
not be reduced.
Effects on Exports
The main benefit expected from the devaluation is
an increase in foreign exchange earnings from exports of
jute and jute goods, which comprise 90% of total exports.
In order to maintain or expand the quantity of these
exports, which compete with synthetic products, the
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export price must- be luwcero-d. To increase the domestic
supply of raw jute from land which cr..n instead be planted
in rice, the farmgate jute/rice price ratio must increase
enough to make jute the more profitable crop. Devaluation
makes it possible to charge less (in sterling) for jute
exports while paying the farmers more (in takes) for their
crop. Since the Bangladesh government controls jute
exports, it mu;:c: decide whether to make the price changes
which would have occurred almost automatically in a free
market. This analysis assumes that it will do so.
The Supply of Jute
It is unlikely that the devaluation to taka 13.04 =
US $1 will induce many farmers who have a choice to grow
-jute instead of rice. This conclusion is based on the
most probable assumptions about the technologies used,
the farmer's view of his costs, comparative returns from
rice production, and the extent to which an increase in
the taka export prices will be passed back to farmers.
Using other plausible assumptions, the devaluation might
stimulate jute production and export. At best, however,
the improvement in the supply of jute is questionable.
The results of varying the assumptions are noted in
Appendix 1. These calculations are limited by data
gaps and therefore offer only a general indication of
the effects of the devaluation.
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If sterling depreciates substantially beyond $2.30
131, juL?e prices expressed in sterling will. probably rise
since the United Kingdom does not dominate the market.
This development could induce a greater increase in the
supply of jute than projected in this memorandum.
IBRD analysis of Bangladesh's jute economy concluded
that devaluation could improve the supply of jute. That
conclusion, however, was based on November 1972 -
January 1973 data. Since then, the situation has been
altered by major changes in the international markets
for jute and rice, and in domestic factor and crop
prices.
Jute Exports
The international market probably will be able to
absorb the increased quantities that might become avail.-
able beginning in September 1976, the earliest relevant
date. If the export price declines 15% -- sufficient
to ensure t. ,at tie market is not lost -- and jute is
grown on an additional 250,000 acres, Bangladesh's
earnings would be about $5 million more than now. The
revenue available to traders and government corporations
would be about 752 million taka more than prior to
devaluation.
However, if the export price is lowered, but farmers
are not induced to grow more jute, then Bangladesh will
earn $50 million less than now. This would be preferable
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to losing much of the market to synthetics. Taka revenue
available to non-farmers would nevertheless increase by
about 500 million taka, because the devaluation provides
more takes than would be lost from the international
price decrease. These calculations are only approxima-
tions. Details are presented in Appendix 2.
At international pri.ces, the jute grown on an acre
of land is worth more than the rice producL-ion foregone.
In this sense, any change which increases jute exports
is beneficial. The situation several years from now is
even more important. Without jute, Bangladesh would have
little to export and would be almo:_t entirely at the
mercy of aid donors. And if jute exports do not increase
soon, a major part of the market may be permanently lost.
Moreover, jute cultivation employs more people than does
rice to achieve the same farmer profit per acre -- i.e.,
the income distribution effects of jute cultivation are
probably preferable to those of rice. In the long run,
there i_ always hope that research can improve jute
yields or markets enough to counter the declining trend
in world jute markets.
Jute Goods Exports
The potential benefits from increased exports of
jute manufactures are even greater than for jute, since
there is idle factory and labor capacity. On the other
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hand, the impediments to expanding production come not
only from markets and a limited supply of raw jute, but
also from power shortages, labor disputes, transport
problems, and pocr management. Without improvement in
these factors, industry may be unable to increase
production sufficiently to take advantage of the market
effect of devaluation.
Other Exports
Products other than jute and jute products account
for only about l0o of export earnings. Their supply
cannot be increased much in the year following devaluation,
By removing the export subsidy on many very minor items
the government took away most, but not all of the increased
taka earnings from devaluation.
Private investment decisions may help expand exports
if the L efits of the devaluation can be maintained in
the long run. But the immediate problem is survival.
Illegal Trade
Devaluation probably will have little effect on
small scale smuggling. The disparity between the official
taka-Indian rupee rate and the black market rate has been
reduced but not eliminated. This motive for capital flight
has not been affected. The incentive to circumvent
quantity restrictions on imports will remain. Two-way
trade which takes advantage of relative price differences
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in India and Bangladesh will remain profitable since the
devaluation does not directly affect the relative prices
of goods such as rice and saris. By increasing the
relative (to rice) price of imported goods, the devalua-
tion may even provide a small additional stimulus to
smuggling.
Devaluation may help curtail jute smuggling, since
it permits a rise in the price of jute. This could be
an important benefit. However, jute smuggling may
already have been reduced because the international
market has declined most for the better quality jute
which Bangladesh produced more cheaply than India.
Effects on Imports
If the devaluation succeeds in inducing some farmers
to grow jute instead of rice, Bangladesh will have less
rice available from domestic production,. Compared to
domestic production of 11.7 million metric tons, o-aly
about 100,000 tons will probably be lost as a result of
devaluation. This small amount need not be replaced by
imports. Even if jute acreage were to rise by 250,000
acres, the land least suited for rice would be switched
first.
Although the devaluation has increased the taka
price of grain imports, the volume of imports will still
be a policy decision based primarily on estimates of
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domestic production and of the amount required for
official. distribution. These estimates have been largely
unaffected by the devaluation.
The Bangladesh government has apparently decided
to leave the ration price of grain unchanged in order
to minimize the impact of devaluation on ration
recipients. Without the current subsidy, a family of
three adults and two children under twelve would pay
over 13 takes more a week for grain rations, compared with
an urban laborer's average weekly wage of about 50 taka.
The cost would be even higher if more rice and less
wheat were in the ration. See Appendix 3. The impact
of full cost pricing of grain would be immense, even
-though the ration price would still be far below the
free market price that many people must pa: . No increase
in foreign aid could alleviate this burden without re-
introducing a grain price subsidy. By continuing the
subsidy, Dacca continues to favor government employees
and urban residents who have access to the ration system.
The higher cost of grain imports, combined with the
decision to leave the ration price of grain unchanged,
increases Dacca's desire to have foodgrain imports
financed by foreign aid. The devaluation has increased
the subsidy on imported wheat sixfold, which, in the case
of commercially purchased wheat, is a net drain on the
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government budget. Although grain received as foreign
avid has the same subsidy, it is not a drain because it
is sold for an amount sufficient to cover the subsidy,
while payment to the foreign seller is deferred or
eliminated. See Appendix 4.
The pote;itial benefits from counterpart funds are
restricted as a result of the decision not to increase
ration prices. The taka value of foreign commodity aid
has been automatically increased by the devaluation.
The increased value of foodgrain aid, however, will. be
used entirely to subsidize the ration price of grain
and not for additional development projects. Although
the accounting procedure will. probably show that all
counterpart funds are being used for agreed objectives,
increased development funds will be available only if
the quantity of grain is increased or the subsidy is
reduced. In addition, the increased subsidy on any
purchased grain must be financed, thereby reducing funds
available for non-subsidy expenditures.
Non-food Imports
The quantity of aid financed imports will not be
reduced by the devaluation, because the foreign currency
value of the aid is unchanged. Imports for major projects
will continue to be beneficial even when evaluated at
increased taka costs. Some non-project commodities --
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other than grain -- generate counterpart funds. If sold
at full value, they will now provide additional taka funds
which can be used for development. This would transfer
income from those purchasing the aid goods tL those
benefiting from the counterpart money.
The takes price of imports financed by export earn-
ings will. go up, making them more expensive relative to
local goods. Any reduction in quantity will be serious
because these imports are essential to the economy, and
there is little possibility of replacing them with
domestic products. Although the impact of devaluation
is inflationary, the higher prices will more accurately
reflect the scarcity of foreign exchange.
About 51 - 101, of non-food imports are financed by
persons who work abroad and earn foreign exchange, buy
goods to be sent to Bangladesh and sell them for taka.
This is often more profitable than a direct exchange of
currency because these goods are not subject to internal
distribution restrictions. Their takes price is probably
determined by demand alone, and will not increase as a
result of devaluation. The quantity of these imports
may decline somewhat because the extent to which trade
is more profitable than direct currency exchange has
been reduced. An unchanged ad valorum tariff (levied
on the taka value) would also reduce the trade profit.
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Merchandise Trade Balance
The FY 1976 trade deficit, when measured in foreign
exchange, will probably be slightly larger than this
year. Jute export earnings will fall. as a result of the
15% export price reductions necessary to maintain sales,
but there will not have been time for the jute crop to
respond to taka price increases. A reduction in jute
smuggling, however, may increase legal exports. Total
imports are not expected to decline unless a reduction
in foreign aid makes this necessary.
Beginning in FY 1977, the long term benefits of
the devaluation may begin to improve the merchandise
tray' balance. The jute crop may increase enough for
the benefits of incr~ased supply to slightly outweigh
the loss from a price decline. Export earnings from
jute would probably be only slightly more than now,
but significantly higher than they would have been in
the absence of price changes. Some of the minor exports
may have had time to respond to the opportunities for
simultaneous reduction in export price and increase in
taka profit offered by devaluation. A major decline in
imports still seems unlikely. This longer term estimate
is extremely uncertain; devaluation is only one of many
factors affecting the economy of Bangladesh.
ld
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Appendix 1
Effect of Devaluation on a
I'armer.'s Crop Decision
Quest:i.on: What dollar/tal,a exchange rate makes it
equally profitable to grow jute or paddy?
Calculations: There is more t1'an one answer,
principally for three reasons.
. There is more than one way of producing each
crop. The older technc:logies do not use purchased
fertilizer. Newer technologies use purchased fertilizer
and higher cost seed. Each technology is associated with
different input costs and yields. A farmer's ability to
use some of these techniques depends on his access to
inputs such as seed, fertilizer and technical knowledge.
His choice is also affected by the cost of 1-.'Le inputs,
his a-sessment of the risk, and his willingness to work.
. The rice price which enters the farmer's
thinking is uncertain. It could be his share of the
domestic free market price or the government procurement
price. (The price of imported rice is also included for
comparison.)
. How the farmer judges his costs is uncertain.
One set of costs used here assumes payment for all inputs
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including family labor. The other set approximates the
cost seen by a farmer who discounts the value of family
labor.
The combination of two possible technologies for
each crop, two ways of evaluating costs and three
different rice prices yield 24 possible solutions for
each jute price. Each solution represents a different
judgment of how the Bangladesh farmer chooses between
planting rice or jute.
The calculations are based on the assumption that
all farmers think alike, that all pay the same price for
inputs, and all have equally good land. If this were
true, an exchange rate which makes jute profitable would
lead to a crop switch on all of the approximately one
million acres on which transfer is feasible. In reality,
these assumptions do not hold, and an exchange rate which
just swings the choice in favor of jute will lead to a
shift in only part of the possible acreage.
Results
A. If the jute price is L 200 per long ton FOB
Chittagong:
An exchange rate of 16.72 taka = $1 would be necessary
to make jute as profitable as rice for the most likely
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combination of assumptions: using old technology for
jute and new technology for rice, the farmer considers
the free markci: pr. ice of rice, and he ignores the implicit
cost of family labor. llowever., for the next most likely
combination of assumptions ions in which a farmer is restricted
to using old technology for rice, the exchange rate of
13.04 taka = $1 almost makes jute more profitable.
An exchange rate of 15 taka = $1 would favor jute
for all combinations of assumptions in which a farmer is
restricted to using old technology for rice production.
The international price of rice, which is still lower
than the government's procurement price or the free market
price, was favorable to jute even at the old exchange rate
for a farmer restricted to using old technology for rice.
The devaluation to 13.04.taka = $1 will induce a
farmer who bases his decision on the internal procurement
price for rice to shift from rice to jute.
B. If the jute export price is reduced to L 170:
A farmer who bases his planting decision on the
internal free market price of rice would not plant jute
at any exchange rate lower than 1.4.9 taka = $1. The
devaluation to 13.04 taka = $1 will induce a farmer who
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bases his, decision on the internal procurement :rice to
shift from rice to jute.
Result.; of both runs are attached.
Data Usod
K1 Lxport price of jute: (Run 1) 16.899 dollars per
maund (equal to E 200 per long ton at $2.30 = E 1)
and (Run 2) 14.365 dollars per maund (equal to E 170
per long ton at $2.30 = E 1).
K2 Farmer's share of export price: .65.
E -? Taka/dollar exchange rate - determined by the equation.
TJ1 Yield using old technology for jute: 15 maunds per acre.
TJ2 Yield using new technology for jute: 18.5 maunds per
acre.
CJ11 Financial cost of producing jute with old technology:
1058 taka per acre.
CJ21 Financial cost of producing jute with new technology:
1210 taka per acre.
CJ12 Economic cost of producing jute with old technology:
673 taka per acre.
CJ22 Economic cost of producing jute with new technology:
956 taka per acre.
K3 Price of imported rice at port: 11.76 dollars per maund
(i.e., $320 per metric ton). This is the lowest price
at which any recent transactions were proposed.
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I:5 Procurement price for rice: 1.18 taka per maund.
K6 Internal free market. price of rice: 290 taka per maund.
K4 Farmer's share of retail rice ~ricc: .70.
Till Yield of old rice technology: 10.88 mauncls of rice
per acre.
TR2 Yield of now rice technology: 17 maunds of rice per
acre.
CR11 Financial cost of producing rice with old technology:
811 taka per acre.
CR2] Financial cost of producing rice with new technology:
1155 taka per acre.
CR12 Economic cost of producing rice with old technology:
583 taka per acre.
CR22 Economic cost of producing rice with new technology:
1369 taka per acre.
The cost data are based on estimates A and D in the
World Bank report on the World Jute Economy, but adjusted
on the assumption that rural labor costs have doubled and
the cost of seed and fertilizer quadrupled since the Bank
data were assembled-during Jovember 1972-January 1973.
Financial costs assume payment for all inputs, including
family labor, and include some subsidy element when
purchased inputs are used. Economic costs attempt to
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shadow price all inputs, but several specification problems
-arise. The shadow price of labor is assumed by the Bank
to be half of the prevailing rural wage rate. This is a
good proxy for the cost of labor to the farmer who ignores
his own input only when half the labor input, is hired, as
in the case of old jute technology, but a poor proxy in
other cases. Also, the cost of imported inputs should
vary as the exchange rate varies, but the Bank apparently
used a shadow exchange rate of 10 taka = $1 when making
its calculations.
The equat:;. on used is:
(K1) (K2) (E) (TJj) - (CJij) _ (K3) (r,)
(K5) (TR j) - (CRij )
(K6)(K4)
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Determination of Taka-Dollar Exchange Rate Which Makes
Jute and Rice Equally Profitable to Farmer
Jute Price =
Jute Price =
L 170 Per
Lonc Ton
E 200 Per
Long Ton
Jute
Yield
Jute
Cost
Rice
!Yield
Rice
Cost
Rice Exc
Price R
hange
ate
Rice
Price
Exchange
Pate
15.00
1058
10.88
811
118.0 1
0.93
118.0
9_29
15.00
1058
17.00
1155
118.0 1
3.63
118.0
11.59
15.00
6i3
10.88
533
118.0
9.81
118.0
8.34
15.00
673
17.00
1369
118.0
9.35
118.0
7.95
18.50
1210
10.88
811
118.0
9.74
118.0
8.28
18.50
1210
17.00
1155
118.0 1
1.93
118.0
10.14
18.50
956
10.88
533
118.0
9.59
118.0
8.15
18.50
956
17.00
1369
118.0
9.22
118.0
7.84
15.00
1058
10.88
811
203.0 1
7.53
203.0
14.90
15.00
1058
17.00
1155
203.0 2
3.95
203.0
20.36
15.00
673
10.88
583
203.0 1
6.41
203.0
13.95
15.C0
673
17.00
1369
203.0 19
.67
203.0
16.72
18.50
1210
10.88
811
203.0 15
.10
203.0
12.83
18.50
1210
17.00
1155
203.0 20
.30
203.0
17.25
18.50
956
10.88
583
203.0 14
.95
203.0
12.70
18.50
956
17.00
1369
203.0 17
.59
203.0
14.95
15.00
1058
10.88
411
239.9 20
.40
78.9
6.71
15.00
1058
17.00
1155
19.1 1
.62
32.4
2.76
15.00
673
10.88
583
87.4 7
.43
28.7
2.44
15.00
673
17.00
1369
136.7 11
.663
232.8
19.80
18.50
1210
10.88
811
104.8 8
.91
62.3
5.30
18.50
1210
17.00
1155
-23.8 -2
.02
196.6
16.71
18.50
956
10.83
583
97.9 8
.33
53.3
4.96
18.50
956
17.00
1369
178.7 15
.1.9
-1476.0
-125.51
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Appendix 2
Change in Earnings from Jute Exports
Additional
Additional Revenue to
Foreign ] xchange Trade & Industry
(million dollars) (million t.7ka)
Fred present production
Raw jute - 19 123
Jute goods - 30 383
Fran new production 54 246
'OTAL 5 752
Methodolog
Exports of raw jute in FY 75 are about $125 million.
If a 15% export price reduction is made in order to main-
tain this quantity of exports, the foreign exchange loss
is $19 million. The taka gain is 354 million, of which
farmers receive 65%, leaving about 123 million taka
additional. revenue for trade and industry.
Exports of jute manufactures in FY 75 are about $200
million. If a 15% export price reduction is made in order
to maintain this quantity of exports, the foreign exchange
loss is $30 million and the additional taka gain is about
567 million. If raw jute provides half the value of jute
manufactures and farmers receive 65% of the additional
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value of raw jute, then 383 million additional taka are
available to trade and industry.
If jute is grown on 250,000 additional acres each
yielding 15 maunds, than 137,761 additional long tons of
raw jute are available. At L 170 per long ton and $2.30 =
IC 1, the additional foreign exchange earnings are $53.86
million. The additional taka revenue is 702.4 million of
which the farmer receives 65%, leaving 245.8 million taka
for trade and industry.
If jute is grown on an additional one million acres
rather than only on an additional 250,000, the increase
in foreign exchange earrings would be $215.4 million.
However, as rioted in Appendix ]., the present devaluation
is unlikely to induce Co large a supply adjustment.
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Appendix 3
Budget Impact of Rationed Grain for a Family
of Three Adults and Two Children Under Twelve Years Old
Current
Ration
System
Full Cost
Pricing After
Devaluation
13.04 taka = $1
Full Cost
Pricing
Immediately
Before
Devaluation
8.25 taka = $1
Free Market
Price
(Dacca)
2 seer wheat @ 1.25 taka . . . 2.50
1/2 seer rice @ 1.50 taka. . . . .75
Total per adult. . . . . . . 3.25
Weekly Rate
(Taka)
4 adult equivalentsa/ . . . . . . . . . . . . . 13
2 seer wheat @ $185 per metric
ton = 2.25 taka per seer. . . 4.50
1/2 seer rice @ $320 per metric
ton = 3.89 taka per seer. . . 1.95
Total per adult. . . . . . . . 6.45
4 adult equivalentsa/ . . . . . . . . . . . . . 25.8Ob/
2 seer wheat @ $185 per metric
ton = 1.42 taka per seer. . . 2.85
1/2 seer rice @ $320 per metric
ton = 2.46 taka per seer. . . 1.23
Total per adult. . . . . . . . . . 4.08
4 adult equivalentsa/ . . . . . . . . . . . . . 16.33b/
1 seer coarse rice . . . . . . . . 7.0
Total per adult. . . . . . 17.5
4 adult equivalentsa/ . . . . . . . . . . . . . 70
a. The ration fora child under twelve is one-half ar_ adult ration.
b. Plus distribution costs.
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Approved F
 Approved For Relo
Appendix 4
Extent of Foodgrain Subsidy
On Whcn.t
Ration price of 50 taka per maund = 1340 taka per MST.
$185 per MT @ 8.25 = 1526 taka per MT; i.e., previous
subsidy was 186 taka per MT plus distribution costs.
$185 per MT @ 13.04 = 241.2 taka per. MT; i.e., new subsidy
is 1072 taka per MT plus distribution costs. This
is an additional subsidy of 8'86 taka per TIT.
Total subsidy on 2 million MT would be 2144 million taka
plus distribution costs.
Additional subsidy on 2 million MT would be 1.772 million
taka.
On Rice
Ration price of 60 taka per maund = 1607 taka per MT.
$320 per 14T @ 8.25 = 2640 takd per MT; i.e., previous
subsidy was 1033 taka per MT plus distribution costs.
$320 per MT @ 13.04 = 4173 taka per MT; i.e., new subsidy
is 2566 taka per MT plus distribution costs. This
is an additional subsidy of 1533 taka per MT plus
distribution costs.
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Approved For Release 2005/06/09 : CIA-RDP86T00608R000600060012-8
 Approved For Release
The actual subsidy in FY 1975 is reported as 1670
million take of which 714 million taka are attributable
to purchased foodgrain. The actual subsidy include:
distribution costs and higher international prices than
used above.
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Approved For Release 2005/06/09 : CIA-RDP86T00608R000600060012-8