Monetary Policy Impacts in Bangladesh: A Macroeconometric Model Approach

This paper aims to explore the implications of monetary policy in Bangladesh using a macroeconometric model. The model operates with seven economic sectors, consumption, investment, production, government, trade, monetary, and price with annual data from FY-1980 to FY-2006. In this model, long-run equations are run in level variables based on economic theory, and short-run equations are run converting non-stationary variables to stationary ones and introducing error correction term to know how many years it will take to reach equilibrium condition if any disequilibrium occurs. Hendry’s general to specific procedure is followed to get the final short-run model. Five simulation exercises have been conducted to analyze the impacts of tight money policy and easy money policy through interest rate and domestic credit shocks. Results show that tight money policy through interest rate increase have inflationary pressure on the economy along with its negative impact on output growth even if some adjustment is made through enhanced private sector credit. Rather, the central bank can go for expansionary policy through reducing interest rate along with a relatively lower private sector credit expansion.