Overview of Financial system of Bangladesh

The financial system of Bangladesh is comprised of three broad fragmented sectors:

1. Formal Sector,

2. Semi-Formal Sector,

3. Informal Sector.

The sectors have been categorized in accordance with their degree of regulation.

The formal sector includes all regulated institutions like Banks, Non-Bank Financial Institutions

(FIs), Insurance Companies, Capital Market Intermediaries like Brokerage Houses, Merchant

Banks etc.; Micro Finance Institutions (MFIs).

The semi formal sector includes those institutions which are regulated otherwise but do not fall

under the jurisdiction of Central Bank, Insurance Authority, Securities and Exchange

Commission or any other enacted financial regulator. This sector is mainly represented by

Specialized Financial Institutions like House Building Finance Corporation (HBFC), Palli

Karma Sahayak Foundation (PKSF), Samabay Bank, Grameen Bank etc., Non Governmental

Organizations (NGOs and discrete government programs.

The informal sector includes private intermediaries which are completely unregulated.

About financial markets

The financial market in Bangladesh is mainly of following types:

1. Money Market: The primary money market is comprised of banks, FIs and primary

dealers as intermediaries and savings & lending instruments, treasury bills as instruments.

There are currently 15 primary dealers (12 banks and 3 FIs) in Bangladesh. The only

active secondary market is overnight call money market which is participated by the

scheduled banks and FIs. The money market in Bangladesh is regulated by Bangladesh

Bank (BB), the Central Bank of Bangladesh.

2. Capital market: The primary segment of capital market is operated through private and

public offering of equity and bond instruments. The secondary segment of capital market

is institutionalized by two (02) stock exchanges-Dhaka Stock Exchange and Chittagong

Stock Exchange. The instruments in these exchanges are equity securities (shares),

debentures, corporate bonds and treasury bonds. The capital market in Bangladesh is

governed by Securities and Commission (SEC).

3. Foreign Exchange Market: Towards liberalization of foreign exchange transactions, a

number of measures were adopted since 1990s. Bangladeshi currency, the taka, was

declared convertible on current account transactions (as on 24 March 1994), in terms of

Article VIII of IMF Article of Agreement (1994). As Taka is not convertible in capital

account, resident owned capital is not freely transferable abroad. Repatriation of profits

or disinvestment proceeds on non-resident FDI and portfolio investment inflows are

permitted freely. Direct investments of non-residents in the industrial sector and portfolio

investments of non-residents through stock exchanges are repatriable abroad, as also are

capital gains and profits/dividends thereon. Investment abroad of resident-owned capital

is subject to prior Bangladesh Bank approval, which is allowed only sparingly.

Bangladesh adopted Floating Exchange Rate regime since 31 May 2003. Under the

regime, BB does not interfere in the determination of exchange rate, but operates the

monetary policy prudently for minimizing extreme swings in exchange rate to avoid

adverse repercussion on the domestic economy. The exchange rate is being determined in

the market on the basis of market demand and supply forces of the respective currencies.

In the forex market banks are free to buy and sale foreign currency in the spot and also in

the forward markets. However, to avoid any unusual volatility in the exchange rate,

Bangladesh Bank, the regulator of foreign exchange market remains vigilant over the

developments in the foreign exchange market and intervenes by buying and selling

foreign currencies whenever it deems necessary to maintain stability in the foreign

exchange market.

Regulators of the Financial System

Central Bank Bangladesh Bank acts as the Central Bank of Bangladesh which was established on December

16, 1972 through the enactment of Bangladesh Bank Order 1972- President’s Order No. 127 of

1972 (Amended in 2003).

The general superintendence and direction of the affairs and business of BB have been entrusted

to a 9 members' Board of Directors which is headed by the Governor who is the Chief Executive

Officer of this institution as well. BB has 40 departments and 9 branch offices.

In Strategic Plan (2010-2014), the vision of BB has been stated as, “To develop continually as a

forward looking central bank with competent and committed professionals of high ethical

standards, conducting monetary management and financial sector supervision to maintain price

stability and financial system robustness, supporting rapid broad based inclusive economic

growth, employment generation and poverty eradication in Bangladesh”.

The main functions of BB are (Section 7A of BB Order, 1972) -

1. to formulate and implement monetary policy;

2. to formulate and implement intervention policies in the foreign exchange market;

3. to give advice to the Government on the interaction of monetary policy with fiscal and

exchange rate policy, on the impact of various policy measures on the economy and to

propose legislative measures it considers necessary or appropriate to attain its objectives

and perform its functions;

4. to hold and manage the official foreign reserves of Bangladesh;

5. to promote, regulate and ensure a secure and efficient payment system, including the

issue of bank notes;

6. to regulate and supervise banking companies and financial institutions.

Core Policies of Central Bank

Monetary policy The main objectives of monetary policy of Bangladesh Bank are:

Price stability both internal & external

Sustainable growth & development

High employment

Economic and efficient use of resources

Stability of financial & payment system

Bangladesh Bank declares the monetary policy by issuing Monetary Policy Statement (MPS)

twice (January and July) in a year. The tools and instruments for implementation of monetary

policy in Bangladesh are Bank Rate, Open Market Operations (OMO), Repurchase agreements

(Repo) & Reverse Repo, Statutory Reserve Requirements (SLR & CRR).

Reserve Management Strategy Bangladesh Bank maintains the foreign exchange reserve of the country in different currencies to

minimize the risk emerging from widespread fluctuation in exchange rate of major currencies

and very irregular movement in interest rates in the global money market. BB has established

Nostro account arrangements with different Central Banks. Funds accumulated in these accounts

are invested in Treasury bills, repos and other government papers in the respective currencies. It

also makes investment in the form of short term deposits with different high rated and reputed

commercial banks and purchase of high rated sovereign/supranational/corporate bonds. A

separate department of BB performs the operational functions regarding investment which is

guided by investment policy set by the BB's Investment Committee headed by a Deputy

Governor. The underlying principle of the investment policy is to ensure the optimum return on

investment with minimum market risk.

Interest Rate Policy Under the Financial sector reform program, a flexible interest policy was formulated. According

to that, banks are free to charge/fix their deposit (Bank /Financial Institutes) and Lending

(Bank /Financial Institutes) rates other than Export Credit. Â At present, except Pre-shipment

export credit and agricultural lending, there is no interest rate cap on lending for banks. Yet,

banks can differentiate interest rate up to 3% considering comparative risk elements involved

among borrowers in same lending category. With progressive deregulation of interest rates,

banks have been advised to announce the mid-rate of the limit (if any) for different sectors and

the banks may change interest 1.5% more or less than the announced mid-rate on the basis of the

comparative credit risk. Banks upload their deposit and lending interest rate in their respective

website.

Capital Adequacy for Banks and FIs With a view to strengthening the capital base of banks & FIs, Basel-II Accord has been

introduced in both of these sectors. For banks, full implementation of Basel-II was started in

January 01, 2010 (Guidelines on Risk Based Capital Adequacy for banks). Now, scheduled

banks in Bangladesh are required to maintain Tk. 4 billion or 10% of Total Risk Weighted

Assets as capital, whichever is higher. For FIs, full implementation of Basel-II has been started

in January 01, 2012 (Prudential Guidelines on Capital Adequacy and Market Discipline (CAMD)

for Financial Institutions). Now, FIs in Bangladesh are required to maintain Tk. 1 billion or 10%

of Total Risk Weighted Assets as capital, whichever is higher.

Deposit Insurance The deposit insurance scheme (DIS) was introduced in Bangladesh in August 1984 to act as a

safety net for the depositors. All the scheduled banks Bangladesh are the member of this scheme

Bank Deposit Insurance Act 2000. The purpose of DIS is to help to increase market discipline,

reduce moral hazard in the financial sector and provide safety nets at the minimum cost to the

public in the event of bank failure. A Deposit Insurance Trust Fund (DITF) has also been created

for providing limited protection (not exceeding Taka 0.01 million) to a small depositor in case of

winding up of any bank. The Board of Directors of BB is the Trustee Board for the DITF. BB

has adopted a system of risk based deposit insurance premium rates applicable for all scheduled

banks effective from January - June 2007. According to new instruction regarding premium

rates, problem banks are required to pay 0.09 percent and private banks other than the problem

banks and state owned commercial banks are required to pay 0.07 percent where the percent

coverage of the deposits is taka one hundred thousand per depositor per bank. With this end in

view, BB has already advised the banks for bringing DIS into the notice of the public through

displaying the same in their display board.

Insurance Authority Insurance Development and Regulatory Authority (IDRA) was instituted on January 26, 2011 as

the regulator of insurance industry being empowered by Insurance Development and Regulatory

Act, 2010 by replacing its predecessor, Chief Controller of Insurance. This institution is operated

under Ministry of Finance and a 4 member executive body headed by Chairman is responsible

for its general supervision and direction of business.

IDRA has been established to make the insurance industry as the premier financial service

provider in the country by structuring on an efficient corporate environment, by securing

embryonic aspiration of society and by penetrating deep into all segments for high economic

growth. The mission of IDRA is to protect the interest of the policy holders and other

stakeholders under insurance policy, supervise and regulate the insurance industry effectively,

ensure orderly and systematic growth of the insurance industry and for matters connected

therewith or incidental thereto.Â

Regulator of Capital Market Intermediaries

Securities and Exchange Commission (SEC) performs the functions to regulate the capital

market intermediaries and issuance of capital and financial instruments by public limited

companies. It was established on June 8, 1993 under the Securities and Exchange Commission

Act, 1993. A 5 member commission headed by a Chairman has the overall responsibility to

administer securities legislation and the Commission is attached to the Ministry of Finance.

The mission of SEC is to protect the interests of securities investors, to develop and maintain

fair, transparent and efficient securities markets and to ensure proper issuance of securities and

compliance with securities laws. The main functions of SEC are:

Regulating the business of the Stock Exchanges or any other securities market.

Registering and regulating the business of stock-brokers, sub-brokers, share transfer

agents, merchant bankers and managers of issues, trustee of trust deeds, registrar of an

issue, underwriters, portfolio managers, investment advisers and other intermediaries in

the securities market.

Registering, monitoring and regulating of collective investment scheme including all

forms of mutual funds.

Monitoring and regulating all authorized self regulatory organizations in the securities

market.

Prohibiting fraudulent and unfair trade practices in any securities market.

Promoting investors’ education and providing training for intermediaries of the

securities market.

Prohibiting insider trading in securities.

Regulating the substantial acquisition of shares and take-over of companies.

Undertaking investigation and inspection, inquiries and audit of any issuer or dealer of

securities, the Stock Exchanges and intermediaries and any self regulatory organization

in the securities market.

Conducting research and publishing information.

Regulator of Micro Finance Institutions To bring Non-government Microfinance Institutions (NGO-MFIs) under a regulatory framework,

the Government of Bangladesh enacted "Microcredit Regulatory Authority Act, 2006’" (Act

no. 32 of 2006) which came into effect from August 27, 2006. Under this Act, the Government

established Microcredit Regulatory Authority (MRA) with a view to ensuring transparency and

accountability of microcredit activities of the NGO-MFIs in the country. The Authority is

empowered and responsible to implement the said act and to bring the microcredit sector of the

country under a full-fledged regulatory framework.

MRA’s mission is to ensure transparency and accountability of microfinance operations of

NGO-MFIs as well as foster sustainable growth of this sector. In order to achieve its mission,

MRA has set itself the task to attain the following goals:

To formulate as well as implement the policies to ensure good governance and

transparent financial systems of MFIs.

To conduct in-depth research on critical microfinance issues and provide policy inputs to

the government consistent with the national strategy for poverty eradication.

To provide training of NGO-MFIs and linking them with the broader financial market to

facilitate sustainable resources and efficient management.

To assist the government to build up an inclusive financial market for economic

development of the country.

To identify the priorities in the microfinance sector for policy guidance and dissemination

of information to attain the MRA’s social responsibility.

According to the Act, the MRA will be responsible for the three primary functions that will need

to be carried out, namely:

Licensing of MFIs with explicit legal powers;

Supervision of MFIs to ensure that they continue to comply with the licensing

requirements; and

Enforcement of sanctions in the event of any MFI failing to meet the licensing and

ongoing supervisory requirements.

Banks & FIs

Banks After the independence, banking industry in Bangladesh started its journey with 6 Nationalized

commercialized banks, 2 State owned Specialized banks and 3 Foreign Banks. In the 1980's

banking industry achieved significant expansion with the entrance of private banks. Now, banks

in Bangladesh are primarily of two types:

Scheduled Banks: The banks which get license to operate under Bank Company Act,

1991 (Amended in 2003) are termed as Scheduled Banks.

Non-Scheduled Banks: The banks which are established for special and definite objective

and operate under the acts that are enacted for meeting up those objectives, are termed as

Non-Scheduled Banks. These banks cannot perform all functions of scheduled banks.

There are 47 scheduled banks in Bangladesh who operate under full control and supervision of

Bangladesh Bank which is empowered to do so through Bangladesh Bank Order, 1972 and Bank

Company Act, 1991. Scheduled Banks are classified into following types:

State Owned Commercial Banks (SOCBs): There are 4 SOCBs which are fully or

majorly owned by the Government of Bangladesh.

Specialized Banks (SDBs): 4 specialized banks are now operating which were

established for specific objectives like agricultural or industrial development. These

banks are also fully or majorly owned by the Government of Bangladesh.

Private Commercial Banks (PCBs): There are 30 private commercial banks which are

majorly owned by the private entities. PCBs can be categorized into two groups:

Conventional PCBs: 23 conventional PCBs are now operating in the industry. They

perform the banking functions in conventional fashion i.e interest based operations.

Islami Shariah based PCBs: There are 7 Islami Shariah based PCBs in Bangladesh and

they execute banking activities according to Islami Shariah based principles i.e. Profit-

Loss Sharing (PLS) mode.   .

Foreign Commercial Banks (FCBs): 9 FCBs are operating in Bangladesh as the branches

of the banks which are incorporated in abroad.

There are now 4 non-scheduled banks in Bangladesh which are:

Ansar VDP Unnayan Bank,

Karmashangosthan Bank,

Probashi Kollyan Bank,

Jubilee Bank

FIs Non Bank Financial Institutions (FIs) are those types of financial institutions which are regulated

under Financial Institution Act, 1993 and controlled by Bangladesh Bank. Now, 31 FIs are

operating in Bangladesh while the maiden one was established in 1981. Out of the total, 2 is fully

government owned, 1 is the subsidiary of a SOCB, 13 were initiated by private domestic

initiative and 15 were initiated by joint venture initiative. Major sources of funds of FIs are Term

Deposit (at least six months tenure), Credit Facility from Banks and other FIs, Call Money as

well as Bond and Securitization.

The major difference between banks and FIs are as follows:

FIs cannot issue cheques, pay-orders or demand drafts.

FIs cannot receive demand deposits,

FIs cannot be involved in foreign exchange financing,

FIs can conduct their business operations with diversified financing modes like

syndicated financing, bridge financing, lease financing, securitization instruments, private

placement of equity etc.

Capital market

After the independence, establishment of Dhaka Stock Exchange (formerly East Pakistan Stock

Exchange) initiated the pathway of capital market intermediaries in Bangladesh. In 1976,

formation of Investment Corporation of Bangladesh opened the door of professional portfolio

management in institutional form. In last two decades, capital market witnessed number of

institutional and regulatory advancements which has resulted diversified capital market

intermediaries. At present, capital market intermediaries are of following types:

1. Stock Exchanges: Apart from Dhaka Stock Exchange, there is another stock exchange in

Bangladesh that is Chittagong Stock Exchange established in 1995.

2. Central Depository: The only depository system for the transaction and settlement of

financial securities, Central Depository Bangladesh Ltd (CDBL) was formed in 2000

which conducts its operations under Depositories Act 1999, Depositories Regulations

2000, Depository (User) Regulations 2003, and the CDBL by-laws.

3. Stock Dealer/Sock Broker: Under SEC (Stock Dealer, Stock Broker & Authorized

Representative) Rules 2000, these entities are licensed and they are bound to be a

member of any of the two stock exchanges. At present, DSE and CSE have 238 and 136

members respectively.

4. Merchant Banker & Portfolio Manager: These institutions are licensed to operate under

SEC (Merchant Banker & Portfolio Manager Rules) 1996 and 45 institutions have been

licensed by SEC under this rules so far.

5. Asset Management Companies (AMCs): AMCs are authorized to act as issue and

portfolio manager of the mutual funds which are issued under SEC (Mutual Fund) Rules

2001. There are 15 AMCs in Bangladesh at present.

6. Credit Rating Companies (CRCs): CRCs in Bangladesh are licensed under Credit Rating

Companies Rules, 1996 and now, 5 CRCs have been accredited by SEC.

7. Â Trustees/Custodians: According to rules, all asset backed securitizations and mutual

funds must have an accredited trusty and security custodian. For that purpose, SEC has

licensed 9 institutions as Trustees and 9 institutions as custodians.

8. Investment Corporation of Bangladesh (ICB): ICB is a specialized capital market

intermediary which was established in 1976 through the ordainment of The Investment

Corporation of Bangladesh Ordinance 1976. This ordinance has empowered ICB to

perform all types of capital market intermediation that fall under jurisdiction of SEC. ICB

has three subsidiaries:

8.1. ICB Capital Management Ltd.,

8.2. ICB Asset Management Company Ltd.,

8.3. ICB Securities Trading Company Ltd.

Insurance

Insurance sector in Bangladesh emerged after independence with 2 nationalized insurance

companies- 1 Life & 1 General; and 1 foreign insurance company. In mid 80s, private sector

insurance companies started to enter in the industry and it got expanded. Now days, 62

companies are operating under Insurance Act 2010. Out of them-

18 are Life Insurance Companies including 1 foreign company and 1 is state-owned

company,

44 General Insurance Companies including 1 state-owned company.Â

Insurance companies in Bangladesh provide following services:

1. Life insurance,

2. General Insurance,

3. Reinsurance,

4. Micro-insurance,

5. Takaful or Islami insurance.

Micro Finance Institutions (MFIs)

The member-based Microfinance Institutions (MFIs) constitute a rapidly growing segment of the Rural

Financial Market (RFM) in Bangladesh. Microcredit programs (MCP) in Bangladesh are implemented by

various formal financial institutions (nationalized commercial banks and specialized banks), specialized

government organizations and Non-Government Organizations (NGOs). The growth in the MFI sector, in

terms of the number of MFI as well as total membership, was phenomenal during the 1990s and

continues till today.

Despite the fact that more than a thousand of institutions are operating microcredit programs, but only

10 large Microcredit Institutions (MFIs) and Grameen Bank represent 87% of total savings of the sector

and 81% of total outstanding loan of the sector. Through the financial services of microcredit, the poor

people are engaging themselves in various income generating activities and around 30 million poor

people are directly benefited from microcredit programs.

Credit services of this sector can be categorized into six broad groups: i) general microcredit for small-

scale self employment based activities, ii) microenterprise loans, iii) loans for ultra poor, iv) agricultural

loans, v) seasonal loans, and vi) loans for disaster management. Currently, 599 institutions (as of

October 10 2011) have been licensed by MRA to operate Micro Credit Programs. But, Grameen Bank is

out of the jurisdiction of MRA as it is operated under a distinct legislation- Grameen Bank Ordinance,

1983.

Recent developments

Recent Developments in Financial Sector of Bangladesh

Automation and Technological Development: Banking sector experienced remarkable progress in respect of automation in functioning in last

several years. For the pro-active and forward-visioning approach of Bangladesh Bank, numbers

of automation initiatives have been implemented in banking sector. These initiatives include:

To create a disciplined environment for borrowing, the automated Credit Information

Bureau (CIB) service provides credit related information for prospective and existing

borrowers. With this improved and efficient system, risk management will be more

effective. Banks and financial institutions may furnish credit information to CIB database

24 by 7 around the year; and they can access credit reports from CIB online instantly.

L/C Monitoring System has been introduced for preservation and using the all necessary

information regarding L/C by the banks through BB website. This system allows the

authorized users of banks to upload and download their L/C information.

 In terms of article 36(3) of Bangladesh Bank Order, 1972, all scheduled banks are

subject to submit Weekly Statement of Position as at the close of business on every

Thursday to the Department of Off-site Supervision. This statement now is submitted

through on-line using the web upload service of BB website within o3 (three) working

days after the reporting date which is much more time and labor efficient that the earlier

manual system.

The e-Returns service has been introduced which is An Online Portal Service for

Scheduled Banks to submit Electronic Returns using predefined template for the purpose

of Macro Economy Analysis through related BB Departments.Â

Online Export Monitoring System is used for monitoring export of Bangladesh. Through

this service, Banks and AD Branches of Banks issue & reports export report.

Bangladesh Automated Clearing House (BACH) started to work by replacing the ancient

manual clearing system which allows the inter-bank cheques and similar type instruments

to be to settled in instant manner.Â

Electronic Fund Transfer (EFT) has been introduced which facilitates the banks to make

bulk payments instantly and using least paper and manpower.

The initiation of Mobile Banking has been one of the most noteworthy advancement in

banking. Through this system, franchises of banks through mobile operators can provide

banking service to even the remotest corner of the country.

Almost every commercial bank is now using their own core banking solution which has

made banking very faster and efficient. Usage of plastic money has much more increased

in daily life transactions. Full or partial online banking is now being practiced by almost

every bank.

Inauguration of internet trading in both of the bourses (DSE & CSE) in the country is the most

significant advancement for capital market in last several years. Micro Finance Institutions

submit their reports to the regulator through the Online Report Submission Tools for MFIs.

Institutional Development: Through the Central Bank Strengthening Project, there have been a good number of

achievements regarding the institutional development in BB which can be observed below:

The implementation of Enterprise Resource Planning (ERP) has been a big step in

automation of operational structure of BB.

The establishment of Enterprise Data Warehouse (under process) will bring the whole

banking and FI industry under a single network through which data sharing, reporting and

supervision will enter in a new horizon.

Bangladesh Bank now possesses the most informative and resourceful website of the

country regarding economic and financial information.

Internal networking system with required online communication facilities have been

developed and in operation for the officers of BB.

BB has hosted number of international seminars on different economic and financial

issues over last several years.  Â

MRA was established in 2006 for bringing NGO-MFIs under supervision. For the pro active role

of MRA, this sector (MFI) is now in a good shape regarding the accountability and regulation.

For abolishing anomaly and fetching discipline in insurance industry, IDRA was established in

2011. In one year, IDRA has taken number of appreciable steps to regularize this industry.

After the massive crash of local bourses in 2010-2011, the executive body of SEC was

redesigned in full and some good results have come after that.   Â

Regulatory Development: Banking and FI industries have experienced diversified regulatory development over last few

years:

Full implementation of Basel-II (International capital adequacy standard) accord has been

in effect in both banking and FI industry.

Guidelines on Environmental and Climate Change Risk Management for banks and FIs

have been circulated. Policy guidelines on Green Banking also have been issued.

Guidelines on Stress Testing for banks and FIs have been issued which is aimed to assess

the resilience of banks and FIs under different adverse situations.

Number of Policy initiatives for Financial Inclusion has been undertaken.Â

Banks have been asked to build up separate Risk Management Unit for comprehensive

and intensive risk management.

Banks have been instructed to create separate subsidiary for capital market operations and

capital market operations of banks are now minutely monitored.

Supervision has been intensified to increase the participation of banks in Corporate Social

Responsibility (CSR).

For the efficient and timely action of BB, foreign exchange reserve of Bangladesh did not

face any adversity during global financial turmoil of 2007-09.

To meet international standard on Anti Money Laundering (AML)/Combating Financing

of Terrorism (CFT) issues, guidelines for Money Changers, Insurance Companies and

Postal Remittance have already been circulated.

SEC has updated Public Issue Rules, 2006 and Mutual Fund Rules, 2001. Apart from that,

numbers of AMCs, merchant banks and are Mutual Funds are permitted by SEC which has

increased the participation of institutional investors. The trend of capital market research has

been upward which indicates the potential of analytical investment decision.

Insurance Act 2010 was formulated to meet demand of concurrent time for shifting the insurance

industry in a better shape. Apart from that, several initiatives have been undertaken by IDRA for

prohibiting the malpractices in the industry regarding insurance commission, agent, premium etc

and corporate governance issues.