FINANCIAL AND MONETARY

SYSTEM OF BANGLADESH

PRESENTER
DR. TOUFIC A. CHOUDHURY
Former-DG, BIBM
Director General, BASM
Financial System is concerned with Finance.
But what is this Finance?

S D

Provision of fund from one party (Surplus

Economic Unit: I>E) to another party (Deficit
Economic Unit: I<E). Or, mobilization of fund
from SEUs and deployment of fund to DEUs.
Funds may be provided in two different ways:
Direct and Indirect. In case of Direct mode of
Finance, SEUs are providing funds directly to
DEUs; but in case of Indirect mode of finance,
SEUs are providing fund to DEUs through
intermediaries, known as financial Intermediaries.
 INDIRECT FINANCE

Financial
FUNDS FUNDS
Intermediaries

Surplus Units/ Financial Deficits Units/

FUNDS FUNDS Borrowers
Savers/Lenders Markets
DIRECT FINANCE
What is the nature of Banks’ Mode of Finance? Who
used to practices direct Mode of Finance? Which one is
more risky from fund owners’ point of view?

Why are Banks known as Financial Intermediaries?

Financial System Defined: It is the system concerned
with mobilization of fund from SEUs and deployment
of funds to DEUs either directly or indirectly. System
comprises rules, regulations, guidelines, legal
framework etc. These are collectively known as
“institutional framework”.

The constituents of financial system are: financial

institutions, financial instruments and financial
markets.
Financial institutions are those institutions which mobilize
funds from surplus units (depositors) and deploy funds to
deficit units (borrowers). They are of two types: banking
financial institutions (BFIs) and non-banking financial
institutions (NBFIs). All so-called commercial banks
including BKB and RAKUB are considered as BFIs in
Bangladesh. There are around 35 NBFIs (such IDLC,
IPDC, Lanka-Bangla Finance). The licensing and
regulatory authority for BFIs and NBFIs in Bangladesh is
Bangladesh Bank.
How come BFIs are different from NBFIs? BFIs belong
to Monetary System, but NBFIs are not. Monetary System is
centered around money. Therefore, first of all, we must
know what is Money?
Money is anything that is generally acceptable as a medium
of exchange or means of payment in the settlement of all
transactions including debt. General acceptability as a
medium of exchange or means of payment is a unique
feature of money.
The functions of money have been well summed up in a
couplet:
Money is a matter of functions four:
A medium, a measure, a standard, a store.

Money has several incarnations. In Bangladesh money consists

of coins, paper currency and cheques. Coins and currency notes
are known as legal tender money or fiat money and cheques (or
deposit money) are known as Non-legal Tender or fiduciary
money.

In cheque really Money?

What about Debit Card, Credit Card and Cryptocurrency?
Supply of Money: Money Supply is the total stock
of money of various kinds at a particular point of
time held by the public. We must note two things
about money supply. First, the supply of money
refers to its stock at any point of time. Therefore,
money is a stock variable. Secondly, the term public
is defined to include all economic units (households,
firms and institutions) except the producers of
money (Central Bank and BFIs).
A single measure of money supply defined as the sum
of currency and demand deposits, both held by the
public, we call it the narrow measure of money supply
(M1). A ‘broader’ measure of money supply (M2) is
defined empirically as money narrowly defined plus the
time deposits of banks held by the public.
M1= COB + DD
M2= M1 + TD
Now, the Producers’ of Money: Central Bank and BFIs.
Central Bank prints money, and BFIs create money. BFIs
can create money simply by lending fund to the borrowers.
A single bank can create money to the extent of its excess
reserves and banking system (all BFIs together) as a whole
can create money to the extent of reciprocal times of
required reserve.
Monetary System is the system which is concerned with
issuance and circulation of money. Central Bank is involved
with it by printing money and BFIs are associated with it by
creating money. Therefore, Monetary System is comprising of
Central Bank and BFIs
and
Financial System is equal to –
Monetary System + NBFIs.
It also means –
BFIs liability is Money, but the liability of NBFIs is not money.
Then, what is the liability of NBFIs?
Payment System
The payments system is the set of institutional arrangements
through which purchasing power is transferred from one
transactor in exchange to another. For efficient exchange, a
common medium of exchange or means of payment is
necessary. The payment system is organized around the use
of money. An efficient monetary system is the sine qua non
of an efficient payments system. In Bangladesh, cash is the
most dominant form of payment followed by domestic
cheque system, which has been growing steadily. Card
based payment is also gaining popularity.
Financial instruments are the evidences of financial claims
of one party (holder) against another party (issuers). In order
to become a financial instrument, it must show the evidence
of financial claims. Financial claims against financial sector
are indirect financial instruments (secondary securities) such
as currency notes, cheques, deposits etc. and financial clams
against non-financial (real) sector are direct financial
instruments (primary securities) such as loans, shares, bonds
etc.
What is the difference between –
Money and Financial Instruments?
Financial markets are the markets where financial instruments
are bought and sold or traded. Based on the maturity of financial
instruments, financial markets are classified into Money Market
and Capital Market. BFIs and NBFIs are the major players in
the money markets in Bangladesh. Bangladesh Bank is the leader
of MM in Bangladesh.
The money market components in Bangladesh are: inter-bank
market, call market, repo and reverse report and treasury
(government) bill market. Call market is the most sensitive part of
money market in Bangladesh. Money market is basically used for
monetary policy purposes. Corporate use of money market is
totally absent and there is no brokerage house in our money
market. Interest rate fixing mechanism is absent and transaction
takes place through bilateral transactions.
A capital market is a financial market where long-term
financial instruments are bought and sold. The financial
instruments of capital market are both equity-based and/or debt
based. Equity based part of capital market is known as Stock
Market and debt-based part of capital market is known as Bond
Market. The capital market may be divided into primary
markets and secondary markets. Newly issued securities are
bought and sold in primary markets, such as during initial
public offerings. Secondary markets allow investors to buy and
sell existing securities. The transactions in primary markets
happen between issuers and investors, while secondary market
transactions happen among investors.
Capital market of Bangladesh is equity dominated. Debt part
is not significant. Even in terms of raising long-term
industrial funds, the contribution of equity security part is
very insignificant as compared to bank lending, showing
overwhelming preference of bank finance. In the absence of
an active govt. bond market, specially secondary part of
govt. bond market, the corporate bond market is also not
developing.
Bangladesh Securities and Exchange Commission (BSEC)
is the regulator of Securities Market in Bangladesh.
Functions of Financial System
Intermediation Role : Transforming savings into
credit
Payment Role : Payment for goods and services
by issuing checks and
facilitating electronic payment
Guarantor Role : Standing behind customers
when they are unable to pay
Risk Management Role: Assisting customers for
avoiding risk of loss to financial
assets, property etc.
Investment Banking Role : Raising and deploying fund
through security paper and
merger and acquisition
Saving/Investment : Aiding customer for
Adviser Role better savings and investment
Safe Keeping Role : Safeguarding customers’
valuables
Agency Role : To manage and protect the
properties by acting on
behalf of customers
Policy Role : Implementing government
policy
Financial System and Economic Development
Finance

Payment Intermediation OBSA

Services Services

Efficiency Savings Facilitate Real

and and and
Specialization Investment Financial
Transactions
Development
Dd. Following Development Vs. Supply Leading Development
References:
1. Mishkin, F.S and Eakins, S.G. Financial Markets and
Institutions. Addision Wesly Longman. U.S.A.
2. Mishkin, F.S, The Economics Money, Banking and
Financial Markets Pearsons, U.S.A.
3. Gupta, Suraj B, Monetary Economics: Institutions,
Theory and Policy, S. Chand and Company, New Delhi.
Thank You