An introduction of Banks and their Services in BD

1. Overview of Financial system of Bangladesh

The financial system of Bangladesh is comprised of three broad fragmented sectors:
➢ Formal Sector
➢ Semi-Formal Sector
➢ 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.

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 2. Financial System of Bangladesh

The financial system of Bangladesh consists of,

- scheduled and non-scheduled banks,

- non-bank financial institutions, microfinance institutions,

- insurance companies,

- co-operative banks,

- credit rating companies,

- merchant banks,

- brokerage houses and stock exchanges.

▪ Banks:

After the independence, banking industry in Bangladesh started its journey with.

- 6 Nationalized commercialized banks,

-3 State owned Specialized banks and 9 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:

a)Scheduled Banks:
-The banks that remain in the list of banks maintained under the Bangladesh
Bank Order, 1972.
b)Non-Scheduled Banks:

-The banks which are established for special and definite objective and operate
under any act but are not Scheduled Banks.

-These banks cannot perform all functions of scheduled banks.

There are 60 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)

Specialized Banks (SDBs):
Private Commercial Banks (PCBs):
Foreign Commercial Banks (FCBs):
 Non-scheduled banks

• State Owned Commercial Banks (SOCBs):

➢ There are 6 SOCBs which are fully or majorly owned by the Government of
Bangladesh.
I. Agrani Bank Limited.
II. Bangladesh Development Bank.
III. BASIC Bank Limited.
IV. Janata Bank Limited.
V. Rupali Bank Limited.
VI. Sonali Bank Limited.

• Specialized Banks (SDBs):

➢ 3 specialized banks are now operating, 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 42 private commercial banks which are majorly owned by
individuals/the private entities.
➢ PCBs can be categorized into two groups:
a) Conventional PCBs
b) Islami Shariah based PCBs
A) Conventional PCBs:
- 33 conventional PCBs are now operating in the industry.
-They perform the banking functions in conventional fashion i.e interest
based operations.
B)Islami Shariah based PCBs:
- There are 8 Islami Shariah based PCBs in Bangladesh .
- 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 5 non-scheduled banks in Bangladesh which are:
a. Ansar VDP Unnayan Bank,
b. Karmashangosthan Bank,
c. Grameen Bank,
d. Jubilee Bank,
e. Palli Sanchay Bank
 ▪ Financial Institutions
-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, 34 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,
- 15 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 three 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.

▪ Financial System of Bangladesh

-In the system, Bangladesh Bank (BB), as the central bank, is regulating banks and non-bank
financial institutions,

-Bangladesh Securities and Exchange Commission (BSEC) is acting as the regulator of the
capital markets,

-the Insurance Development and Regulatory Authority (IDRA) is acting as regulator of the
insurance sector, and

- the Micro-credit Regulatory Authority (MRA) is acting as the regulator of microfinance

institutions

_________End_____

3. What is Bank? What are the key functions of bank?

Bank : A bank is a financial institution that accepts deposits from the public and creates
a demand deposit while simultaneously making loans.
Lending activities can be directly performed by the bank or indirectly through capital
markets.

Three Key Functions of Banks

1. Financial Intermediation
2. Payment function
3. Other Services

1.Financial intermediaries
Banks are financial intermediary—that is, an institution that operates between a saver who
deposits money in a bank and a borrower who receives a loan from that bank.

• Financial intermediaries serve as middlemen for financial transactions, generally

between banks or funds.
• These intermediaries help create efficient markets and lower the cost of doing
business.
• Intermediaries can provide leasing or factoring services, but do not accept deposits
from the public.
• Financial intermediaries offer the benefit of pooling risk, reducing cost, and
providing economies of scale, among others.
Figure 1 illustrates the position of banks as financial intermediaries, with deposits flowing
into a bank and loans flowing out.

2. Payment functions
-They process payments, from the tiniest of personal checks to large-value electronic
payments between banks.
-The payments system is a complex network of local, national, and international banks and
- -often involves government central banks and private clearing facilities that
match up what banks owe each other.
3. Other services
A discussion of the most prominent of these services is provided below.

1. Fiduciary services.
 -Commercial banks have operated separate 'trust' banks for many years in which they
manage the funds of others.
-In its fiduciary role, the bank manages employee pension and profit sharing programs
-and handles a variety of securities-related activities for corporate businesses.

2. Security-related services.
-Commercial banks provide a number of brokerage and investment banking-related services.
-However, the nature of these sel1vicesis severely restricted by Glass Steagal Act of 1933.

3. Off-balance sheet risk-taking.

- One new area of rapid growth has been in the off-balance sheet risk-taking whereby banks
(especially, large banks) generate fe'3income by assuming certain contingent liabilities.

- For example, a bank may guarantee the payment of another party.

-The standby letter of credit is perhaps the best known of these contingent claims .

- involves the agreement by a bank to pay an agreed-on amount on presentation of

evidence of default or non-performance of the party whose obligation is guaranteed.

4. Insurance and real estate related activities.

- Commercial banks currently are able to offer only a limited set of insurance and real estate
related activities.
- principally those that involve brokerage rather than underwriting or ownership.

Important Functions of Bank

There are two types of functions of banks:

1. Primary functions – being primary are also called banking functions.

2. Secondary Functions

Both the types of functions of bank are explained below in detail:

Primary Functions of Bank

All banks have to perform two major primary functions namely:

1. Accepting of deposits
2. Granting of loans and advance

Accepting of Deposits
Bank accepts different types of deposits from the public such as:

1. Saving Deposits: encourages saving habits among the public.

- It is suitable for salary and wage earners.

- The rate of interest is low.

- There is no restriction on the number and amount of withdrawals.

-The account for saving deposits can be opened in a single name or in joint names.

- The depositors just need to maintain minimum balance which varies across different banks.

-Also, Bank provides ATM cum debit card, cheque book, and Internet banking facility.

2. Fixed Deposits: Also known as Term Deposits.

-Money is deposited for a fixed tenure.

- No withdrawal money during this period allowed.

- In case depositors withdraw before maturity, banks levy a penalty for premature
withdrawal.

- As a lump-sum amount is paid at one time for a specific period, the rate of interest is
high but varies with the period of deposit.

3. Current Deposits: They are opened by businessmen.

-The account holders get an overdraft facility on this account.

- These deposits act as a short-term loan to meet urgent needs.

- Bank charges a high-interest rate along with the charges for overdraft facility in
order to maintain a reserve for unknown demands for the overdraft.

4. Recurring Deposits: A certain sum of money is deposited in the bank at a regular

interval. -Money can be withdrawn only after the expiry of a certain period.

- A higher rate of interest is paid on recurring deposits as it provides a benefit of

compounded rate of interest

- enables depositors to collect a big sum of money.

-This type of account is operated by salaried persons and petty traders.

Granting of Loans & Advances

The deposits accepted from the public are utilised by the banks to advance loans to the
businesses and individuals to meet their uncertainties.
- Bank charges a higher rate of interest on loans and advances than what it pays on deposits.
-The difference between the lending interest rate and interest rate for deposits is bank profit.
Bank offers the following types of Loans and Advances:

1. Bank Overdraft: This facility is for current account holders.

 -It allows holders to withdraw money anytime more than available in bank balance
but up to the provided limit.

- An overdraft facility is granted against collateral security.

- The interest for overdraft is paid only on the borrowed amount for the period for
which the loan is taken.

2. Cash Credits: a short term loan facility up to a specific limit fixed in advance.

-Banks allow the customer to take a loan against a mortgage of certain property
(tangible assets and / guarantees).

-Cash credit is given to any type of account holders and also to those who do not have
an account with a bank.

- Interest is charged on the amount withdrawn in excess of the limit.

- Through cash credit, a larger amount of loan is sanctioned than that of overdraft for
a longer period.

3. Loans: Banks lend money to the customer for short term or medium periods of say 1
to 5 years against tangible assets.

-Nowadays, banks do lend money for the long term.

- The borrower repays the money either in a lump-sum amount or in the form of
instalments spread over a pre-decided time period.

-Bank charges interest on the actual amount of loan sanctioned, whether withdrawn or
not.

- The interest rate is lower than overdrafts and cash credits facilities.

4. Discounting the Bill of Exchange: It is a type of short term loan, where the seller
discounts the bill from the bank for some fees.

-The bank advances money by discounting or purchasing the bills of exchange.

- It pays the bill amount to the drawer(seller) on behalf of the drawee (buyer) by
deducting usual discount charges.

-On maturity, the bank presents the bill to the drawee or acceptor to collect the bill
amount.

Secondary Functions of Bank

Like Primary Functions of Bank, the secondary functions are also classified into two parts:

1. Agency functions
 2. Utility Functions

Agency Functions of Bank

Banks are the agents for their customers, hence it has to perform various agency functions as
mentioned below:
Transfer of Funds: Transfering of funds from one branch/place to another.
Periodic Collections: Collecting dividend, salary, pension, and similar periodic collections
on the clients’ behalf.
Periodic Payments: Making periodic payments of rents, electricity bills, etc on behalf of the
client.
Collection of Cheques: Like collecting money from the bills of exchanges, the bank collects
the money of the cheques through the clearing section of its customers.
Portfolio Management: Banks manage the portfolio of their clients. It undertakes the
activity to purchase and sell the shares and debentures of the clients and debits or credits the
account.
Other Agency Functions: Under this bank act as a representative of its clients for other
institutions. It acts as an executor, trustee, administrators, advisers, etc. of the client.
Utility Functions of Bank

• Issuing letters of credit, traveller’s cheque, etc.

• Undertaking safe custody of valuables, important documents, and securities by
providing safe deposit vaults or lockers.
• Providing customers with facilities of foreign exchange dealings
• Underwriting of shares and debentures
• Dealing in foreign exchanges
• Social Welfare programmes
• Project reports
• Standing guarantee on behalf of its customers, etc

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3. Bank Goals. Constraints and Risk Management Issue

▪ Goal of banks
The primary goals of a bank may vary depending on its type, structure, and business
model. However, in general, banks have the following goals:

• Profitability: Banks are profit-driven organizations that aim to earn a return

on their investments and provide value to their shareholders.

• Liquidity: Banks need to maintain adequate liquidity to meet their financial

obligations, such as customer deposits and loan disbursements.
 • Safety and Soundness: Banks need to operate in a safe and sound manner to
protect their depositors, investors, and the financial system as a whole.

• Customer Service: Banks aim to provide high-quality customer service to

attract and retain customers, build long-term relationships, and increase their
market share.

• Risk Management: Banks need to manage risks effectively to protect

themselves and their customers from potential losses and maintain the stability
of the financial system.

• Compliance: Banks must comply with various laws and regulations, including
anti-money laundering (AML) and know your customer (KYC) requirements,
to maintain their license to operate.

• Innovation: Banks strive to innovate and improve their products, services,

and technologies to stay competitive and meet the evolving needs of their
customers.

▪ Risk Management
a. Credit Risk
b. Interest Rate Risk
c. Operation Risk
d. Liquidity Risk
e. Price Risk
f. Compliance Risk
g. Foreign Exchange Risk
h. Reputation Risk

a) Credit Risk: This is the risk that a borrower may default on their obligation to repay
the loan or credit facility.
-Banks use a variety of tools to manage credit risk, including,
- credit scoring,
- collateralization,
-and diversification of the loan portfolio.

b) Interest Rate Risk: This is the risk that changes in interest rates will negatively impact
the bank's net interest margin (NIM) and profitability.
-Banks can manage interest rate risk by using hedging strategies, such as,
- interest rate swaps, and
- by adjusting the maturity profile of their assets and liabilities.

c) Operational Risk: This is the risk of loss resulting from inadequate or failed internal
processes, people, and systems, or from external events.
-Examples of operational risk include,
-fraud,
 - errors,
- system failures,
-and cyber-attacks.
-Banks manage operational risk by implementing robust internal controls, investing in
technology, and providing training to staff.

d) Liquidity Risk: This is the risk that a bank may be unable to meet its financial
obligations as they fall due.
- Banks manage liquidity risk by
-holding adequate levels of liquid assets,
-maintaining diverse funding sources,
-and developing contingency plans.

e) Price Risk: This is the risk that changes in the price of financial instruments, such as
securities or commodities, will negatively impact the bank's profitability.
- Banks manage price risk by diversifying their investments and using hedging
strategies.

f) Compliance Risk: This is the risk of legal or regulatory sanctions, financial loss, or
damage to reputation resulting from failure to comply with laws, regulations, or
ethical standards.
- Banks manage compliance risk by ,
-establishing robust compliance programs,
-conducting regular training,
-and monitoring compliance with internal policies and external
regulations.

g) Foreign Exchange Risk: This is the risk that changes in exchange rates will negatively
impact the bank's profitability.
- Banks manage foreign exchange risk by using hedging strategies and by maintaining
a diversified portfolio of assets denominated in different currencies.

h) Reputation Risk: This is the risk of damage to the bank's reputation resulting from
negative public perception or media coverage.
-Banks manage reputation risk by,
- maintaining high ethical standards,
- providing excellent customer service,
- and responding quickly and appropriately to any negative events.

Although banks fail for many reasons, the principal one is bad loans. Banks, of course, do not
make "bad" loans.
-They make loans that go bad.
-At the time the loans were made the decisions seemed correct.
-However, changes in oil prices, real estate prices, crop prices, and other factors that were
not foreseen resulted in credit problems.
-Bank management must carefully balance risk and return in seeking to maximize
shareholder wealth.
-However, such decision; are constrained by a number of factors.
-Of course, all businesses face constraints in their decision-making, but the constraints under
which banks operate are particularly important.
-These constraints maybe classified into three separates though overlapping areas:
1. Market constraints
2. Social constraints
3.Legal constraints
1. Market constraints: The market constraints take the form of competition from other banks, from
non-bank providers of financial services, and from the capital market.

2. Social constraints: Social constraints stern from the historical position of commercial bank at the
core of the financial system.

3. Legal/regulatory constraints: Perhaps more significant is the enormous variety of legal and
regulatory constraints on the portfolio management [i.e., its risk/return position of a commercial
bank.

- There-are constraints on balance sheet composition, pricing, geographic expansion, entry, and
customer relationship.

____________End______________

4. MOTIVATION FOR BANK ACTIVITIES

-Commercial banks are private, profit-seekinq business enterprises.
- They provide payment services, financial intermediation, and other financial services in
anticipation of earning profits from those activities.
-Along with other profit-seeking businesses, their principal goal is to maximize the market
value the equity of the common stockholders.
- Thus, decisions on lending, investing, borrowing, pricing, adding new services, dropping old
services, and other such decisions ultimately depended on the impact an shareholder
wealth.
-Shareholder wealth is determined by three factors, namely,
1.the amount of cash flows,
2. the timing of cash flows,
3.and the risk involved in those cash flows:
-Management decisions should, therefore, involve evaluating the impact of various strategies
on the return [the amount and timing of the cash flows] and the risk of those cash flows.
_____________End__________
 5.Trends affecting all banks.

I. Service proliferation
II. Rising competition
III. Deregulation
IV. Rising Funding Costs
V. An increasingly Interest-sensitive Mix of Funds
VI. A Technological Revolution
VII. Consolidation and Geographic Expansion
VIII. Globalization of Banking
IX. Increased Risk of Failure

I. Service Proliferation: Banks are diversifying their product and service offerings to
attract and retain customers.
- This trend is driven by changing customer preferences.
-the need to generate new revenue streams in a highly competitive market.

II. Rising Competition: Banks face increasing competition from non-bank financial
institutions, such as fintech companies and peer-to-peer lenders.
-This trend is driven by the rise of digital technology,
-which has lowered barriers to entry and enabled new players to enter the
market.

III. Deregulation: Governments are deregulating the banking industry,

-which has led to increased competition and innovation.
- but has also increased risk and complexity.

IV. Rising Funding Costs: Banks are facing rising funding costs due to,
- regulatory requirements,
- market volatility,
-and changing interest rates.
-This trend is making it more difficult for banks to maintain profitability and is
driving them to seek alternative sources of funding.

V. An increasingly Interest-sensitive Mix of Funds: Banks are managing an increasingly

interest-sensitive mix of funds,
-which requires sophisticated risk management strategies to ensure that they
can meet their financial obligations in different market conditions.

VI. A Technological Revolution: Banks are embracing new technologies, such as ,

-artificial intelligence,
 - blockchain,
-and cloud computing,
-to enhance their operations, improve customer service, and reduce costs.

VII. Consolidation and Geographic Expansion: Banks are consolidating to achieve

economies of scale and expand their geographic reach.
-This trend is driven by the need to remain competitive in a global market and to
access new markets and customers.

VIII. Globalization of Banking: Banks are becoming increasingly global, with operations
spanning multiple countries and regions.
- This trend is driven by the need to serve global customers, access new markets, and
diversify risk.

IX. Increased Risk of Failure: Banks are facing an increased risk of failure due to,
- market volatility,
- regulatory requirements,
-and changing customer preferences.
- This trend is driving banks to adopt more conservative risk management strategies
and to diversify their business lines and revenue streams.

_________________End___________________

6.Major Factors Affecting Size and Market Share

• Inflation and high and volatile interest rates
• Technological advances
• Consumers
• Securitization
• Capital Markets
• Deregulation
• De-specialization
• Globalization

Shifts in the market shares of commercial banks and other financial service organizations
reflect the confluence of a number of ,
-economic,
- technological
- and regulatory factors.
• Inflation, High and volatile interest rates:
 -High inflation and high interest rates encouraged other less regulated financial service firms
to develop new products such,
- money market funds and cash management account,
- types of products that the traditional intermediaries could not offer because of
regulatory constraints.
• Technological advances:
✓ Advances in technology have greatly affected the competitive position of different
providers of financial services.
✓ -the ability of the financial institutions to compete directly with the capital market in
the intermediation function.
✓ Rapid advances in electronic technology have lowered transaction costs for
processing financial transactions.
✓ The firms that have been effective in implementing the new financial technology have
achieved an edge through lower costs.
✓ Perhaps more important, the advances in technology have made the production of
diverse financial services within one firm more feasible.
- through increasing the prospects for realizing economies of scope.
✓ Also, advanced financial technology has greatly increased the geographical
boundaries over which financial services could be produced,
-thereby substantially intensifying the extent of competition in the industry.

• Consumers:
✓ Most sophisticated consumers have also played a major role in the changing structure
of the financial services industry.
✓ Greater education in personal money management and high real and nominal returns
on financial assets have made funds flows more volatile.
✓ Consumers of financial services increasingly move funds around for very small
differences in expected returns.

• Securitization
✓ Securitization refers to the process of making some or all of the loan portfolio
marketable by establishing pools of loans and selling interest in the pools.
✓ Securitization also involves the creation of those pools by investment bankers, thereby
by passing the traditional intermediation process.
✓ Until the mid-1980s, securitization was limited to mortgages related to residential real
estate. Recently, however, investment bankers have created pools of consumer and
commercial loans.
✓ Capital market Increased competition for the capital market has played a role in the
decline of bank market share.
✓ Large, high-quality corporations have found that they can excess funds cheaper
through direct borrowing in the capital market (through selling commercial paper, for
example) than by borrowing from banks.
• Deregulation
✓ Deregulation has also affected the operations of commercial banks and other
depository financial institutions.
✓ De specialization Rather than individual financial service organizations offering a
simple service or a limited set of services,
-the trend has been for financial service organizations to offer multiple services.
✓ Deregulation has made this possible for some of the depository financial institutions. -
-However, more important has been the expansion of financial service offerings by
non-depository institutions.

• Globalization
✓ Globalization of financial organizations has also affected the operations and structure
of these organizations.
✓ Funds increasing flow across national borders both for long-term investment purposes
and for short-run liquidity management.
✓ Reflecting global fund flows, many financial service organizations have entered the
U.S. market, and many U.S. financial service firms have expanded abroad.

ASSETS AND LIABILITIES

Deposits
✓ A principal function of commercial banking industry is to offer transaction
account to the public and to administer the payment system.
✓ To offer these services, individual banks must cooperate with other banks on
their clearing and processing of checks.
✓ This cooperation leads to an average volume of interbank deposits (deposits
from one bank held at another bank).
✓ Equity Capital In a market-based economy in which banks seek to make a
profit for their owners.
-equity is the tangible representation of this private ownership.
✓ Note, however, that equity finances a small portion of the assets of a bank. -
Fundamentally, banks are highly leveraged business organizations.
✓ As a result, during periods of prosperity, bank earnings increase dramatically.
-while periods of economic decline are magnified into dramatic reduction in
bank earnings, erosion or the capital account, and the failure of large number
of banks.

Assets
✓ By far the greatest bulk of bank assets s in the loan portfolio.
✓ These loans include credit extensions to households, business, and government
for a wide variety of purposes.
✓ Reflecting the traditional orientation of commercial banks towards,
- business lending,
-the greatest portion of credit expansion at these banks is in the form of
loans to businesses for acquiring inventory,
- carrying accounts receivable,
-and purchasing new equipment and real estate.
 ✓ Substantial amounts of credit are also extended by commercial banks to other
financial institutions,
- particularly to securities firms and to sales and personal finance companies.
✓ In recent years, consumer loans have expanded rapidly, particularly in the
form of credit extensions under credit card arrangements.

BANKS PROFITABILITY
✓ Commercial banks have experienced great difficulty in attempts to obtain
adequate risk-adjusted profits.
✓ The return on assets for insured commercial banks has tended downward for
an extended period