Money is cheaper than ever

Are you thinking of buying a car or a house or something fancy with a bank loan? Well, you are in luck. Now is the time as money has become cheaper than ever with the banks bursting at the seams with more money than they can use and they have no idea what to do with it as there are few takers.

Just a year ago, the banking sector was in a chaotic state over the implementation of a single-digit interest rate amid liquidity pressure.

The situation is now completely the reverse as all kinds of interest rates in the money market have tumbled to the lowest level, making money cheaper than ever before.

A huge push of reserve money in the banking system by the Bangladesh Bank to handle liquidity crunch during the pandemic situation coupled with a large inflow of foreign currency and lack of demand for loans helped excess liquidity jump to a historic high of Tk1.70 trillion in August this year.

The banking sector saw its surplus funds increase by Tk30,000 crore in a month from Tk1.40 trillion in July.

Against such a backdrop, banks which had been nervously indecisive to bring down the interest rate until 1 April, are now experiencing automatic corrections in all interest rates including lending, deposit, call money, inter-bank repo, and yields of government securities.

All of the above interest rates, except for the lending rate, in the money market have come down to below 2% -- in some cases, below 1% -- now, which were above 8-9% a year ago.

The lending rate is now below 9%, down from above 10% before April. Some banks are even offering loans at below 6% interest rates to large borrowers, according to Bangladesh Bank data.

What are the reasons for this excess liquidity in the market now?

Low loan demand

A lack of demand for loans is the major reason behind the growth in excess liquidity.

Loan disbursement activities remained almost suspended for three months from April to June this year, causing the private sector credit growth to reach 8.61% in June – the lowest in recent history.

Even though the banks' lending activities resumed from July, most loans are being given as working capital from the government-announced stimulus packages instead of fresh loans for business expansion.

Even though the loan disbursement started to go up since July.  it still remained sluggish, reaching 9.36% in August – far below the monetary target of 14.8% set for the current fiscal year.

As money has become cheap, it will be a big challenge for financial institutions to achieve their expected loan growth this year

Arif Khan

The demand for retail loans is also low due to sluggishness in consumption amid the ailing economic situation, said Rahel Ahmed, managing director of Prime Bank.

Consumption will not increase until the economy rebounds, said Rahel, adding that banks will be interested in retail lending when the job market becomes vibrant.

To boost consumer loan disbursement, the Bangladesh Bank on Tuesday reduced provisioning requirements, making consumer financing less costly for banks.

Money injection by the Bangladesh Bank

The Bangladesh Bank injected over Tk36,000 crore reserve money – considered as extra money – into the market during the pandemic situation through various methods.

Of the amount, Tk26,000 crore was injected through purchasing dollars from the market amid increased inflows of foreign remittance. The central bank has purchased $3.11 billion from July to October this year to sustain the dollar rate.

Riding on high remittance inflows, the country's foreign exchange reserves has hit a new record crossing the $40 billion mark this month.

Moreover, Tk5,000 crore in incentive for paying wages to garment workers during the pandemic situation was given from the reserve money. Banks were given Tk5,000 crore till October as refinancing under a Tk30,000-crore stimulus package.

The Tk36,000 crore reserve money has a multiplier effect of Tk1.60 lakh crore considering the multiplier rate at 4.5%.

Money multiplier refers to how an initial deposit can lead to a bigger final increase in the total money supply. For example, if a commercial bank gains a deposit of Tk1 this leads to a final money supply of Tk4.5.

Drop in interest rates

All kinds of interest rates have fallen to a historic low in recent months, thanks to huge excess liquidity.

For instance, Dutch-Bangla Bank – one of the largest private banks in the country – is now advertising an 8% interest rate for loans. The bank's lending rate was above 11% a year ago. 

Many banks are even offering loans at 6% interest for large borrowers, according to industry insiders.

Usually, the Bangladesh Bank intervenes in the call money market to keep the interest rate low but it is currently playing the opposite role instructing banks to keep the rate high.

As an explainer, a senior executive of the central bank said, "The call money rate has come down to around 1.5%. If the Bangladesh Bank does not intervene, the rate would come down to 0.05%."

However, as the call money rate has been kept high artificially, banks are now borrowing money through inter-bank repo at only 0.30% interest rate – far below the call money rate.

The transaction history of the call money market and the inter-bank repo rate testifies to the interference of the central bank.

For instance, on 18 October, the transaction value in the call money market was Tk2,737 crore at the lowest 1.5% rate, while the inter-bank repo transaction value stood at Tk3,971 crore at 0.20% rate.

Usually, when the demand for call money is lower than the inter-bank repo the call money rate is supposed to be lower than the inter-bank repo rate. However, this did not happen this time due to the Bangladesh Bank's intervention, said the executive of the central bank.

The interest rates of short-term government securities jumped to above 8% in June, but tumbled to 1-3% in October due to huge excess liquidity.

High levels of government borrowing had led the interest rates of government securities to their peak. Even though the government demand still remains high, the interest rates have come down as banks are betting low rates in auctions due to huge money supply, explained a senior executive of the central bank.

The high volume of surplus money in the banking sector has reduced fund cost for banks, helping them to lend at single-digit interest rates, said Selim RF Hussain, managing director and chief executive officer (CEO) of Brac Bank.

He said the implementation of the single-digit lending rate was difficult for banks even several months ago as fund cost was high. However, various money supply measures undertaken by the Bangladesh Bank made the money market liquid, making loans cheaper, he added.

Referring to his bank, he said the deposit rate was above 7% at the beginning of this year, but it has fallen down to 3.5% at present.

"As the fund cost has dropped significantly by 3-3.5%, we've resumed retail and SME (Small and Medium Enterprise) lending at full swing. This remained stagnant several months back", he said.

Along with the banks, some non-bank financial institutions (NBFIs) also have cut their deposit cost significantly amid excess liquidity.

For instance, IDLC – the top NBFI in the market – has cut its deposit rate at 5.75% recently from above 6%. Even though the single-digit lending rate is not mandatory for NBFIs, IDLC is lending at single-digit interest rates.

"We've cut the deposit rate as IDLC is now awash with excess liquidity amid a lack of demand for loans," said Arif Khan, managing director of the company.

"As money has become cheap, it will be a big challenge for financial institutions to achieve their expected loan growth this year," he continued.

Small depositors are the worst sufferers

Small depositors are the only losers from low interest rates as they are getting negative returns on their deposits.

The deposit rate came down to the lowest level of below 2% in September when the inflation rate was 5.69%.

Banks are reluctant to take deposits as they overflow with excess liquidity. Some banks have even stopped taking deposits.

Prime Bank – one of the largest private banks – recently issued an internal order to its employees not to take fresh deposits, according to the bank.

The weighted average deposit rate of the bank was 3.92% in August, according to the Bangladesh Bank.

The weighted average deposit rate of Dutch-Bangla Bank was 1.87% in August – lowest among private commercial banks, the Bangladesh Bank data show.

The banking sector went through a similar situation in 2016 and 2017, as the demand for loans declined sharply in the wake of a political mayhem following the national election in 2014.

The deposit rate came down to below 5%, which prompted the Bangladesh Bank to issue a circular instructing banks to take measures to protect depositors' interest by preventing the fall of deposit rates.

That time, the lending rate automatically came down to single digits amid excess liquidity.

Nonetheless, a lack of demand for loans was the only reason for the piling up excess liquidity in that period.

The money market is more relaxed now compared to the 2016-17 situation because Bangladesh Bank has injected money, which has made the money market flooded with liquidity, taking the interest rates down the lowest level in history.

The liquid money market did not continue long in 2017. This was because when investment started, the credit growth went up above 16% in the middle of that year. The average lending rate in 2017 was above 12%, which climbed to above 15% in the following year.

Bangladesh Bank's thoughts on interest rate fall

The fall in interest rates were expected, as the main objective of the monetary policy of the Bangladesh Bank was to make money available in the banking system, said Dr Md Habibur Rahman, executive director (research) of the central bank.

Now the money market is over flooded, he noted, adding that the Bangladesh Bank, however, sees no problem with this excessively liquid market as long as it does not fuel inflation.

"Even though inflation is rising, it is not because of money supply. A disruption in the supply chain, and production losses during the pandemic and natural calamity are the reasons," he argued.

The Bangladesh Bank, therefore, is not worried about the excess money supply and the regulator currently does not have any plan to mop up money from the market soon, he mentioned.

"We want money to go to investors and banks will have to be proactive in this case," he said.

He also pointed out that small depositors are the only losers in this money market situation as the return on deposits is far below the inflation rate.

He reassured that the Bangladesh Bank will plan out ways to protect the depositors.

What do economists think?

Interest rates have fallen not only in Bangladesh but all over the world due to the pandemic, said Dr Ahsan H Mansur, executive director of Policy Research Institute (PRI).

There is nothing wrong in this rise in excess liquidity, he said, adding the Bangladesh Bank should let the situation continue.

"We experienced a similar situation in 2016-17 when interest rates came down automatically amid rising excess liquidity.

"The issue is about market mechanisms. There is no need to force the market to bring down the lending rate. It will happen automatically based on money supply," he said.

He added that the demand for loans is low due to the pandemic. "Moreover, foreign exchange reserves are rising amid large inflows of remittance and low import, which also has contributed to the excess liquidity. Let this situation continue as long as it lasts. When imports will start to rise, excess liquidity will automatically come down with adjustment of interest rates."

The Bangladesh Bank should not intervene to dry up money as the current money supply is not putting pressure on inflation, he concluded.