According to the information contained in the statement, the spread, i.e., the gap between the interest rates of the short-term and the long-term Treasury bills is abnormally high in Bangladesh. In the case of the one-year Treasury bill, the annual interest rate is about 8.5%, whereas in the case of the ten-year Treasury bill the rate is about 12.5%. While this gap is around 1% in the properly functioning money market of developed countries, the gap in Bangladesh is 4%. This baffling feature of the money market deserves attention of the Bangladesh Bank.

The gap between the interest rates of the short-term and the long-term Treasury bills is justified by what we call the liquidity premium. By investing savings in any Treasury bill, in the absence of a secondary market, one is practically undertaking a risk of a liquidity crisis, i.e., s/he will not have the savings available in times of need until the invested amount is returned with interest. This risk of a liquidity crisis will be higher in case of a long-term bill compared to a short-term bill. That explains why the interest rate on a long-term Treasury bill is higher than that on a short term Treasury bill. The gap between them is the premium for undertaking the risk of liquidity crisis.

The convenience of the liquidation of a Treasury bill depends on the existence and efficiency of a secondary market for them. The presence of a secondary market for buying and selling Treasury bills will reduce the risk of liquidity crisis, because investors can sell the Treasury bills in their possession to meet their immediate demand for cash. The gap between the interest rates on short-term and long-term Treasury bills will decrease with the development of the secondary market.

The bizarrely high spread in Bangladesh is the outcome of the lack of an effective secondary market for Treasury bills, which is still largely missing in Bangladesh. The Bangladesh Bank should take the necessary steps for developing a secondary market to reduce the high spread. The development of a properly functioning secondary market for Treasury bills can reduce the interest burden of the government by up to 3% on the long-term bills.

The high spread should also be eliminated as it creates other anomalies in the money market. One such anomaly is the big gap between the interest rate on a one-year Treasury bill and a bank deposit. Ideally, there should either be no gap between them, or the former should be slightly lower than the latter, because people may not deposit their savings with the bank as they feel safer buying government securities like Treasury bills. After all, a bank may become bankrupt and cease to exist, resulting in a complete loss of their deposit, but the government of the country will always continue to exist and investment in Treasury bills or other government securities is safe and secured. Therefore, the rate on the Treasury bills may be slightly less than the deposit rate (i.e., interest paid by the bank on the deposit).

Unfortunately, what we see in Bangladesh is quite the opposite. The interest rate of a one-year Treasury bill is about 8.5%, whereas the deposit rate is about 7%. A premium of 1.5% enjoyed by the banks in Bangladesh does not make any sense from the view point of perceived risk of loss of the invested amount. Further exploration of this apparently nonsensical behaviour of our money market shows the importance of the secondary market.

The only explanation for the premium enjoyed by the banks is that deposits in banks are easier to liquidate compared to investment in Treasury bills, in the absence of a secondary market. As a result, Treasury bills are a less preferred substitute for bank deposits. This is why the banks can still collect adequate deposits even by giving less interest on them.

The missing secondary market has both distributive and efficiency implications. As mentioned above, banks currently enjoy a premium of 1.5% over the interest rate on a short-term Treasury bill. The development of a secondary market will gradually redistribute this premium, either to the saver by forcing the banks to increase their deposit rates to compete with Treasury bills, or to the government by enabling it to sell the Treasury bill with an interest rate at par with the deposit rate.

At present, the banks in Bangladesh enjoy an unusually high profit. For example, in March, the lending rate (i.e., the interest charged on loan) was 12.71%, whereas the deposit rate was 7.02%, which means that the banks were making a profit of 5.69% on their loans. This rate of profit is possibly one of the highest in the world. No wonder that so many entrepreneurs are willing to start a bank in Bangladesh.

This high rate of profit enables the banks to operate inefficiently, without requiring any effort to improve their services to the customers or to make them easily available to the people. The development of a secondary market for government securities like Treasury bills will eliminate the premium enjoyed by the banks and, thus, make them operationally efficient. This is the efficiency implication of a secondary market for government securities.

Given the enormous importance of the secondary market for government securities, Bangladesh Bank should take the necessary steps for its development.

Md. Abul Basher is Faculty, Willamette University, USA.