A few years ago, I wrote about why Bangladesh needs an efficient capital market. My argument was that a modern economy cannot rely predominantly on banks to mobilise and allocate capital. We need a capital market that can channel long-term savings into long-term productive investment. In this writing, I will focus on a part of that capital market deserves much greater attention: the bond market.
Bangladesh has made considerable progress in developing its government securities market. There is now a sizeable stock of Treasury bills and bonds, and there has been increasing interest in corporate debt securities. But having bonds is not the same as having a functioning bond market. In a functioning bond market, bonds are easily tradable. The spread between the bid and ask price of a bond in the secondary market is small.
A developed bond market is not a luxury for a middle-income economy. It is an essential component of a modern financial system.
The most important reason is simple: Bangladesh relies too heavily on banks to finance its economy. Banks are indispensable to any economy. They are particularly important for financing working capital, trade and many forms of business lending. But they are not designed to be the only source of long-term capital.
When companies finance long-lived assets primarily through bank loans, the banking system must transform relatively short-term deposits into longer-term loans. This creates maturity risk for banks and refinancing risk for borrowers.
A functioning bond market provides an alternative. A company building a factory, power plant or infrastructure project can raise long-term debt directly from investors. Instead of borrowing entirely from banks, it can obtain financing for five, ten or even twenty years from investors whose investment horizons are similarly long.
This is a much more efficient way of financing long-term investment. The distinction is particularly important for Bangladesh because our economy needs enormous amounts of capital for infrastructure, manufacturing, energy, logistics, housing and other productive investments. The banking system alone cannot efficiently provide all of this capital.
The bond market is not only about borrowers. It is equally important for investors. A modern financial system should provide savers with a range of investment choices based on their risk tolerance, investment horizon and income requirements. For someone who wants predictable income and relatively low risk, equities may not be appropriate. Bank deposits provide an alternative, but they are not the only option.
Government and high-quality corporate bonds can provide investors with predictable contractual cash flows while allowing them to choose different maturities and levels of credit risk. This is particularly important for institutional investors. Pension and provident funds, insurance companies and mutual funds have long-term liabilities or long-term investment horizons. They naturally need long-duration fixed-income assets.
Without a developed bond market, these institutions have very limited opportunities to match their assets with their liabilities. The development of the bond market and the development of institutional investors should therefore go hand in hand.
There is another reason the bond market is critical: it provides the foundation for pricing financial assets throughout the economy. Government securities should establish the risk-free yield curve—the market’s assessment of the cost of money across different maturities.
If investors can observe reliable market yields for one-, five-, ten- and twenty-year government securities, they have a benchmark against which they can evaluate corporate bonds and other investments.
For example, a five-year corporate bond should offer a yield higher than a five-year government bond because the corporate issuer carries credit risk. The difference between the two yields provides a market-based measure of that credit risk. This process of price discovery is essential for allocating capital efficiently.
Without a functioning bond market, interest rates and credit spreads are often determined administratively or through individual negotiations between banks and borrowers. That makes it much harder to determine the true market price of capital and credit risk.
This is where we need to distinguish between having bonds and having a bond market. Bangladesh has a substantial stock of government securities. But much of it is held by banks and Bangladesh Bank, while secondary-market trading remains very limited.
According to the IMF, more than 80% of government securities are held by the banking sector, including Bangladesh Bank, while secondary-market transactions account for less than 3% of outstanding securities. This is a major weakness.
A bond becomes much more valuable to an investor when the investor knows that it can be sold before maturity at a transparent market price. Imagine buying a ten-year government bond. If you know that you can sell it tomorrow whenever you need the money, you may be comfortable making a ten-year investment.
But if there is effectively no liquid secondary market in which you can sell it, you are making a ten-year commitment. Liquidity therefore has economic value.
The same principle applies even more strongly to corporate bonds. Investors will be reluctant to lend to a company for five or ten years if they have no practical way of exiting the investment before maturity.
This creates a vicious circle. Limited secondary-market liquidity discourages investors. Limited investor participation discourages companies from issuing bonds. Limited issuance reduces the incentive to create liquidity. We need to break this cycle.
The government bond market should be the foundation of Bangladesh’s entire fixed-income market. The government securities market needs sufficiently large benchmark issues across different maturities so that investors and dealers have securities that can actually trade.
The recent initiatives by Bangladesh Bank to strengthen Treasury bond reissuance and reform the Primary Dealer system are steps in the right direction.
But the ultimate test should be simple: Can an investor buy or sell a government bond quickly at a transparent market price? If the answer is no, the market is not yet doing its job.
Primary dealers should have both the incentives and the balance-sheet capacity to make two-way markets. Trading and pricing information should be readily available. An efficient electronic trading platform should eventually allow investors to see market prices, yields and trading volumes and execute transactions efficiently.
A bond market dominated by banks is not a genuinely diversified capital market. The investor base should include mutual funds, insurance companies, pension and provident funds, corporations, high-net-worth individuals, retail investors and, eventually, foreign investors.
Different investors have different investment horizons and risk preferences. That diversity is essential for liquidity and price discovery.
Savings certificates serve an important social purpose and should not necessarily be eliminated abruptly. But from a market-development perspective, it is difficult to justify having a large parallel system of government borrowing instruments that are not marketable and whose returns are administratively determined. Over time, retail government bonds could provide an attractive alternative.
Ordinary savers should be able to buy government bonds in small denominations, hold them to maturity if they wish, or sell them when they need liquidity. This would simultaneously broaden the investor base and deepen the bond market.
A liquid government securities market is necessary, but it is not sufficient. Ultimately, the economic value of the bond market will depend on whether companies can use it to obtain long-term financing.
Corporate bond issuance in Bangladesh remains difficult and expensive compared with bank borrowing. If a company can obtain a bank loan more quickly and with less regulatory complexity than issuing a bond, it is perfectly rational for the company to choose the bank.
The regulatory process therefore needs to become simpler, faster and more predictable. Documentation can be standardised. Unnecessary costs and procedural delays can be reduced. Approval timelines should be clear.
But there is an important caveat: simplifying issuance should never mean weakening investor protection.
A bond is fundamentally a contract. Investors provide money today in exchange for promised payments in the future. They must have confidence that those contractual rights will be enforceable.
Perhaps the biggest obstacle to a vibrant corporate bond market is the lack of confidence that investors will be adequately protected when an issuer defaults. A developed bond market does not eliminate credit risk. Nor should the government protect investors from losses resulting from poor investment decisions. What investors need is something more fundamental: accurate information, enforceable contracts and predictable legal procedures.
Bond covenants must be meaningful. Trustees must be accountable. Financial disclosures must be timely and reliable. Credit ratings must be credible.
And when a company defaults, bondholders must have a clear and reasonably quick mechanism for enforcing their rights. If a company can default on its bonds and investors have to wait years for an uncertain recovery, investors will naturally demand very high returns—or simply avoid corporate bonds altogether. A healthy bond market requires both the freedom to take credit risk and the discipline of consequences when that risk materialises.
There is a broader reason why this reform matters. Bangladesh’s experience has shown the dangers of concentrating too much financial intermediation within banks.
When banks are expected to finance businesses, infrastructure and long-term investment while also dealing with weak governance, poor credit discipline and maturity mismatches, problems in the banking sector can become problems for the entire economy.
A functioning bond market would distribute financial risk more broadly. Banks could concentrate on activities for which they are best suited, while institutional and individual investors could directly assume the risks of long-term lending according to their own preferences. This would make the financial system more resilient.
Developing the bond market does not require an extraordinarily complicated policy framework. It requires consistent implementation of a few basic principles.
First, build a liquid government securities market. Create benchmark issues, concentrate liquidity in sufficiently large securities and strengthen the Primary Dealer system.
Second, develop a genuine secondary market. Encourage market making, ensure transparent price dissemination and develop efficient electronic trading infrastructure.
Third, broaden the investor base. Encourage mutual funds, insurance companies, pension and provident funds and retail investors to participate meaningfully.
Fourth, develop retail government bonds. Give ordinary savers easy access to marketable government securities in small denominations.
Fifth, gradually reduce dependence on non-tradable government borrowing instruments. Where social objectives require support for small savers, provide targeted assistance rather than distorting the broader market.
Sixth, make corporate bond issuance easier. Reduce unnecessary costs and procedural complexity while maintaining strong disclosure requirements.
Seventh, strengthen investor protection and default resolution. Investors need confidence that their contractual rights will be enforced.
Finally, develop a coordinated long-term strategy. Bangladesh Bank, BSEC, the Ministry of Finance, IDRA, NBR and other relevant institutions need to work toward a common objective rather than treating bond-market development as a collection of separate regulatory initiatives.
Developing the bond market is not an objective in itself. The objective is to create a financial system capable of efficiently transforming Bangladesh’s savings into productive investment.
We have spent decades discussing how to make our stock market bigger. That is certainly important. But the more fundamental question is how Bangladesh can create a financial system in which companies have access to the right type of capital, investors have appropriate investment opportunities and financial risks are distributed efficiently.
Banks will remain at the heart of our financial system. The equity market will remain important for risk capital. But neither can substitute for a developed bond market. A modern economy needs all three.
Bangladesh already has the savings, the borrowers and a growing institutional investor base. What we lack is a sufficiently deep and liquid marketplace connecting them. That is why developing the bond market should not be treated as a narrow capital-market reform. It should be a national financial-development priority.
Author is the CFA, CFO of VIPB Asset Management Company. The views expressed in this article are solely those of the author.
