Bangladesh Bank -- that is, the central bank for the country -- has been lending money to the commercial banks. Which will seem odd to most people.
We deposit our money in the bank, the bank lends that money to people who want to borrow, and this is how the system works.
So, why is the government lending to the banks? This seems, well, odd really.
The answer is that our banking system -- and this is not restricted to Bangladesh, this is true of everywhere -- has a weakness in it. The system is called “fractional reserve banking” and just by the way it works, there is this weakness.
Yes, we deposit money in the bank and the bank then lends it out. There is an alternative explanation called “modern monetary theory” which is interesting but doesn't really change reality -- there the banks lend money then find deposits to fund the loan.
For we can go to the bank and get our money back any time we like. Well, as long as the bank is still solvent that is, which a number of Bangladeshi banks are not, which is why people cannot get their deposits back at the moment.
But the bank cannot get the loans back in the same way. We lend money to the bank “on demand,” we get our deposit back any time we roll up and demand it.
But the bank lends the money out for a year, or five, or a 30-year mortgage. They can’t ask for it back before that contract term is up.
This is where the “fractional reserve” part comes in. The bank keeps some of the deposits in cash so that they can pay out people who ask for their money back.
How much this reserve is varies. But the idea is that sometimes people will deposit more, sometimes withdraw more, so keep some cash around to pay them out.
This is fine and normally works very well. The benefits of it working very well more than make up for the problems when it doesn't.
For what happens when more people than usual ask for more of their deposits back? That reserve gets exhausted and no one else can get their money back. The bank cannot call in its loans because of those contractual terms. Then, well, that's a problem.
The answer is that the central bank lends money to the banks that need cash. But as Walter Bagehot, a British economist of the 1850s, pointed out, the central bank should lend freely but at penal interest rates.
Sure, make sure the banks don't go bust, but make sure the shareholders and management feel the pain of not having a large enough reserve.
Bagehot added one more thing -- the central bank should only lend against good security. That is, that the loans out by the banks needing the cash money should be good loans that will be repaid.
As you know, this is not true of some Bangladeshi banks currently. Too much was lent upon political grounds in recent years.
The reason the central bank is lending to banks is that this is one of the duties of a central bank. To lend to good and sound banks who are temporarily short of cash.
And, also, not to lend to bad and unsound banks of course.
One of the biggest problems in that interface, that confluence, between banking and politics is making sure that the central bank only does the good and necessary part here and doesn't do the bad and unsound part.
Which is, as I've noted here before, why political control of banking is such a bad idea because that selection between good and bad just does end up being defined by politics, not the soundness of the bank.