The government aims to borrow more from the domestic sector at fixed rates and for longer periods and cut reliance on Treasury bills with a view to keeping debt risks lower and avoiding exchange rate volatility.

Although the risk posed by the ballooning debt is still moderate for Bangladesh, the exchange rate risk has heightened over time owing to its growing reliance on foreign loans, a government paper said.

This has prompted the government to rethink about its borrowing strategy.

According to the government's Medium Term Debt Management Strategy, the risk emanating from the existing debt portfolio is moderate primarily because most loans are denominated in the local currency while external loans have a long maturity period.

The domestic debt is, however, more expensive than external loans, it said. In the last financial year that ended on June 30, the weighted average cost of funds was 1.4 percent for external loans and 9.6 percent for domestic credits.

The data on Bangladesh's debt portfolio from the fiscal year of 2006-07 to 2022-23 highlights the shift in the composition of the total debt and the factors influencing it.

The total debt as a percentage of gross domestic product decreased from 35.9 percent in FY07 to 26.2 percent in FY17. There has been an upward trend since then, reaching 36 percent in FY23.

At the end of the just-concluded fiscal year, domestic debt is projected at 56 percent while the remaining is external debt.

The higher refinancing risk associated with domestic debts due to its shorter average time to maturity (ATM) and a higher percentage of debt maturing within a year (30.7 percent) indicates the necessity to further extend the maturity profile.

ATM is defined as the average remaining time to maturity for each security or contract composing a debt instrument, a commonly used measure for assessing interest rate sensitivity.

While a substantial portion of the debt has been secured at fixed rates, the shorter average time to refixing is 3.8 years for domestic debts compared to 8.8 years for external debts.

"This suggests that domestic debt is more vulnerable to interest rate fluctuations," said the document. The average time to refixing is a measure of weighted average time until all the principal payments in the debt portfolio become subject to a new interest rate.

"Strategies should, therefore, aim to increase the proportion of longer-term fixed-rate domestic debt."

Bangladesh's economy has grown at a faster pace over the past decade and a half, and the government plans to accelerate it.

In order to achieve the goal, the pace of investment in soft and physical infrastructure needs to pick up. Since revenue collections are not enough to cover the much-needed investments, Bangladesh has resorted to deficit financing, in line with standard practices around the world.

Sourcing this necessary financing through external as well as domestic sources is always competitive, the document said.

It said due to the terms of trade deterioration because of the war in Ukraine, Bangladesh's foreign currency reserve has come under severe pressure.

The gross reserves stood at $21.99 billion on Thursday, down from $41.7 billion in August 2021. 

"The need to keep financing the growth-inducing investments and continue the reform in the fiscal sector with a keen focus on maintaining the debt sustainability is an imperative now," the document said.

The government has identified four alternative financing strategies, and they are being considered to cover the financing needs from FY24-25 to FY26-27.

Strategy 3 is the most preferred considering the cost and risk of new debt as it puts more emphasis on domestic market development, it said.

It examines an expansion in the issuance of medium-term and long-term T-bonds, consistent to support the development of the securities market.

The government has targeted to bring down the external debt to 16.7 percent of the total loan in FY27 from 22.9 percent in FY25. On the other hand, it aims to raise domestic debt to 83.3 percent in FY27 from 77.1 percent in FY25.

The share of T- bonds in gross financing needs to increase from 21.9 percent in the new fiscal year to 48.3 percent in FY27. The stake of T-bills will go down from 39.3 percent to 22.2 percent during the period.

The government is aware that as the liquidity position in the financial market remains tight, there will be some challenges to implement the strategy.

"The government will pursue external investment in the domestic debt market to alleviate the pressure," the paper said.

As per strategy, the government does not plan to issue any international sovereign bonds.

"The government's objective is to maintain the reforms already in place and plan and implement others as and when practicable."