© 2014 Research Academy of Social Sciences http://www.rassweb.com 143 International Journal of Empirical Finance Vol. 2, No. 4, 2014, 143-151 Liquidity-Profitability Relationship in Bangladesh Banking Industry Afia Akter 1 , Khaled Mahmud 2 Abstract This study explored the relationship between liquidity (measured as current ratio) and profitability (measured as return on assets) in the banking industry in Bangladesh. We have considered twelve banks in four different sectors (Government banks, Islami banks, multinational banks and private commercial banks). We tried to figure out how much liquidity of a bank can explain its profitability. We ran linear regression to find out the extent of relationship between bank’s liquidity and profitability (significance level was 10%). Individually all the sectors show no significant relationship between liquidity and profitability. Even the overall banking industry shows the same result. We considers year just before recession (2006) to post-recession (2011). We showed graphically how liquidity and profitability of these sectors varied over last couple of years. Government banks showed variable liquidity, while other sectors were steady. But, there were much fluctuations in profitability in between these times in all the sectors. Finally, we concluded that based on our sample and category, there is no significant relationship between liquidity and profitability in banks of different sectors in Bangladesh. Keyword: Liquidity, Profitability, Relationship, Bangladesh, Banks. 1. Introduction Banking is one of the most sensitive businesses all over the world and they are playing very important role in economy. They do influence and facilitate to integrate the economic activities like resources mobilization, production activities, distribution of public finance, and often social wellbeing. Banking Sector of Bangladesh consists of private commercial Banks, islami banks, multinational bank, government banks, and the Central Bank of Bangladesh. Liquidity and profitability are two very crucial issues that organization’s management always considers evaluating the financial health of the company. There is an extensive body of literature that seeks to identify the determinants of financial performance of banks. Hultman and McGee (1989), and Peek et al. (1999) focus on the understanding of foreign bank’s performance in a particular country. In contrast, John (2004), and Khalid (2006) report the determinants of growth and bank’s profitability. It is widely acknowledged that liquidity is one of the driving factors affecting the likelihood of a bank failure (Arena 2008). Liquidity is a measure of the availability of cash for use in the day to day business. A liquid asset is one that is cash or can easily be turned into cash. Liquidity plays a crucial role to both the internal and external analysts because of its close relationship with day-to-day operations of a business (Bhunia, 2010). Weaker liquidity position poses a threat to the solvency as well as profitability of a firm and makes it unstable (Niresh, 2012). 'Current ratio' and the 'quick ratio' are two common measures of the liquidity of a company. Usually a high current ratio is considered to be an indicator of the firm's ability to promptly meet its short- term liabilities. Profitability is a measure of the amount by which a firm’s revenues exceeds its relevant expenses (Niresh, 2012). It is the potential of making profits that encourage entrepreneurs to take risks to invest in a 1 Assistant Professor Department of Business Administration Northern University Bangladesh 2 Assistant Professor Institute of Business Administration University of Dhaka Bangladesh