Government Debt Management:
An Introduction to International Sound
Practice
Mike Williams
[email protected]
Yasemin Hurcan
[email protected]
Ministry of Economic Affairs and Finance,
Tehran, August 2016
Outline
• Introduction (Mike Williams)
– What is debt management; what is public sector debt;
and why is it important
• The Governance Framework and the Debt
Management Office (Mike Williams)
– The legal and decision making framework
– Structure and responsibilities of the DMO
• Debt Management Policy and its
Implementation (Yasemin Hurcan)
– Development of the debt management strategy; and
risk management
– Execution of the strategy: the annual financing plan,
instruments and issuance
Outline
Debt Management Policy and Its Implementation
I. Development of a Debt Management Strategy
II. Risk Management Framework
III. Executing the Strategy
–
–
–
–
Annual borrowing program
Choice of instruments
Primary issuance methodologies
Auction process
I. Development of a Debt Management Strategy
Debt sustainability
Medium term debt
management strategy
(MTDS)
Annual borrowing program
I. Development of a Debt Management Strategy
a. Debt sustainability
• What is debt sustainability analysis?
– Assessment of macroeconomic stability,
the long-term sustainability of fiscal
policy, and overall debt sustainability—
(primary balance, growth rate, interest
rate)
• Who should prepare it?
– Macro-fiscal unit – but sharing data and
analysis with debt management unit
I. Debt Management Strategy
b. MTDS
• The Medium-Term Debt Management Strategy (MTDS)
makes operational the agreed high-level debt
management objectives
– Ensuring financing needs are met
– Expressing cost-risk preferences
– Developing borrowing plans strategy that generate
the preferred debt composition, taking into account
constraints
– Implies targets for key risk indicators
(foreign/domestic currency, long/short-term debt,
fixed/floating rates etc.)
I. Debt Management Strategy
b. MTDS Analytical Tool
The analytical tool for illustrating the cost and risk trade-offs
associated with different debt management strategies--What
should be the composition of debt?
• Identify the current debt management strategy and analyze cost and risk
of the existing debt portfolio.
• Identify and analyze potential funding sources, including cost and risk
characteristics.
• Identify baseline projections and risks in key policy areas—fiscal,
monetary, external and market.
• Identify the cost-risk trade-offs, and rank alternative strategies.
• Review implications of candidate strategies with fiscal and monetary
policy authorities, and for market conditions.
I. Debt Management Strategy
b. MTDS-Analytical Tool
Model xls.
Strategy file.xls.
Scenario xls.
Scenario
analysis xls.
I. Debt Management Strategy
b. MTDS-Key Interlinkages
Cost-Risk
Analysis
Macro, market &
other constraints
Information on
cost and risk
Medium Term
Debt Strategy
Formulation
Consistency /
Constraints (eg
sustainability)
Information on
cost and risk
Macroeconomic
Framework /
Debt Sustainability
Budget
projections
Demand constraints /
Pricing factors
Market
development
Desired initiatives
Financing
instrument
composition
Sources / Market
Annual
Borrowing
Plan
Development
Market
development factors
II. Risk Management Framework
• Modern risk management techniques are important tools
for achieving strategic debt management objectives and
targets.
• Risk management function now a central feature of all
modern debt management offices.
• The increased requirement for transparency of
government operations also includes a requirement to
monitor and report on the risks inherent in the debt
portfolio i.e. market risk.
• Risk framework should manage trade-offs between cost
and risk of the government debt portfolio.
• Should also take account of other fiscal risks such as
contingent liabilities, in particular, government
guarantees.
II. Risk Management Framework
Risks Encountered in Debt Management
Risk management is about identifying and assessing risk factors, and
deciding whether and how to respond to them and mitigate their impact.
Among the risks managed by debt managers are:
– Market risk: The risks associated with changes in market prices, such as
interest rates and exchange rates as well as risks from roll-over risk and
liquidity risks.
– Credit Risks: It refers to the risk of non-performance by borrowers on loans
or other financial assets or by a counter financial contracts.
– Operational Risks: refers to range of different types of risks including
transaction errors in the various stages of executing and recording
transactions, inadequacies or failures in internal controls, or in systems and
services, reputation risk, legal risk, security breaches, or natural disasters
that affect the debt manager’s ability to pursue activities required to meet
debt management objectives.
II. Risk Management Framework
a. Credit Risk—Identifying and Analyzing the Risks
from Guarantees
• For guarantees and similar
obligations, the first goal
should be to estimate
maximum loss
• Expected outcomes can be
estimated, taking account of
probabilities e.g. historical
loss data
• Sensitivity and scenario
analysis (including stress
tests) help understand the
risk
II. Risk Management Framework
b. Mitigating Risks from Guarantees
Mitigating risks from guarantees:
– Avoid risk e.g. reduce government
ownership; no unsolicited PPPs;
– Share risk e.g. guarantee fees
– Cap risk e.g. limit on guarantee exposures;
upper limit on government insurance
– Create financial buffer e.g. reduce debt;
contingency reserve
– Publish these risks transparently in public
accounts and reports
III. Executing the Debt Management Strategy
Annual Borrowing Program
• Based on MTDS and prepared for one year
• Indicates the timing of issuances of the
borrowing instruments (issuance calendar)
– Taking account of other known debt-related flows,
and profile of cash flows across the year
• Market expertise—communication with
markets is important to implement the
annual program
III. Executing the Strategy
• Sovereign debt management offices develop market-driven,
proactive strategies to support government activity in the primary
and secondary fixed income markets.
• The efficiency and liquidity of a primary and secondary
government bond market is based on several factors, such as:
(i)
(ii)
(iii)
(iv)
(v)
a clear and transparent debt management execution
strategy;
a solid regulatory and legal framework;
an efficient and resilient trading infrastructure (well
functioning systems for trading, clearing, payment and
settlement);
diverse financial intermediaries and investors (a
combination of banks and institutional investors, both
domestic and international); and
an open communication strategy explaining the debt
management strategy, to provide clarity and
predictability on primary issuance.
III. Executing the Strategy
Choice of Instruments
Domestic Debt
External Debt
Medium - Long
Term
Short Term
Medium - Long
Term
Planned
Unplanned
Non-Marketable
Marketable
Marketable
Non-Marketable
Treasury Bills
Bank Advances /
Arrears
Retail
Bonds
Bonds
Loans and Credits
– Indicate intention in the MTDS
III. Executing the Strategy
Debt Instruments-Securities
Domestic
• T-Bills
•
T-Bonds
by maturity and type of interest(*)
Sukuk—based on asset-backed or asset-based
contracts
Foreign
•
•
Eurobond etc.
International Sukuk
(*) By payment of interest: zero coupon, fixed coupon, floating,
inflation indexed etc.
III. Executing the Strategy
Debt Instruments-Sukuk
Islamic Finance instruments are contract based and may be classified into
three broad categories(*):
1. Debt-like financing structured as sales, which could be sales with mark up
and deferred payments (Murabahah) or purchases with deferred delivery of
the products (Salam for basic products and Istisna’ for manufactured
products), and lease (Ijārah) with different options to buy. Pure lending is
allowed only when benevolent (Qard, which is often used for current
deposits);
2. Profit-and-loss-sharing (PLS)-like financing with two modalities: (i) profitsharing and loss-bearing (Mudarabah) whereby the financier (investor, bank)
provides capital and the beneficiary provides labor and skills (profits are
shared, but losses would be borne by the financier who does not have the
right to interfere in the management of the financed operation, unless
negligence, misconduct, or breach of contract can be proven); and (ii) pure
profit-and loss- sharing (Musharakah) where the two parties have equity-like
financing of the project and would share profits and losses; and
(*) Islamic Finance: Opportunities, Challenges, and Policy Options, IMF, April 2015.
III. Executing the Strategy
Debt Instruments-Sukuk
3. Services, such as safe-keeping contracts (Wadi’ah) as for
current, or agency contracts (Wakalah), which are also
increasingly used for money market transactions.
• The most common sovereign Sukuk is Al-Ijara
• Other Sukuk instruments used by governments:
Malaysia: Sukuk Al-Wakala
Bahrain: Sukuk Al-Salam (with a 91 days maturity)
Sudan: Government Musharaka Certificates (GMCs)
called Shahama which are Musharaka (participation)
certificates.
III. Executing the Strategy
Primary issuance methodologies
Auctions
– The winning bidders are allocated securities at yield (price) they bid-multiple price auction; or
– All the winning bidders are awarded securities at highest yield
accepted by government--single price auction
Syndications (*)
– DMO will find a group of banks to underwrite its bond issue and sell
those bonds to investors.
Tap
– Tap is a procedure that allows borrowers to sell bonds or other short
term debt instruments from past issues. The bonds are issued at their
original face value, maturity and coupon rate, but sold at the current
market price.
(*) Private Placement: In some instances, investor demand in a particular tenor (normally
in the longer maturities) may not be in sufficient volume to launch a new offering. In these
cases, private placements can be arranged to suit investor demand.
III. Executing the Strategy
Auction Process
Auction announcement
DMO
Bidding (Participants incl. banks,
households, institutions)
Through Central Bank or systems in treasuries like
TAAPS in US
Decision taken by DMO
DMO
Announcement of auction results
DMO
Settlement