Nadezhda Ivanova
Long-term borrowing in international and domestic finance
markets
Abstract
The paper deals with and assesses long-term and short-term borrowings
in the international and domestic markets.
The first part of the work presents a study of municipal debt:
bonded and credit financing in the international and domestic markets.
As the international market1 the Euromarket is considered, and as the
borrower — Administration of St.-Petersburg City regarded as a subject
of Russian Federation. The purpose of the present study is to determine
and carry out a comparative analysis of cost of the alternative methods
of financing applied by the Russian borrowers, and to reveal economic
forces that have an effect on the cost. Here we use an ex post analysis.
In the second part of the study, we shall consider not only
municipal borrower, but also any borrower, who comes to the
1
The intenational finance market consists of euromarket and foreign market.
1
international and domestic financial markets. Further we shall present
the change in interest rates and exchange rate as a function, and that will
permit us to forecast the changes in these values for some time ahead.
The changes in the economy of our country enabled the Russian
borrowers to expand the money market and the financial market, gave
access to the international markets. Various forms of financing became
available to the borrowers, thus permitting them today to select the
method of attraction of money resources would require the lowest costs.
There are two types of financing, i.e. from a bank and from sources
other than banks. By selecting the method and the tools for attraction of
money resources, the borrower orients himself with respect to the cost
of the loan. In case of bank crediting he is interested to know what is the
interest rate under the credit, and in case of non-bank borrowing the
yield of the bonds is important as well as the cost of accommodation.
The borrower compares the complete costs of these two types of
financing and decides on the most favourable currency for attracting the
money. Proceeding from this, he goes to the domestic or international
markets.
The study covers the period from middle 1994 to August 1998,
and the changing situation in the economy of Russia over that period.
The beginning of that span of time may be characterized as the period of
financial market coming to be and unstable economic situation in
country, the middle — a comparatively stable state with low rate of
inflation and controlled exchange rate, and since 1997 activity in the
financial markets of the country had been fading, that process being
2
accompanied by collapses of the capital market and shocks in the bank
system.
In this paper we also consider a concrete example of municipal
Eurobond issued by the city of St.-Petersburg in June 1997 and study
value of a loan in a domestic market and of Eurocredit. The analysis of
the finance-credit market gives a clear idea of the particular features of
position of Administration of St.-Petersburg as concrete borrower.
The internal debt of the city as at 01.01.1998 is 2,289,400
thousand rbl. (Municipal Short Bond, MSB— 1,915,000 thousand rbl.),
the external debt as at the same date is 1,768,600 thousand rbl. At the
end of the year these parameters are expected to be respectively
2,031,186 (MSB — 1 822 100 thousand rbl.) and 2,026,814 thousand
rbl. We therefore see that during this year the structure of borrowing
will change, and by the beginning of 1999 the volumes of money
resources of external and internal financing will be approximately equal.
After the city administration will have selected the target structure of
the debt, they will have to determine the best way to attract the money.
It will be necessary to decide as to the market (the national market or
Euromarket) and the money attraction instruments to be used. The
administration of city can obtain a money credit from financial
institutions in the internal or external money markets, or either issue
bonds in the internal financial market or Eurobonds in the external. In
the paper we discuss in detail the characteristics and particular features
of each of these methods, study actual concrete issues of the bonds and
eurobonds of the St.-Petersburg city and compare these with
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hypothetical credits, which could be obtained by city during the period
in question, proceeding from the market conditions.
Among such factors we rate the reasonable expectations of the
economic agents concerning the future rates of the exchange and
interest rates, and effect of these expectations on the cost of long-term
financing, effect of currency policy.
1. Methods of and terms for bonded and credit financing in
home market in international markets
1.1 Medium-term credit
The credits differ as to the form of granting of money: either one-time
transfer of money or a revolving credit line. The prevailing method in
the credit market is the medium-term credit on a revolving basis at
floating interest rate. The rate changes every time the credit is renewed
and it is adjusted in accord with the market conditions. For this reason
the term of eurocredits granted at a fixed rate (including the revolving
credits) usually does not exceed a year.
The main principles of international crediting are based on the
following: to determine the volumes of prospective credits, to
substantiate the purposes which these credits are intended for, to
determine the terms of the credits, to determine the risks connected with
the credits.
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As distinct from the home financial market, the following
additional risks exist in the international market:
-
political (specific for a certain country) risk
-
exchange risk, (this kind of risk is also present in the national
market in case a borrower obtains a credit in a foreign currency)
-
interest risk connected with change in the course of time of the
difference between the rates under the credit in the internal and
international market.
In order to eliminate the exchange risk, the practice of
concluding forward contracts for currency is used in the international
market of credits. To decrease the political risks obligatory rules have
been laid down for the borrowers who come to the international market,
among which is the obtaining an international credit rating. To eliminate
the interest risk the revolving credit and stand-by credit contract types
are used.
In a case of stand-by a bank binds himself to grant the borrower
a stipulated sum for the whole contract term of use, which is divided
into short periods (3, 6, 9, 12 months). For each of them a floating
interest rate is fixed, which is revised with allowance for LIBOR
dynamics in the market of Euro-currencies. This enables to grant
medium- and long-term credits, using short-term resources.
In case of revolving credit, Eurocredits are issued on different
conditions.
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1. For crediting of investments a bank usually grants the credit sum all
at one time after the conclusion of agreement or after a certain time. The
credit repayment is effected at one time or by installments.
2. The most commonly used is the revolving credit which provides a
maximum limit, within which the borrower has a right to obtain a credit
in the amount he needs at the beginning of each intermediate term of the
credit use. The debt servicing is carried out partially or completely.
3. The dates of revision of the interest rate and volume of the loan
realized quarterly or semi-annually or annually within the limits of the
set term (from several months to 10 years and over) are fixed in the
credit agreement.
4. The revolving credit is a credit of a specific kind: it entitles the
borrower in case of necessity to obtain a credit during the whole
contractual term.
Let's consider the interest rate, on which the borrower obtains a
credit in the home market.
In case of uncovered financing effective cost of the rouble credit
is equal to nominal value it of cost and can be determined as erRR = nr R
(Harris J. M.,1996) where er
— the effective interest rate, nr R —
nominal interest rate on the credit, the character R denotes the ruble
credit.
The cost of this credit can be compared then to value of a loan
obtained in Euromarket brought to a rouble equivalent determined from
the formula:
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er$R = (1 + r $ )(1 + e$a ) − 1 ,
(1)
Where er$R — the effective rouble interest rate under the rouble credit
for the borrower, r $ — nominal interest rate on the credit, e$a —
expected change of the exchange rate. And e$a =
SR1a − SR0
, where
SR0
SR1a — an expected exchange spot a rate at the moment “1”, and SR0
— an exchange spot a rate at the moment “0”. The values r $ and e$a are
taken as tenth fractions.
In case of covered financing in order to determine the effective
interest rate, the following formula should be used:
er$R = (1 + r $ )(1 + f $ ) − 1 ,
(1’)
where f $ — forward differential determined from f $ =
FR1 − SR0
,
SR0
where FR1 is the forward rate.
For a long credit (when term of over 1 year) it is necessary to consider
the discounted value (Sharp Y.F., 1997), then the current cost of money
stream for the borrower caused by the credit is determined by the
formula:
n
NPV = F − ∑
t =1
NCFi
(1 + ri ) t ,
(2)
where F— is the nominal volume of the credit in dollars, NCFi — net
cash flow on the interest payments under the credit according to change
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of a loan value, ri
— the discount rate (cost of the capital for the
emitter) for each year.
1.2 Issue of the municipal bonds.
Issue of the bonds is one of the forms of capital borrowing. The bond
yields income only within a strictly determined indicated term. The
issue of the bonds by municipality in internal and in the external market
is carried out in compliance with the legislation of the country and the
local laws. One of classes of securities circulating in the financial
markets, are the liabilities of state institutes.
Public bond is a bond under which the borrower (the state)
guarantees to the lender (the investor) to repay the amount invested after
a certain period has expired, and to pay the yield. Sources of the yield
under the bonds can be interests paid on them, (coupon payment), as
well as difference between the price they were bought at and the
nominal price, at which the bonds are redeemed by the emitter.
The municipal bonds are securities of local government bodies
and are intended for financing of various public projects. These bonds
are long-term and have coupon payments. The payment of interests and
redemtion of the capital amount of the debt is usually made from tax
receipts of the municipality. A distinctive feature of these bonds is that
the yield obtained on them in the form of percentage payment not liable
to income tax paid by natural persons and profit tax paid by legal
persons.
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A feature of issue of the bonds by a city is the increase of a
financial burden on the local budget and, in the end, on the population
of city. Unreasonable issue of bonds would most probably lead to
additional charges of the population without adequate increase of their
well being, while a correctly designed issue allows to distribute
proportionally the financial load connected with service of the debt
among the direct recipients of the benefit.
As to the criterion of security the bonded loans are subdivided:
1. Secured bonds
-
Mortgage bonds, lien bonds
-
Equipment bonds or notes
-
Collateral trusts bonds
2. Unsecured bonds or debentures.
In vast majority of cases the municipal bonds are unsecured bonds.
The following kinds of the unsecured municipal bonds are
distinguished:
1. The bonds under the General Obligation bonds, G.O., which, as a
rule, are issued for the purpose of financing profitless projects (for
example, for financing of public infrastructures). This kind of bonds is
the most reliable and implies full responsibility of the emitter: he binds
himself to repay the debt at the expense of all sources available
accessible to him, i.e. tax receipts, sale of the real estate, etc. Since the
payment of the debt under G.O. can considerably affect the living
standard of the whole city population, for example, in USA many states
have the laws limiting the size of G.O. that may be issued by city. Other
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states provide for voting organized among the population of city
concerning the issue of G.O.: approximately in one of three cases the
voting results in refusal of the public to support the issue of G.O.
2. The bonds under the income from a project (revenue bonds) are
applied for financing of significant projects, with clear prospects of their
yield when it is impossible to identify in advance the future consumers
of the boons that would result from its implementation. A kind of the
bonds is specially distinguished that are issued in order to mobilize
resources for construction or updating of production facilities (industrial
revenue bonds), the yields on which would permit to redeem the loan.
Conditions issue of this type of the bonds can provide for that under
certain circumstances operation of the business is transferred to the
holders of these bonds.
3. The bonds under the special tax (special tax bonds) or revenue bonds
are issued for financing of infrastructures which, as distinct from the
bonds under the income from a project, have a specific circle of users
(airports, toll roads and bridges, garages, water purification facilities
etc.). When these bonds are isued an essential condition for the
prospects of the issue is the algorithm of setting the rates of payment
(tax) for use of the infrastructure object in question.
4. The bonds with a surplus fund are issued by city authorities who
undertake to maintain the debt service fund so that it would not fall
below the level of annual payments.
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5. The bonds secured by "moral" obligations of city are the bonds, on
which the emitter does not guarantee redemption, but bind themselves
to do “everything in their power” to redeem these bonds.
Acceptability of such an "unsatisfactory" backing as "moral"
obligations demonstrates the power of the established practice of
business dealing and high evaluation of what is called "one’s good
name". In foreign manuals on share market the following rule is given
as a comment to this situation: «The cost of objects that secure the
emitter’s borrowing is practically not of interest to the investor – the
investors are more intersted to know the ability and the willingness of
the borrower to pay ". Besides the listed kinds of municipal bonds there
are also other, for example:
— bonds increasing tax receipts;
— bonds for development of "special areas" (USA);
— short-term bonds to cover cash breaks of the budget etc.
Under the bonded loans the emitter bears responsibility only
within the volume of sources of redemption settlement indicated at
issue. For that reason when municipal obligations are issue serious
attention is paid to determine precisely the sources of redemption of the
loan, i.e. all sources of income; income from the project; income from
sale of the certain real estate; income from of the tax planned to be
introduced; existing tax receipts or combination of all the options.
Nevertheless, the majority of municipalities repay their debts
from other sources as well in order to maintain their reputation of a
honest borrower and to avoid the fall of their rating.
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In some countries there are requests and restrictions to issue of bonded
loans by municipalities. Among these:
— issue of bonds for attraction of funds for public needs only;
— limitation of volume of borrowing by a city (usually, as a
percentage of the incomes of the city or of the ratable value of
the city);
— providing the public with detailed and true information
necessary to estimate the risk of investment of means into the
municipal debt bonds.
Often, to make the bonds not liable to taxation, it is necessary that they
should meet certain requirements, for example, the attracted money to
be intended for public purposes — the investment should be to the
benefit of population of a certain area, not just to some of the citizens or
of the enterprises. In practice of USA there are limitations on purchase
of the bonds or guarantee issued by banks to certain kinds of municipal
valuable papers. Quite often municipal bonds are issued so that the
emitter has the right to redeem the issued bonds before the redemption
date.
The main subjects involved for issuing of the municipal loans
1. Emitter
A city or a special area that has the legal right to issue liabilities.
General debt policies of the city, plan of the investments, actual and
planned money flows streams and legislation of the country determine
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the actions of the emitter when issuing bonds. In some countries there
are federal laws, which lays down the procedure of and standards for
issue of securities, in other, the local authorities have wide rights and
independently establish appropriate laws on issue of securities.
2. Financial adviser (consultant)
Adviser whom the city administration engages for assistance in
development of financial plan of the city. He helps the emitter to
determine his financial necessities and identify priority levels, and also
helps to develop alternative ways of financing the emitter’s program.
The functions of a financial adviser may include:
a) Help to the emitter in selecting the underwriter and protection of the
emitter’s interests in the course of negotiations with the underwriter;
b) Help in determination of structure of the bonded loan and schedule of
payments;
c) Preparation of documents under the loan, submission of these to the
rating agency.
3. Underwriter
Underwriter is an investment bank that ensures primary accommodation
of securities of the emitter.
When large-scale projects are financed and credited one bank can
not bear responsibility for the whole of the issue because of the large
volumes of the involved sums, and thus in order to organize the issue
the underwriter, one of issuing houses, creates an issuing syndicate
(consortium). The bank consortia specialize on regional or branch basis.
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The association of banks is subdivided into two groups, namely, the
underwriting group and the selling group. The syndicate of the
guarantee (underwriting group) consists of banks, that strictly bind
themselves to cover the sum of the loan under the direction of leading
banks that are called “managers”. The syndicate of accomodation
(selling group) is a group of banks, that undertake to sell the securities
to the customer. The same bank can be a member of the both syndicates.
The functions of underwriter include:
a) Help
in
assessment
of alternative ways
of financing
(modification of the proposed instrument), using one’s knowledge of
necessities of the emitter and investors and one’s experience;
b) Development of a package of documents, development of
strategy and plan of accommodation, submission of the information
about the rating of the loan to agencies;
c) Organization of issuing syndicates;
d) Repayment of issue.
Usually the emitter, the financial adviser and the underwriter work
together at preparation of the issue.
4.
Legal adviser on issue of the bonds ("bond" attorney)
A person who gives an opinion as to the compliance of norms and rules
applied at issue of the bonds with the established legislative norms, and
also confirming:
1.
The right of the emitter to issue;
2. The taxation privileges (if any).
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Usually "bond" attorney participates in development of the draft
package of documents for the forthcoming issue, including the
documents intended for public use, decisions by the city council etc.,
and he has a high authority with the participants due to his knowledge
of the complex and changeable laws and decrees that regulate the
matters connected with the liabilities of local governments.
5.
Attorney preparing the documents for public use.
Recently, for example, in USA, a practice gained ground to employ for
assessment of the prepared documents an attorney who has no direct
interest in the issue of the bonded loan in question. His main function is
to make an independent legal expert examination of the bond agreement
and other documents regulating the issue, circulation and redemption of
the bonds, as to conformity of these to the current norms and rules. In a
number of countries the obligatory submission of opinion by an attorney
preparing documents for public use in case of public accommodation of
bonds is legislatively established, in other countries it is the common
practice for new issues, but it is not required by the law.
6.
Trustee (trustee agent)
The trustee is a close confidant of the investors who ensures that the
terms and conditions of contract with the emitter are observed in
interests of debenture holders. When issuing the bonds, the emitter is
obliged to conclude a bond agreement (bond resolution or indenture or
covenants) with the trustee, in which all the obligations of the emitter
are stipulated. The main conditions of the bond agreement usually are
the following:
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a) Negative purchase fund — limitation on issue of new bonded loans
by the emitter ;
b) Protection by the trustee of the rights of the investors in case the
emitter issuer does not carry out his obligations.
Often the trustee performs the functions of a payment agent, holder of a
redemption fund, controller of proper use of attracted money by the
emitter, holder of the lien (when supplied bonds are issued), sometimes
those functions are combined with these of an underwriter.
7.
Rating agency
The main task of the agencies consists in assessment of risk, that the
investor is exposed to when he purchases valuable papers issued by a
certain emitter.
8.
Payment agent
The agent authorized by the emitter to service the debt of the emitter by
transferring appropriate payments to the debenture holders.
The general costs of the emitter of the bonds are formed by total annual
costs of their service, technical costs of issue and costs of
accommodation of the bonds. Estimate of the cost of issue includes
payments of the various taxes, duties, commission payments to the
financial fund that organizes the issue, etc. The amount of costs
connected with the issue and accommodation of the loan, are calculated
on a basis of 100 units of nominal value of the bond, usually the costs
make 1,5 %-2,5 % of the nominal value. According to estimate of JP
Morgan Securities (Kieran Klifton, 1996) agency, in the modern market
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the primary issue costs to the emitter would be approximately 131.5
thousand dollars.
Table 1.Cost of issue.
Item of expenses
Legal fees
Offering circular
Listing fees
Principal paying agent
In total
thousand dollars
100
20
6,5
5
131,5
Foreign bonds are the bonds, that can be placed in national currency in
the financial market of other country, in a foreign exchange in the
financial market of the country of selected currency, or in a foreign
exchange in the financial market of a third country. Several currencies
may be used, when nominal value of the bond is expressed in one
currency, and the interests on the coupons are paid in other currency.
Under conditions existing at present only the leading countries
act as emitters of the foreign bonded loans. In each of these the specific
names of the bonds issued by them are retained: in Switzerland —
Chocolate Bonds, in Japan — Samourai Bonds, in USA — Jankee
Bonds, in Great Britain — Bulldog. The market of the foreign bonded
loans is regulated by the laws of the emitter country, but the market
conditions are also allowed for as regards taxation of interests,
procedure of issue and operation of the secondary market.
Along with the market of foreign bonds since 70ties there has
been the eurobond market — market of bonds in Euro-currencies. The
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Euroloan has a number of distinctive features: as against the traditional
foreign bonded loans, it is placed simultaneously in the markets of a
number of countries; the issue is carried out by bank syndicate or
international organization; they are purchased by investors from
different countries on the basis of the quotations of their national
exchanges; the issue to a smaller extent, than foreign bonds, is subject to
state regulation, and it is not subject to the national rules for operations
with securities of the country currency of which is the currency of the
loan; interest on the coupon is not taxed by tax paid by holders of
bonds, as distinct from the straight bonds.
The issue is carried out on the basis of legislation of the country
and laws made by municipal bodies of legislative power, that determine
the rules for and standards of medium-term term issues in the
international market. There are international rules and organizations as
well, that coordinate the international capital market.
The emitters apply to international agencies, the most known of which
are, for example, Thomas Bankwatch, Fitch IBCA, Standart and Poors,
Moody's. They determine the ratings, giving assessment to bonds on the
basis of appropriate scales.
The evaluations made by the companies Moody's and Standart&Poors
are as shown below in table 2:
Table 2. Ratings
Moody's
Aaa
Standart and
Poors
AAA
meaning of the evaluation
superior quality
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Aa
A
Baa
Ba
B
Caa
Ca
C
AA
A
BBB
BB
B
CCC
CC
C
D
high quality
above the average
average quality
elements of speculation are present
there are no features of a desirable investment
poor quality
is largely speculative
lowest quality
Bankrupts
The bonds that have the highest rating, are called "investment class
bond". If such a rating is obtained it implies that the emitter would meet
his obligations both under normal conditions, and unfavorable market
conditions. The bonds with a low rating are considered to be
speculative, and it is most likely that interests would not be paid on
them. Standart&Poors agency uses additional symbols "+" and "-" to
refine the ratings from AA to B. These signs are used to specify which
category valuable papers are rated closer to. The Moody's agency
applies the digits "1" and "2".
1.3. The analysis of cost of short- and medium-term credits
in the internal and external money markets
Let's consider the cost of the above credits to the Administration of St.Petersburg. The first problem the borrower encounters with when he
comes to the money market for a the short-term credit (for one year) is
the currency of the credit, as it determines the value of the loan. One can
expect that the Russian borrower would be interested in a credit in
national currency or in US dollars – the most commonly used foreign
exchange.
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Let's assume, that the credit in rubles is obtained by the
borrower in the internal money market, and the dollar credit - in
Euromarket. First we shall find out the value of the loan in Euromarket.
In this case the basis for calculation of the interest rate will be the sixmonth rate LIBOR at the moment of obtaining the credit. The risk
premium is set according to the rating of the borrower. The Russian
banks were the largest among the Russian borrowers in the world
financial market over the last 3 years. They involved large volumes of
syndicated credits. The first credits obtained by the Russian banks, were
more expensive, than in the subsequent period (before the bank crisis in
1998), this fact being caused by the economic situation in the home
market. The most considerable credit was obtained by Central Bank in
the last quarter of 1997 with the risk premium of 2 % to LIBOR. Until
1997 the credits were issued to business banks with a premium of 5% to
LIBOR on the average; by the third quarter of 1997 it already had
decreased to 4 % and by the end of that quarter had fallen to 3,5 %. In
the fourth quarter it was on the average 4 %, and then the decrease of
the rate stopped, and after the crisis in August, 1998 obtaining of credits
by the Russian banks had been suspended as well. The average rate of
the risk premium on all credits obtained by business banks, during the
period in question is 4 %. Therefore it is possible to consider, that the
risk premium for St.-Petersburg city as a subject of Russian Federation,
that has a higher rating2 than at a commercial bank, will be 4 % at the
2
In April, 1997 the Standard & Poor’s agency assigned to St.-Petersburg a credit rating BB-,
and IBCA agency rated the city as BB+.
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most. Therefore the cost of the dollar credit we shall determine as the
LIBOR interest rate + 4 %.
The next problem the borrower is faced with if he prefers a
dollar credit is the changed rate of ruble to dollar at the moment of
repayment of the credit. To evaluate the loan value in a foreign currency
with allowance for changes in the exchange rate, it is necessary to
calculate the cost of the foreign currency credit in a ruble equivalent and
to compare it with the cost of ruble credit in the Russian money market,
obtained at the same moment. The effective rate dependent on the rate
of exchange we shall find applying the formula: (1).
Having the data concerning the cost of dollar credit in Euromarket
and having found the effective interest rate of the ruble equivalent, the
borrower takes decision as to the currency of the credit. For this purpose
he compares the current interest rates in the internal credit market with
the values of the obtained effective credit rates for the annual credits. In
case the cost of ruble credit in a home market proves to be lower than
the found effective rate, he will have to use a credit in rubles, and
otherwise to apply for a credit on Euromarket.
We analyse the changes in interest rates applying an ex post
analysis, i.e. we consider all the interest rates and changes in the
exchange rate to be known by the time of the study. The way to
determine the cost of dollar credit in Euromarket is described above,
and the cost of ruble credit for administration of St.-Petersburg as a
subject of Russian Federation, is regulated by the acts and documents of
Central Bank of Russian Federation.
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The following is stated in Appendix to the Decree of the Governor of
St.-Petersburg of 06.08.97 ¹ 823-p:
3. The guidelines for selection of conditions for attraction of extra means under
the warranties of the incomes of the budget of St.-Petersburg shall be the
following:
- Under the internal loans - the interest rate should not exceed the rates of
refunding of Central bank of Russian Federation; Under the external loans the interest rate should not exceed 9,5 % annual.
Therefore cost of the ruble credit has a high bound. It is possible to
consider it as a exogenous value, which the borrower knows beforehand
and can compare with the effective rate of a loan value found from the
formula (1).
Data about cost of the annual credits in 1994-1998 are given in
Table 1 of the appendix. From the table one can see that over the whole
period the ruble credit in the a home market had been more expensive,
than credit in dollars on Euromarket, and thus it had been more
favorable to borrower to apply for a credit in Euromarket.
To the evaluate cost of a long-term credit the criterion of net
present value of money flow (NPV) should be applied. The borrower,
having calculated and compared the net present value of money flow of
credits in the internal and Euromarket, will attract means in national
currency or US dollars, or will not involve them at all, if the value of
NPV is negative.
In case when the borrower obtains a revolving long-term credit,
the interest rate on which is fixed for a the period of one year and is
revised annually and the sum of the credit comes back at the end of
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credit term, to find the discounted money flow of payments under a long
credit we use the following formula (2).
Let us consider the following conventionalized example.
A borrower obtains in Euromarket a revolving credit of 100 thousands
for a period of 3 years. The interest for one year is set in the beginning
of each year and it is equal to six-month rate LIBOR as at the current
month plus the risk premium of 4 % . The interests on the credit are
paid at the end of each year, and the nominal value — in 3 years. We
wish to find out how the value of NPV of the credits would change
during the period (1994-1998).
To calculate the NPV we shall use the data on changes of
exchange rate and the values of the LIBOR rate presented in Table 1,
Appendix 1.
When calculating the discounted money flow it is important that
the discount interest rate is selected correctly. In this case, taking into
account the specificity of the external market, we shall assume a
discount rate of 15 %, and for the national market we shall take the
discount rate as equal to yield of GKO with redemption term up to 90
days for each month.
In our example the borrower applies for the credit in the
Euromarket. At the end of the first year he pays interests on the credit,
having purchased the required sum according to the current rate. At the
end of the second year will have to pay a different amount of interests,
and at the end of the third year the borrower will have to return the
nominal value and to pay the interest for the third year. In case the
23
borrower receives the credit in May 1994 the net present value of
money flow is negative and amounts to - 307286. Therefore, it is
unprofitable for the borrower to attract credits on such terms. The
calculations for the above example are shown in the table 3.
Table 3. Discount money flow
May 1994
NCF (thousand $)
The exchange rate
of currencies (rubl/$)
NCF (thousand rubl.)
NPV (r=15%)
NPV (r=15%)
T=0
100
1877
T=1
-8,97
5054
t=2
-10,25
4988
T=3
-109,64
5780
187700
187700
- 45334,4
-39420
-51127
-38645
-633719,2
-416920
-307286
Let us now compare the obtained net present value of money flow with
the net present value of money flow for the credit obtained in the home
market at the same moment. As the loan value we shall take the rate of
refunding of the Central Bank, and as the rate discount we shall take the
yield of GKO. Then for the borrower who received in May 1994 a credit
equivalent to US$ 100.000 (187.700.000 rubles) for 3 years, the net
discount money flow will make:
NPV 5 /1994 = 187700−
−
2.05× 187700 1.95× 187700
−
−
(1+ r1 )
(1+ r2 )2
1.2 × 187700 187700
= -46925,
−
(1+ r3 )3
(1+ r3 )3
(3)
where r1 =250 %, r2 =114,1 %, r3 =107,9 %.
24
We can see that the obtained value is negative, i.e. borrowing in May
1994 in the home market would have been unprofitable for the
borrower.
Table 2 of the Appendix presents the NPV data for credits
obtained by borrower in the home market and the Euromarket. In our
example we considered a borrower, who applies for a three-year
revolving credit every month during the above-mentioned span of time.
Having analysed the obtained data, we can say that the net present value
of money flow of credits obtained in Euromarket remained negative,
while the net present indicated value of money flow of crediting in the
home market has been negative over the whole period in question
except for four months. Therefore from the moment when the NPV of
money flow of the credit became positive, it had been favourable for a
borrower seeking for a long-term financing to apply for a credit in the
home market.
1.4 Analysis of cost of municipal bond and credit financing in the
internal money market
The additional requirements to be met by the subjects of federation are
stated in the Decree of President dated 1997. The most important of
these are (i) compulsory limitations of the total volume of all kinds of
borrowing within one fiscal year; of costs for redemption and servicing
of all kinds of the liabilities; and (ii) the emitter is to obtain a credit
25
rating in compliance with the international standards by no less than two
leading international rating agencies.
In a case, when a city government decides to attract additional
money resources from the internal money market, it has two options:
either to issue municipal bonds or to obtain a credit from business
banks. To decide as to the choice of the method of attraction of money
resources one should compare the loan value and the yield of municipal
bonds. The administration of St.-Petersburg has been issuing municipal
bonds of different terms since 1995. We shall analyze the yield of oneyear non-coupon MSB, and shall compare it with the interest rate under
commercial credits.
We consider that the costs on issue3 without documentary bonds
are comparable to the agency costs under the credit, therefore we
consider them as equal and hereinafter shall not take them into account.
We shall compare the yields of the actual issues. In Appendix to the
Decree of Governor of St.-Petersburg No. 823-p of 06.08.97 ¹ , it is
stated that the city may obtain credits under the rate that does not
exceed the rate of refunding of Central Bank (CB). Therefore we shall
consider the auction yield on MSB with annual term of circulation and
compare it with the rate of refunding of the CB, fixed by the Bank for
the date of accommodation of the bonds. All the data are contained in
the Table 4.
Table 4. Auction yield MSB
3
This is not true for Eurobonds.
26
Issue
SU34004
GSPMO
SU34007
GSPMO
SU34005
GSPMO
SU34008
GSPMO
SU34009
GSPMO
SU34006
GSPMO
SU34010
GSPMO
SU34010
GSPMO
Date of
auction
26. 02. 97
Yield at the
price of cut (%)
34.87
Date
10.02.97 – 27.04.97
Rate of refunding
Central Bank (%)
42
26. 02. 97
35.93
10.02.97 – 27.04.97
42
12. 03. 97
40.18
10.02.97 – 27.04.97
42
12. 03. 97
40.70
10.02.97 – 27.04.97
42
26. 03 97
39.06
10.02.97 – 27.04.97
42
02. 04. 97
40.97
10.02.97 – 27.04.97
42
09. 04. 97
40.4
10.02.97 – 27.04.97
42
23. 04. 97
41.10
10.02.97 – 27.04.97
42
Dynamics of auction yield of MSB demonstrates that cost of borrowing
in the form of issue of municipal bonds is lower than the cost of
possible credits accessible the city from the home market. We have
analyzed the features of several methods of attraction of money
resources and have determined the cost in each case. The obtained
results enable us to draw a conclusion that the credit in the home market
is the most expensive, and that for the borrower (the subject of Russian
Federation) it will be more favorable to issue municipal bonds.
1.5 Analysis of loan value and eurobond loan
Scheme of way of borrowing for a subject of Russian Federation
In this concluding part of the study we shall compare the long-term
revolving Eurocredit and the Eurobond loan. For this purpose we shall
consider the parameters of concrete issue of municipal Eurobonds by
27
the city of St.-Petersburg in June, 1997 and compare these with the cost
of a three-year dollar credit.
The Law on Eurobonds of St.-Petersburg that had been passed
by the Legislative Assembly of St.-Petersburg on the 6 November, 1996
provided for the following: " … to issue Eurobonds in any foreign
exchange to the total amount of up to 300 billion of US dollars for a
period of from 2 to 5 years". In June 1997 the Administration of St.Petersburg4 carried out accommodation of coupon Eurobonds in
Euromarket for a period of 5 years, to the amount of USD 300 billion.
The data on issue are tabulated below.
Table5.Parameters of issue of Eurobonds of St.-Petersburg in 1997.
1
Starting date of
accommodation of the bonds
June 5, 1997
2
Closing date of
accommodation of the bonds
June 18, 1997
3
Date of redemption of the
bonds
June 18, 2002
4
Total sum of the placed
bonds at nominal value
300000000 US dollars
5
Price of redemtion of the
bonds
On nominal value
6
Interest rate under the bonds
9,5%
7
Coupon payment periodicity
Twice a year
8
Spred to the measurement
standard
+312,5 basic points (3,125 %)
9
Standard
Exchequer bonds of USA with coupon of
6,5 % to be redeemed in May, 2002 (yield
4
Besides the Eurobonds issued by the Government of Russian Federation and the
Administration of St.-Petersburg, there have been issues carried out by the following subjects of
the Russian Federation: the Moscow City to the amount of USD 500 billion in June1997 and the
Nizhny Novgorod Region to the amount of USD 100 billion in September 1997.
28
6,494 %)
10
Yield at accommodation
9,619%
11
Actual price of
accommodation
99,536 % of nominal value
12
Total sum of money
resources attracted for the
bonds (with allowance for
sale of the bonds
with discount)
298.608.000 dollars
The interest rate on the Eurobonds is 9,5 % annual with payment of
interests two times per year. The exchequer bonds of USA with a
coupon of 6,5 %, with the same maturity as the Eurobonds of St.Petersburg are taken here as the standard. We see that the spread to the
measurement standard on Eurobonds is 3,125 % and it takes into
account the rating of the city, therefore we can presume that under the
credit received by administration of the city on the same date a
percentage margin could be set of the same value as well.
A basis that is used to determine the interest on the credit, is the
six-month LIBOR. Proceeding from this, we shall find the cost of
Eurocredit. The Central Bank has established the procedure for
attraction of credits and loans from the external market so, that " the
interest rate under the credit attracted by the borrower, shall not exceed
the six-month dollar LIBOR plus 5 %". In June1997 the LIBOR rate
was 5,94 %, the value of the risk margin was 3,125 %, then the loan
value makes 9,065 %. Please note that the costs on attraction of the
credit and accommodation of issue have not been taken into account yet.
It would be resonable to assume that the costs under the credit are less
than costs on issue of Eurobonds.
29
According to this table the costs on issue of Eurobonds will
amount to approximately USD 404,5 thousands that makes up 1,38% of
the nominal value of the involved sum.
Thus we can see that cost of accommodation of the credit is
approximately the same is the cost of servicing of issue of Eurobonds,
and with possible calculation errors allowed for, the difference may be
considered as negligible.
The yield on the Eurobonds is fixed for the whole term of their
life, and the loan value is revised yearly or half-yearly. The points that
are of importance in this case are the changes in market conditions
(change of the rate LIBOR and course of exchange), and the conditions
of the credit agreement.
The nominal value of the bond loan will be returned by the
Administration of city at the end of term, and the terms of credit admit
returning of the sums by several installments, for example, at the
moment of revision of the interest rate before extension of the credit. In
our case, attraction of money resources from the external market
through issue of Eurobonds is more favorable, than Eurocredit.
We have analysed four methods of attraction of additional
money resources and have determined the cost of borrowing in each of
these cases. We can draw a conclusion that over the considered span of
time it was the issue of Eurobonds that was the cheapest method of
money attraction. Let us present in a chart the scheme of selection of the
way to borrow, proceeding from the business conditions of the internal
and external markets in 1994 -1998 .
30
SCHEME
Selection of markets and tools at short-term drawing
rR > r$
If not
If yes
R
erR > er$
R
if yes
Credit rate in the
international market is
greater than bond yield
if not
no
Rate of refunding in the home market
is greater than bond yield
no
Apply for a
credit in dollars
yes
Issue
bonds
yes
Apply for a
ruble credit
Issue MSB
Using concrete values of interest rates and exchange rates
established in the market, we can select the best variant as we advance
along one of the chart branches. In case of long-term borrowing the
method to be applied is that of net present value (NPV) of money flow.
It would be also appropriate to note that the City Administration can use
the attraction of additional money resources most effectively if it applies
simultaneously several borrowing methods of those discussed above.
2 Empirical Test of the Exchange Rate Predictive Models: the
Long- and Short-Term Analysis Methods
31
The problem of prediction of the exchange rate values is the fact that the
time series of the exchange rate values is not stationary, its probability
characteristics change in time. Therefore various methods of the series
reduction to the stationary one are used: elimination of the seasonal
variations, the use of difference of first and higher order, etc. Let us
choose the individual areas within the whole considered time series and
test the short- and long-term predictive models on their basis.
The test of the suggested models of the short- and long-term
prediction of exchange rates is made on the basis of the statistical data
for the period of 1994-1999, it is easy to assess the prediction error
using the historic values of the exchange rate.
2.1. Model of Long-Term Prediction of Exchange Rates
Let us make the exchange rate predictive model for a year. The future
value of the exchange rate is expressed as a function of the interest rates
on ruble and currency loans. For this purpose we use the well-known
equation:
R ðóá = R$ +
e
E ðóá
/$ − E ðóá/$
E ðóá/$
rearranging it in the form:
+ ρ,
E eðóá/$ = E ðóá/$ (1− ρ + R ðóá − R$ ),
32
(4)
(5)
where Eerub/$ is the expected value of the exchange rate, Erub/$ is
the current value of the exchange rate, Rrub, R$ are the loan rates on the
national and overseas markets, ρ is the risk.
Being aware of the current value of the ruble/US dollar
exchange rate - Erub/$, and the LIBOR loan rate on the international
market and the loan rate on the national market5, we can construct the
prediction of the ruble/dollar exchange rate values.
Argument of this function is the dollar loan rate or profitability,
these being the same. To determine the loan rate on the international
market we use LIBOR rate plus margin, on the Russian financial market
we use the interest rate on corporate loans up to one year.
Since LIBOR is the interbank loan rate it should be adjusted for
any borrower, i.e. some risk premium (we believe that this risk is 6%)
should be introduced. In addition the equation (5) includes the risk
premium associated with the unexpected exchange rate movements, for
different periods of exchange market stability this risk premium will be
different. In this case the economic agents base their expectations of the
exchange rate movements during the current year on the exchange rate
movement dynamics for the previous year and the declared foreign
exchange policy of the Government for the current year. The period
from 1994 to 1999 is split up into 11 periods. Table 3 of the Appendix
presents the prediction data of the course of exchange (rubles/$).
5
It is impossible to use MIACR (Moscow Interbank Credit Rate) rate in the prediction
due to the following reasons: first, its aperiodicity, second, its short-term nature.
Therefore it is more logical to use the interest rate on corporate loans for the period up
to one year.
33
1. The first six months of 1994 – the risk premium was 40%. In 1993
the economic situation in the country was still unstable, the
exchange rate fluctuated freely, the exchange rate movements
during 1993 came down comparing to 1992 and the Government
announced the stabilization measures for 1994, consequently the
economic agents could expect slight slowdown in growth of
ruble/dollar depreciation in 1994.
2. By the end of 1994 the risk premium gradually increased to 100%.
Its growth was affected by the foreign exchange policy and the
exchange rate dynamics on the internal market.
3. From 1995 to July 1995 the risk premium was established at the rate
of 130%. The exchange rate fluctuation during 1994 was 130% and
the economic agents still faced a high risk of the exchange rate
movement.
4. From July 1995 –the risk premium continued to reduce by 10% per
month to 80% by the end of the year (for July – 120%, August –
110%, September – 100%, etc.). The risk premium reduction was
affected by the introduction of the “currency corridor” and uniform
fall in the loan rate on the domestic market enabling the economic
agents to change their expectations in connection with the foreign
exchange rate fluctuation, but the risk premium reduction was slow
and negligible due to lack of confidence in the Government.
5. The first six months of 1996 – the risk premium was established at
the rate of 80%.
34
6. The second six months of 1996 – The risk premium decreased
further by 10% per month to 30% by the end of the year. This period
is characterized with the uniform decline in the loan rate on the
domestic market and growth of the economic agents’ confidence in
the Government.
7. 1997 – the risk premium was established at the rate of 20%. The
foreign exchange rate fluctuation during 1995 – 1996 was 20%. Due
to the foreign exchange policy pursued by the Government the
exchange rate movement risk for the economic agents decreased
considerably.
8. The period before the 1998 financial crisis – the risk premium was
10%. The exchange rate fluctuation during 1997 was 10% and the
Government announced about the continuity of the stabilization
policy.
9. The period after the 1998 financial crisis to the beginning of 1999 –
the risk premium was 30%. The exchange rate fluctuation before the
1998 financial crisis was 20%, the economic agents noticed the
change in the growth rate of the exchange rate regardless the foreign
exchange policy announced by the Government.
10. Early 1999 to October – the risk premium was established at the rate
of 40%. The exchange rate fluctuation during the period after the
1998 financial crisis and to early 1999 was 40% and the
Government foreign exchange policy was announced: the exchange
rate fluctuated freely. Therefore in the study to predict the future
35
values of the exchange rate, the respective risk premium is used for
each period.
EXA CHAN G E RA TE DYNAM ICS
Series1
Series2
30000
25000
20000
15000
10000
5000
0
1
5
9 13 17 21 25 29 33 37 41 45 49 53 57 61 65 69
1994-1999
The exchange rate prediction curve revealing the movements of
the historic ruble/dollar exchange rate values since 1994 (series 1) and
the exchange rate value prediction (series 2) shows that in the case of
the insignificant trend the forecast is very close to the actual values of
the exchange rate. In the case of the unstable economic situation and
bounces, the prediction values reproduce the historic exchange rate
dynamics but with a lag. In our study this lag is ten months. Therefore
the conclusion could be made that construction of the exchange rate
value prediction for a year in advance using equation (5) is justified in
the case of the stable economic situation and negligible everyday
exchange rate fluctuation. Therefore to reduce the risk of considerable
36
movements of the future exchange rate values other approaches are
required.
2.2. Empirical Testing of the Stochastic Process Model
Analyzing the nature of the weekly exchange rate movements since
early 1995 to August 1998 the conclusion is made that the time series
can be classified as the random walks with drift. Further on, from
September 1998 to November 1999 the exchange rate movement nature
changed dramatically, the time series rose and the drift increased,
therefore two models for each areas will be constructed. Within these
models the best prediction of the future exchange rate values is the
current exchange rate value adjusted by the drift.
In order to describe this time series as the process of random
walk with the drift, the equation will be converted as follows:
(E ðóá/$ )t = α + (E ðóá/$ )t−1 + at ,
(6)
where α is the drift.
For convenience it can be written as: yt = α + yt−1 + at
(6')
where yt is the series of the exchange rate values (Erub/$)t.
The task is to determine whether the process is or is not
stationary. The assumption based on the visual analysis is that the time
series (the exchange rate movement process) is not stationary. The
econometric analysis of the time series is based on our acceptance or
rejection of the 0-hypothesis (H0 : ρ - 1 = 0) which shows the existence
of the unity root in the case of the non-stationary state. Therefore we
37
will construct the regression function for the yt series using the series
from the first differences of ∆yt:
∆yt = α + (ρ − 1)yt−1 + α 1∆yt−1 + α 2∆yt− 2 + α 3∆yt−3 + at
(7)
where ∆yt-1, ∆yt-2, ∆yt-3 are autocorrelation components.
The zero hypothesis concerning the yt series non-stationary state
can be tested using the Dickey-Fuller test. The found t – statistics (tst =
ρ −1
) is compared to the critical value taken from the DF table. If t –
s.e.
critical is < t – statistics, it means that the series includes at least one
root and we cannot discard the 0-hypothesis of the non-stationary state
of yt series. If t – critical is > t – statistics then the 0-hypothesis can be
rejected, i.e. the series is stationary.
If the series is stationary, its probabilistic characteristics will not
change in time and consequently the prediction construction is
simplified.
In case the time series under consideration is non-stationary, the
second differences are determined and the regression function for the
∆yt series is constructed:
∆2 yt = α + (ρ − 1)∆yt−1 + α 1∆2 yt−1 + α 2∆2 yt− 2 + α 3∆2 yt−3 + at
(8)
where ∆2yt-1, ∆2yt-2, ∆2yt-3 are autocorrelation components.
For this time series the 0-hypothesis (H0 : ρ - 1 = 0) of existence
of at least two unity roots, i.e. non-stationary state of the ∆yt series is
tested.
38
Let us compute the t – statistics and compare it to the critical
value like in the previous case. In the result two options are also
derived: regardless of the stationary state of the series, if the series is
non-stationary the third differences are used and the algorithm is
reproduced, if the series is stationary the desired result is derived and
consequently ∆yt=α+e1 is a stationary process and the original model
(6') describes correctly the exchange rate movement process.
To evaluate the (6') model parameters the first differences ∆yt of
the original time series should be found and the α drift value should be
assessed for the derived stationary (as shown before) process of
∆yt=α+e1 where e1 is the random error series. The expected value of
E(∆yt) is equal to α value.
Further examination of the time series requires the test of the
random errors for the autocorrelation, in the case of a good model the
random error series terms will be independent and normally distributed.
The random error series of ∆yt-y=e1 is taken and tested using the
Durbin-Watson test DW≈2(1-ρ), where ρ is the correlation coefficient.
The suggested model is tested empirically.
I. For the period of 1995-August 1998 the following results are
derived. The regression is constructed using equation (7), α1, α2, α3 = 0
is taken and the following equation is derived:
∆yt = α + (ρ − 1)yt−1 + at
(7’)
Table 6. Regression Values
Regression Values
BETA
St. Err.
B
39
St. Err.
t(151)
p-level
of BETA
Free Variable
(α)
Dependent
Variable
(yt-1)
.247975
.078837
of BETA
.11583
.32379
3.57778
.000466
.0196
.00622
3.14541
.001998
Let us compare the found t – statistics (-3,14541) to the critical
value. At the one percent level t – critical is equal to –3,51 and it is clear
that the series is not stationary.
Let us find now the second differences for the yt series and
construct the regression on the basis of equation (8). The following
Table 5 of the regression values is derived.
Table 7. Regression Values
Regression Values
BETA
Free Variable
(α)
Dependent
Variable
(∆yt-1)
Dependent
Variable
(∆2yt-1)
Dependent
Variable
(∆2yt-2)
Dependent
Variable
(∆2yt-3)
St. Err.
of BETA
B
St. Err.
of B
t(144)
p-level
2.743261
2.964219
.92546
.356276
-.308767
.086443
-.295584
.082752
-3.57191
.000482
-.321912
.094936
-.321609
.094847
-3.39083
.000900
-.202143
.090641
-.201255
.090242
-2.23016
.027284
-.206456
.078961
-.204545
.078230
-2.61466
.009882
Let us compare the found t – statistics (-3,57191) to the critical
value. At the one percent level t – critical is equal to –3,51 and it is clear
that t – statistics < t – critical statistics and consequently the conclusion
40
is made on the stationary nature of the series. The found values are
inserted in equation (8) as follows:
∆2 yt = 2,743+ 0,2955∆yt−1 − 0,3216∆2 yt−1 − 0,202∆2 yt− 2 − 0,2045∆2 yt−3 + at
(2,964219)
(,082752)
(,094847)
(,078230)
(,090242)
Then the residue series is tested for the correlation using the
Durbin-Watson test. The DW coefficient is found which is equal to
1,923966. The DW value is close to 2, consequently, the residues are
not correlated. The conclusion can be made that the chosen model yt - α
+ yt-1 + αt describes well the time series of the exchange rate values
during the selected period of time.
To find the value of α free term, the mathematical expectation is
calculated for the first difference series of E(∆yt). The mathematical
expectation is E(∆yt)=0,0145, consequently, the following equation is
derived:
yt = 0,0145+ yt−1 + at
(9)
II. Let us examine the period from September 1998 to
November 1999. The following regression is constructed:
∆yt = α + (ρ − 1)yt−1 + at
(7’)
like in the previous case the autocorrelation components are α1, α2, α3 =
0 and the found values are tabulated.
Table 8. Regression Values
Regression Values
BETA
Free Variable
St. Err.
of BETA
B
.34416
41
St. Err.
of B
.2045
t(93)
p-level
1.682621
.095803
(α)
Dependent
Variable
(yt-1)
-.075989
.103395
-.0081
.0110
-.734940
.464225
The found t – statistics (1,6826) is compared to the critical
value. At the one percent level t – critical is equal to –3,51 and it is clear
that the series is not stationary.
Let us examine whether the statistical characteristics improve if
we insert the autocorrelation components of ∆yt-1, ∆yt-2, ∆yt-3.
Regression (7) is constructed.
Table 9. Regression Values
Regression Values
BETA
Free Variable
(α)
Dependent
Variable
(yt-1)
Dependent
Variable
(∆yt-1)
Dependent
Variable
(∆yt-2)
Dependent
Variable
(∆yt-3)
St. Err.
of BETA
B
St. Err.
of B
t(87)
p-level
0.362
.21923
1.649893
.102571
-.090272
.105411
-.0099
.0115
-.856381
.394140
-.046642
.105487
-.0466
-.1055
-.442158
.659472
-.008638
.105608
-.0086
.1056
-.081790
.935002
.159158
.105480
.1591
.1054
1.508890
.134950
Let us compare the found t – statistics (-0.856381) to the critical
value. At the one percent level t – critical is equal to –3,51 and it is clear
that the series is not stationary after insertion of the autocorrelation
components.
42
The second differences for the yt series are found and the
regression is constructed on the basis of equation (8). The following
table of the regression values is obtained.
Table 10. Regression Values
Regression Values
BETA
Free
Variable (α)
Dependent
Variable
(∆yt-1)
Dependent
Variable
(∆2yt-1)
Dependent
Variable
(∆2yt-2)
Dependent
Variable
(∆2yt-3)
St. Err.
of BETA
B
St. Err.
of B
t(86)
p-level
.19153
.10628
1.80212
.075030
-.602676
.148240
-.8740
.2150
-4.06555
.000106
-.181276
.191917
-.1813
-.1919
-.94456
.347531
-.192766
.155061
-.1928
.1551
-1.24316
.217188
-.035080
.107652
-.0351
.1077
-.32587
.745315
Let us compare the found t – statistics (-4.06555) to the critical
value. At the one percent level t – critical is equal to –3,51 and it is clear
that t – statistics < t – critical statistics and consequently the conclusion
is made on the stationary nature of the series. Substituting the found
values in equation (16) we obtain the following:
∆2 yt = 0,192− 0,874∆yt−1 − 0,1813∆2 yt−1 − 0,1928∆2 yt− 2 − 0,035∆2 yt−3 + at
(0,1062)
(0,2150)
(0,1919)
(0,1551)
(0,1077)
Then the residue series is tested for the correlation using the
Durbin-Watson test. The DW coefficient is found which is equal to
1,99319. The DW value is close to 2, consequently, the residues are not
correlated. The conclusion can be made that the chosen model yt = α +
43
yt-1 + αt describes well the time series of the exchange rate values during
the selected period of time.
To find the value of α free term, the mathematical expectation is
calculated for the first difference series of E(∆yt). The mathematical
expectation is E(∆yt)=0,20958, consequently, the following equation is
derived:
yt = 0,20958+ yt−1 + at
(10)
Conclusion
The present study of methods of and conditions for bond and credit
financing in the internal and international markets from May 1994 to
August 1998, and their comparative analysis enable us to draw the
following conclusions:
•
On the basis of the analysis ex post, during the whole considered
period it had been unprofitable to the borrower to apply for a credit
both in the home market (owing to the unstable economic situation),
and in the Euromarket (in connection with the high rate of exchange
of currencies). But, from May to August 1997, the borrower, when
selecting the currency of the credits, should have given preference to
the internal financing;
•
For a borrower applying to Euromarket, it was profitable to issue
Eurobonds;
•
For a borrower who attracted money resources in the home market,
it was more profitable to issue municipal bonds, than to obtain a
credit from commercial financial institutions.
44
•
Proceeding from current conditions of the financial markets, it is
reasonable if for attraction of additional money resources, the
borrower uses simultaneously several of the methods of borrowing
discussed above;
The econometric analysis of the time series (the exchange rate
movements from 1994 to 1999) enables to make the following
statements:
•
in the case of the stable economic situation on the domestic market,
for the long-term prediction of the exchange rate values it is efficient to
use the model of the type E eðóá/$ = E ðóá/$ (1− ρ + R ðóá − R$ );
•
in the case of the unstable economic situation on the domestic
market, for the short-term prediction of the exchange rate values it is
efficient to use the stochastic process models:
(E ðóá/$ )t−1 = (E ðóá/$ )t + at ;
•
the time series of the weekly exchange rate movements from the
beginning of 1995 to August 1998 can be classified as the random walks
with drift. This process is described by the equation
yt = 0,0145+ yt−1 + at;
•
the time series of the weekly exchange rate movements from
September 1998 to November 1999 is also the random walks with drift.
The process is described using the equation yt = 0,20958+ yt−1 + at ;
•
within these models the best prediction of the future exchange rate
values is the current exchange rate value adjusted by the drift;
45
•
it is efficient to use the model for long-term prediction of the
exchange rate values in the case of the stable economic situation on the
domestic market.
Literature
See: the Expert 11,12/ 1998.
Harris J. M .
The international finance. M.: the informational -
publishing house "Filin", 1996.
Kieran Klifton A vision of the future, Euromoney, March 1996, p. 114.
Lamourex, C., Lastrapes, W. «Heteroskedasticity in Stock Return
Data: Volume versus GARCH Effects», The Journal of Finance, vol.
XLV, No.1, (1990), pp. 221-229.
Levin, J.H. Fiscal Policy, Expectations, and Exchange Rate Dynamics.
Review of International Economics. 2 (1) (1994), pp. 50-61.
Mills, T.C. 1996. The Econometric Modelling of Financial Time Series.
Cambrige University Press, UK.
Nelson, Charles and Charles Plosser. 'Trends and Random Walks in
Macroeconomic Time Series: Some Evidence and Implications."
Journal of Monetary Economics 10 (1982), 130-62.
Tamborini R. Price Determination in Polypolistic Markets and
Exchange Rate Changes. Metroeconomica. 46 (1) (1995), pp.63-89.
Law of St.-Petersburg " About the state urban loan of St.-Petersburg
"from 15.03.95 of year ¹ 38-4 with appendices; " Parameters issue of the
municipal loan".
46
Web-sites: http:/www.cbr.ru, http:/www.minfin.ru,
http:/www.homeowners.com/armtable.html,
http:/www.cbr.ru/dp/Procstav_95-97.htm.
Appendix I.
Table 1 Effective cost of the currency credit, rate CB
Year
Mon
Libor
the course
loan
change of
effective
Rate of
6 m.
of exchange
value $
exchange
cost of the
refunding
(rubls/$)
(libor+4
(%) **
currency
CB***
credit (%)
(%)
%)*
1994
1995
5
4.97
1877
8.97
169.0
193
205
6
4.91
1952
8.91
142.0
163
185
7
5.38
2022
9.38
123.0
143
155
8
5.33
2188
9.33
108.0
128
150
9
5.69
2324
9.69
92.0
116
130
10
6.00
2724
10.00
65.0
82
180
11
6.43
3144
10.43
44.0
60
170
12
6.81
3388
10.81
36.0
51
160
1
6.69
3836
10.69
22.0
35
200
2
6.44
4215
10.44
13.0
11
200
3
6.44
4721
10.44
2.4
13
200
4
6.31
5024
10.31
-3.0
7
200
5
6.25
5054
10.25
-2.0
8
195
6
5.87
4724
9.87
7.0
17
195
7
5.87
4523
9.87
14.0
25
180
8
5.87
4415
9.87
20.0
31
180
9
5.87
4472
9.87
20.0
31
180
10
5.87
4501
9.87
20.0
31
180
47
1996
1997
1998
11
5.73
4539
9.73
20.0
31
170
12
5.56
4620
9.56
20.0
31
160
1
5.20
4689
9.20
20.0
31
160
2
5.19
4761
9.19
18.0
28
160
3
5.52
4835
9.52
17.0
28
120
4
5.42
4902
9.42
17.0
28
120
5
5.64
4988
9.64
15.0
26
120
6
5.84
5059
9.84
14.0
25
120
7
5.92
5154
9.92
12.0
23
120
8
5.73
5285
9.73
10.0
21
110
9
5.75
5372
9.75
8.0
18
80
10
5.58
5430
9.58
8.0
18
80
11
5.55
5485
9.55
7.0
17
60
12
5.62
5538
9.62
7.0
17
48
1
5.71
5605
9.71
6.5
16
48
2
5.68
5656
9.68
7.7
18
48
3
5.96
5704
9.96
6.8
18
42
4
6.08
5769
10.08
6.5
17
42
5
6.01
5780
10.01
6.5
17
36
6
5.94
5790
9.94
6.9
17
24
7
5.89
5812
9.89
7.0
17
24
8
5.80
5812
9.80
20.0
32
24
9
5.75
5848
9.75
147
171
24
10
5.78
5876
9.78
167
193
24
11
5.70
5903
9.70
182
209
28
12
5.73
5940
9.73
143
276
28
1
5.85
5.991
9.85
278
315
28
2
5.87
6.052
9.87
277
309
42
3
5.79
6.087
9.79
282
312
36
4
5.68
6.123
9.68
303
330
30
5
5.74
6.147
9.74
294
323
30
6
5.80
6.179
9.80
292
331
60
48
7
5.86
6.223
9.86
249
80
282
The columns containing data about the rate LIBOR, course of exchange
of ruble to dollar and rate of refunding CB are obtained from web-pages
Internet.
*The risk premium 4 % is selected as average, and most plausible, brave
extra charge under the credit for the borrower (subject of Russian
Federation).
** We assume, that under the revolving credit the interest rate is revised
of time per one year, and the intermediate payments of the sums of the
credit are made also of time per one year. In this case change of the
course of exchange is considered with an interval step per one year.
*** The rate of refunding of CB, is considered by us as greatest possible
percent on the credits received on a home market.
II. The data about net present value of money streams of the credits on
all months are shown in the uniform table 2. They are obtained by a
method represented in the table 1 of the paragraph 1.3.
Table 2. Net present value (NPV)
Year
Mon
the course
Loan value in
NPV
rate of
NPV
of exchange
$ (libor+ 4 %)
(thousand
refunding
(thousand rbl.)
rbl.)*
CB (%)
**
(rubl/$)
1994
5
1877
8.97
-307286
205
-46925
6
1952
8.91
-297546
185
-85888
7
2022
9.38
-293442
155
-105144
8
2188
9.33
-267547
150
-94084
9
2324
9.69
-258815
130
-88312
10
2724
10.00
-230939
180
-179784
11
3144
10.43
-192744
170
-84888
49
1995
1996
1997
12
3388
10.81
-136974
160
-145684
1
3836
10.69
-101189
200
-245504
2
4215
10.44
-100824
200
-417285
3
4721
10.44
-53184
200
-424890
4
5024
10.31
-26057
200
-411968
5
5054
10.25
-26063
195
-444752
6
4724
9.87
-60740
195
-566880
7
4523
9.87
-80135
180
-542760
8
4415
9.87
-133841
180
-354672***
9
4472
9.87
-686586
180
-352558
10
4501
9.87
-806259
180
-390852
11
4539
9.73
-858084
170
-347257
12
4620
9.56
-1087559
160
-288398
1
4689
9.20
-72699***
160
-298538
2
4761
9.19
-70916
160
-426908
3
4835
9.52
-65536
120
-243084
4
4902
9.42
-66518
120
-229283
5
4988
9.64
-60786
120
-217796
6
5059
9.84
-57111
120
-218099
7
5154
9.92
-50628
120
-289197
8
5285
9.73
-80464
110
-312402
9
5372
9.75
-712497
80
-220849
10
5430
9.58
-846958
80
-234093
11
5485
9.55
-903901
60
-156902
12
5538
9.62
-1173771
48
-23246
1
5605
9.71
48
-44840
2
5656
9.68
48
-124432
3
5704
9.96
42
-85560
4
5769
10.08
42
-57690
5
5780
10.01
36
98260
6
5790
9.94
24
121590
7
5812
9.89
24
145300
50
1998
8
5812
9.80
24
9
5848
9.75
24
10
5876
9.78
24
11
5903
9.70
28
12
5940
9.73
28
1
5991
9.85
28
2
6052
9.87
42
3
6087
9.79
30
4
6123
9.68
30
5
6147
9.74
30
6
6179
9.80
60
7
6223
9.86
80
8
6745
9.89
60
9
14467
9.62
60
10
16161
9.35
60
11
16925
9.13
60
12
20230
9.28
60
296573
* Net present value of money stream for the dollar credit transferred in
rubles. The discount rate is equal 15 %.
** Net present value of money stream for the ruble credit, discount rate
is equal to yield GKO with a maturity till 90 days (yield GKO average
weighted on volumes and terms), is designed under the scheme of
simple percent on each month.
*** From this month NPV is calculated for 2 of the year ruble and
dollar credits.
From data of the table it is visible, that to the borrower is unprofitable to
address behind the credit for the external market, as net present value of
money stream of this credit is negative. Net present value of money
51
stream of the ruble credit is positive only for four months in 1997y., for
the credits by term two years.
Table 3. Prediction of the course of exchange
Year
Mon
1995
1
2
3
4
5
6
7
8
9
10
11
12
1
2
3
4
5
6
7
8
9
10
11
12
1
2
3
4
5
6
7
1996
1997
loan value $
(libor+4%*)
$*
12.69
12.44
12.44
12.31
12.25
11.87
11.87
11.87
11.87
11.87
11.73
11.56
11.20
11.19
11.52
11.42
11.64
11.84
11.92
11.73
11.75
11.58
11.55
11.62
11.71
11.68
11.96
12.08
12.01
11.94
11.89
Risk of change
of the course
of exchange
(rubls/$)
(ρ%)
130
130
130
130
130
130
120
110
100
90
90
80
80
80
80
80
80
80
70
60
50
40
40
30
30
30
25
20
20
15
15
52
loan
value $
**
the course
of
exchange
(rubls/$)
164.6
179.7
175.2
173.9
172.5
148.9
140.9
130.2
115.3
123.1
126.2
118.8
119.0
108.0
105.0
105.0
104.4
105.4
94.3
83.0
74.7
65.0
61.3
51.6
44.2
46.1
41.6
32.5
34.0
28.6
28.8
3836
4215
4721
5024
5054
4724
4523
4415
4472
4501
4539
4620
4689
4761
4835
4902
4988
5059
5154
5285
5372
5430
5485
5538
5605
5656
5704
5769
5780
5790
5812
prediction
of the
course of
exchange
(rubls/$)
3567
3891
4128
4113
4103
4245
4066
4121
3920
4540
5611
5091
4676
5785
6267
6611
6582
5056
4931
4782
4625
5456
5649
5878
5659
5561
5486
5567
5624
5745
5792
1998
1999
8
9
10
11
12
1
2
3
4
5
6
7
8
9
10
11
12
1
2
3
4
5
6
7
8
9
10
11.80
11.75
11.78
11.70
11.73
12.04
11.78
11.79
11.87
11.80
11.87
10.86
11.62
11.35
11.13
11.28
10.17
10.03
10.16
10.08
10.07
10.19
10.63
10.68
10.71
10.76
10.80
15
15
15
15
15
15
15
15
15
15
15
15
15
30
30
30
30
40
40
40
40
40
40
40
40
40
40
28.3
24.8
24.0
23.0
28.6
29.8
30.4
38.3
38.8
40.4
48.0
44.9
48.6
42.0
49.0
44.8
41.7
45.5
44.1
45.7
43.8
32.2
38.9
38.5
38.6
38.5
38.7
5812
5848
5876
5903
5940
5.991
6.052
6.087
6.123
6.150
6.180
6.210
7.021
14.48
15.69
16.65
20.41
22.65
22.93
23.26
24.72
24.27
24.31
24.38
24.56
25.48
24.76
5880
6067
6158
6019
6090
5744
5905
5968
5793
5895
5886
5.923
5.899
5.733
5.712
5.508
6.051
6.152
6.156
6.271
6.787
6.853
6.986
7.392
8.564
16.740
16.920
*The risk premium 6 % is selected as average, and most plausible, brave
extra charge under the credit for the borrower (not subject of Russian
Federation).
**Credit rate — weight-average credit rate with the maturity till 360
days on the Russian market.
53