Chapter

Section 5: Accounting Rules, Valuation and Accrued Interest

Author(s):
International Monetary Fund
Published Date:
November 2009
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5.1 The presentation tables outlined in this Handbook cover positions and flows. Section 5 provides the methodological framework for these data in terms of accounting rules, valuation and accrued interest for debt securities issues to assist in this presentation.

Accounting rules related to debt securities issues

Positions and flows

5.2 International statistical standards record two basic types of data – positions and flows. Flows refer to economic actions and effects within an accounting period, while positions refer to the level of assets and liabilities at any point in time (BPM6 3.2). In general, economic flows are described as transactions if they record interactions between institutional units that occur by mutual agreement and involve an exchange of value (2008 SNA 3.51 and 3.53). Other flows are either revaluations or other changes in volume. The relationship between flows and positions for debt securities, as liabilities, is presented in the equations below.

Where Positiont is the debtor’s outstanding liabilities in debt securities at the end of the accounting period t and Positiont-1 is the debtor’s outstanding liabilities in debt securities at the end of the accounting period t-1.

Flowst are the sum of the flows of debt securities, viewed as liabilities, during the accounting period t. They comprise transactions, revaluations, and other changes in volume. Transactionst are the net transactions (issues) in debt securities during the accounting period t. They measure the difference between gross issues and redemptions during the accounting period t. Gross issues also include accrued interest, while redemptions include interest paid during the period (see also the sub-section on accrued interest).

Revaluationst are changes in the level of prices of debt securities during accounting period t.21

Other Changes in Volumet are all changes in positions between the end of accounting period t-1 and the end of accounting period t that are due neither to transactions nor revaluations.

Gross and net recording

5.3 Gross recording of financial transactions in debt securities means that the incurrence and repayment of debt securities liabilities are shown separately as gross issues and redemptions. Net recording means that gross issues of debt securities are shown net of redemptions. This Handbook covers aggregated data for transactions in debt securities issues, that is, gross issues and net issues.

5.4 Gross issues refer to economic events where the issuer sells newly created debt securities to creditors. An issue is considered to have occurred when the issuer transfers securities to its creditors, usually in exchange for currency or transferable deposits. Gross issues also include accrued interest.

5.5 Redemptions of debt securities include all repurchases of debt securities. They are also recorded as financial transactions, which decrease the debtor’s financial liabilities (debt securities) and financial assets (currency or transferable deposits). They include all debt securities reaching their maturity date as well as early redemptions. For the creditor, the composition of financial assets changes (a decrease of holdings of debt securities and an increase of holdings of currency or transferable deposits). Redemptions also include accrued interest.

Quadruple-entry accounting and time of recording

Transactions

5.6 For an appropriate valuation and recording of accrued interest by securities issuers and holders, debt securities positions and flows need to be recorded on the basis of a principle of quadruple entry, the approach that is used to ensure consistency across accounts and sectors in international statistical standards (2008 SNA 2.52). One implication of the quadruple-entry principle is that debt securities transactions, and other flows, are recorded at the same point in time for both units involved (2008 SNA 2.54).

5.7 The general principle is that transactions between institutional units should be recorded when claims and obligations arise, transformed, or cancelled, that is, on the accrual basis (2008 SNA 2.55). In many cases, there is a delay between the actual transaction and corresponding payment or receipt, that is, on the cash basis (2008 SNA 2.56). These two different accounting approaches can result in transactions being recorded at different times.

5.8 Following the principle of quadruple entry, a transaction such as the issue or the redemption of a debt security should result in the recording of four entries, that is, two for each institutional unit (the debtor and creditor) involved in the transaction.22 For example, debt securities are issued by a non-financial corporation (the debtor) and acquired by a household (the creditor) in exchange for currency or a transferable deposit. In the financial account for the non-financial corporation, an increase in liabilities (debt securities) and an increase in assets (currency or transferable deposits) are recorded. In the financial account of the household, an increase in assets (debt securities) is offset by a decrease in assets (currency or transferable deposits), with no change in liabilities recorded.

5.9 Transactions can involve the exchange of one financial instrument for another without an exchange of currency or transferable deposits. Such operations include, for example, the conversion of debt securities into equity securities. They raise the question of whether conversions should be treated as financial transactions or other changes in volume. Within a system of “from-whom-to-whom” financial accounts, such conversions should be treated as two financial transactions, that is, as a redemption of debt securities and equity securities issues.

Other economic flows

5.10 Not all economic flows are transactions. Other economic flows include revaluations and other changes in volume. Revaluations are changes in the level of prices of debt securities. Other changes in volume are changes in the quantity or physical characteristics of debt securities as liabilities. For debt securities, other changes in volume are all those changes in position that are due neither to transactions between institutional units nor to revaluations (2008 SNA 12.5).

5.11 Changes in the sector classification and structure of institutional units should be recorded as other changes in volume (2008 SNA 12.62 to 12.64). They may arise, for example, from corporate mergers and acquisitions.23

Aggregation

5.12 Aggregation is the summing of individual items in a class of transactions, other flows or positions in debt securities. Aggregation in which all individual items are shown at their full value is called gross recording of debt securities, and in the case of transactions, gross issues or redemptions.

Netting

5.13 Netting is a process where accounting entries on the two sides of the account for the same transaction item and same institutional unit are offset against each another (2008 SNA 11.40). A gross approach keeps the debt securities on both the asset side and liability side of the issuers’ and holders’ balance sheets. The gross approach meets the legal requirements for presentation (showing actual payments of coupon, etc.) and preserves the consistency of the presentation with market statistics. Under the net approach, the purchase by the unit of its own debt securities is recorded as a redemption of debt rather than an acquisition of assets (BPM6 8.32).

5.14 Netting should be distinguished from net recording, which as described in paragraph 5.3 refers to showing gross issues of debt securities net of redemptions. In general, netting should be avoided but this may not always be possible.

Consolidation

5.15 Consolidation refers to the elimination of positions and flows between institutional units that are grouped together in the same sector or sub-sector.24 Consolidation can be performed at the level of the total economy, institutional sectors and sub-sectors.

5.16 In general, the presentation of unconsolidated debt securities data is recommended. For example, where debt securities are issued by a deposit-taking corporation and purchased by a financial leasing corporation that is within the same sector (financial corporations), unconsolidated statistics on positions and flows should include the value of the new securities issued and the redemption of these debt securities.

Valuation of debt securities issues

5.17 Statistics on debt securities issues should be presented at both market and nominal value. For debt securities, both values provide useful information from the perspective of monetary policy and financial stability analysis.

5.18 In the financial accounts, positions, transactions and other flows should be recorded with the same value throughout the accounts of all the institutional units involved. This means that a financial asset and its liability counterpart should be recorded for the same amount in the creditor and debtor accounts. Market prices are the basic reference for the valuation in the System of National Accounts (2008 SNA 2.59). Accordingly, this Handbook recommends that debt securities be presented at market values, but also recommends that positions be expressed in nominal value (although not transactions).

Market value

Transactions

5.19 Transactions in debt securities are valued at the actual price agreed upon by the institutional units involved in the transaction (2008 SNA 2.59). Under normal circumstances, the market value is the price at which debt securities are acquired or disposed of in transactions between willing parties, excluding commissions, fees, and taxes (2008 SNA 3.122), but including accrued interest.

Positions

5.20 The market value of debt securities is the value at which they might be bought in markets at the time the valuation is required. It includes accrued interest. Ideally, values observed in markets or estimated from observed market values should be used (2008 SNA 2.60).

Nominal value

5.21 The nominal value of a debt security refers to the outstanding amount the debtor owes to the creditor (2008 SNA 3.154 (b)). It reflects the sum of funds originally advanced (the issue price), plus any subsequent advances, plus any accrued interest,25 less any repayments. The nominal value in domestic currency of a debt security denominated in foreign currency also includes revaluations arising from exchange rate changes (BPM6 3.88).

5.22 In practice, nominal value is often considered to be the same as face value. However, the two concepts are distinguished from each other in 2008 SNA. Face value is defined as the amount of principal to be repaid (2008 SNA 3.154 (d)). It is equivalent to the redemption price of a debt security excluding accrued interest. The Handbook does not recommend the presentation of debt securities at face. As stated above, the Handbook recommends that debt securities be presented on a market-value and nominal-value basis.

Foreign exchange revaluations

5.23 Foreign exchange revaluations reflect changes in the value of debt securities denominated in foreign currencies due to exchange rate movements. They are recorded as revaluations, separately from other changes in the market prices of debt securities.

Interest accrued on debt securities issues

5.24 Interest accrued on debt securities is the amount that the issuers of debt securities become liable to pay over a given period of time without reducing the principal outstanding (2008 SNA 7.112).26 Interest accrued is income and also a financial transaction to the extent that the interest is accrued but not yet paid (as if the accrued interest were promptly reinvested in debt securities) (BPM6 11.49). This transaction is reversed (giving rise to a redemption of debt securities) when interest accrued is actually paid.

Debtor and creditor approaches

5.25 There are two ways to define interest for debt securities, the debtor approach and creditor approach. The debtor approach defines interest from the perspective of the issuer of debt securities, while the creditor approach defines interest from the perspective of the holder of debt securities.

5.26 International statistical standards apply the debtor approach, rather than the creditor approach, when recording accrued interest. The Handbook recommends following this approach by defining interest accrued as explained in paragraph 5.24.

5.27 Under the creditor approach, interest accrued reflects current market conditions and expectations. At any point in time, interest accrued is determined using the current yield to maturity (BPM6 11.50 (a) and (b)).

Interest payable by type of debt security

Bills and similar debt securities

5.28 Interest on bills and similar debt securities is measured by the discount on the bill, that is, the difference between the sum paid to the holder of the bill when it matures and the amount received at the time of issue (2008 SNA 17.257).

Bonds and debentures

5.29 For a bond issued at a discount or a premium, the difference between the redemption price and issue price constitutes interest that accrues period-by-period over the life of the bond, in the same way as for a bill (2008 SNA 17.260).

Zero-coupon bonds

5.30 Zero-coupon bonds do not entitle their holders to any income during the life of the security, but only to receive a stated fixed sum as repayment of principal on a specified date or dates. When zero-coupon bonds are issued, they are sold at a price that is lower than the price at which they are redeemed at maturity, reflecting the interest cost over the lifetime of the bond. The difference between the redemption value and issue price of a zero-coupon bond represents interest accruing continuously over the life of the security until its maturity (2008 SNA 17.261 and 17.262).

Index-linked debt securities

5.31 Following the BPM6, the Handbook recommends classifying all index-linked debt securities (except those linked to a foreign currency) as variable interest rate debt securities. A debt security is classified as variable interest rate if the indexation applies to both the principal and coupons (BPM6 5.113).

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