Excessive levels of debt that result in higher interest rates can have adverse effects on real output. See for example: A. Alesina, M. de Broeck, A. Prati, and G. Tabellini, “Default Risk on Government Debt in OECD Countries,” in Economic Policy: A European Forum (October 1992), pp. 428–463.
Financial Stability Forum, “Report of the Working Group on Capital Flows,” April 5, 2000, p. 2.
See, for example, Remarks by Chairman Alan Greenspan before the World Bank Group and the International Monetary Fund, Program of Seminars, Washington, D.C., September 27, 1999.
In addition to their concerns as to the real costs of financial crises, governments’ desire to avoid excessively risky debt structures reflects their concern over the possible effects of losses on their fiscal position and access to capital, and the fact that losses could ultimately lead to higher tax burdens and political risks.
These guidelines may also offer useful insights for other levels of government with debt management responsibilities.
For further information on coordination issues, see V. Sundararajan, Peter Dattels, and Hans J. Blommestein, eds., Coordinating Public Debt and Monetary Management, (Washington, D.C., International Monetary Fund), 1997.
Various analytic frameworks have been developed to guide member countries on the sustainability of their public debt. For example, those used by the IMF in its surveillance activities can be found on its website: “Assessing Sustainability”
http://www.imf.org/external/np/pdr/sus/2002/eng/052802.htm; “Debt Sustainability in Low-Income Countries—Towards a Forward-Looking Strategy,” http://www.imf.org/external/np/pdr/sustain/2003/052303.htm; and “Sustainability Assessments—Review of Application and Methodological Refinements,” http://www.imf.org/external/np/pdr/sustain/2003/061003.htm.
Further information on the analysis of the cost and risk of the debt portfolio can be found in Sections 4 and 5 of the Guidelines, which deal with debt strategy and the risk management framework.
This section draws upon the aspects of the Code of Good Practices on Fiscal Transparency—Declaration on Principles (henceforth FT Code), and the Code of Good Practices on Transparency in Monetary and Financial Policies: Declaration of Principles that pertain to debt management operations. Subsections in this chapter follow the section headings of the MFP Transparency Code.
See MFP Transparency Code, 1.2, 1.3, and 5.2.
See MFP Transparency Code, 1.3 and 5.1.
See MFP Transparency Code, 6.1.3.
See MFP Transparency Code, 1.3.
See FT Code, Section II and MFP Code, Section VII.
See FT Code, 2.2.
See the IMF’s Government Finance Statistics Manual (Second edition, Draft, December 2000) for details on how to present such information. In addition, the Inter-Agency Task Force on Finance Statistics (TFFS) is developing a framework for the presentation of external debt statistics. See External Debt Statistics: Guide for Compilers and Users (TFFS, March Draft 2000).
The disclosure of contingent liabilities is discussed further in Section 5.2.
See MFP Transparency Code, Introduction.
See MFP Transparency Code, 1.2, 1.3, Sections IV and VIII.
The audit process may differ depending on the institutional structure of debt management operations.
See also FT Code, 1.2.
See also Section 2.1 of the Guidelines, and MFP Transparency Code, 5.2.
A few countries have privatized elements of debt management within clearly defined limits including, for example, some back-office functions and the management of the foreign currency debt stock.
If the central bank is charged with the primary responsibility for debt management, the clarity of, and separation between, debt management and monetary policy objectives especially needs to be maintained.
The IMF is committed to promoting the use of CACs in sovereign bonds governed by foreign laws, and monitors their use in its surveillance activities.
In some countries debt managers also have responsibility for the management of some foreign exchange reserve assets.
Financial derivatives most commonly used by debt managers include interest rate swaps and cross-currency swaps. Interest rate swaps allow debt managers to adjust the debt portfolio’s exposure to interest rates; for example, by synthetically converting a fixed rate obligation into a floating rate one. Similarly, a cross-currency swap can be used to synthetically change the currency exposure of a debt obligation. In addition, some countries have issued debt with embedded call or put options.
While rollover risk can be reduced through such longer maturity instruments, the short duration of floating rate and indexed debt still exposes the issuer to potential variability in debt service costs.
See Guideline 1.3.
Additional information on the motivations for holding foreign exchange reserves and factors influencing the adequacy of reserves under different exchange rate regimes can be found in “Debt- and Reserve-Related Indicators of External Vulnerability” (SM/00/65, March 23, 2000).
Most countries measure the financial cost and risk of government debt over the medium to long run in terms of the future stream of nominal debt service costs. However, for countries that actively manage their debt portfolios to profit from expected movements in interest rates and exchange rates, which differ from those implicit in current market prices, the net returns on their trading positions are often measured in terms of changes in the market value of the trading portfolio, while risk is often measured in terms of the variance of these changes.
Complex simulation models should be used with caution. Data constraints may significantly impair the usefulness of these models, and the results obtained may be strongly model-dependent and sensitive to the parameters used. For example, some parameters may behave differently in extreme situations or be influenced by policy responses.
Of course, governments should also take corrective measures, such as eliminating policy biases that may encourage excessive risk-taking by the private sector.
A typical profile will include such indicators as the share of short-term to long-term debt, the share of foreign currency to domestic debt, the currency composition of the foreign currency debt, the average maturity of the debt, and the profile of maturing debts.
However, debt managers should be mindful of the transaction costs associated with continuously rebalancing the debt portfolio to mirror the benchmark, as well as the costs associated with making a major shift in the structure of the portfolio over a short period of time. Common practice is therefore to express the benchmark characteristics as a range for currency composition, interest rate duration, and level of refinancing.
Some governments are finding that declining government financing requirements have led to reduced liquidity in their government debt markets. This has triggered a debate regarding the benefits of rapidly paying down the debt stock. Partly as an alternative to extensive debt buybacks, a few governments are continuing to issue some debt to build or maintain liquid financial markets. Similarly, the absence of sustained fiscal deficits in some countries has prevented the natural development of a government debt market. Some of them have nevertheless decided to issue debt to stimulate the development of a domestic fixed-income market.
Some countries are considering attaching renegotiation or collective action clauses to their debt instruments, such as majority voting rules.
Some governments have found that introducing a network of market makers can be a useful mechanism for distributing securities and fostering deep and liquid markets. Some countries have used primary dealers for this role, while others have sought to encourage a more open financial marketplace. Where primary dealers operate, the incentives and obligations, as well as eligibility criteria to become a primary dealer, need to be defined and disclosed.
Committee on the Global Financial System, “How Should We Design Deep and Liquid Markets? The Case of Government Securities,” Bank for International Settlements, Basel, October 1999.
Relevant work in this area includes: The Group of Thirty (G–30) recommendations on clearance and settlement of securities transactions (1989), which cover nine general principles including such aspects as central depositories, netting schemes, delivery versus payment systems, settlement conventions, and securities lending; the Disclosure Framework for Securities Settlement Systems published by the Committee on Payment and Settlement Systems (CPSS) and the International Organization of Securities Commissions (IOSCO), 1997; the CPSS Core Principles for Systemically Important Payment Systems, 2001; and the CPSS-IOSCO Joint Task Force consultative report, Recommendations for Securities Settlement Systems (2001).