Guarantees: Activation Comments by Robert Dippelsman

Types of Guarantees Guarantor and Debtor are related entities: Government and government-owned enterprises. Private companies and their subsidiaries. Guarantor and Debtor are at arm’s length: Banker’s acceptances and other guarantees on a fee basis. Government support for worthy private projects.

Current Treatment (a) Before activation, guarantees are contingent assets and therefore outside the system. (b) No specific guidance on classification of flows on activation in BPM5 or SNA. However: GFSM has injection of equity for continuing subsidiaries and capital transfer otherwise; and ESA95 has injection of equity and capital transfer cases; also mentions other volume changes when the original debtor disappears. For bank guarantees, from general practice, it appears that service charge when issued; other volume changes if not recovered.

BOPCOM and AEG BOPCOM and AEG considered these issues: On (a), for the creation of the guarantee: BOPCOM supported the existing treatment, but with memorandum items where significant. The Committee concluded that it was premature to recognize guarantees before their activation because the implications of expanding the asset boundary to contingencies were wide and had not yet been explored beyond the public sector. AEG decided to leave the issue open.

BOPCOM and AEG Last year, BOPCOM and AEG considered these issues: On (b), for the activation of the guarantee: Issues Paper suggested a mix of capital transfers, other changes, acquisition of equity, and acquisition of debt, according to motivation. (Extension of existing treatments in GFSM and ESA 95.) In October 2004, BOPCOM decided although with some differing views, to regard activation as an other change in volumes in all cases to avoid the case-by-case consideration. In December 2004, AEG decided to treat activation as involving capital transfers in all cases.

BOPCOM and AEG On (b), for the activation of the guarantee: In June 2005, BOPCOM concluded that the preliminary AEG position on the treatment of flows arising from the activation of a guarantee as capital transfers in all cases would have problems. The Committee’s preferences are, first, other changes entries in all cases; or, failing that, a case-by-case basis classifying flows as a capital transfer, financial claim, or other change according to specific criteria.

TFHPSA has new proposals. The recognition of an asset before activation in two of the three cases would make this issue inoperative. The issue of activation would apply only to one-off guarantees if TFHPSA approach is adopted.

On the activation of a guarantee, if Debtor still exists, three steps occur: Creditor’s liability of Debtor is eliminated. Guarantor’s liability to Creditor is created. Debtor’s liability to Guarantor is (usually created). If each is a transaction, each activation would involve three capital transfers.

Concerns Quid pro quo: If Guarantor is owner of Debtor, the guarantee improves the balance sheet of its subsidiary and therefore its own assets. If Guarantor is unrelated to Debtor, the guarantee usually creates a new claim on Debtor, and therefore the Guarantor gains a non-equity financial asset.

Concerns Proliferation of commercially-motivated and mutually offsetting capital transfers. Write-offs of debt by banks are currently other changes in volumes. Why should write-offs by banks under guarantees be different?