WORKSHOP ON DEVELOPMING GOVERNMENT BOND MARKETS IN SUB-SAHARAN AFRICA PRESENTED BY: Phakamani Hadebe 17 – 19 June 2003

WHY GOVERNMENTS ISSUE SECURITIES l Deficit Financing l Development of Financial Market Primary Reason for Issuance Impacts demand for Securities

ESSENTIAL ELEMENTS l Continued Macroeconomic and Financial Sector Stability l Credibility of the Government as an issuer of Debt Securities l Credible and Stable Government l Sound Fiscal and Monetary Policy l Prudent Legal Framework l Effective Financial Operations Systems e.g Clearing and Settlements

LACK OF ESSENTIAL ELEMENTS (WORST CASE SCENARIO) l No demand for Government Securities

SHOULD INVESTORS STILL DEMAND GOVERNMENT PAPER, THERE ARE COSTS INVOLVED l High Risk Premiums l Demand only for Short-Term T-Bills l Illiquid Market l A very Underdeveloped Market with very few Participants l Preference for equity Market if it exists l Cost of Servicing Debt that is sticky in the Downward direction

WHAT SEPARATES DEVELOPED CAPITAL MARKETS FROM DEVELOPING / UNDERDEVELOPED MARKETS? l What determines demand for Governments Bonds: At Macro level – Macroeconomic Story – Legal System – Systems – Credibility and Transparency

DOES IT MEAN THAT A COUNTRY THAT HAS BEEN SUCCESSFUL FOR OVER THE SHORT-TO-MEDIUM TERM CANNOT IMPROVE DEMAND FOR ITS SECURITIES l There will be demand only in the Short Term l T Bills and possible Short-Term Variable Rate Bonds demand

MAIN CHALLENGES FOR SUCH A DEBT MANAGEMENT OFFICE Increasing Demand at Micro level for NASCENT Government Securities Market l Using T-Bills Market as confidence boosting tool l Openness and Transparency l Information Sharing l Basic Information such as Announcing on Budget Day: – Government Funding Requirements – Dates of Auctions

MAIN CHALLENGES FOR SUCH A DEBT MANAGEMENT OFFICE l Assessing which maturities have higher demand l For any New Approach / Plan, decision, invite Market Views OR inform them l Separation of Debt Management from Monetary Policy l Continuous Interaction with Market l No Shocks

WELL ARTICULATED DEBT MANAGEMENT OBJECTIVES N.B l Market Participants know what to Expect

OBJECTIVES OF DEBT MANAGEMENT INDICATE LEVELS OF SOPHISTICATION FOR DMOS’ l EVOLVING PRIMARY OBJECTIVES OF DEBT MANAGEMENT l Primary Objectives of Developing DMOs: – Finance Government Deficit – Develop Government Securities Market – Establishing Credibility of Government as an Issuer of Debt Securities

OBJECTIVES OF DEBT MANAGEMENT INDICATE LEVELS OF SOPHISTICATION FOR DMOs’ l No Go Zone – Taking Interesting Position – Emphasizing Costs reduction – Shocks – Consistency i.e. borrowing more than the announced auction

OBJECTIVES OF DEVELOPED DMOs’ Reduce Debt subject to acceptable Risk Levels – Demand for paper no longer Primary Concern – Possible failure to finance deficit no longer Primary Concern

OBJECTIVES OF DEVELOPED DMOs Reduce Debt subject to Acceptable Risk Level l Use of Derivatives l Diversification of Debt Portfolio l Synthetic products e.g. Strips l Risk Management

KEY MICRO ELEMENTS THAT INVESTORS CONSIDER l Yield Curve (Inflation) – Maturity (Short or Long) – Volatility (Relatively Stable)

KEY ELEMENTS THAT INVESTORS CONSIDER l Budget Deficit during past 6-10 years l Budget Deficit – Spikes – Projected versus Actual Budget Deficit (Budget)

5 STAGE PROCESS INTO FIXED – INCOME BONDS l First Stage: – Three months T-Bills (91) l Second Stage: – Issue 6 Months (180) l Third Stage: – Issue 1-2 year T-Bills

5 STAGE PROCESS INTO FIXED-INCOME BONDS l Fourth Stage – Issue 2-3 variable rate bond l 1-4 Stages would build Credibility l Fifth Stage – Issue 2-3 Fixed Income Bond – Higher Coupons Induce Investors to Buy these Fixed Income Bonds

MARKETING OF GOVERNMENT BONDS l ARE PRIMARY DEALERS ESSENTIAL? – At a start banks might be reluctant to join Primary Dealers Panel l IN ABSENCE OF PDs, WHO INTERACTS WITH MARKET – DMO should establish a team whose responsibility is Market interaction

MARKETING OF GOVERNMENT BONDS l WHAT DOES THIS TEAM DO? – Information Sharing – Road-shows – Marketing Government Securities – Relationship Building – Contact Point

WITHOUT PDs SHOULD GOVERNMENT MAKE A MARKET TO ENHANCE LIQUIDITY l No – Possible Huge Losses – Liquidity will build over time

IN A SUCCESSFUL NASCENT MARKET, FINANCIAL INSTITUTIONS MIGHT BE ATTRACTED i.e. BROKING FIRMS AND PDs l Confidence from Market build over time l ARE PDs ESSENTIAL – Where PDs are possible - Yes

SHOULD THIS BE SUCCESSFUL FINANCIAL INSTITUTIONS MIGHT BE ALTERED i.e. BROKING FIRMS AND PDs l WHY? – Market Making – Research – Interaction with Market Participants – PDs who have Global access sell bonds internationally – Enhanced Liquidity means Low Costs

SNAPSHOT OF RSA CAPITAL MARKET DEVELOPMENT l EARLY 1980’s – Early 1980’s No Liquidity – Government issued Ad-Hockley – No yield curve and many Small Bonds with Different Maturities l LATE 1980’s – Importance of liquidity recognised – Small Bonds consolidated into Benchmark Bonds – Liquidity Enhanced

A CHANGE IN HIERARCHY OF DEBT MANAGEMENT OBJECTIVES l PRE 1999 l PRIMARY OBJECTIVE – Market development considerations l SECONDARY OBJECTIVE – Maintaining creditworthiness and promoting balance maturity structure

A CHANGE IN HIERARCHY OF DEBT MANAGEMENT OBJECTIVES l POST 1999 l PRIMARY OBJECTIVE – Minimizing cost of Debt Subject to acceptable risk level l SECONDARY OBJECTIVE – Ensure government access to financial markets – Diversification of funding instruments

GOVERNMENT FINANCES BUDGET DEFICIT - MTPBS

GOVERNMENT FINANCES PUBLIC SECTOR BORROWING

GOVERNMENT FINANCES DEBT AS A % OF GDP

DEBT SERVICE COST AS % OF GDP

COST TO SERVICE DEBT IS DECLINING

Challenge: Enhancing liquidity amidst declining supply 1997 Annual turnover was R3.4 tn (Before PDs) 2000 Annual turnover was R9.8 tn 2001 Annual turnover was R11.6 tn 2002 Annual turnover was R11.7 tn DOMESTIC CAPITAL MARKET REMAINS ROBUST

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