public debt management strategy 2014 - 2016 debt... · public debt management strategy 2014 - 2016...
TRANSCRIPT
Public Debt Management Strategy 2014 - 2016
Pursuant to the Public Debt Law („Official Gazette of the Republic of Serbia“ Nos. 61/05, 107/09 and 78/11), which constitutes the legal basis for Serbia’s borrowing, public debt includes1:
o Debt of the Republic arising from agreements entered into by the Republic;
o Debt of the Republic arising from securities;
o Debt of the Republic arising from treaties and/or agreements on rescheduling of liabilities assumed by the Republic under earlier treaties and securities issued under special laws;
o Debt of the Republic arising from guarantees issued by the Republic or from direct accession to debt in the capacity of a debtor for debt arising from guarantees and/or counter guarantees issued by the Republic;
o Debt of local governments and legal entities founded by the Republic whose debt is guaranteed by the Republic.
The Law allows borrowing in the country and abroad, i.e. in domestic and foreign markets. The Republic may borrow in local and foreign currency to cover budget deficit, liquidity deficit, to refinance public debt, to finance investment projects and to cover liabilities arising from guarantees issued. Pursuant to Article 9 of the Law on Deposit Insurance Agency, the Republic may also borrow to cover potential loss with commercial banks (Official Gazette of the Republic of Serbia Nos. 61/05, 116/08 and 91/10).
Under Article 13 of the Public Debt Law, public debt is an unconditional and irrevocable obligation of the Republic concerning the repayment of principal, interest and any and all borrowing costs. Public debt repayment has a permanent appropriation in the national budget and is prioritized over other public expenditure provided for by the law governing the national budget.
The Budget System Law (Official Gazette of the Republic of Serbia Nos. 54/09, 73/10, 101/10, 101/11, 93/12 and 62/13-correction) lays down general fiscal rules, according to which general government debt, exclusive of liabilities for restitution, may not exceed 45% of gross domestic product (GDP). This provision of the Law was welcomed by international financial institutions, because it limited Serbia’s public debt to a relatively low share of GDP. It should be noted that, according to the Maastricht criteria, general government debt includes local government debt, but does not include total guarantees issued by the government. If this methodology were applied, the balance of Serbia’s public debt would be even lower than according to the currently applied methodology. According to the same Law, if public debt exceeds 45% of GDP, the Government is required to adopt and put in place measures to restore public debt to the level defined by the law.
The Public Debt Law establishes the Public Debt Agency as an authority within the Ministry of Finance and defines its powers and organization for the purpose of recording and managing Serbia’s public debt.
1 For the purposes of this Strategy, the balance of central government debt (a methodology defined by the Public Debt Law) includes also non-guaranteed liabilities of local government units.
1. Public Debt Balance and Structure in the Period 2008 - August 2013
According to the records kept by the Ministry of Finance of the Republic of Serbia, the Public Debt Administration, more specifically, Serbia’s public debt includes all direct liabilities of the Republic arising from borrowing, as well as guarantees issued by the Republic for borrowing by public enterprises and local governments. Public debt of the Republic of Serbia is categorized as direct and indirect liabilities, i.e. liabilities for and on behalf of the Republic and liabilities arising from guarantees issued by the Republic in favor of other legal entities. Direct and indirect liabilities are further categorized as internal debt and external debt, depending on whether they arose from borrowing in the domestic market or in international markets2.
At year-end 2000, Serbia’s total public debt as a share of GDP reached 169.3%. As a result of GDP increase, timely public debt servicing, lower budget deficit, partial London and Paris Club debt write-off and other factors, the public debt-to-GDP ratio was cut down to 28.4% in 2008. Due to adverse effects of the global economic crisis on Serbian economy, the Republic of Serbia increased borrowing to finance its budget deficit in the period 2009-2013. Trends of Serbia’s public debt as a share of GDP in the period 2010 – 31 August 2013 are shown in following graph:
Graph 18. Public debt as a share of GDP, in %
Increasing budget deficit, low real GDP growth and depreciation of the dinar against foreign currencies in which Serbian public debt is denominated have brought about to an increase in the level of public debt in the past four years, which thus exceeded the limit set by the Budget System Law. At year-end 2012, Serbia’s total public debt stood at RSD 2,063.73 billion up from RSD 1,600.4 billion at year-end 2012. Public debt as a share of GDP at year-end 2012 was 60.9%.
Internal public debt increased considerably in 2012 compared to 2011, from RSD 655.9 billion to RSD 853.2 billion. External public debt increased from RSD 944.5 billion to RSD 1,210.5
2 For the purposes of this Strategy, the stock of central government debt (a methodology defined by the Public Debt Law) includes also non-guaranteed liabilities of local government units.
3 Including non-guaranteed local government debt. This component of general government’s public debt
increased from RSD 53.4 bil in 2011 to RSD 54.2 bil in 2012.
6.3% 6.9%
8.7% 8.8% 1.1%
1.7%
1.6% 1.4%
0%
10%
20%
30%
40%
50%
60%
70%
2010 2011 2012 2013/VIII
Direct Liabilities
Indirect Liabilities
Non-Guaranteed Local Government Debt
billion in the course of 2012. Direct liabilities of the Republic of Serbia in 2011 amounted to RSD 1,326.3 billion, rising to RSD 1,713.8 billion in the following year. On the other hand, indirect liabilities also increased from RSD 220.7 billion in 2011 to RSD 295.7 billion in 2012.
At the end of August 2013, total public debt stock stood at RSD 2,245.6 billion or 59.7% of GDP. Out of that amount, direct obligations accounted for RSD 1,861.0 billion, indirect liabilities accounted for RSD 330.2 billion whereas non-guaranteed local government debt accounted for RSD 54.4 billion. Internal direct liabilities amounted to RSD 747.9 billion, while external direct liabilities amounted to RSD 1,113.1 billion. As regards indirect liabilities, internal debt stood at RSD 95.5 billion, while external debt reached RSD 234.7 billion. If broken down into internal and external public debt, total public debt amounted to RSD 883.3 billion and RSD 1,362.3 billion, respectively.
Table 24 shows internal and external debt balance (absolute and relative) at year-end over the period 2010 – August 2013. It also contains figures showing internal and external debt as a share of GDP. Table 25 shows the absolute balance of Serbia’s direct and indirect liabilities and their respective balance as a share of GDP:
Table 24. Internal and external public debt in the period 2010 – 31 August 2013
2010 2011 2012 2013/VIII
In RSD billion General Government Debt 1,313.2 1,600.4 2,063.7 2,245.6 Domestic Debt 525.2 655.9 853.2 883.3 External Debt 788.0 944.5 1.210.5 1.362.3 Out of which Central Government 1,282.5 1,547.0 2,009.5 2,191.2 Domestic Debt 518.2 624.9 816.0 843.4 External Debt 764.3 922.1 1,193.5 1,347.8 As % of GDP General Government Debt 45.6 49.9 60.9 59.7 Domestic Debt 18.3 20.5 25.2 23.5 External Debt 27.3 29.4 35.7 36.2 Out of which Central Government: 44.5 48.2 59.3 58.3 Domestic Debt 18.0 19.5 24.1 22.4 External Debt 26.5 28.7 35.2 35.9
Table 25. Internal and external public debt in the period 2010 – 31 August 2013
2010 2011 2012 2013/VIII
In RSD billion General Government Debt 1,313.2 1,600.4 2,063.7 2,245.6 Direct Liabilities, out of which: 1,101.8 1,326.3 1,713.8 1,861.0 Domestic Debt 482.3 568.9 733.8 747.9 External Debt 619.5 757.4 980.0 1,113.1 Indirect Liabilities, out of which: 180.7 220.7 295.7 330.2 Domestic Debt 35.9 56.0 82.2 95.5 External Debt 144.8 164.7 213.5 234.7 Non-Guaranteed Local Government Debt, out of which: 30.7 53.4 54.2 54.4 Domestic Debt 7.0 31.0 37.2 39.9 External Debt 23.7 22.4 17.0 14.5 As % of GDP General Government Debt 45.6 49.9 60.9 59.7 Direct Liabilities, out of which: 38.2 41.3 50.6 49.5 Domestic Debt 16.7 17.7 21.7 19.9 External Debt 21.5 23.6 28.9 29.6 Indirect Liabilities, out of which: 6.3 6.9 8.7 8.8 Domestic Debt 1.3 1.8 2.4 2.5 External Debt 5.0 5.1 6.3 6.3 Non-Guaranteed Local Government Debt, out of which: 1.1 1.7 1.6 1.4 Domestic Debt 0.3 1.0 1.1 1.0 External Debt 0.8 0.7 0.5 0.3
It should be noted that Serbia’s public debt does not include liabilities arising from restitution. Those liabilities will become due and payable in 2015. The Law on Restitution and Compensation (Official Gazette of the Republic of Serbia No. 72/11) provides for relevant time limits, conditions, methods and procedures which will apply to the Restitution Agency in the restitution of property nationalized after WWII. The Law states a preference for restitution in kind, but where this is not possible, restitution will be made in treasury bonds and cash. The total amount of compensation must not be such as to threaten Serbia’s macroeconomic stability and economic growth. The total amount earmarked for this purpose is maximum EUR 2 billion, increased by the sum of accrued interest payable to all compensation subjects at the rate of 2% per annum for the period from 1 January 2015 to the maturity dates provided for by the Law. The maturity of these bonds will be fifteen years, with annual installments payable as from 2015. In specific cases, compensation in cash will be paid in advance, with the maximum amount of such advance payments limited to EUR 10,000.
Internal public debt
Pursuant to the Public Debt Law, internal public debt includes direct and indirect liabilities of the Republic of Serbia to domestic investors and lenders. As at 31 August 2013, internal public debt included RSD 747.9 billion in direct liabilities and RSD 95.5 billion in indirect liabilities. Serbia’s total internal public debt, inclusive of non-guaranteed local government debt (RSD 39.9bn), stood at RSD 883.3 billion.
Table 26 shows the structure of Serbia’s internal public debt as at 31 December 2010 through 2012 and as at 31 August 2013:
Table 26. Internal public debt structure in the period 2010 – 31 August 2013
2010 2011 2012 2013/VIII
In RSD billion
Total Domestic Debt 525.2 655.9 853.2 883.3
Government Securities, out of which: 430.8 526.2 691.3 706.8
Government Bills and Bonds 178.2 302.0 478.1 522.4
Frozen Forex Savings Bonds 251.8 223.4 212.3 183.5
Loan for economic revival 0.8 0.8 0.9 0.9
Other 87.4 98.7 124.7 136.6
Non-Guaranteed Local Government Debt 7.0 31.0 37.2 39.9
The Government issued securities for the first time in 2003, and their maturities were 3 and 6 months. As privatization proceeds were high and primary fiscal result was relatively balanced in the period 2005-2008, the government did not issue any securities over that period and the amount of government securities was therefore relatively low at year-end 2008. In the past four years, the government issued securities with different maturities, and a dinar yield curve was created for maturities ranging from three months to seven years. Table 27 shows the stock of government securities at year-end in 2010, 2011 and 2012, and as of 31 August 2013:
Table 27. Debt balance by Government securities (2010 – 31 August 2013)
2010 2011 2012 2013/VIII
Instrument and Tenor %
In RSD billion
% In RSD billion
% In RSD billion
% In RSD billion
Government Bills 3M 12.1 21.5 1.3 4.0 1.4 6.9 1.3 7.0 Government Bills 6M 30.9 55.1 9.0 27.1 4.5 21.8 2.3 11.8 Euro Indexed Government Bills 6M
11.8 21.0 - - -
Government Bills 12M 34.0 60.6 3.3 10.0
- - Government Bills 53W - 28.1 84.8 20.1 96.1 17.8 93.2 Euro denominated Government Bills 53W
- 6.9 20.9 4.9 23.3 3.7 19.4
Government Bills 18M 8.4 15.0 21.2 64.1 15.4 73.5 9.4 49.4 Euro denominated Government Bills 18M
- 5.2 15.7 10.1 48.2 6.0 31.3
Government Bills 24M 2.8 5.0 13.2 39.9 13.6 65.0 5.8 30.1 Amortizing Government Bonds 2Y
-
- 1.4 6.7 3.9 20.4
Government Bonds 2Y - - - 8.1 42.1 Euro denominated Government Bonds 2Y
-
- 2.7 12.7 7.3 38.1
Government Bonds 3Y - 4.7 14.2 16.0 76.5 21.2 110.7 Inflation Indexed Government Bonds 3Y
-
- 2.3 10.9 1.7 9.0
Euro denominated Government Bonds 3Y
- 2.1 6.2 1.4 6.7 2.7 14.0
Government Bonds 5Y
-
- 1.7 8.2 2.9 14.9 Euro denominated Government Bonds 5Y
- - - 1.5 8.0
Government Bonds 7Y
-
-
- 1.2 6.5 Inflation Indexed Government Bonds 10Y
- - 1.1 5.2 -
Euro denominated Government Bonds 15Y
- 5.0 15.1 3.4 16.4 3.2 16.5
Total 100 178.2 100 302.0 100 478.1 100 522.4
In early 2009, aiming to finance the budget deficit, the Government issued 3-month bills, followed by issues of 6-month and 12-month bills. The total market value of issued Government bills in that year was RSD 202.8 billion, while the balance of debt arising from Government bills at year end 2009 was RSD 100.7 billion.
In the course of 2010, debt from government securities increased, peaking at RSD 178.2 billion at year-end. In an effort to boost the development of the Serbian capital market, the Public Debt Agency of the Serbian Ministry of Finance issued the first 18-month and 24-month Government bills in March 2010. In February 2011, the Public Debt Agency of the Serbian Ministry of Finance issued a 15-year euro-denominated coupon bond, as well as a 53-week euro-denominated T-bill, followed by the issue of the first 3-year dinar-denominated coupon bond in March 2011. June 2011 saw the first issue of a 3-year euro-denominated coupon bond in the Serbian market and in July 2011 an 18-month euro-denominated T-bill was issued.
At year-end 2011, the debt based on dinar-denominated government securities amounted to RSD 244.1 billion, while that based on euro-denominated government securities issued in the domestic market stood at RSD 57.9 billion.
Efforts to introduce new long-term dinar-denominated instruments continued in 2012 in order to extend the maturity structure of government securities and increase the share of dinar denominated public debt. The first 5-year dinar-denominated bond with a 10% coupon was issued on 24 January 2012 in an issue worth RSD 2.7 billion, and was followed by the second issue on 29 May 2012 worth RSD 520 million. In an effort to diversify the debt, on 1 August 2012, a 2-year amortizing coupon-bond tied to the key policy rate of the National Bank of Serbia was issued.
As at 31 August 2013, the debt based on dinar-denominated government securities amounted to RSD 395.0 billion while the debt based on euro-denominated government securities issued in the domestic market stood at RSD 127.4 billion. Efforts to introduce new long-term dinar-denominated instruments continued in 2013 in order to extend the maturity structure of government securities and increase the share of dinar-denominated public debt. In 2013, The Republic of Serbia issued first 7-year dinar-denominated bond with average realization rate of 85%, and value pondered yield rate of 12.44%. From the beginning of the year until 31 August 2013, the Republic achieved 64.8% of the financing plan defined by the Law on Amendments and Changes of the Budget Law for 2013, out of which the revenues from dinar-denominated government securities amount to RSD 193.0 billion, which represents 74.4% of the planned revenues from dinar-denominated securities at the local market.
External public debt
Pursuant to the Public Debt Law, external public debt includes direct and indirect liabilities to foreign investors and creditors. The following table shows the structure of Serbia’s public debt at year-end 2010, 2011, and 2012 respectively and as at 31 August 2013.
Table 28. External public debt structure in the period 2010 – 31 August 2013
2010 2011 2012 2013/VIII
in RSD billion Multilateral creditors, out of which: 536.2 543.2 588.9 558.0 Paris Club 170.6 165.5 167.8 163.4 IBRD 143.3 150.4 165.2 165.3 EIB 38.8 42.3 63.2 74.6 London Club 79.6 75.4 74.2 36.7 IDA 53.1 55.4 59.3 57.3 IMF 47.4 48.1 51.4 50.9 EBRD - 1.3 2.6 3.1 CEB 3.4 4.8 5.2 6.7 Others - - - - Bilateral creditors, out of which: 63.2 85.1 106.9 134.6 Italy 3.5 4.8 4.8 4.6 EU 5.2 15.6 17.0 17.1 Export-import bank of China 8.9 13.6 25.2 26.3 Russia 15.9 16.2 15.5 40.6 France - 0.4 0.9 1.0 Azerbaijan - - 7.0 8.0 Libya - 4.1 4.1 4.5 Others 29.8 30.4 32.4 32.5 Other borrowing 20.1 129.1 284.2 420.5 Of which Eurobonds 2021 - 80.9 172.4 172.8 Of which Eurobonds 2017 - - 64.6 64.8 Of which Eurobonds 2020 - - - 129.6 Guaranteed external debt 144.8 164.7 213.5 234.7 Non-Guaranteed Local Government Debt 23.7 22.4 17.0 14.5
Total External Debt 788.0 944.5 1,210.5 1,362.3
At year-end 2012, debt to multilateral creditors amounted to EUR 5.2 billion (RSD 588.9 billion), or 28.5% of total public debt, as opposed to EUR 5.2 billion (RSD 543.2 billion), or 33.9% of
total public debt, in 2011. Paris Club debt at year-end 2012 amounted to EUR 1.5 billion (RSD 167.8 billion), or 8.1% of total public debt, compared with EUR 1.6 billion (RSD 165.5 billion), or 10.3% of total public debt, in 2011. London Club debt at year-end 2012 amounted to EUR 652.1 million (RSD 74.2 billion), or 3.6% of total public debt. During April 2013 the Ministry of Finance settled debt to the London Club in the amount of USD 400 million in order to reduce costs of debt of previously arranged loan debts and/or issued bonds, in both domestic and international financial market.
As at 31 August 2013, Paris Club debt stood at EUR 1.43 billion (RSD 163.4 billion). IBRD loans amounted to EUR 1.45 billion (RSD 165.3 billion), London Club debt, after premature payment was EUR 320.6 million (RSD 36.7 million), bilateral loans amounted to EUR 1.2 billion (RSD 134.6 billion). IDA loans amounted to EUR 500.9 mil (RSD 57.3 billion), IMF loans amounted to EUR 444.6 mil (RSD 50.9 billion), and EIB loans amounted to EUR 651.5 mil (RSD 74.6 billion).
In September 2011, the Republic of Serbia issued for the first time a Eurobond in the international financial market with the nominal value of USD 1 billion. The terms of issue included a 7.25% coupon and a 7.5% rate of yield to maturity. In September 2012 the Ministry of Finance reopened the issue of Eurobond 2021, from the year 2011 in the amount of USD 1 billion and achieved the difference from the required rate of yield to maturity from primary issue of 87.5 base points by cutting the rate of yield at the level of 6.625%, whereby the Eurobond of the Republic of Serbia were sold at a premium.
After a successful re-opening of Eurobond 2012, on 14 November 2012, the Republic of Serbia issued 5-year Eurobond on the international bond market in the value of 750.0 million US dollars. The transaction was announced in the initial amount of 500 million US dollars with indicative yield of 5.625%. However, great interest of the financial investors, especially from United States of America and United Kingdom (over 160 investors worldwide) caused the increase of total demand up to 3.7 billion US dollars, which enabled the increase of the issue to 750 million US dollars with 5.45% yield rate.
On 14 February 2012, The Republic of Serbia achieved the most successful Eurobond issue. A total of 148 financial investors from all over the world participated in the sale of Serbian Eurobond. Demand was three times higher than the amount on offer, which indicates high confidence of the foreign investors in the economic and public finances reforms carried out by the Serbian government. The majority of investors were from the United States of America, the United Kingdom and the United Arab Emirates. A seven-year Eurobond was worth USD 1.5 billion and carried an interest rate of 4.875%. The achieved yield was 5.15%. This sale of Eurobond was done in accordance with the planned activities of the Government to provide financial stability in 2013. One part of the proceedings was used to refinance older and most expensive debts. In September 2011, the government sold for the first time a seven-year Eurobond at a higher yield of 7.5%, but compared to that one this was much more favorable in terms of price, since the yield was 2.35 percent lower.
Spread at the time of issue of seven-year Eurobond compared with the US benchmark bond was 378.4 base points, which is 107 base points lower spread than the one at the issue of Eurobond 2017 of shorter maturity in November 2012.
In the middle of May 2013, Serbian Eurobond reached the highest price with the lowest yield level from the date of issue. Eurobond 2021 yield was 4.414%, and for Eurobond 2020 it was 4.039% while for Eurobond 2017 it was only 3.577%.
Even though Standard and Poor’s downgraded the country’s credit rating from BB to BB- with negative outlook in August 2012 and confirmed the same rating in March 2013, and Fitch assessed its outlook for the forthcoming period as negative, in August 2012, Serbia has managed to issue a security with a yield higher than that achieved by some countries in the region with higher credit rating.
Graph 19. Serbia’s 2021 Eurobond price and yield trends from the issue date to 31 August 2013
Graph 20. Serbia’s 2017 Eurobond price and yield trends from the issue date to 31 August 2013
4.00
4.50
5.00
5.50
6.00
6.50
7.00
7.50
8.00
8.50
9.00
9.50
90 $
93 $
96 $
99 $
102 $
105 $
108 $
111 $
114 $
117 $
120 $
123 $
IN P
ER
CE
NT
AG
E
Closing price YTM
Graph 21. Serbia’s 2020 Eurobond price and yield trends from the issue date to 31 August 2013
Currency structure of Serbia’s public debt in the period 2010 – 31 August 2013
At year-end 2010, more than 60% of Serbia’s public debt was denominated in euros, followed by debt denominated in local currency 14.8% while the share of debt denominated in US dollars was 14.4%. For the purpose of financing the budget deficit, 2011 saw intensified issues of dinar-denominated securities, which increased the share of dinar-denominated public debt to approximately 16.3% at year-end 2011. At the end of 2012, dinar-denominated debt accounted for nearly 19.3% of Serbia’s public debt. In order to reduce the currency risk by extending the maturity and developing new borrowing instruments, mainly on domestic market, in the first eight months of 2013, a share of national currency in debt portfolio was maintained at 19 % at the end of August 2013.
Table 29. Currency structure of public debt in the period 2010 – 31 August 2013
2010 2011 2012 2013/VIII
In RSD
bn %
In RSD bn
% In RSD
bn %
In RSD bn
%
Special Drawing Rights 101.4 7.7 104.7 6.6 112.4 5.4 109.9 4.9 EUR 793.0 60.4 915.1 57.2 1,058.4 51.3 1,096.2 48.8 USD 188.7 14.4 284.9 17.8 457.4 22.2 580.1 25.8 CHF 22.8 1.7 21.4 1.3 24.3 1.2 21.6 1.0 RSD 194.3 14.8 261.1 16.3 398.5 19.3 426.5 19.0 Other 13.0 1.0 13.2 0.8 12.7 0.6 11.3 0.5
Total 1,313.2 100.0 1,600.4 100.0 2,063.7 100.0 2,245.6 100.0
Graph 22. Currency structure of public debt in the period 2010 – 31 August 2013
According to the figures as at 31 August 2013, the bulk of Serbia’s public debt remains denominated in euros (48.8%) of total public debt stock. This is followed by public debt denominated in US dollars, with 25.8% and dinars with 19.0%. The remaining debt is denominated in Special Drawing Rights (4.9%) and other currencies (1.5%).
Interest rate structure of Serbia’s public debt in the period 2010 – 31 August 2013
The structure of public debt, including non-guaranteed local government debt of Serbia, according to interest rates is favorable, because the majority of debt is tied to fixed interest rates. The structure of interest rates on Serbia’s public debt is showed in Graphs 23 and 24:
Graph 23. Interest rate structure of public debt in the period 2010 – 31 August 2013
60.4 57.3 51.3 48.8
14.4 17.8 22.2 25.8
14.8 16,3 19.3 19.0
7.7 6.6 5.4 4.9 2.7 2.1 1.8 1.5
0
10
20
30
40
50
60
70
80
90
100
2010 2011 2012 2013/VIII
In p
erc
en
tag
e
EUR USD RSD SDR Other
65.2% 68.4% 70.0% 71.7%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
2010 2011 2012 2013/VIIIFixed Interest Rate Variable Interest Rate
The majority of Serbia’s public debt (71.7%) is subject to fixed interest rates, while debt with variable interest rates accounted for 28.3% of total public debt. As regards variable interest rates, EURIBOR and LIBOR on EUR account for the highest share – 74.6% combined of total public debt subject to variable interest rates. LIBOR on USD accounts for 10.4%, while LIBOR on CHF accounts for 1.7% of public debt subject to variable interest. Variable interest rates linked to LIBOR on GBP and JPY and other variable rates account for 13.3% of public debt subject to variable interest; of that number, interest rates on Special Drawing Rights account for 2.3% of total public debt.
Graph 24. Structure of variable interest rates in the period 2010 – 31 August 2013
Structure of government securities and their duration in the period 2010 - 31 August 2013
The Republic of Serbia began issuing Government bonds in 2003. Originally it issued only short-term Government bills from 2003 to 2006; however, after a period of stagnation in the market for dinar-denominated Government bonds, the Government began reissuing the bills in February 2009. Within four years, the balance of this debt exceeded RSD 400 billion. In other words, of the EUR 6 billion of absolute debt growth compared with year-end 2008, nearly one half was generated in the domestic market through issues of dinar- and euro-denominated government securities. 2012 saw the introduction of new dinar-denominated instruments such as inflation-indexed bonds and 2-year amortizing bond with variable coupon. A 5-year Government bond was also issued for the first time, in an effort to extend the maturity of dinar-denominated securities.
The development of financial market, instruments and the structure of the maturity of government securities was continued in 2013. In addition to the high realization rate of the financing plan at the domestic market, borrowing based on the issue of mainly dinar denominated, but also euro denominated securities significantly reduced the cost of borrowing. In the period from September 2012 – August 2013, the Republic of Serbia reduced the costs of borrowing based on dinar denominated securities, which can be seen on the example of 53-week Government bills, which achieved the reduction of yield rate of 5.45%, as well as in 3-year bonds which achieved the reduction of yield rate of 5.5%. Also, from the beginning of the year coupon payment is performed on an annual level. As for instruments and maturity in 2013, the Republic of Serbia issued 2-year dinar-denominated bonds to replace the previously issued 18-month and 24-month government bills in order to extend maturity.
11.6%
11.5% 10.8% 10.4%
2.4%
2.1% 1.9% 1.7%
3.5% 12.9% 13.4% 13.3%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
2010 2011 2012 2013/VIII
EURIBOR and LIBOR on EUR LIBOR on USD LIBOR on CHF Other
By issuing seven-year dinar-denominated bonds twice from the beginning of 2013, on 5 March and 10 April, with average realization of 85%, and yield of 12.44%, the Republic of Serbia additionally extended the structure of maturity of dinar-denominated government securities, and provided the new instrument for securing long-term source of financing. It is important to emphasize that the demand for dinar-denominated government securities from the beginning of the year was twice higher than the offer of issued dinar-denominated securities of any maturity. Structure of dinar denominated Government securities by original maturity is presented in Graph 25.
Graph 25. Structure of Government securities by original maturity at the end of the observed period 2010 – 31 August 2013
In 2012, total volume of 53-week and 18-month Government bills was EUR 585.0 mil. Total demand was EUR 692.3 mil with the average value pondered rate of 6.02%. Total nominal value of sold euro bills for 2012 is EUR 478.8 mil. In the total portfolio of government securities at the end of August 2013, dinar denominated government securities amount to 75.6%. The remaining 24.4% of the portfolio are euro denominated government securities. Structure of the maturity of euro denominated government securities, as well as the review of performance rates of government securities are given in Graphs 26, 27 and 28:
1.4 1.6 2.2 3.8 3.0
2,2
5.8
20.6
28.0
1.8
5.2
10.6
3.2
16.4
17.5
7.6
9.5
26.3
19.8
12.5
38.5
4.1
35.1
11.1 5.9
3.0
0
10
20
30
40
50
60
70
80
90
100
2010 2011 2012 2013/VIII
Inflation Indexed GovernmentBonds 10Y
Government Bonds 7Y
Government Bonds 5Y
Inflation Indexed GovernmentBonds 3Y
Government Bonds 3Y
Government Amortizing Bonds 2Y
Government Bonds 2Y
Government Bills 24M
Government Bills 18M
Government Bills 53W
Government Bills 12M
Government Bills 6M
Government Bills 3M
Graph 26. Structure of euro denominated government securities by original maturity at the end of August 2013
Graph 27. Overview of accepted rates of government securities
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
2010 2011 2012 2013/VIII
36.1
21.7 15.2
27.1 25,7
24.6
11.8
29.9
6.3
11.0
6.3 26.1
15.3 13.0 Euro denominatedGovernment Bonds 15Y
Euro denominatedGovernment Bonds 5Y
Euro denominatedGovernment Bonds 3Y
Euro denominatedGovernment Bonds 2Y
Euro denominatedGovernment Bills 18M
Euro denominatedGovernment Bills 53W
Euro denominatedGovernment Bills 6M
8.0%
9.0%
10.0%
11.0%
12.0%
13.0%
14.0%
15.0%
16.0%
17.0%
Pri
ma
ry m
ark
et
acc
ep
ted
ra
te
Government Bills 3M Government Bills 6M Government Bills 53W
Government Bonds 2Y Government Bonds 3Y Government Bonds 5Y
Government Bonds 7Y
Graph 28. Overview of accepted rates of government euro securities
Considering that securities issued until 2010 were mostly 3-month Government bills, the duration, or average days to maturity, was low. With the introduction of new instruments with longer maturity and the lower share of short-term instruments in the total balance of dinar- denominated securities, duration was extended considerably. As at 31 August 2013, the duration of dinar-denominated Government bonds was 480 days, while the average duration of total securities was 687 days. Trends in the duration of dinar-denominated government securities in recent years are shown in Graph 29:
Graph 29. Duration of Government securities issued in the domestic market in the period 2009 – 31 August 2013
3.0%
3.5%
4.0%
4.5%
5.0%
5.5%
6.0%
6.5%
Pri
ma
ry m
ark
et
acc
ep
ted
ra
te
Government Bills 53W - EUR Government Bills 18M - EUR Government Bonds 2Y - EUR
Government Bonds 3Y - EUR Government Bonds 5Y - EUR
117 154
390
480
117 154
597
687
0
100
200
300
400
500
600
700
800
2010 2011 2012 2013/VIII
Duration of RSD Securities Duration of Government Securities issued on Domestic Market
Servicing of Serbia’s public debt (central government4) in the period 2013 - 2016
The figures presented in this section relate to past repayments of interest and principal and projections for the forthcoming period. Table 30 shows the history of public debt servicing from 2010 to 2012, while Table 31 shows projected public debt servicing for the period 2013 - 2016:
Table 30. Interest and principal repayment in the period 2010 – 2012
2010 2011 2012
In RSD billion Principal 245.1 290.5 308.5 Interest 30.1 40.4 63.1 Total 275.2 330.9 371.6
Table 31. Projections of interest and principal repayment by 2016
2013p 2014p 2015p 2016p
In RSD billion Principal 433.3 463.5 495.1 445.1 Interest 91.7 112.4 106.5 127.1 Total 525.0 575.9 601.6 572.2 Public Debt as at 31 August 2013 23.4% 25.6% 26.8% 25.5%
Table 32. Projections of interest and principal repayment by 2016 (as a % of GDP)
2013p 2014p 2015p 2016p
In RSD billion GDP 3,761.3 4,007.8 4,292.1 4,583.7 Principal 11.5% 11.6% 11.5% 9.7% Interest 2.4% 2.8% 2.5% 2.8% Total 13.9% 14.4% 14.0% 12.5%
2. Projection of General Government Debt Balance in the Period 2013-2016
Taking into account Serbia’s projected primary budget deficit in the period 2013-2016, including the withdrawal of loans for project financing of budget beneficiaries, the effects of exchange rate changes between the dinar on the one side and the euro and the US dollar on the other side in the basic macroeconomic scenario, the balance of Serbia’s public debt should equal about 68% of GDP, at the end of 2016, assuming that a portion of state-owned assets will be sold in the forthcoming period.
4 Central government level includes the Budget of the Republic of Serbia, compulsory social
insurance funds and the public enterprise “Putevi Srbije”
Table 33. Basic projection of general government debt by 2016
2013p 2014p 2015p 2016p
In RSD bn GDP 3,761.3 4,007.8 4,292.1 4,583.7 Primary deficit 96.5 70.3 17.9 -59.0 Interest 91.7 112.4 106.5 127.1 Public debt 2,358.6 2,634.2 2,925.0 3,114.4 Central government debt, % of GDP 62.7% 65.7% 68.1% 67.9% Non-guaranteed local government debt, % of GDP 1.5% 1.5% 1.7% 1.8%
General government debt, % of GDP 64.2% 67.2% 69.8% 69.7%
According to the projections, local government debt will remain at a relative level of about 3% as a share of GDP. Debt arising from guaranteed liabilities, which are not included in public debt balance according to the Maastricht criteria, is expected to be around 3% of GDP.
Public revenues and costs are of stochastic character and they reflect the changes of macroeconomic framework and politics. Since public debt is a consequence of imbalance in public finance, debt crisis threat remains in force until fiscal consolidation is implemented, as a prerequisite for maintaining and improving the competitiveness of the economy. Having that in mind, EU member states gradually implement the process of fiscal consolidation, which can lead to slowing down of the economic growth and can have negative effects on Serbian economy, since EU is Serbian main trade partner, and that situation would lead to worsening of the public debt.
Analyses underlying the Public Debt Management Strategy
The Public Debt Agency based its Public Debt Management Strategy on the quantitative approach, identifying potential limitations by applying macroeconomic indicators, cost and risk analysis and market conditions that affect public debt management. The cost and risk analysis took into account all viable financing alternatives. The share of each instrument in the overall financing needs for a given year is determined on the basis of Strategy objectives.
The following instruments available in domestic and international financial markets were used in the analysis.
Sources of financing denominated in foreign currency
o Loans by foreign governments and international financial institutions are presented as two instruments denominated in euros and US dollars, with fixed and variable interest rates;;
o Domestic debt denominated in euros is presented through three instruments: loans by domestic commercial banks with variable interest rates, Government bills and bonds issued in the domestic financial market;
o Eurobond issued in euros or US dollars at the international financial market.
Sources of financing denominated in local currency
All government securities denominated in dinars are categorized in a number of groups, including short-term Government bills (with maturity up to 53 weeks), 2-year, 3-year and long-term (5-year and 7-year) coupon Government bonds.
Future market interest rates and scenario analysis
The mid-term public debt management strategy for the period 2014 -2016 was developed using quantitative cost and risk analyses based on various scenarios and projections.
The starting point was the basic scenario, developed using the most probable market conditions. We then proceeded to identify three groups of market variables: foreign exchange rate, reference interest rates in the international market and reference interest rate on dinars. Future
market rates can be deducted from an analysis of available purchase power parity or interest rate parity forecasts. The analysis assumes an average depreciation of the dinar against the euro of 3.4%, as well as of the dinar against the US dollar in the same percentage, over the observed period. Another possibility is to use the forward exchange rate between EUR and USD, but in this case external influences (“shocks”) are limited and the EUR:USD exchange rate is assumed to be fixed, in order to gain a clear picture of the effects of the applied shock. Similarly, market forward rates are currently poor predictors of future interest rates. The analysis also used constant rates. The effects of market rate changes were fully tested in shock conditions.
Interest rates on debt denominated in dinars cannot be real, constant or forward rates, because the projected curbing of inflation has not yet resulted in the reduction of projected interest rates. Among other issues, there is a lack of research of consumer prices and of structure rules that lead to very high interest rates. The approach used for interest rates in dinars is based on real rates that reflect the current situation, taking into account also the expected inflation rate reduction in the following years.
Once the basic scenario was defined, four additional types of scenarios (shocks) were chosen. Macroeconomic shocks or shocks in the primary budget are examined separately in the debt sustainability analysis.
Depreciation of the dinar against the dollar by 25%. In this type of shock, all other exchange rates remain unchanged. This global scenario is not particularly related to the Serbian economy, but it can have a significant impact on Serbia’s debt because of the portion of the debt denominated in dollars (which should account for more than 20% of Serbian central government public debt by the end of August 2013). This global scenario is not much related to Serbian economy, but it has a great impact on Serbian debt, due to a share of debt denominated in US dollars (which at the end of August 2013 accounted for 26.5% of Serbian public debt of the central government.) In this scenario, the EUR/USD exchange rate would change from 1.30 to 1.04. This scenario is likely to occur once the US economy recovers and sees a higher growth rate, as the European economy continues to suffer from effects of the current debt crisis.
Depreciation of the dinar against all currencies by 25%. In this scenario, exchange rates in the whole world would remain stable, while only the dinar would depreciate against them. Macroeconomic circumstances in this scenario would include a high balance of payments deficit and low inflow of foreign direct and portfolio investment.
Interest rate increase in the international market. At present, interest rates worldwide are at a historic low. Central banks keep low rates anchored, thus enabling governments to address the issue of debt and banks to profit from positive yield curves and recapitalization, as long as inflation is kept at bay. If global economy recovers, interest rates will probably increase by about 2-3 percentage points.
Interest rate increase in the domestic market by 5%. This scenario would be possible if inflation remained high (above 10%) and the RSD: EUR exchange rate were highly volatile.
Each of the above stress tests or risk scenarios was used to examine the cost effects of the strategies considered.
Alternative Borrowing Strategies for the Period 2014-2016
In cooperation with World Bank experts, the Public Debt Agency of the Serbian Ministry of Finance applied the WB Medium Term Debt Strategy Model (MTDS) as a cost and risk analysis for the purpose of portfolio optimization and more efficient public debt management.
The optimum choice of costs and risks defined the basic borrowing strategy for the following mid-term period. The following alternative borrowing strategies were analyzed:
Basic strategy (S1): a strategy that largely covers the financing need with existing financial debt instruments, according to the principles used in the period 2011-2013. The majority of new borrowing is based on issuing government securities in local and foreign currencies in the domestic market and issuing Eurobonds denominated in US dollars with 5-year and 10-year maturity.
Strategy with provided concession loan (S2): unlike S1 Strategy, one 5-year Eurobond denominated in euros is issued (43% of nominal planned Eurobond issue in S1), favorable long-term loan is provided with 25-year return period and fixed interest rate of 1% in US dollars, while the additional financing at local market is based predominantly on dinar-denominated securities in the scope similar to S1.
Strategy of financing through a Eurobond issue (S3): this strategy envisages roll-over of dinar and euro- denominated securities with the maturity at local market without additional issue of these securities, while the additional financing is provided by the issue of 5-year Eurobonds denominated in US dollars and euros, and 10-year Eurobonds denominated in US dollars.
Supplementary dinarization strategy (S4): is a strategy relying on increased issuing of dinar-denominated government securities.
All strategies envisage financing of national budget expenditures primarily through government securities issues in international and domestic capital markets, except for strategy S2, which relies on more significant participation of concession loans. The debt covered by this analysis is central government debt, including debt arising from indirect liabilities serviced by the Republic, but excluding non-guaranteed local government debt, without new drawings of project and program loans, and without new debts and guarantees pursuant to Articles 36 and 37 of the Budget Law of the Republic of Serbia for 2013 - The balance of public debt thus calculated is estimated to be 58.1% of GDP at 2013 end.
Cost and risk analysis of alternative borrowing strategies
Quantitative analysis presents the performance of each of the four alternative borrowing strategies. The vertical axis shows debt as a share of GDP in the basis macroeconomic framework defined by the Fiscal Strategy and it is the basic measure of each individual borrowing strategy, while the horizontal axis shows the potential cost of each individual borrowing strategy (stress test result). Two different cost ratios were used: public debt-to-GDP and nominal interest-to-GDP. The first ratio is a balance indicator, while the second is a flow indicator. For the sake of comparison, the analyses focus on the results of examined strategies at year-end 2016.
Comparison of alternative strategies:
Graph 30. Debt-to-GDP ratio at year-end 2016
Graph 31. Interest-to-GDP ratio at year-end 2016
The graph clearly shows costs associated with each of the examined strategy – both the S1 and the S4 Strategy have a relatively higher risk exposure regarding the interest rates and foreign exchange rates. As a result of combining dinar, euro and dollar securities, the S1 Strategy has, in the current proportions, a large exposure to possible oscillations of RSD interest rates on government securities, while the level of exposure of the S4 Strategy increases significantly as the overall additional financing is provided through emissions of dinar-denominated securities. On the other hand, both the S1 and the S4 Strategy have a more stable ratio of share in GDP, due to the relatively higher share of dinar. In the S2 Strategy, based on the swap of dollar securities for the five-year euro-denominated securities, and a long-term loan with a repayment period of 25 years and a fixed interest rate of 1% in US dollars, there is the lowest risk in terms of interest rates of all the four observed strategies, due to the lower volatility of the euro exchange rate in relation to dinar, as well as to the low and fixed cost of concessional loan. The S3 Strategy appears to be relatively the most risky one in terms of debt-to-GDP ratio, for the additional funding is based on the issue of dollar and euro-denominated bonds, while the S4 Strategy seems to be relatively the most expensive of all strategies, considering the high share of dinar-denominated securities in this strategy.
In the analysis of the public debt-to-GDP ratio, it is estimated that the S3 Strategy represents the riskiest choice, while the analysis of the interest-to-GDP ratio shows that the S4 Strategy is the most expensive strategy. The basic S1strategy has relatively high interest costs due to the high share of dinar-denominated securities. The S2 Strategy has low interest costs because much of the needs for financing are provided from a concessional loan. According to these analyses, it is evident that, in the coming period, the basic borrowing operations will be based on the strategies S1 and S2, but with a clear preference to base the borrowing operations on the S2 Strategy, if there exists an opportunity for borrowing on concessional terms to a greater extent.
The results, obtained by using the World Bank model for the public debt-to-GDP ratio at the end of 2016, do not cover the possible proceeds from the sale of state assets, or guaranteed obligations, which are not serviced by the Republic of Serbia, and obligations in respect of restitution.
Table 34. Public Debt-to-GDP ratio at year-end 2016
Scenarios S1 S2 S3 S4
Basic scenario 62.1 61.4 61.9 62.3
Exchange rate shock (25% all currencies) 74.2 73.5 74.7 73.3
Interest shock (scenario1) 62.9 62.1 62.7 63.2
Interest shock (scenario2) 63.3 62.4 63.0 63.6
Combined shock (25% USD and interest shock 1) 68.4 67.5 68.5 67.8
Maximum risk 12.1 12.1 12.8 11.0
Table 35. Ratio of payments based on the interest and GDP at year-end 2016
Scenarios S1 S2 S3 S4
Basic scenario 3.5 3.0 3.2 3.9
Exchange rate shock (25% all currencies) 4.1 3.5 3.8 4.4
Interest shock (scenario1) 4.3 3.7 3.9 4.8
Interest shock (scenario2) 4.7 4.0 4.3 5.1
Combined shock (25% USD and interest shock 1) 4.6 4.0 4.3 5.1
Maximum risk 1.2 1.0 1.1 1.3
The following table shows the trends in basic parameters of public debt in each of the four examined strategies, reflecting the characteristics of each strategy explained above:
Table 36. Risk indicators for alternative strategies
Risk indicators Year-end 2016
S1 S2 S3 S4
Nominal debt (% of GDP) 62.1 61.4 61.9 62.3
Net present value (% of GDP) 59.9 55.1 59.8 60.1
Applied interest rate (%) 6.0 5.2 5.5 6.6
Refinancing risk
ATM51 external portfolio (in years) 6.9 8.9 6.8 7.0
ATM domestic portfolio (in years) 2.8 2.8 2.4 3.2
ATM total portfolio (in years) 5.8 7.4 6.2 5.1
Interest rate risk
АТR16 (in years) 4.2 6.2 4.7 3.4
Refixing (% of total debt) 38.6 33.6 33.4 43.5
Debt at fixed rates (% of total debt) 75.6 78.7 77.0 73.2
Foreign exchange risk Foreign-currency debt (% of total debt) 79.8 82.5 91.1 62.1
51 АТМ - Average Time to Maturity 16 АТR - Average Time to Refixing
The Share of Public Debt in the Gross Domestic Product in the period 2014-2016
According to the fiscal rule laid down by the Budget System Law, the general government public debt may not exceed 45% of GDP. If the debt exceeds that level, the Government shall be obliged to adopt a program to reduce public debt in relation to GDP, i.e. to restore the debt to the level permitted by the law.
At year-end 2012, the central government debt reached 59.3% of GDP while the general government debt reached 60.9% of GDP. The public debt-to-GDP ratio of central government amounted to 58.3% of GDP at the end of August 2013. This upward trend is expected to continue until the end of the year, reaching the share of about 62.7% of GDP at the central government level, that is 64.2% of GDP at the general government level.
As a result of the high share of debt denominated in foreign currencies (over 80%), the foreign exchange risk will obviously determine the trends of the public debt-to-GDP ratio in the future and significantly influence the success of fiscal policies measures aimed at consolidating public finances and reducing the share of public debt in GDP.
On the basis of the planned macroeconomic framework, provided that potential risks (primarily foreign exchange risk) do not materialize, the public debt (excluding liabilities arising from restitution and non-guaranteed local government debt) should be 67.9% of GDP by 2016.
The key factors, affecting the stabilization of the public debt-to-GDP ratio, include: GDP growth, primary deficit, dinar exchange rate against foreign currencies and interest levels. The proposed fiscal policy measures provide for a reduction of the primary deficit, reducing thus the basic factor of debt growth. Interest levels are expected to decrease in the period 2014-2016, if borrowings on favorable terms through new concessional loan and proceeds from the sale of state assets are realized, while the nominal GDP is expected to increase to 7%. All these factors should affect the public debt, at a central level, to come at an average level of 67% of GDP in the period 2014-2016.
The sale of the state-owned property (enterprises) in tendering procedures, in industries where such enterprises are exposed to competition and do not belong to a group of the so-called state monopolies, as well as the sale of minority interest packages, held by the government in certain enterprises, or state licenses can significantly decrease the debt-to-GDP ratio in the period 2014-2016. One of the sources of proceeds that will contribute to the public debt-to-GDP ratio reduction is also the sale of inactive state-owned resources. If proceeds are incurred on the above mentioned grounds, in the amount of 1.6 billion EUR, the public debt will be reduced by around 4.5% of GDP.
All proceeds arising from the sale of state-owned assets will contribute to the public debt reduction due to the possibility of using resources for the repayment of the most expensive part of the public debt and budgetary needs financing without any new borrowings in the financial market. This will directly reduce the interest burden in the upcoming budget years and increase the primary budget deficit.
Table 37. Contributions of the key macroeconomic variables to changes in the central government debt-to-GDP ratio
2011 2012 2013p 2014p 2015p 2016p
in percentages Central government debt/ GDP 48.2 59.3 62.7 65.7 68.1 67.9
Change compared to the previous year 3.7 11.1 3.4 3.0 2.4 -0.2
Impact of the primary deficit 2.9 3.8 2.6 1.8 0.4 -1.3
Interest 1.3 1.9 2.4 2.8 2.5 2.8
Growth of nominal GDP -4.5 -2.5 -5.9 -3.9 -4.4 -4.3
Other factors affecting the ratio 4.0 7.9 4.3 2.3 3.9 2.6
Graph 32. Impact of changes in the RSD exchange rate against the basket of currencies from the public debt portfolio on the change in public debt-to-GDP ratio
The Graph 32. shows the movement of the public debt-to-GDP ratio, depending on changes in the RSD exchange rate against the particular currency basket. It presents the basic projection with alternative scenarios, depending on the appreciation or depreciation of the RSD exchange rate in the range of 10% of appreciation to 20% of depreciation of the dinar against the basket of currencies. Application of the aforementioned scenarios shows that the ratio would range from 62.5% to 78.8% in 2016, while the basic scenario would be at the level of 67.9%.
The key risks to the Strategy implementation, that are quantified, in addition to the above specified ones, are also:
o stability of the macroeconomic situation in Serbia (real GDP growth, tax collection, unemployment rate, current account of payment balance, interest rates on the domestic market, inflation, exchange rate of the dinar against the euro, etc.);
o development of the world economy and Serbia`s principal foreign trade partners;
o needs for additional borrowing in order to regulate the debts at other levels of government, in public sector and financial system of Serbia;
o tax and non-tax revenues lower than planned and expenditures larger than planned during the budget year;
o significant decline in the value of the dinar against the euro;
o higher degree of borrowing by local authorities than planned in the medium-term macroeconomic (fiscal) framework;
o activation of provided guarantees.
It is important to note that the adequate control over the issuance of guarantees and the improved process of prioritization of investment projects, eligible for funding from the credit lines approved by multilateral and bilateral creditors, will also contribute to the public debt-to-GDP reduction. In order to support efforts made by the Ministry of Finance to increase the efficiency of project investing, which is funded from project loans of multilateral and bilateral institutions, the Government of the Republic of Serbia adopted, in June 2013, the Conclusion, accepting the Report on the implementation of project loans approved by the international financial institutions and other foreign creditors, which obliges the Minister of Finance to restrict the approval of new project loans and issuance of guarantees of the Republic of Serbia to those beneficiaries whose rate of withdrawal of funds of the approved project loans is less than 70%, on the basis of assessing the effects of the use
of the approved project loans, by sectors and beneficiaries, and in accordance with the percentage of the withdrawn funds and indicators of success. For the purpose of adequate statistical reporting on the public debt, the basic definitions of debt in the Budget System Law and the Public Debt Law shall be redefined and harmonized.
Principles of Public Debt Management
Pursuant to the Public Debt Law, the primary objective of Serbia`s borrowing and public debt management is to ensure funds needed to finance budget expenditures, with minimum mid- and long-term financing costs and with acceptable risk levels. Minimization of long-term costs of servicing the public debt is limited by the structure of debt, and the actual cost reduction will depend on a number of factors and risks. Taking this into account, the Public Debt Management Strategy of the Republic of Serbia identifies the following overall objectives and principles:
1) It is necessary to ensure financing of Serbia`s fiscal deficit, including both the short-term (liquidity) and long-term deficit, as a part of the policy aimed at maintaining the public finance system stability;
2) It is necessary to define the acceptable level of risk, which should be determined as a targeted debt portfolio structure in terms of currency structure of debt, interest rate structure, maturity structure and debt structure by types of financial instruments;
3) Support should be provided for the development of a market for government securities issued in domestic and foreign markets in order to utilize the developed markets as a means of cutting borrowing costs in the mid and long term, in line with the high-quality diversification of the debt portfolio;
4) The borrowing process should be transparent and predictable.
The Public Debt Management Strategy should be supported by and consistent with the Government`s general mid-term macroeconomic framework.
The Republic of Serbia needs to take into account a number of limiting factors when considering its financing strategy. As a middle-income country, sources of finance available to it in domestic and international financial market are limited, especially at a time when developed EU Member States are facing difficulties in their efforts to secure financing for their fiscal deficits and refinancing for their mature debt. There are also strict conditions under which the country may borrow from bilateral and multilateral loan facilities.
Taking into account the above mentioned limitations and potential risks, it was nevertheless decided that the public debt management strategy in the following mid-term period should focus on financing national budget expenditures mainly through the issues of government securities in international and domestic capital markets. The existing debt structure is rather heterogeneous, taking into account the inherited debt of the former Yugoslavia, the limited availability of market instruments in the past period and the specific status in terms of project financing by international financial institutions. The market for government securities is still developing and one of the principles of the public debt management is the requirement for flexibility, in order to ensure financing for national budget expenditures. Flexibility will be reflected in the choice of markets for provision of borrowing, the currency of borrowing and financial instruments. When choosing a financing structure, one will take into account the current situation and development trends in domestic and foreign financial markets (interest rate levels, risk premiums, yield curve, exchange rates of reference currencies) and acceptable levels of exposure to financial risks.
The aim is to finance the debt in the following long-term period through the issues of mainly dinar-denominated securities in the domestic market. However, the current situation indicates that despite a strong commitment to develop the domestic market for government securities, a large share of financing will have to be ensured in the following mid-term period in the international financial market. Main guidelines for funding in foreign currencies in the international market will be to ensure the access to a large number of investors in different segments of the international financial market, to define borrowing in foreign currency in accordance with the repayment of debt denominated in foreign currency (including interest on these debts) where possible and to allow
borrowing in the international market when financial conditions are more favorable than in the domestic market, in order to stabilize public finances as fiscal risks materialize.
Borrowing in foreign currency also implies foreign exchange risk due to changes in the RSD:EUR and EUR:USD exchange rates, which means that public debt management faces the difficult task of actively considering and using hedging if borrowing is not made in dinars or euros.
Public debt management policy must take into account the long-term perspective, but the decision on financing the budget expenditure must be made on an annually basis. Decisions on annual borrowing are made within the framework of the Budget Law for the fiscal year concerned, and are the subject to change during the fiscal year covered by the borrowing plan if basic fiscal aggregates change.
Financial Risks and Public Debt
Financial and fiscal risks can lead to public debt increase larger than envisaged by the basic scenario. The risks that are present and that can lead to the growth of debt and costs of public debt servicing are:
1. refinancing risk;
2. foreign exchange risk;
3. market risk (interest rate risk, inflation risk);
4. liquidity risk;
5. credit risk;
6. operational risks;
7. risks linked with the distribution of servicing costs (debt structure, concentration of obligations).
In order to reduce the exposure to financial risks, it is necessary to implement the following measures:
1. refinancing risk
o increase in share of mid-term and long-term financial instruments denominated in dinars in the domestic financial market;
o equal distribution of obligations based on public debt, on an annual basis and during the fiscal year in the next long-term period;
o extending of average maturity of the debt issued in securities;
2. foreign exchange risk
o attempt aimed at reducing the share of the debt denominated in foreign currency by observing, at the same time, the costs of the new debt (debt ’’ dinarization” costs);
o use of financial derivatives in order to limit the effect of changes in the exchange rates of reference currencies;
o attempt to keep the external debt mainly in EUR and to use the dollar denominated debt only if the financing in dollars is cheaper in the international market, using financial derivatives for the risk limitation;
3. market risk (interest rates risk, inflation risk)
o attempt to extend the duration of domestic debt in dinars;
o issuance of indexed bonds (interest rate indexation);
o risk based on interest rate on external debt does not affect the long-term goal to minimize the public debt costs;
4. liquidity risk
o permanent maintenance of the cash in the Republic of Serbia accounts at the level which enables a smooth financing of obligations over a minimum of four months, and at a level which enables amortization of possible smaller inflows based on the borrowing in relation to the plan;
o adequate management of freely available cash assets in the Republic of Serbia accounts in accordance with the asset-liability management principles;
o redefinition of the agreements with the National Bank of Serbia for placement of dinar and FX assets, and possible amendments to the Law on Foreign Exchange Operations. Providing an opportunity for the Government to use liquidity surpluses for buying back the relatively more expensive debt;
o automatic execution of orders in the system of the Republic Treasury in order to avoid arrears (short-term obligations - debts) in the system, and respect for the Rules on Budget Execution System;
o consolidation of FX assets, apart from those in dinars, within the consolidated Treasury system maintained with the National Bank of Serbia, and utilization of FX assets for active management of the liquidity on the dinar account of the budget execution;
5. credit and operational risks
o transactions with financial derivatives may be carried out only with the financial institutions having a high credit rating;
o use of financial instruments which limit the credit risk;
o providing guarantees and approval of a new debt to local authorities only if there exists an adequate analysis of the relatively low level of probability for the guarantees' realization in the medium term, which needs to be regulated by legal provisions;
o introduction of adequate control in all business activities in the Public Debt Agency and improving the knowledge of the employed staff, which requires raising the limit of the number of employees and approving adequate budget resources;
o upgrading and improvement of the existing information system for monitoring the public debt and operations with the same;
6. risks linked with the distribution of servicing costs
o adequate planning of the borrowing on an annual level and uniform distribution in the upcoming years and in the course of the fiscal year so as to avoid the risk of large concentration of refinancing obligations;
o avoiding the concentration of obligations, based on the public debt at monthly level, which could not be amortized by freely available cash assets in the Republic of Serbia accounts.
Risk Quantification Based on the Cost-at-Risk (CAR) Model
Public Debt Agency applies risk quantification based on the Cost-at-Risk (CAR) model, developed in collaboration with the team of experts of the EU project "Support to the Ministry of Finance, to the Treasury Administration and Public Debt Agency in capacity building," IPA 2010. Methodological tool Cost-at-Risk is based on the concept of Value-at-risk and is used to assess the degree of exposure to market risks. The utility value of this tool lies in providing the possibility to financial institutions to determine the level of financial resources (reserves) that will enable them to successfully absorb shocks caused by extremely unfavorable trends of these risk factors.
Cost-at-Risk value is the maximum loss that is the increase of the expected cost in the selected time period with a specific probability - usually in the range from 90% to 99%. This model includes two most important risk factors that affect the amount of funds required for the public debt servicing in the forthcoming period - interest rate risk and currency risk. The model evaluates overall and individual contribution of both types of risk to the overall risk denominated in dinars.
Using the Monte Carlo simulation, with a selected number of simulated trajectories (projections), one determines the joint distribution of these two risk factors and the percentile of that distribution, corresponding to the selected level of confidence. In other words, based on a great number of different scenarios of movements of exchange rates and interest rates, the model will determine the level of change, that is the increase of resources needed for the public debt servicing in relation to the projected amounts, and it will not be surpassed by the percentage of probability that is to match the chosen level of confidence.
Graph 33. Cost-at-Risk (CaR)
Simulations are based on the structure of the portfolio of public debt securities in the observed periods, or on a combination of the securities portfolio structure at the present time, its changes over time, resulting from the related repayments of principal and interest (coupons), and the characteristics of new borrowings which comply with the basic principles and objectives set out in this strategy.
Table 38. Results of the CaR model Period3
CaR values 1,2 2014 2015 2016
Absolute Car (99. percentile) 26,289,569 84,775,052 190,750,573
of that currency RSD:EUR 13,354,723 34,750,406 53,724,206 RSD:USD 12,934,846 50,024,646 137,026,367
interest 0 0 0 Absolute Car (95. percentile) 20,221,880 57,982,270 120,255,406
of that currency RSD:EUR 10,177,523 23,591,060 38,610,108
RSD:USD 10,044,357 34,391,210 81,645,298 interest 0 0 0
Absolute Car (90. percentile) 16,178,489 46,618,644 93,248,809
of that currency RSD:EUR 8,617,274 20,141,582 30,870,174
RSD:USD 7,561,215 26,477,062 62,378,635
interest 0 0 0
Average CaR (50. percentile) 3,194,508 10,480,853 22,744,522
of that currency RSD:EUR 1,795,587 4,721,815 7,418,519
RSD:USD 1,398,921 5,759,038 15,326,003
interest 0 0 0
1number of simulations: 10,000, on a daily basis 2 in RSD thousand 3 'period ' refers to a period from 31 August 2013 to December 31 of each year presented
The model indicates that, in the period from 31 August 2013 until the end of 2014, in the
most rigorous conditions – with the confidence level of 99%, the amount required to service the public debt belonging to securities portfolio will not increase over the 26.3 billion RSD in relation to the amount required to service this part of the portfolio under conditions of unchanging exchange rates and interest rates. Securities in the public debt portfolio are dinar-denominated securities (government bills and bonds) and securities with a fixed coupon (Eurobonds and bonds denominated in euros issued in the domestic market), so that the interest rate risk in all results of the model is equal to zero. Currency risk is shown in relation to the exchange rate of the dinar against the two currencies represented in the portfolio - euros and dollars. RSD:EUR exchange rate contributes with 13.4 billion dinars to the total CaR value, while the risk of the unfavorable RSD:USD exchange rate fluctuations is assessed to be at the level of 12.9 billion dinars. As the model indicates, it can be counted with the probability of 95% or 90% that the servicing costs will increase, amounting to less than 20.2, i.e. 16.2 billion dinars by the end of 2014. Similar to a confidence level of 99%, the contribution of both exchange rates is approximately equal, amounting to 10.2 and 10.0 billion dinars for the confidence level of 95%, i.e. 8.6 and 7.6 billion dinars for the confidence level of 90%. Finally, the CaR value of 3.2 billion dinars for 2014, at the bottom of the Table, shows, with the probability of 50%, the amount of increasing costs for the public debt servicing in relation to the amount determined by the current values of the risk factors (in this case it is the exchange rate of the dinar against the euro and the dollar).
Partly because of immanent uncertainty, partly because of the tendency of changing the public debt structure in favor of securities (mainly Eurobonds denominated in USD), risk factors play an increasingly important role in the long term.
Taking into account that the bulk of the debt is in foreign currency (in 2013, about 80% of the public debt was in foreign currency), the exposure to FX risk is high and this risk materialized in 2012, when the dinar, in just a few months, depreciated by more than 10% , and as a result the public debt-to-GDP ratio increased by more than five percentage points just because of the rise of the exchange rate of the euro and US dollar against the dinar.
Any change in the exchange rate of the dinar against the euro and US dollar of 1%, in the direction of the dinar depreciation relative to the basic scenario, will lead to the absolute debt increase from 19 to 25 billion dinars in the upcoming period (from 2014 to 2016), that is in relative terms about 0.50% of GDP (assuming that no other foreign currencies fluctuate significantly against the euro).
It is very important for the public debt that EUR: USD ratio does not depart significantly from the basic scenario. In the event of departure, if the USD value increases against the euro by 1%, the public debt stock will go up by 7 to 8 billion dinars in the next period (2014 - 2016), that is by around 0.16% of GDP in relative terms.
Regarding the interest risk, Serbian public debt is at the advantage because over 70% of the central government public debt stock was with fixed interest rate at the end of August 2013. The principle variable interest rate is Euribor. If Euribor changed for 10 basis points in relation to the basic projection, interest rates would increase by about 0, 3 billion dinars.
Long-term Strategic Framework for Public Debt Management
In order to minimize the risks of increasing debt and public debt servicing costs, one needs to achieve the following basic strategic objectives in the next long-term period:
o the share of debt denominated in dinars should be about 20-25% of the total public debt in the medium term;
o the share of debt denominated in euros in public debt should be at least 60% of debt in foreign currency, including future borrowings and transactions;
o the share of debt with variable interest rate should be reduced below 20% in the mid-term period;
o the average time before any changes in interest rates are made(ATR) should be maintained at a level of at least 4.5 years, in accordance with the above given measure for gradual reduction of the share of debt with variable interest rates;
o weighted average interest rate (WAIR) of internal public debt should not exceed 10% for the short-term and medium-term borrowing;
o the share of the short-term debt (whose maturity is up to one year) should amount to 15% of the total public debt;
o the average time to maturity (ATM) of domestic debt should be at a level of at least 4 years over the medium term;
o the average time to maturity (ATM) of external debt should be maintained at the level of 6 ± 0.5 years over the same time period.
Public Debt Stock According to National Methodology and Maastricht Criteria
It is important to note that according to national methodology, public debt stock includes direct obligations of the central government, as well as all indirect liabilities or the debt guaranteed in favor of public enterprises, some local governments, government agencies and other legal entities the founder of which is the Republic of Serbia. Such stock includes all guarantees irrespective of whether they will be activated in the next period or not.
As one of the principal economic and political objectives of the Republic of Serbia is accession to the European Union, one of the prerequisites is making the domestic methodology compliant with European standards. For that reason, the public debt stock is analyzed regularly on a monthly basis and on the basis of the criteria established by the Treaty of Maastricht, which represents the systematized guidelines for the purpose of sustainability of the public debt and fiscal system, or macroeconomic stability. According to these criteria, public debt stock needs to include, apart from direct obligations of the central government, the non-guaranteed debt of local authorities, but to exclude the debt based on direct and indirect liabilities for which payments are not made by the Republic (central government).
According to Maastricht criteria, the public debt is defined in the EU official document - Protocol on the Excessive Deficit Procedure – EDP – which is a part of the Treaty of Maastricht and Article I (5) of Council Regulation (EC) No. 479/2009, as “the total gross debt at nominal value outstanding at the end of the year of the sector of general government”.
This debt is measured at nominal value equal to the agreed amounts of debt that the government has to repay to creditors at maturity. This means that the public debt is not affected by changes in market yields and it excludes unpaid accrued interest.
Table 39. Structure and projections of the public debt stock according to the Maastricht criteria by 2016
2012 2013/VIII 2013п 2014p 2015p 2016p
in billion dinars Total direct liabilities 1,658.1 1,788.7 1,928.0 2,238.3 2,517.6 2,724.9
Guaranteed debt 113.3 217.6 209.1 225.7 221.2 197.2
Remained debt of the government sector 4.9 3.4 2.5 1.2 0 0
Local government debt 75.9 79.1 83.1 91.3 98.2 104.6
Debt of social insurance institutions 0 0 0 0 0 0
Public debt of the Republic of Serbia 1,852.2 2,088.8 2,222.7 2,556.5 2,837.0 3,026.7
Public debt of the Republic of Serbia/GDP 54.7% 55.5% 59.1% 63.8% 66.1% 66.0%
Measures for Improving the Market of Dinar Denominated Securities in 2013-2016 period
The market of government dinar-denominated securities has developed considerably in the period 2009-2013 and reached a value of 395 billion dinars at the end of August 2013. During 2009, the Republic of Serbia increased the volume of issues of short-term dinar denominated securities (three-month and six-month Government bills), starting in 2010 the issues of 18-month and 24-month bills. In March 2011, the Republic of Serbia issued for the first time a 3-year dinar denominated coupon bond. In conformance with the medium-term strategy for public debt management, in 2012, the government issued, for the first time, five-year dinar bonds along with inflation-indexed dinar-denominated bonds (in March 2012) and depreciation dinar-denominated bonds with variable coupon linked to the reference interest rate of the National Bank of Serbia (in August 2012). In March 2013, a seven-year dinar-denominated bond was issued. In the next three-year period only the ten-year bond is left to be issued in order to determine the yield curve of government securities denominated in dinars. In order to develop market of dinar-denominated securities instead of 18-month and 24-month government bills two-year dinar denominated bonds have been issued since the beginning of 2013. Coupon bonds, issued from January 2013 in the domestic market, have been calculated on annual level instead on semi-annual level, as it used to be to the end of 2012. Semi-annual calculation of Coupon bonds has applies only in dinar denominated securities issued under special program in accordance with the Budget Law.
In order to increase the transparency the framework annual borrowing plan has been published on the Public Debt Agency website since the end of 2012 and the end of each quarter, the plan for the next borrowing quarter in the domestic financial market is published, achieving thus consistency, predictability and transparency of future issues of government securities.
In the period for which this strategy is adopted, it is also expected that the secondary market for government securities improves, resulting in the transparent yield curve on dinars and improvement of the dinar portion in financial market, enabling thus the Government of the Republic of Serbia to finance its expenditures more efficiently and with a less exposure to the foreign exchange and other risks. The current price of the dinar denominated debt is conditioned by the rate of inflation, reference interest rate of the National Bank of Serbia and the exchange rate of the dinar against the euro and the US dollar; however, it is the price of the specific natural hedging of the public debt-to-GDP ratio position.
Graph 34. Structure of the government securities holders issued in the domestic financial market on 31 August 2013
A plan for extending the average maturity of the dinar denominated securities depends on a series of factors, but primarily on the success of the NBS and the Government in the process of dinarization and in maintaining inflation within the set frameworks along with the rise of confidence
59.5%
32.9%
6.8%
Banks
Investment Funds
Insurance
in the monetary and economic policies of the Government and the NBS, and on the stability of the dinar exchange rate.
From September 2012 to the end of August 2013, the average maturity of the dinar denominated securities increased to 1.3 years, and a new task is to increase the average maturity of dinar denominated securities to 2 years in the next mid-term period.
Development of the domestic market will be supported by the following measures:
o The volume of issues is conditioned by the market capacity, while creation of benchmark issues will be based on the reopening of the already existing issues. The reopening principle will mainly refer to all securities with maturity equal to or longer than 2 years, as it is evident that these securities need to account for the bulk of secondary trading and have adequate benchmark values;
o In order to create a maximum possible base of investors and of developing of the secondary market of securities issued on the domestic market, the uniform tax treatment of domestic and foreign investors was created at the close of 2011 and, in the next period, efforts will be made to remove all obstacles to a free flow of capital. The present structure of domestic investors is overly homogenous (mainly the banking sector) and such a structure does not contribute to the development of the secondary market. Pension funds and insurance companies (life insurance) have a limited possibility for assets placement because of the low level of development of this type of savings. The trend of increasing share of foreign investors and of the change in the base of investors has been noticeable in the last two years; the present structure of investors is expected to remain in the next three-year period, which could significantly contribute to the development of the secondary market;
o Taking into consideration that the Ministry of Finance of the Republic of Serbia, the National Bank of Serbia, the Central Securities and Depository Clearing House and the Securities Commission set up in 2011 a working group for the promotion of trading on the secondary market of dinar denominated securities, the recommendations of this working group will be considered by the Ministry of Finance, and will be accepted if deemed appropriate. It is particularly expected of the working group to estimate the benefits that could arise from the introduction of primary dealers and its contribution to the development of liquidity of the secondary market of securities;
o The possibility to carry out the clearing and settlement of domestic securities transactions through the international clearing system will be considered in the upcoming period;
o In the next period, the Ministry of Finance will be modifying the auction platform on the basis of the investors' proposals in order to satisfy the interests of both parties in the best and acceptable manner.