INSTITUTIONAL FRAMEWORK FOR PUBLIC SECTOR BORROWING
by Mr. Nihal Kappagoda
(Article Reference: Document No.17, September 2002)

DEBT MANAGEMENT FUNCTIONS

The debt management functions that should be performed by a Public Debt Management Office (PDMO) have been identified and listed in the next three paragraphs to enable a full consideration of the range of activities that are required at all stages of the loan cycle. To assist this process and focus attention on the activities that are required they have been grouped into three categories - Resource Mobilization, Management Information System and Settlements, and Debt and Risk Analyses. Every attempt was made to list all the important debt management functions.

Resource Mobilization

Depending on the stage of development of a country, there may be a need to have separate resource mobilization activities for project/program finance and capital market borrowings. Further sub-activities will be required for foreign and domestic borrowings depending on the state of development of the domestic bond market. Activities requiring both foreign and domestic borrowings should be dealt with in a holistic manner instead of handling the two components separately as they are when foreign and domestic borrowings and their management are the responsibility of different agencies. The main functions in this category should be to:

• Implement the borrowing plan based on the strategy approved by the government;
  
• Mobilize resources for public sector projects and programs from foreign governments and international capital markets and the domestic capital market based on the borrowing strategy;
  • Foreign Sources
    • Negotiate loans from international financial institutions and foreign governments
    • Negotiate loans from foreign and domestic commercial banks
    • Access international capital markets
  • Domestic Sources
    • Access domestic capital market by conducting auctions and other measures
    • Develop domestic market
    • Develop secondary market
• Organize and execute hedging transactions;
  
• Identify and execute derivative transactions;
  
• Process applications for government guarantees, issue guarantees and conclude agreements with borrowers;
  
• Process applications for on-lending borrowed funds and conclude agreements with the borrowers; and
  
• Function as clearing house for requests for information from donors, international financial institutions, commercial banks and other creditors.

Debt and Risk Analyses

The capacity to undertake debt and risk analysis can only be built up over a period as it requires expertise in risk management techniques and market mechanisms. Consultancy inputs and training will be required to build up this capacity. As with the other functions, the performance of the analytical functions will require close coordination and consultation with staff performing the other two groups of activities. It should be recognized that debt and risk analyses are being performed to back up loan operations. Although the work is analytical in nature and involves some research, it underpins a highly operational activity requiring a detailed knowledge of lenders and capital markets. The main activities of this group should be to:

• Undertake frequent portfolio analyses to assess future debt service prospects and problems and propose action that should be taken to overcome them;
  
• Prepare debt sustainability analyses to assess the long-term sustainability of projected borrowing levels;
  
• Assess external vulnerability using debt and reserve adequacy indicators ;
  
• Formulate policies for the issue of government guarantees and on-lending borrowed funds;
  
• Assess and manage market, rollover, liquidity, credit, settlement and operational risks in the loan portfolio;
  
• Adopt specific targets, benchmarks or guidelines for various debt variables such as the currency mix, share of floating debt, share of foreign debt, maturity profiles and share of short-term debt in total debt outstanding;
  
• Formulate a borrowing policy and an annual borrowing plan for the government/public sector. It could involve the adoption of ceilings for total debt outstanding broken down into foreign and domestic debt and targets for various stock and flow debt indicators;
  
• Prepare a borrowing strategy for implementing the annual borrowing plan involving choices between domestic and foreign borrowings, foreign markets to be accessed, currency of borrowing, and interest rate and maturity structures;
  
• Formulate guidelines for unguaranteed borrowings of state enterprises and the private sector; and
  
• Prepare or provide inputs on public debt to periodic economic and financial reports and data for presentation to Parliament.

Management Information System and Settlements

The major activity in the Management Information System and Settlements category is to maintain the loan database for public sector borrowings using software that is adequate for both recording and undertaking the analytical functions of the PDMO. This will require that the staff responsible for the management information system keeps abreast of developments in information technology and ensure that all the staff of the PDMO is provided access to the database which is updated in a timely manner. The maintenance of an accurate database underpins the analytical work that is performed by the PDMO. It also enables debt service payments to be made on time. The main functions in this category should be to:

• Manage the debt information system and maintain an accurate and up-to-date loan database. Where multiple databases exist, well defined links should be established between them to produce a single database for analytical purposes;
  
• Link the debt management software to other software used for Treasury management and accounting systems of the government;
  
• Prepare debt service forecasts for external borrowings of the public sector as an input to the balance of payments forecasts and for total government borrowings (domestic and foreign) as an input to the expenditure estimates of the fiscal budget;
  
• Process debt service payments and effect payments on time;
  
• Monitor the implementation of loan agreements including the utilization of loans and the obligations of the government;
  
• Monitor the performance of loan guarantees issued by the government and report non-performance to the government;
  
• Monitor the performance of on-lending agreements and report defaults to the government;
  
• Monitor all contingent liabilities and ensure that adequate loan loss provisions are made in the budget to meet likely defaults;
  
• Prepare forecasts of government cash requirements to provide guidance on the volume and timing of domestic debt issues of the government;
  
• Prepare periodic statistical and other reports on the status of public debt that are required by the government and lenders; and
  
• Maintain a web site for the PDMO and provide critical information on public debt for the information of the public. The long-term goal should be to place the Annual Report on Public Debt on this site.
  

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[9] The importance of this type of analysis was highlighted during the Asian financial crisis. The central cause of the instability was not weaknesses in the government's fiscal position. Vulnerability stemmed from short-term foreign currency liabilities of banks, finance companies and individual firms that were not hedged. The governments in the affected countries were unaware of the full extent of these liabilities.

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