Archived - Debt Management Report 2004-2005 : 1
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Foreword by the Minister of Finance
I am pleased to table the Government of Canada’s Debt Management Report for fiscal year 2004–05. It provides a full accounting of how Canada’s debt is managed.
Thanks to eight consecutive budget surpluses since the Government balanced its books in 1997–98, we have been able to reduce the federal debt by some $63 billion. These debt reduction efforts have freed up an additional $3 billion, on an annual basis, to deal with the priorities of Canadians in areas such as health care, education, improving our infrastructure and promoting a cleaner and greener environment.
This is a clear example of prudence with a purpose. Furthermore, our debt-to-GDP (gross domestic product) ratio has declined from 68.4 per cent in 1995–96 to 38.7 per cent in 2004–05. This represents the lowest debt-to-GDP ratio since 1983–84, and we remain on track to meet the Government’s target of achieving a debt-to-GDP ratio of 25 per cent within 10 years.
The Government’s improved financial position has ushered in an era of federal debt management where the key challenge is to maintain a liquid and efficient government securities market in the face of declining borrowing requirements. This year’s Debt Management Report highlights ongoing efforts to meet this challenge and to improve the management of our debt. Examples of initiatives taken over the past year include:
- Reducing the time frame in which operational results are made public. This reduction has helped lower market risk for participants and improved the efficiency of the auction process.
- Conducting a review of the distribution framework for government debt to ensure its continued effectiveness in supporting broad participation and a competitive well-functioning market for Government of Canada securities. This, in turn, helps the Government raise stable, low-cost funding.
Through effective management of our debt and a sustained commitment to fiscal responsibility and prudence, our government continues to do everything it can to ensure that Canada’s economy remains strong and prosperous, both now and in the years to come.
The Honourable Ralph Goodale, P.C., M.P.
Minister of Finance
Ottawa, November 2005
Purpose of This Publication
The Debt Management Report provides a detailed account of the Government of Canada’s borrowing, cash and foreign exchange reserves management operations over fiscal year April 1, 2004 to March 31, 2005.
It provides a comprehensive report on the environment in which the debt is managed, its composition and changes during the year, and performance against the strategic plan set out in the 2004–05 Debt Management Strategy, published in March 2004. A set of reference tables containing statistics on the operation of debt programs is also provided.
The information contained in this report is designed for a range of interested parties and to ensure transparency and accountability in the Government’s borrowing and cash management activities. The Debt Management Strategy and the Debt Management Report are tabled annually in Parliament and are available on the Department of Finance website at www.fin.gc.ca.
Federal Debt Management
Management of the federal debt involves two major activities: actively managing the portion of the debt that is borrowed in financial markets; and investing part of the proceeds of borrowing in liquid assets until needed by the Government. As of March 31, 2005, the Government had $435.5 billion of market debt composed of marketable bonds, treasury bills, retail debt, foreign currency debt, Canada Pension Plan (CPP) bonds and obligations related to capital leases, and $59.5 billion of liquid financial assets composed of domestic cash balances and foreign exchange assets.
|Payable in Canadian currency|
| Marketable bonds
(fixed-rate bonds with 2-, 5-, 10- and 30-year maturities
and Real Return Bonds with 30-year maturities)
| Treasury bills
(zero-coupon securities with 3-, 6- and 12-month maturities)
|(Canada Savings Bonds and Canada Premium Bonds)|
|Obligations related to capital leases||2.9|
|Payable in foreign currency|
|Marketable bonds and foreign currency notes||12.4|
| (fixed-rate bonds, Canada notes and Euro
|(zero-coupon securities with 1- to 9-month maturities)|
|Liquid Financial Assets|
|Foreign exchange reserves||38.9|
This document is structured as follows:
- Part I describes the fiscal environment in which the debt is managed and the composition of market debt.
- Part II reports on performance against the 2004–05 debt strategy by major theme: risk/cost, liquidity, participation and frameworks.
- Part III provides details on activity in the individual domestic and foreign debt programs during 2004–05.
- Annex 1 explains the composition of the federal debt, Annex 2 contains a glossary of debt management terms and Annex 3 contains contact information.
- Reference tables provide historical information on the debt-related activities of the Government.
In 2004–05 the Government continued to reduce its level of indebtedness. On a full accrual basis of accounting the federal debt was reduced to $499.9 billion, down $63 billion from its peak in 1996–97. The federal debt fell $1.6 billion in 2004–05. With a budgetary surplus of $1.6 billion and a net source from non-budgetary transactions of $3.2 billion, there was a financial source of $4.8 billion in 2004–05. With this financial source, the Government retired $4.8 billion of its market debt and increased its cash balances by $49 million. Debt-servicing charges were down $1.7 billion from fiscal year 2003–04 as a result of a 30-basis-point reduction in the average interest rate paid on the public debt. The reduction in the debt since 1996–97 has resulted in savings of over $3 billion annually. Lower debt-servicing charges benefit all Canadians.
Debt, cash and reserve management actions in 2004–05 continued the process begun in 2003–04 of reducing the fixed-rate share of the debt from a target of two-thirds to 60 per cent by 2007–08, with resulting adjustments to the sizes of the treasury bill and bond programs. The fixed-rate share fell from 63.8 per cent to 63.1 per cent over the course of the year. The stock of treasury bills and cash management bills increased by $13.8 billion to $127 billion, while the stock of nominal bonds declined by $13.9 billion to $244 billion.
An important initiative undertaken in 2004–05 was the reduction in the time in which auction and operational results are made public (turnaround time). On April 1, 2004, the Government reduced the turnaround time for auctions and operations in which bonds are repurchased from fixed times (10 and 15 minutes respectively) to a "best efforts basis" (i.e. when ready). Since the change, turnaround times have averaged less than 3 minutes for auctions and less than 7 minutes for buybacks. The reduction in turnaround time has helped reduce market risk for auction participants and has improved the efficiency of the auction process.
One of the key challenges for the Government in recent years has been to maintain a liquid, well-functioning government securities market in the face of declining borrowing requirements and reduced bond issuance. The Government has an interest in sustaining a liquid and efficient market for Government of Canada securities for the purpose of providing stable low-cost funding. A liquid and efficient government securities market also provides key pricing and hedging tools for market participants, thereby contributing to the effective functioning of the broader Canadian fixed-income market.
While liquidity remained at high levels in 2004–05, consultations with market participants suggest that the sizes of nominal bond auctions, particularly in the 10- and 30-year maturities, and benchmark bond sizes, may be approaching their lower limit. The Government may need to adjust the structure of the bond program in the near future to ensure continued liquidity in the government securities market. Accordingly, in 2005–06, it plans to assess potential structural changes to the bond program and to further consult with market participants on the topic.
As part of good governance and management, different aspects of the debt program are reviewed periodically. These reviews are conducted internally at the Department of Finance and Bank of Canada or by external specialists. In 2004–05 a review of the debt distribution framework was conducted.
This report also features indicators that are intended to provide interested parties with an understanding of some of the key measures that debt managers follow with respect to debt management programs and well-functioning securities markets.
Part IV of the Financial Administration Act empowers the Minister of Finance to borrow money on behalf of Her Majesty in right of Canada. The Minister is authorized to issue securities and do any other thing related to the borrowing of money that the Minister considers appropriate. Section 49 of the act requires the Minister to table in the House of Commons, within 45 sitting days after the tabling of the Public Accounts of Canada, a report on the activities of the Minister in relation to the management of the public debt.
Responsibility for strategic planning and the operational management of the public debt is jointly borne by officials at the Department of Finance and the Bank of Canada. The Bank of Canada acts as fiscal agent for the Minister of Finance in issuing debt and conducting other debt market operations.
The oversight of activity is carried out through the Funds Management Committee (FMC), which comprises senior management from the Department of Finance and the Bank of Canada. The FMC advises the Minister of Finance on policy and strategy, oversees the implementation of approved policy and plans, and reviews performance outcomes.
The FMC is supported by a Risk Committee (RC), whose mandate is to oversee and advise on the risk management policy and to report to the FMC on financial risk positions and exposures. The Financial Risk Office at the Bank of Canada provides analytical support to the RC in this role and is responsible for monitoring and regularly reporting on the financial performance and position of the public debt, including market, credit, operational, liquidity and legal risks.
Debt Strategy Framework
Principles and Objectives1
1 For information on the management of foreign reserve assets, see the 2004 Report on the Management of Canada’s Official International Reserves at www.fin.gc.ca/toc/2005/oir05_-eng.asp.
Part I: Debt Management Context
Since the annual debt-servicing cost is the largest single budget expense of the Government, effective management of the federal debt is especially important for all Canadians. This section provides an overview of the Government’s fiscal plan and the composition of the debt stock. The Government’s fiscal position sets the context within which debt management decisions are taken. One of the key decisions of debt management relates to the composition of the debt stock, which directly affects debt costs.
The Fiscal Plan
The Government recorded a budgetary surplus of $1.6 billion in 2004–05, its eighth consecutive budget surplus. The federal debt has been reduced by $63 billion since its peak in 1996–97. The federal debt-to-GDP (gross domestic product) ratio has fallen 29.7 percentage points from its peak of 68.4 per cent in 1995–96 to 38.7 per cent in 2004–05 (see Chart 1), its lowest level since 1983–84. For detailed information, see the 2004–05 Annual Financial Report of the Government of Canada at www.fin.gc.ca/toc/2005/afr_-eng.asp.
The key budgetary measure for market debt management is the financial source/requirement. While the budgetary balance is presented on a full accrual basis, recognizing revenues and expenses when they are incurred, the financial source/requirement is a cash flow measurement that captures the current- and prior-year budgetary items, as well as the cash implications of non-budgetary transactions. As such, the financial source/requirement determines the changes in the market debt and in the level of financial assets.
The budgetary surplus of $1.6 billion and a net source of funds from non-budgetary transactions of $3.2 billion produced a financial source of $4.8 billion in 2004–05 (see Chart 2). This compares to a financial source of $6.2 billion in 2003–04, and a source of $7.6 billion in 2002–03. The financial source in 2004–05 was used to reduce market debt by $4.8 billion.
Public Debt Costs
In 2004–05 the Government spent 17.2 cents of every dollar of revenue to pay interest on the public debt, down from a peak of almost 39 cents in 1990–91. Public debt charges as a percentage of GDP declined to 2.6 per cent in 2004–05 from 2.9 per cent in 2003–04 (see Chart 3). In 2004–05 the average interest rate paid on the public debt declined by 30 basis points to 5.5 per cent from 5.8 per cent in 2003–04.
Composition of the Federal Debt
The federal debt consists of the total liabilities of the Government of Canada (gross debt) minus financial and non-financial assets. Gross debt can be broken down into market debt and non-market debt. Market debt is funded in the capital markets and is actively managed by the Government. Non-market debt comprises liabilities held by the Government outside capital markets and includes the Government’s obligations to public sector pension plans, the CPP, as well as other liabilities, accounts payable and accrued liabilities and allowances. The following diagram illustrates the relationships between the components of the federal debt, based on the 2004–05 fiscal year. See Annex 1 for a more detailed description of the composition of the federal debt.
There are two types of market debt: domestic debt, which is denominated in Canadian dollars, and foreign currency debt (see Chart 4). The Government borrows in Canadian dollars using wholesale and retail funding. Wholesale funding is conducted through issuance of marketable securities, which include nominal bonds, Real Return Bonds and treasury bills. These securities are sold via auctions to Government of Canada securities distributors and end-investors. (The names of and details on the framework for government securities distributors and primary dealers can be found at www.bankofcanada.ca/en/auct.htm.) Retail funding is raised through sales of Canada Savings Bonds products to individuals who are Canadian residents.
See www.fin.gc.ca/invest/instru-eng.asp for a detailed description of the Government of Canada’s market debt instruments.
Funds raised in Canadian dollars are used primarily to meet the Government’s operational requirements. A portion of Canadian-dollar wholesale debt is swapped to foreign currencies to fund the Government’s foreign exchange reserves. Chart 5 shows market debt taking into account swaps. The Government also borrows in foreign currencies to fund reserves, which are held in the Exchange Fund Account (EFA). The EFA provides a source of foreign currency liquidity and is used to promote orderly conditions in the foreign exchange market for the Canadian dollar.
Table 1 shows the change in the composition of federal market debt in 2004–05 by domestic and foreign debt programs. Further details on the changes in programs and indicators of debt management operations and activities can be found in Part III. Total domestic debt was reduced by $0.7 billion while foreign currency debt declined by $4.1 billion.
Change in Composition of Federal Market Debt, 2004–05
|April 1, 2004 Outstanding||March 31, 2005 Outstanding||Change|
|Foreign currency debt1||20.5||16.3||-4.2|
|CPP bonds and notes||3.4||3.4||0.0|
|Obligations related to capital leases||2.8||2.9||+0.1|
|Total market debt||440.2||435.5||-4.8|
Note: Numbers may not add due to rounding.
1 Liabilities are stated at par value at the March 31, 2005, exchange rate.
Source: Public Accounts of Canada.
Part II: Report on 2004–2005 Debt Strategy
The federal debt strategy covers the management of federal market debt and operational activities related to it, including the management of Canadian-dollar cash balances and the funding and investment of Canada’s foreign exchange reserves. Annual debt strategy planning sets out the objectives for the year in each of these domains and provides for a series of initiatives.
A well-functioning wholesale market in Government of Canada securities benefits the Government as well as a wide range of market participants. For the Government as a debt issuer, a well-functioning market attracts investors and ensures that funding costs are kept low. For market participants, a liquid and active secondary market in government debt provides credit-risk-free assets for investment portfolios, a pricing benchmark for other debt issues and swaps, and a primary tool for hedging interest rate risk.
In 2004–05 a number of initiatives were undertaken to enhance the effectiveness of the Government of Canada’s debt management. This document reports on these initiatives organized around four key themes: cost and risk; maintaining a well-functioning government securities market; encouraging participation in the government securities market; and framework reviews.
Cost and Risk
The Government’s objective of maintaining stable, low-cost financing involves managing exposure to a range of financial risks. The key risk for the Government relates to changes in interest rates and their effect on domestic borrowing costs (interest rate risk). A lesser risk is the Government’s credit exposure to financial institution counterparties with which it transacts (credit risk). This section provides an overview of the main considerations in balancing interest rate risk and cost.
The Government has access to a variety of instruments to fund its debt, with standard maturities ranging from 3 months to 30 years. As does any other borrower in the financial markets, the Government generally faces a trade-off between cost and risk when selecting the instruments it issues. Borrowing costs of longer-term instruments tend to be higher, but are fixed for long periods. On the other hand, borrowing costs of shorter-term instruments tend to be lower on average, but more volatile. By choosing the proportion of each instrument it issues, the Government can establish a debt structure that strikes an appropriate balance between keeping costs stable and low.
The main operational target used to manage the debt structure is the fixed-rate share, which measures the proportion of interest-bearing debt having fixed rates—debt that does not mature or need to be repriced within one year—relative to total interest-bearing debt. The fixed-rate share incorporates both market and non-market debt. In the February 2003 budget, the Government announced its intention to reduce the fixed-rate share target from two-thirds to 60 per cent by 2007–08 (see Chart 6).
The decision to lower the fixed-rate share is based on positive economic and fiscal developments in Canada in recent years. Financial simulation modelling indicates that a 60-per-cent fixed-rate share would result in lower borrowing costs under a large number of interest rate scenarios without compromising debt-cost stability.
In 2004–05 the Government continued to reduce the fixed-rate share, with the share declining from 63.8 per cent to 63.1 per cent over the fiscal year. The change in debt structure will continue to be implemented gradually, in an orderly and transparent manner, over the next few years.
As a consequence of the adjustment in the fixed-rate share, the stock of outstanding treasury bills and cash management bills increased from $113.4 billion to $127.2 billion in 2004–05, while the stock of outstanding nominal bonds declined from $258.2 billion to $244.3 billion.
In addition to the fixed-rate share, the Government uses other indicators to track the exposure to interest rate risk inherent in the debt stock. The average term to maturity (ATM) represents the average length of time before debt instruments mature and become subject to refinancing risk. The ATM of marketable debt has stabilized at around 6 1⁄2 years since 2000, after having increased from roughly 4 years in 1991 (see Chart 7). A longer ATM means that debt instruments are rolled over less frequently, which implies less uncertainty regarding future debt costs.
A related strategy to reduce the risk of higher borrowing costs is the maintenance of a stable maturity profile. A well-distributed maturity profile limits the need to refinance a large portion of the debt in any given period when borrowing conditions may be unfavourable.
The emphasis on the regularity of debt operations, including in particular regular cycles for new bond benchmarks, helps to maintain a stable maturity profile. As well, the cash management bond buyback (CMBB) program, through which benchmark bonds maturing within a year are repurchased before their maturity dates, helps stabilize the maturity profile within a given year and manage cash balances effectively around large maturity dates. By reducing the need to accumulate high cash balances leading up to large bond maturities, the CMBB program also smoothes out seasonal fluctuations in treasury bill issuance. Overall, through the CMBB program, large maturities were lowered by 21 per cent in 2004–05, reducing the Government’s cost of holding high levels of cash balances for key coupon and maturity payment dates.
Risk Associated With Funding the Foreign Reserves
The Government borrows in foreign currencies to raise foreign exchange reserve assets for the Exchange Fund Account. These assets provide foreign currency liquidity and help promote orderly conditions for the Canadian dollar in the foreign exchange markets. Foreign exchange funding requirements in 2004–05 were met primarily through cross-currency swaps, which are particularly cost-effective compared to other funding sources.
Collateral management frameworks are used to manage the Government’s credit risk to financial institution counterparties associated with cross-currency swaps. Under these frameworks, high-quality collateral (e.g. cash, securities) is placed with the Government when the Government’s exposure to a counterparty exceeds specified limits.
Risk measures are reported on a monthly basis to management at the Department of Finance and the Bank of Canada.
Maintaining a Well-Functioning Market
The Government supports the maintenance of a liquid well-functioning market for its marketable securities in order to help maintain low funding costs. One way it achieves this goal is by building large liquid benchmark bonds and treasury bills in various maturity sectors on a regular, predictable basis. The use of multiple maturities attracts a wide array of investors, while regular and transparent issuance ensures that there is no uncertainty as to the Government’s plans. Initiatives outlined in the 2004–05 Debt Management Strategy to promote liquidity in the Government of Canada securities market were:
- Diversified and regular issuance: The Government continued its practice of issuing and building large liquid benchmarks in a variety of instruments and terms to maturity to target a diverse investor base. These instruments include four bond maturity sectors (quarterly 2-, 5- and 10-year auctions and semi-annual 30-year auctions); three treasury bill maturity sectors (3-, 6- and 12-month maturities with auctions every two weeks); a long-term inflation-indexed bond (quarterly issuance); and debt issued as part of the retail debt program. Regular issuance helps provide certainty for dealers and investors in their preparations for auctions.
- Benchmark target sizes: The 2-, 5-, 10- and 30-year new building benchmark target sizes were unchanged from the previous year (2-year bonds: $7 billion to $10 billion; 5-year bonds: $9 billion to $12 billion; 10-year bonds: $10 billion to $14 billion; and 30-year bonds: $12 billion to $15 billion). All benchmarks built in 2004–05 were within their target range.
- Regular buybacks: Against the backdrop of debt paydown in recent years, the Government has been using the regular bond buyback program on both a switch and cash basis to repurchase off-the-run bonds (i.e. securities that are no longer the current or the previous building benchmark), thereby helping to maintain gross bond issuance levels and maintain benchmark bond sizes. Unlike buybacks on a cash basis, where bonds offered are exchanged for cash, bonds repurchased on a switch basis are exchanged for the current building benchmark. (The regular bond buyback program differs from the cash management bond buyback program in that the former serves to maintain gross bond issuance, while the latter helps the Government manage its cash requirements effectively by reducing large bond maturities.)
The 2004–05 Debt Management Strategy outlined the Government’s buyback target of approximately $11 billion, similar to 2003–04. During the year the Government issued $11.5 billion in new benchmark bonds through the repurchase of $11.5 billion in off-the-run bonds. The basket of eligible bonds for buyback in the 10-year sector was successfully expanded in 2004–05 to help maintain buyback operations in that sector.
In 2004–05 the Government repurchased $4.7 billion in bonds through the switch program (a decrease of $0.3 billion from 2003–04), and $6.8 billion through the cash buyback program (an increase of $1.6 billion from 2003–04).
Active participation at auction and buyback operations of a diverse group of market participants also helps the Government to achieve its key objective of stable, low-cost funding. Over the past few years initiatives to enhance transparency and the bidding process have been undertaken to broaden participation. A key initiative undertaken in 2004–05 was the reduction in the time in which auction and buyback results are made public (turnaround time).
On April 1, 2004, the Government reduced the turnaround time for auctions and buyback operations from fixed times (10 and 15 minutes respectively) to a "best efforts basis" (i.e. when ready). Lower turnaround time has reduced the market risk for market participants, further enhancing the efficiency of the auction and buyback process. Market participants have indicated their satisfaction with these changes.
Charts 8 and 9 show the reduction in turnaround times in recent years, from 45 minutes at the end of 1998 to an average of less than 3 minutes for treasury bill and bond auctions and an average of less than 7 minutes for buyback operations in 2004–05.
The Government regularly assesses its treasury management policies and programs as part of good governance and management of the debt program. These reviews are conducted internally at the Department of Finance and Bank of Canada or by external specialists. In 2004–05 the Government conducted an internal review of the effectiveness of its debt distribution framework. An external study of the borrowing and governance framework of Crown corporations was also undertaken (available at www.fin.gc.ca/toc/2005/mfgbe-eng.asp).
Evaluation of the Debt Distribution Framework
The evaluation of the debt distribution framework for Government of Canada securities was launched in the fall of 2004 and included internal analysis by the Government and consultations with interested parties. A consultation document was posted in October 2004 on the Bank of Canada’s website (www.bank-banque-canada.ca/en/notices_fmd/2004/not181004_review.html).
The purpose of the review was to assess the framework’s effectiveness in raising stable, low-cost funding for the Government and supporting a well-functioning market for Government of Canada securities, and whether changes to the framework were warranted.
The review was considered timely given the evolution of the government securities market since the previous review of the framework in 1998: lower borrowing requirements of the federal government; greater concentration of auction participation and secondary market trading; interest by some investors in direct participation at auctions; and innovation in financial markets through, for example, the development of alternative trading systems.
Following the conclusion of the review, changes to the debt distribution framework were released in a document published in August 2005 on the Bank of Canada’s website (www.bank-banque-canada.ca/en/notices_fmd/2005/not080805.html). The review found that the framework is generally working well, with auctions consistently covered and well bid. The Government identified changes to the framework to promote continued competition and participation in Government of Canada securities auctions. The changes fall into two broad areas: adjustments in auction access for dealers and customers, and changes to minimum bidding obligations of dealers. These changes are scheduled for implementation in early December 2005, following the update of the Terms of Participation and the Standard Terms for Government of Canada auctions.
Debt Strategy Plan and Summary of Actions Taken
The following summary reports on the 2004–05 debt strategy plan initiatives, their purpose and actions taken. All of the strategic objectives for the management of the Government’s debt, cash and reserves were achieved over the course of the year.
|Cost and Risk||Continue to reduce the fixed-rate share of the debt towards the 60-per-cent target.||Achieve lower debt charges, while continuing to prudently mitigate the risk to the budget framework.||The fixed-rate share was reduced from 63.8 per cent to 63.1 per cent over the 2004–05 fiscal year.|
|Increase the size of the treasury bill program from $110 billion-$115 billion in 2003–04 to approximately $130 billion in 2004–05.||Facilitate market adjustment to changes in the bond and treasury bill programs.||The stock of outstanding treasury bills and cash management bills increased by $13.8 billion to about $127 billion.|
|Issue roughly $36 billion of nominal bonds in 2004–05, $4 billion less than in 2003–04. Due to large bond maturities and continued cash management bond buyback operations, the bond stock was expected to decrease by some $16 billion.||$35.5 billion of bonds were issued. The stock of outstanding bonds declined by $13.9 billion to about $244 billion.|
|Maintain a stable maturity profile.||Limit the need to refinance a large portion of debt in any given period and help maintain stability in debt programs over time.||
Average term to maturity was maintained above 6.5 years.
$12.9 billion of bonds were repurchased through the cash management bond buyback program.
|Continue to use cross-currency swaps for the majority of foreign reserves funding.||Keep the cost of carrying reserve assets low.||Sixty-four cross-currency swaps were executed in 2004–05 totalling $5.9 billion.|
|Maintaining a Well-Functioning Market||Continue regular issues of marketable bonds in four maturity sectors, treasury bills in three maturity sectors and a long-dated index-linked bond.||Provide liquidity across investor segments, instruments and maturities, which contributes to managing both cost and risk.||Issuance schedule and maturities of past years were maintained in treasury bills, nominal bonds and Real Return Bonds.|
|Maintain current benchmark target sizes for 2-, 5-, 10- and 30-year bonds.||Maintain a liquid market for on-the-run and building benchmark issues.||Benchmark bond target sizes were maintained.|
|Continue regular bond buybacks at a planned level of about $11 billion, as in 2003–04.||Help maintain bond auction sizes and support issuance of large liquid benchmarks.||A total of $11.5 billion of bonds were bought back through the regular buyback program.|
|Expand the basket of bonds eligible for 10-year cash and switch buybacks to include more long-dated maturities.||Promote liquidity by reaching target benchmark sizes within a one-year cycle.||Bonds with maturities up to June 2027 were included in the basket of eligible bonds for buyback operations in the 10-year sector.|
|Participation||Beginning April 1, 2004, reduce turnaround time for auctions and buybacks to a best efforts basis.||Enhance bidding and participation by reducing market participants’ risk.||Turnaround times on a best efforts basis have averaged less than 3 minutes for auctions and less than 7 minutes for buybacks.|
|Framework Reviews||Review the debt distribution framework.||Assess the framework’s effectiveness in raising stable, low-cost funding and supporting a well-functioning market for Government of Canada securities.||
Changes to the Terms of Participation and Standard Terms for Government of Canada auctions were announced in August 2005 and are scheduled for implementation in early December 2005.
Part III: Programs and Indicators
Part III is divided into three main sections: the outcome of operations and activity with respect to the domestic debt programs; indicators of cash management performance; and measures of reserves funding and investment. It also provides information on the Government’s investor base and reports on external evaluations of the debt program.
The indicators are intended to provide information on the key measures used by government debt managers. As outcomes in virtually all cases are the product of many factors, the measures do not reflect the impact of specific government debt management policies. However, they serve as useful guideposts in helping to understand the results and context of the Government’s debt management initiatives.
Domestic Debt Programs
There are a number of measures of outcomes in the area of domestic debt management. They can be divided into two groups: those associated with the debt issuance process (the primary market) and those dealing with post-issuance trading (the secondary market).
Measures of a well-functioning securities market include the degree to which auctions in the primary market are well bid and the level of liquidity and trading in the secondary market. In 2004–05 the Government’s treasury bill and bond auctions continued to be well bid. Primary dealers, a core group of government securities distributors that maintain a certain threshold of activity in the market for Government of Canada securities, play the dominant role at auctions except in the case of Real Return Bond auctions, where customers have won more than 40 per cent of the bonds on offer in recent years.
The secondary market for Government of Canada securities continues to experience healthy trading volumes and turnover ratios that compare favourably to those of other countries. Primary dealers also play a major role in secondary markets, with the top 10 participants accounting for about 98 per cent and 91 per cent of the turnover of treasury bills and bonds respectively. For more information on the framework through which the Government distributes its debt, see www.fin.gc.ca/dtman/2001-2002/dmr02_3-eng.asp#Annex1.
Gross bond program issuance in 2004–05 was $35.5 billion (including issuance through switch buybacks), lower than the $39.4 billion in 2003–04 (see Table 2). Gross issuance consisted of $12.0 billion in 2-year bonds, $9.6 billion in 5-year bonds, $10.6 billion in 10-year bonds and $3.3 billion in 30-year bonds (see Reference Table IX for more information on bond auctions). In 2004–05, $32.5 billion of bonds matured. Taking into account buybacks and maturities, the stock of outstanding bonds declined by $13.9 billion during the year to $244.3 billion as at March 31, 2005.
Real Return Bonds (RRBs)
RRB issuance in 2004–05 was at a level similar to the previous year’s issuance of $1.4 billion, increasing the level of outstanding RRBs from $20.6 billion (which includes the Consumer Price Index [CPI] adjustment) to $22.4 billion as at March 31, 2005. In 2004–05 the Government issued its fourth RRB, one with a December 1, 2036, maturity (see Reference Table X for more information on RRB auctions).
Regular Bond Buyback Program
The objectives of the regular bond buyback program are to enhance liquidity and maintain active new issuance in the primary market for Government of Canada securities. Regular bond buyback operations totalled $11.5 billion in 2004–05, consisting of $6.2 billion in 2- and 5-year bonds, $3.9 billion in 10-year bonds, and $1.4 billion in 30-year bonds (see Reference Table XII for more information on buyback operations).
Buybacks on a cash basis resulted in $6.8 billion of new benchmarks being issued. Switch buyback operations in 2004–05 resulted in $4.7 billion of new building benchmarks being issued. Chart 10 shows the impact of regular bond buybacks on benchmark sizes in 2004–05.
Change in Composition of Federal Market Debt, 2004–05
|April 1, 2004 Outstanding||New Issues||Maturing||Repurchase||March 31, 2005 Outstanding||Change|
|Real Return Bonds||20.62||1.4||0.0||–||22.4||1.8|
|Total domestic debt||413.5||412.8||-0.7|
|Foreign currency debt4|
|Euro Medium-Term Notes||3.0||0.0||1.4||–||1.7||-1.3|
|Total foreign debt||20.5||16.3||-4.2|
|CPP bonds and notes||3.4||0.0||0.0||–||3.4||0.0|
|Obligations related to capital leases||2.8||0.2||0.1||–||2.9||0.1|
|Total market debt||440.2||435.5||-4.8|
Note: Sub-categorization of Government of Canada debt is in accordance with Bank of Canada reports, which may vary slightly from Public Accounts categories due to differences in classification methods. Numbers may not add due to rounding.
1 Includes the regular bond buyback program ($11.5 billion) and the cash management bond buyback program ($12.9 billion). Some cash management bond buybacks in 2004–05 did not reduce maturities in that year, but in 2005–06.
2 Includes CPI adjustment.
3 These securities are issued at 3-, 6- and 12-month maturities and are therefore rolled over a number of times during the year for refinancing. This results in a larger number of new issues per year than stock outstanding at the end of the fiscal year. These amounts include cash management bills.
4 Liabilities are stated at par value at the March 31, 2005, exchange rate. Changes in outstanding amounts for foreign currency bonds, Canada notes and Euro Medium-Term Notes include the exchange rate appreciation/depreciation of the currency of issue versus the Canadian dollar.
5 Includes $492.0 million in securities assumed by the Government of Canada on February 5, 2001, on the dissolution of Petro-Canada Limited.
Source: Public Accounts of Canada.
Treasury Bills and Cash Management Bills (CMBs)
The stock of outstanding treasury bills and CMBs increased by $13.8 billion during 2004–05 to $127.2 billion at March 31, 2005, consistent with the orderly move to a lower fixed-rate share of debt. For the entire fiscal year $271.5 billion in treasury bills and CMBs were auctioned, an increase of $9.0 billion from the previous year (see Table 3). There were $4.7 billion of CMBs outstanding at the beginning of fiscal 2004–05 and $7.5 billion outstanding at the end of the year. Throughout the year the Government issued $25.0 billion of CMBs of various short-term maturities.
Treasury Bill and CMB Program Issuance
|3-month treasury bills||100,700||88,100||103,300||117,400||129,700||137,500|
|6-month treasury bills||46,600||38,600||43,100||47,800||51,900||54,500|
|12-month treasury bills||46,600||38,600||43,100||47,800||51,900||54,500|
|Total treasury bills||193,900||165,300||189,500||213,000||233,450||246,500|
|Total including CMBs||213,600||174,300||197,000||236,750||262,416||271,450|
|Sources: Bank of Canada and Public Accounts of Canada.|
The level of outstanding debt held by domestic retail investors—Canada Savings Bonds and Canada Premium Bonds—decreased from $21.3 billion to $19.1 billion in 2004–05. Gross sales and redemptions were $2.0 billion and $4.2 billion, respectively, for a net reduction of $2.2 billion in the stock of retail debt. The decline of the retail debt stock is consistent with the trend in overall government debt and an environment of increased competition from private sector retail instruments. Retail debt stock outstanding has decreased from just under $33 billion in 1993 to the current $19.1 billion.
For more information on Canada Savings Bonds and Canada Premium Bonds, see the annual report of Canada Investment and Savings, the Government’s retail debt agency, available at www.csb.gc.ca/eng/about_report.asp.
Bill and Bond Auction Results Indicators
The two conventional measures of auction performance are the auction coverage and tail. These two measures, combined with the yield of the securities issued, describe the quality of an auction in terms of its competitiveness and its impact on the cost of borrowing.
The auction coverage is defined as the total size of bids received divided by the auction size. A coverage statistic of one is essential for all securities on offer to be sold and a higher statistic is generally better, as it indicates active bidding and therefore lower costs for the Government. The auction tail is the number of basis points between the highest yield accepted and the average yield. In this case, smaller is better as it indicates strong bidding and therefore lower costs.
The terms of participation in government auctions require larger dealers (primary dealers) to bid for 50 per cent of their auction limit at reasonable prices. Maximum coverage ratios from primary dealers (which represent about 85 per cent of winning bids) could reach a maximum of about 2.6 for bond auctions and 2.4 for treasury bill and CMB auctions, while minimum coverage, assuming that all primary dealers bid at their minimum bidding limit, would total about 1.4 for bond auctions and 1.2 for treasury bill and CMB auctions.
In 2004–05 coverage remained generally stable for treasury bill and bond auctions. Coverage has remained stable over the last four years. Tails were narrower in 2004–05 than the 4-year average for treasury bill and bond auctions, indicating relatively more competitive bidding at auctions (see Table 4).
Performance at Auctions
|Coverage (Ratio)||Tail (Basis Points)|
|2001–02||2002–03||2003–04||2004–05||4-yr avg.||2001–02||2002–03||2003–04||2004–05||4-yr avg.|
|Real Return Bonds1||2.8||3.2||2.9||2.5||2.8||n.a.||n.a.||n.a.||n.a.||n.a.|
1 Auction tails for RRBs are not relevant since RRBs are distributed through single-price auctions.
2 Weighted average excludes CMBs.
Source: Bank of Canada.
Participation at Auctions
This section provides information on participation of government securities distributors (primary dealers and other government securities dealers) and customers (in practice institutional investors) in the primary market for Government of Canada securities. Primary market shares are calculated using government securities distributors’ and customers’ allotments at auctions during the fiscal year.
In 2004–05 primary dealers (PDs) were allotted 96 per cent of nominal bond auctions while customers were allotted about 2 per cent. Other government securities distributors (GSDs) won approximately 2 per cent (see Table 5). The 10 most active participants bought about 93 per cent of the bonds on average. These percentages show an increase in concentration of primary dealer allotments from previous years, continuing a trend of increasing auction shares by the larger participants.
Bond Auctions Share of Amount Allotted to Participants
(Excluding Real Return Bonds)
|Top 10 participants||84.0||88.7||90.9||92.8|
|Source: Bank of Canada.|
Primary dealers are the most active participants in bond buyback operations. Customers’ share of allotments at buybacks is shown as zero, but this likely underestimates the level of participation of customers, as they may participate in buyback operations through dealers without identifying themselves (see Table 6).
Bond Buyback Operations Share of Amount Allotted to Participants
(Excludes Cash Management Bond Buybacks)
|Top 10 participants||98.4||94.5||97.4||97.9|
1 Results may underestimate customer participation. Contrary to treasury bill and bond auctions, customers do not have to inform the Bank of Canada about their participation at buyback operations.
Source: Bank of Canada.
Real Return Bonds
Unlike nominal bond auctions, RRB auctions have more active customer participation. This is largely due to the relative lack of product availability in the secondary market, as many RRB investors are buy-and-hold investors. Allotments to customers decreased from about 63 per cent in 2003–04 to about 46 per cent in 2004–05 as the primary dealers’ share increased from the previous year. The 10 most active participants in RRB auctions were allotted about 67 per cent of the auction, which is in line with historical averages (see Table 7).
RRB Auctions Share of Amount Allotted to Participants
|Top 10 participants||61.2||63.9||69.0||66.6|
|Source: Bank of Canada.|
For 2004–05 primary dealers accounted for about 86 per cent of amounts allotted at treasury bill auctions while customers accounted for about 11 per cent and other GSDs accounted for about 2 per cent. The share won by primary dealers has been relatively steady in the last four years in a narrow range of 84-86 per cent. In 2004–05 the 10 most active participants accounted for about 94 per cent of amounts allotted at treasury bill auctions (see Table 8).
Treasury Bill Auctions Share of Amount Allotted to Participants
|Top 10 participants||93.0||91.5||93.7||93.6|
|Source: Bank of Canada.|
Cash Management Bills
Primary dealers are the most frequent participants at CMB auctions. In 2004–05 primary dealers were awarded about 96 per cent of the allotted amounts, and the 10 most active participants accounted for about 98 per cent. The average allotment share of customers increased to about 2 per cent from less than 1 per cent in the previous fiscal year (see Table 9).
CMB Auctions Share of Amount Allotted to Participants
|Top 10 participants||97.9||95.5||99.2||98.1|
|Source: Bank of Canada.|
The two conventional measures of liquidity and efficiency in the Government of Canada securities market are trading volume and turnover ratio. These two measures are presented for bonds (Chart 11 and, for international comparison, Chart 12) and treasury bills (Chart 13).
Trading volume and turnover ratios for bond repos (Chart 14) and treasury bill repos (Chart 15) are also provided. A repo, or repurchase agreement, is a transaction in which a party sells a security and simultaneously agrees to repurchase it at a given price at a given time in the future. These transactions provide short-term collateralized loans of cash and low-risk securities to finance or support dealer inventory. As such, they represent an index of the scale of market activity.
Trading volume, which shows the amount of securities traded per period, is a conventional indicator of liquidity. Large trading volume allows participants to buy or sell in the marketplace without a substantial change in the price of the securities. Turnover ratio, which is the ratio of securities traded relative to the amount of securities outstanding, is a measure of market efficiency. High turnover implies that a large amount of securities changes hands over a given period of time, a hallmark of an efficient securities market.
A number of factors affect trading volume and turnover ratio, such as the extent to which new information changes views in the marketplace and changes in the stock of outstanding securities. Trends in these two measures can be indicators of changes in market liquidity and efficiency.
The presence of liquid repo markets and liquid futures contracts complements an efficient Government of Canada securities market. A liquid repo market exists in the Government of Canada securities market for treasury bills and nominal bonds. There is also an active futures contract based on the benchmark 10-year Government of Canada bond. (On May 3, 2004, the Montréal Exchange launched a new futures contract on the benchmark 2-year Government of Canada bond.)
Trading Volume and Turnover Ratios
The volume of transactions in the Government of Canada bond market has grown significantly since 1990. Total marketable bond trading volume was $4,721 billion in 2004–05, a 3.5-per-cent increase from 2003–04. The average quarterly turnover ratio was 4.2 times the outstanding stock of bonds in 2004–05, compared to 3.8 in 2003–04 (see Chart 11).
At an annual stock turnover of 17 in 2004, the Government of Canada bond market compares favourably with other major sovereign bond markets, with the exception of the United States (see Chart 12).
The volume of transactions in the treasury bill market was comparable to the previous fiscal year and remains below the highs in the mid-1990s, when the level of the treasury bill stock was at its peak. In 2004–05 total treasury bill trading volume was $1,364 billion (see Chart 13). The average quarterly turnover ratio increased slightly to 2.89 in 2004–05 from 2.87 in 2003–04.
Both Government of Canada bond repos and treasury bill repos remained active in 2004–05. The total trading volume for Government of Canada bond repos in 2004–05 was $17,594 billion, down from $17,745 billion in 2003–04. The average quarterly turnover ratio for bond repos in 2004–05 was 15.7 times compared to 15.0 times in 2003–04 (see Chart 14). The treasury bill repo market volume in 2004–05 was $3,582 billion compared to $2,710 billion in 2003–04 and the average quarterly turnover ratio was 7.6 compared to 6.0 in 2003–04 (see Chart 15).
The futures contract based on the 10-year Government of Canada bond (the Canadian Government Bond contract or CGB contract) continues to be actively traded, as trading volume reached 3 million contracts in 2004, a 25-per-cent increase from 2003.
Trading by Market Participants
Primary dealers’ share of bond trading decreased slightly from 2003–04 while other government securities distributors’ share increased, continuing the trend since 2001–02. The 10 most active participants in the bond secondary market represent about 94 per cent of trading activities (see Table 10).
Bond Trading: Market Share of Participants
|Top 10 participants||96.0||95.9||95.1||93.9|
|Source: Bank of Canada.|
Primary dealers maintain a dominant share of the treasury bill secondary market, representing about 98 per cent of total trading volume. The 10 most active participants in the treasury bill secondary market represent close to 100 per cent of trading activities (see Table 11).
Treasury Bill Trading: Market Share of Participants
|Top 10 participants||99.4||99.5||99.2||99.5|
|Source: Bank of Canada.|
Receiver General (RG) cash balances, the Government’s Canadian-dollar balances, are invested in a prudent, cost-effective manner through auctions with private sector financial institutions to minimize the cost to the Government of holding cash. Auctions take place twice per day, in the morning (AM auction) and in the afternoon (PM auction). RG cash balances fluctuate widely over the year with variations in the Government’s financial operations, periodic large maturities of Government of Canada bonds, the operations of the Bank of Canada and changes in market conditions. The primary objective is to hold the lowest level of cash balances, consistent with ensuring funds are available to meet daily requirements, with an appropriate margin for security.
Treasury managers use a number of indicators with respect to cash management activities, including the average level of cash balances, coverage and tail at RG auctions, the performance of participants at RG auctions, effectiveness of the cash management bond buyback program, the cost of carry and the profile of treasury bill operations.
Total Receiver General Cash Balances
As indicated earlier, RG cash balances fluctuate widely over the year for a variety of reasons. RG balances reached a peak of $22.0 billion and a low of $2.3 billion in 2004–05 (see Chart 16).
Average Daily Cash Balances
Average daily cash balances increased in 2004–05 to $8.2 billion (see Table 12) as a result of larger bond maturities relative to the previous fiscal year. Larger maturities require that larger cash balances be held in advance of the maturities.
Average Daily RG Cash Balances Held at Financial Institutions
|Average daily cash balances||7,921||6,139||7,854||8,193|
|Source: Bank of Canada.|
Coverage and Tails
In 2004–05 coverage at RG auctions improved from the previous fiscal year for the AM auction, and was above the rolling four-year average (see Table 13). This is a continuation of the trend from the previous year, when the new RG collateralization framework was introduced to encourage more participation in AM auctions (for details on the RG collateralization framework see www.fin.gc.ca/dtman/2003-2004/dmr04_1e.html#Annex2). Coverage for the PM auctions, while weaker than in the previous year, was in line with the rolling four-year average.
In 2004–05 AM and PM auction tails narrowed from the previous year, with the AM auction tail below the average of the last four years.
Performance at Receiver General Auctions
|Tail (basis points)||2.28||0.91||1.68||1.26||1.58|
|Tail (basis points)||2.58||3.04||3.09||2.96||2.92|
|Source: Bank of Canada.|
The top 10 participants in the Large Value Transfer System (LVTS), the electronic system for the transfer of large payments, won about 74 per cent of RG auctions on average in 2004–05, while the top 10 other participants gained about 24 per cent of the amount allotted, amounts in line with the previous year (see Table 14).
Receiver General Auctions Share of Amount Allotted Between LVTS and Other Participants
|Top 10 LVTS||98.5||91.0||76.0||74.3|
|Top 10 others||0.0||7.1||23.8||24.3|
|Source: Bank of Canada.|
Cash Management Bond Buyback Program
The cash management bond buyback (CMBB) program helps manage the Government’s cash requirements by reducing the high levels of government cash balances needed. The program also helps to smooth variations in treasury bill auction sizes over the year.
In 2004–05 the total amount of bonds repurchased through the CMBB program was $12.9 billion, compared to $15.7 billion in 2003–04. The CMBB program reduced the size of the December 2004 maturity by 27 per cent to $9.4 billion. The program also repurchased $2.0 billion in bonds from the September 2005 bond maturity, reducing the maturing amount to $9.3 billion. Overall, large maturities were lowered by 21 per cent in 2004–05, reducing the Government’s cost of holding high levels of cash balances for key coupon and maturity payment dates (see Chart 17).
Cost of Carry
The key measure for the management of cash balances is the net return on cash balances: the difference between the return on government balances auctioned to financial institutions (typically around the overnight rate) and the average yield paid on treasury bills. A normal upward sloping yield curve results in a cost of carry, as financial institutions pay rates of interest for government deposits based on an overnight rate that is lower than the rate paid by the Government to borrow funds. Conversely, under an inverted yield curve, short-term deposit rates are higher than the average of 3- to 12-month treasury bill rates, which can result in a net gain for the Government.
In 2004–05 the cost of carry of holding RG cash balances was a net cost of $13.1 million, compared to a net cost of $0.4 million for the prior fiscal year (see Chart 18). In 2003–04, there were periods when the yield curve at the short end was inverted as market participants expected the Bank of Canada to lower interest rates, which resulted in the lower cost of carry in that year.
Profile of Treasury Bill Operations
As the cost of carry is largely determined by the shape of the yield curve, an indicator of cash management activities is the profile of treasury bill operations (amount issued per auction date less amount maturing per auction date). Smooth profiles provide certainty of supply for market participants and help reduce the cost to the Government associated with large operations. The profile of treasury bill operations continued to be smooth in 2004–05, ranging from -$2 billion to +$4 billion per operation, with a standard deviation of $1.2 billion (see Table 15). The net size of new issues was also reasonably smooth with a standard deviation of $2.2 billion (see Chart 19).
Profile of Net Size of Treasury Bill Issues
|Range||-3 to 3||-3 to 3||-4 to 4||-2 to +6||-2 to +4|
|Standard deviation of new issues less maturities||1.4||1.3||1.9||2.3||1.2|
|Source: Bank of Canada.|
Foreign Currency Debt Programs
The Government borrows in foreign currency to fund the foreign exchange reserves, which are held in the Exchange Fund Account. The Government has at its disposal a variety of instruments to meet its foreign currency funding requirements.
In 2004–05 the level of outstanding Canada bills increased from $3.4 billion (US$2.8 billion) to $3.9 billion (US$3.2 billion). In 2004–05 Canada bills were issued, on average, at an all-in cost of US$LIBOR less 25 basis points.
Foreign Currency Bonds
In 2004–05 no new foreign currency bonds were issued, while a total of $2.4 billion (US$2.0 billion) matured. The total decline in the stock of outstanding foreign bonds, including exchange rate changes, was $3.3 billion. The total outstanding was $9.6 billion (US$7.9 billion) at the end of 2004–05.
There were no new Canada note issues or maturities in 2004–05. The total outstanding was $1.1 billion (US$0.9 billion) at the end of 2004–05.
Euro Medium-Term Notes
In 2004–05 no new Euro Medium-Term Notes were issued, while a total of $1.4 billion (US$1.1 billion) matured. The total outstanding decreased from $3.0 billion (US$2.4 billion) to $1.7 billion (US$1.4 billion).
In 2004–05 the Government of Canada raised $5.9 billion (US$4.6 billion) to fund the foreign exchange reserves by entering into 64 cross-currency swaps. A total of $3.1 billion (US$2.5 billion) of swaps matured in 2004–05. At the end of the 2004–05 fiscal year, the outstanding amount of cross-currency swaps totalled $24.5 billion (US$19.7 billion) (see Reference Table XI for transaction details). Taking into account the effect of cross-currency swaps, foreign currency obligations were 8.9 per cent of market debt.
Funding and Investment of Reserves
As the foreign exchange reserves are managed on an integrated asset-liability basis, the key measures of portfolio performance include both assets and liabilities. The main measures in the area of the funding and investment of reserves are the cost of carry, the total return earned on the asset-liability portfolio, and the costs of the liabilities.
The reserves are invested in liquid, high-quality, fixed-income securities, which have generally provided a relatively low rate of return. In recent years policy changes have been made to broaden the eligible asset mix, within prudent limits, and to invest more in euro-denominated assets. These measures have helped to increase portfolio returns. Further means used to minimize the carry of the foreign reserves have been the use of cross-currency swaps, which are highly cost-effective compared to other sources of funds, and the lending of securities in the reserves portfolio.
Historically, the net return of the asset-liability portfolio has been measured by using the cost of carry methodology. The carry on the foreign reserves is calculated by subtracting the interest paid on Canada’s foreign currency liabilities from interest earned on the reserve assets (i.e. the net interest earned or paid), plus realized gains (due to gains on US-dollar and euro asset sales). The overall carry of the reserves portfolio in 2004–05 is estimated at +27.6 basis points compared to +50.3 basis points in 2003–04. The net cost of carry declined primarily due to higher US yields in 2004–05, which in turn caused a decrease in asset prices and lowered market values of US securities sold.
In 2004–05 a new measure of performance, total return, was calculated for both the assets and the liabilities, and for each currency, with the return on the liability portfolio being used as a benchmark for the assets (since liabilities fund the assets and assets must match liabilities in currency and duration). Total return is based on the market value of both reserve assets and liabilities, and captures the following key variables: realized gains/losses on sales of assets, unrealized gains/losses on existing portfolio assets and liabilities, and net interest income. The Government earned a net return of 11 basis points on the reserves portfolio in 2004–05.
In 2004–05 the sources of reserve funding were Canada bills and cross-currency swaps. Canada bills were issued, on average, at an all-in cost of US$LIBOR less 25 basis points, generally in line with funding levels of recent years. In the case of cross-currency swaps, the Government raised reserve assets at US$LIBOR less 42 basis points on average in 2004–05, in line with recent years.
The 2004 Report on the Management of Canada’s Official International Reserves, available at www.fin.gc.ca/toc/2005/oir05_-eng.asp, provides further information on the performance of the reserves portfolio.
In 2004–05 the Government introduced several new risk measures to enhance measurement of the reserves’ exposure to market risk. The new risk management tools include Value at Risk (VaR), a measure of possible portfolio losses due to normal market movements over a given time period. As of March 31, 2005, the foreign reserves had a 99-per-cent 10-day VaR of $11 million, which implies that, 99 per cent of the time, the value of the portfolio would not be expected to decline by more than $11 million (or less than a tenth of one per cent), on a net basis, over a 10-day period.
Stress testing, which gives a sense of unexpected impacts on the reserves portfolio at times of extreme market turbulence, was also added in 2004–05. Moreover, hypothetical scenarios that mimic market conditions which occurred during four previous extraordinary events were constructed. Testing revealed that the reserves portfolio would be expected to perform well during periods of market turmoil, as investors would purchase the same high-quality assets as those held in the reserves portfolio in these circumstances.
Holdings of Government of Canada Debt
A diversified investor base helps to keep funding costs low by ensuring there is active demand for Government of Canada securities. The Government pursues diversification of its investor base by maintaining a domestic wholesale debt program that is attractive to a wide range of investors, offering a retail debt program that provides savings products to suit the needs of individual Canadians, and using a broad array of funding sources in its foreign borrowings.
In 2004, based on Statistics Canada surveys, life insurance companies and pension funds accounted for the largest share of holdings of Government of Canada market debt (22.9 per cent), followed by public and other financial institutions such as investment dealers and mutual funds (21.2 per cent) and foreign investors (14.1 per cent) (see Chart 20). Taken together, these three sectors accounted for close to 60 per cent of total holdings.
Reference Table IV shows the evolution of the distribution of domestic holdings of Government of Canada debt since 1976, and illustrates that the holdings have become more diversified over that period.
The Department of Finance has an ongoing treasury evaluation process to assess debt management effectiveness. The Department uses external evaluations to assess policies and operational decisions in the area of debt management in order to inform future decision making and contribute to public transparency and good governance. Independent evaluators are contracted to carry out the evaluations.
Treasury Evaluation Reports, 1992–2005
|Debt Management Objectives||1992|
|Debt Structure—Fixed/Floating Mix||1992|
|Internal Review Process||1992|
|External Review Process||1992|
|Benchmarks and Performance Measures||1994|
|Foreign Currency Borrowing—Canada Bills Program||1994|
|Developing Well-Functioning Bond and Bill Markets||1994|
|Liability Portfolio Performance Measurement||1994|
|Retail Debt Program||1994|
|Guidelines for Dealing With Auction Difficulties||1995|
|Foreign Currency Borrowing—Standby Line of Credit and FRN||1995|
|Treasury Bill Program Design||1995|
|Real Return Bond Program||1998|
|Foreign Currency Borrowing Programs||1998|
|Initiatives to Support a Well-Functioning Wholesale Market||2001|
|Debt Structure Target/Modelling||2001|
|Reserves Management Framework||2002|
|Funds Management Governance Framework1||2004|
|Retail Debt Program1||2004|
1 Available at www.fin.gc.ca.
Source: Department of Finance.
Annex 1: Composition of the Federal Debt
Gross debt is made up of market debt and non-market debt. At the end of March 2005 gross debt totalled $705.7 billion, up $4.6 billion from the previous year and down $10.1 billion from its peak of $715.8 billion in 1999–2000.
Market debt is the portion of gross debt that is funded in the capital markets and managed by the Government. Market debt consists of marketable bonds, treasury bills, foreign-currency-denominated bonds and bills, retail debt, bonds held by the CPP and obligations related to capital leases. Foreign currency debt is issued on an opportunistic basis. At March 31, 2005, market debt outstanding was $435.5 billion, down $4.8 billion from the previous year (see Chart A1).
Non-market debt includes liabilities held by the Government outside the capital markets. This includes the Government’s obligations to public sector pension plans, the CPP, as well as other liabilities, accounts payable and accrued liabilities and allowances. In 2004–05 non-market debt amounted to $270.3 billion, up $9.4 billion from the previous year.
Net debt is gross debt minus financial assets. Financial assets include cash, foreign exchange accounts and loans. Net debt declined by $1.6 billion from $556.3 billion in 2003–04 to $554.7 billion in 2004–05. The Government’s financial assets increased by $6.2 billion to $151.0 billion.
Federal debt, or the accumulated deficit, is net debt minus non-financial assets. Non-financial assets include tangible capital assets, inventories and prepaid expenses. Federal debt declined by $1.6 billion, from $501.5 billion in 2003–04 to $499.9 billion in 2004–05. The Government’s non-financial assets increased by $48 million to $54.9 billion.
Annex 2: Glossary
One-hundredth of a percentage point (0.01 per cent).
Specific issue outstanding within each class of maturities. It is considered by the market to be the standard against which all other bonds issued in that class are evaluated.
Price a buyer is willing to pay.
The difference between bid and offer prices. It is typically measured in basis points.
Occurs when government annual revenues exceed annual budgetary expenses. A deficit is the shortfall between government annual revenues and annual budgetary expenses.
Control by the Bank of Canada of settlement balances through increases or decreases in the amount of cash balances supplied to LVTS participants in relation to the amount demanded in order to reinforce the Bank’s target interest rate.
compound interest bond (C-bond):
A Canada Savings Bond or Canada Premium Bond on which interest accrues and is compounded annually to maturity or until redeemed.
Exchange Fund Account:
A fund maintained by the Government of Canada for the purpose of promoting order and stability of the Canadian dollar in the foreign exchange market. This function is fulfilled by purchasing foreign exchange (selling Canadian dollars) when there is upward pressure on the value of the Canadian dollar and selling foreign exchange (buying Canadian dollars) when there is downward pressure on the currency.
Measures the difference between the cash coming in to the Government and the cash going out. In the case of a financial requirement, it is the amount of new borrowing required from outside lenders to meet the Government’s financing needs in any given year.
foreign exchange reserves:
Stocks of foreign exchange assets (e.g. interest-earning bonds) held by sovereign states to support the value of the domestic currency. Canada’s foreign exchange reserves are held in the Exchange Fund Account.
Government of Canada securities auction:
A process used for selling Government of Canada debt securities (mostly marketable bonds and treasury bills) in which issues are sold by public tender to government securities distributors.
government securities distributors (GSDs):
Members of a group of investment dealers and banks through which the Government distributes Government of Canada treasury bills and marketable bonds.
A persistent rise over time in the average price of goods and services.
Consists of unmatured debt, or market debt, and the Government’s liabilities to internally held accounts such as federal employees’ pension plans.
Large Value Transfer System (LVTS):
An electronic system for the transfer of large value or time-critical payments.
London Interbank Offered Rate. An interest rate charged among banks in London for short-term loans denominated in a specific currency.
A Canadian government debt security that is non-cashable prior to maturity, but whose ownership may be transferred from one holder to another on the open market.
Market debt that is issued by the Government of Canada and sold via public tender or syndication. These issues can be traded between investors while outstanding.
A policy that seeks to improve the performance of the economy by regulating money supply and credit.
The market in which short-term capital is raised, invested and traded using financial instruments such as treasury bills, bankers’ acceptances, commercial paper, and bonds maturing in one year or less.
Price at which a seller is willing to sell.
overnight rate; overnight financing rate; overnight money market rate; overnight lending rate:
The rate at which major participants in the money market borrow and lend one-day funds to each other.
primary dealers (PDs):
Members of the core group of government securities distributors that maintain a certain threshold of activity in the market for Government of Canada securities. The primary dealer classification can be attained in either treasury bills or marketable bonds, or both.
The market in which securities are initially sold or offered.
regular interest bond (R-bond):
A Canada Savings Bond or Canada Premium Bond on which interest is paid annually by cheque or by direct deposit to maturity or until redeemed.
repo; repurchase agreement:
A transaction in which a party sells a security and simultaneously agrees to repurchase it at a given price after a specified time.
The market in which previously issued securities are traded, as distinguished from the new issue or primary market.
Volume of securities traded as a percentage of securities outstanding.
The levels of interest rates from short- to long-term maturities.
Annex 3: Contact Information
Department of Finance Canada
Financial Sector Policy Branch
Financial Markets Division
140 O’Connor St., 20th Floor, East Tower
Ottawa, Canada K1A 0G5
Telephone: (613) 992-9031
Fax: (613) 943-2039