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Archived - Exchange Fund Account Annual Report 2002: 2
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Financial Statements
December 31, 2002
Management Responsibility for the Financial Statements
Responsibility for the financial statements of the Exchange Fund Account (the Account) and all other information presented in this Annual Report rests with the Department of Finance. The operation of the Account is governed by the provisions of Part II of the Currency Act. The Account is administered by the Bank of Canada as fiscal agent.
The financial statements were prepared in accordance with the stated accounting policies set out in Note 2 to the financial statements which conform to those used by the Government of Canada. These policies were applied on a basis consistent with that of the preceding year.
The Department of Finance establishes policies for the Account's transactions and investments, and related accounting activities. It also ensures that the Account's activities comply with the statutory authority of the Currency Act.
The Bank of Canada effects transactions for the Account and maintains records, as required to provide reasonable assurance regarding the reliability of the financial statements. The Bank reports to the Department of Finance on the financial position of the Account and on the results of its operations.
The Auditor General of Canada conducts an independent audit of the financial statements of the Account and reports the results of her audit to the Minister of Finance.
The Annual Report of the Account is tabled in Parliament along with the financial statements, which are also part of the Public Accounts of Canada and are referred to the Standing Committee on Public Accounts for their review.
_______________
David A. Dodge
Governor
Bank of Canada
_________________
Kevin G. Lynch
Deputy Minister
Department of Finance
________________
S. Vokey
Chief Accountant
Bank of Canada
Auditor's Report
To the Minister of Finance
I have audited the balance sheet of the Exchange Fund Account as at December 31, 2002 and the statement of revenue for the year then ended. These financial statements are the responsibility of the Account's management. My responsibility is to express an opinion on these financial statements based on my audit.
I conducted my audit in accordance with Canadian generally accepted auditing standards. Those standards require that I plan and perform an audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.
In my opinion, these financial statements present fairly, in all material respects, the financial position of the Account as at December 31, 2002 and its revenues and its cash flows for the year then ended in accordance with the accounting policies set out in Note 2 to the financial statements, which conform to the accounting policies of the Government of Canada.
Further, in my opinion, the transactions of the Account that have come to my notice during my audit of the financial statements have, in all significant respects, been in accordance with Part II of the Currency Act.
John Wiersema, CA
Assistant Auditor General
for the Auditor General of Canada
Ottawa, Canada
March 14, 2003
Exchange Fund Account
Approved:
_________________
David A. Dodge
Governor
Bank of Canada
________________
Kevin G. Lynch
Deputy Minister
Department of Finance
_______________
S. Vokey
Chief Accountant
(The accompanying notes are an integral part of these financial statements.)
Exchange Fund Account
(The accompanying notes are an integral part of these financial statements.)
Exchange Fund Account
Notes to Financial Statements
December 31, 2002
1. Authority and Objective
The Exchange Fund Account (the Account) is governed by Part II of the Currency Act. The Account is in the name of the Minister of Finance and is administered by the Bank of Canada as fiscal agent. The Financial Administration Act does not apply to the Account.
The legislative mandate of the Account is to aid in the control and protection of the external value of the Canadian dollar, and the Minister of Finance acquires or sells for the Account those assets which are deemed appropriate for this purpose in accordance with the Currency Act. The Account is empowered to invest in instruments approved by the Minister of Finance in accordance with the Act.
The objectives of the Exchange Fund Account are to provide general liquidity for the government and to promote orderly conditions in the foreign exchange market for the Canadian dollar. In September 1998, the Department of Finance and the Bank of Canada decided to move away from intervening in the foreign exchange market in a predictable or automatic fashion (selling foreign exchange / buying Canadian dollars when there was upward pressure on the value of the Canadian dollar). Instead, the current policy is for the Bank of Canada to intervene on a discretionary basis.
Revenue for the year is payable to the Consolidated Revenue Fund of the Government of Canada within three months after the end of the year in accordance with the Currency Act.
2. Significant Accounting Policies
Significant accounting policies of the Account are set out below. As required by the Currency Act, they conform to the stated accounting policies used by the Government of Canada to prepare its financial statements. As all material changes in cash flows are evident from the financial statements, a separate statement of cash flows has not been prepared.
a) Valuation of assets
The estimated fair market value of cash and short-term deposits, which are recorded at cost and generally held to maturity, is deemed to be equal to their book value.
Marketable securities are adjusted for unamortized premiums or discounts, where applicable, and are reported at the lower of their amortized costs including accrued interest and year-end market values. Purchases and sales of securities are recorded at the settlement dates.
Marketable securities, short-term deposits and Special Drawing Rights (SDR) include accrued interest. The SDR is a unit of account issued by the International Monetary Fund (IMF), and its value is determined in terms of a basket of four major currencies.
Gold and gold loans include accrued interest. Gold and gold loans are carried in the Account at a value of 35 SDR per fine ounce, which approximates cost and conforms to the value used in the Public Accounts of Canada.
b) Revenue from investments
Revenue from investments is recorded on an accrual basis and includes interest earned, amortization of premiums and discounts, gains or losses on sales of securities, and revenues from securities lending activities. Write downs of securities to their year-end market values (if applicable) are recorded as a charge to investment revenue in the year in which they occur.
c) Gold
Gold sales and net gains on gold sales are recorded at settlement dates. Interest revenue from gold loans is recorded on an accrual basis and is included in revenue. Premiums received on the sales of call options on gold are recorded in revenue.
d) Translation of foreign currencies and SDRs
Assets and liabilities denominated in foreign currencies and SDRs are translated into Canadian and US dollar equivalents at year-end market exchange rates, which were as follows:
| Canadian dollars | ||
|---|---|---|
| 2002 | 2001 | |
| US dollar | 1.5776 | 1.5928 |
| Euro | 1.6568 | 1.4182 |
| Japanese yen | 0.01328 | 0.01211 |
| Special Drawing Rights | 2.13699 | 1.99995 |
Foreign exchange gains or losses result from the translation of assets and advances denominated in foreign currencies and SDRs, as well as transactions throughout the year. Unrealized foreign exchange gains or losses on forward currency contracts are recorded in revenue as Net foreign exchange gains(losses).
Investment revenue in foreign currencies and SDRs is translated into Canadian dollars at the foreign exchange rates prevailing on the date the revenue is earned.
e) Services received without charge
The Account receives without charge administrative, custodial and fiscal agency services from the Bank of Canada. Costs related to these services are not recognized in the financial statements.
f) Interest-free advances
The Account receives interest-free advances from the Consolidated Revenue Fund. Interest cost related to these advances is not recognized in the financial statements.
3. Official Government Operations
Official government operations involve purchases and sales of Canadian dollars against foreign currencies. These are undertaken to promote orderly conditions in the market for the Canadian dollar, or to meet net government requirements for foreign exchange. During 2001 and 2002, no transactions were aimed at moderating movements in the value of the Canadian dollar.
The majority, but not all, of Canada's official international reserves reside inside the Exchange Fund Account. The EFA accounts for approximately 90% of Canada's official reserves.
4. Risk Management and Financial Instruments
The role of the EFA as principal repository of Canada's official international reserves determines the nature of its assets and of its operations, as well as its use of financial instruments.
To ensure that the EFA asset portfolio is prudently diversified with respect to credit risk, the investment guidelines specify limits on holdings by class of issuer (sovereign, agency, supranational or commercial financial institution) and type of instrument, while there are further limits on exposure to any one issuer or counter-party.
With respect to investment guidelines prescribed by the Minister of Finance, the EFA may hold debt issued in the designated currencies by highly rated sovereign governments, their agencies and by supranational organizations. Eligible issues must have an A-rating or better from two of four designated rating agencies (S&P, Moody's, Fitch, and Dominion Bond Rating Service) one of which must be either Moody's or S&P. The EFA may also make deposits and execute other transactions with commercial financial institutions meeting the same rating criteria, with the term to maturity of commercial deposits limited to three months or less.
Interest rate and foreign currency risks are managed by adopting a strategy of matching the duration structure and the currency of the EFA's assets and the related foreign currency borrowings of the government of Canada.
Term Structure of Foreign Currency Investment
| 2002 | 2001 | ||||||
|---|---|---|---|---|---|---|---|
| Par Value | Unamortized Premium/ Discount and Accrued Interest | ||||||
| Under 6 months | 6 to 12 months | 1 to 5 years | Over 5 years | Amortized Cost |
Amortized Cost |
||
| (in millions of US dollars) | |||||||
| US Dollar Holdings | |||||||
| Government securities | $ 3,125 | $ - | $ - | $ - | $ (11) | $ 3,114 | $ 3,233 |
| Yield to Maturity | 1.52% | ||||||
| Other securities | 3,177 | 30 | 5,317 | 2,717 | 280 | 11,521 | 11,901 |
| Yield to Maturity | 1.37% | 2.46% | 5.51% | 5.48% | |||
| Total US Dollar Holdings | 6,302 | 30 | 5,317 | 2,717 | 269 | 14,635 | 15,134 |
| Other Foreign Currencies | |||||||
| Euro Holdings | |||||||
| Other securities | 106 | 315 | 4,558 | 7,658 | 416 | 13,053 | 9,776 |
| Yield to Maturity | 4.47% | 4.89% | 4.48% | 4.85% | |||
| Yen Holdings | |||||||
| Government securities | - | - | 421 | 421 | 4 | 846 | 765 |
| Yield to Maturity | 0.57% | 1.91% | |||||
| Total Other Foreign Currencies | 106 | 315 | 4,979 | 8,079 | 420 | 13,899 | 10,541 |
| Total Assets: | $ 6,408 | $ 345 | $10,296 | $ 10,796 | $ 689 | $ 28,534 | $ 25,675 |
5. Marketable Securities Denominated in US Dollars
| 2002 | 2001 | |||||
|---|---|---|---|---|---|---|
| (in millions of dollars) | ||||||
| Securities | Par value | Amortized cost | Par value |
Amortized cost | ||
| US | US | Canadian | US | US | Canadian | |
| US Government | $ 3,125 | $ 3,114 | $ 4,913 | $ 3,251 | $ 3,232 | $5,148 |
| US Federal Agencies | 4,366 | 4,415 | 6,965 | 7,772 | 7,746 | 12,337 |
| Sovereign paper and International Institutions |
6,875 | 6,901 | 10,886 | 3,896 | 3,894 | 6,203 |
| Accrued interest | - | 205 | 324 | - | 262 | 417 |
| $ 14,366 | $ 14,635 | $ 23,088 | $ 14,919 | $ 15,134 | $ 24,105 | |
| Estimated market value at year-end: | $ 15,316 | $ 24,163 | $ 15,570 | $ 24,799 | ||
Estimated market values are based on quoted market prices.
Loans of securities are effected on behalf of the Account by agents who guarantee the loans and obtain collateral of equal or greater value from their approved counter-parties in these transactions. At year-end, a portion of the Account's holdings of US Government securities consisting of US$ 2,200 million (par value) in Treasury Bills (US$ 2,500 million in 2001) is being used in securities lending operations with financial institutions.
6. Assets Denominated in Other Foreign Currencies
| Cash and Short-term Deposit | ||||
|---|---|---|---|---|
| 2002 | 2001 | |||
| (in millions of dollars) | ||||
| US | Canadian | US | Canadian | |
| Euro | $ 65 | $ 102 | $ 46 | $ 73 |
| Japanese yen | 69 | 109 | 62 | 99 |
| $ 134 | $ 211 | $ 108 | $ 172 | |
| Marketable Securities | ||||||
|---|---|---|---|---|---|---|
| 2002 | 2001 | |||||
| (in millions of dollars) | ||||||
| Par value | Amortized cost | Par value | Amortized cost | |||
| US | US | Canadian | US | US | Canadian | |
| Euro | $ 12,637 | $ 13,047 | $ 20,583 | $ 9,487 | $ 9,776 | $ 15,571 |
| Japanese yen | 842 | 846 | 1,335 | 760 | 765 | 1,219 |
| $ 13,479 | $ 13,893 | $ 21,918 | $ 10,247 | $10,541 | $ 16,790 | |
| Estimated market value at year-end | $ 14,597 | $ 23,028 | $ 10,618 | $ 16,913 | ||
Estimated market values are based on quoted market prices.
7. Special Drawing Rights (SDR)
| 2002 | 2001 | |||
|---|---|---|---|---|
| (in millions of dollars) | ||||
| US | Canadian | US | Canadian | |
| Held at year-end | $ 717 | $ 1,130 | $ 614 | $ 978 |
| Accrued interest | 2 | 4 | 2 | 4 |
| $ 719 | $ 1,134 | $ 616 | $ 982 | |
8. Gold and Gold Loans
During the year, the Account sold 452,516 fine ounces of gold
(132,119 fine ounces in 2001).
| 2002 | 2001 | |||
|---|---|---|---|---|
| (in millions of dollars) | ||||
| US | Canadian | US | Canadian | |
| Held at year-end | ||||
| Gold loans | $ 23 | $ 37 | $ 41 | $ 66 |
| Gold | 5 | 8 | 5 | 8 |
| Accrued interest on gold loans | 0 | 0 | 1 | 1 |
| $ 28 | $ 45 | $ 47 | $ 75 | |
The year-end carrying values and market values (based on London fixings) of gold and gold loans, excluding accrued interest, are:
| 2002 | 2001 | ||||
|---|---|---|---|---|---|
| Price per fine ounce | Total value in millions | Price per fine ounce | Total value in millions | ||
| Carrying value | - US | $ 47.41 | $ 28 | $ 43.95 | $ 47 |
| - Canadian | 74.79 | 45 | 70.00 | 75 | |
| Market value | - US | 347.20 | 208 | 276.50 | 291 |
| - Canadian | 547.74 | 328 | 440.41 | 463 | |
9. Due to the Consolidated Revenue Fund (CRF) - Advances
The Account is funded by advances from the CRF. These are limited to C$ 60 billion by Order in Council dated April 26, 2001. At year-end, advances from (deposits with) the CRF consisted of:
| 2002 | 2001 | |
|---|---|---|
| (in millions of Canadian dollars) | ||
| US dollars | $ 32,852 | $ 38,027 |
| Canadian dollars | (5,447) | (6,924) |
| Euro | 20,132 | 15,162 |
| Japanese yen | 1,435 | 1,308 |
| Special Drawing Rights | (1,304) | (1,220) |
| $ 47,668 | $ 46,353 | |
The proceeds of Canada's borrowings in foreign currencies and allocations of SDR by the IMF have been advanced from the CRF to the Account. Subsequent repayments of foreign currency debt are made using the assets of the Account and result in reductions in the level of foreign currency advances. Interest payable by Canada on borrowings in foreign currencies and charges on SDR allocations to Canada are charged directly to the CRF.
Canadian dollar advances are required by the Account for the settlement of its purchases of foreign currencies. Sales of foreign currencies result in receipts of Canadian dollars that are remitted to the CRF, causing reductions in the level of outstanding Canadian dollar advances. Cumulative net sales of foreign currencies can result in overall net deposits of Canadian dollars by the Account with the CRF.
10. Commitments
a) Currency swaps
The account may enter into short-term currency swap arrangements with the Bank of Canada to assist the Bank in its cash management operations. There were no drawings under this facility in 2002 or 2001 and, there were no commitments outstanding as at December 31, 2002.
b) Gold options and forward contracts
The Minister of Finance has authorized the sale of call options, as well as forward sales, on part of the Account's gold holdings.
Under gold options, the Account receives a premium against commitments to sell gold at predetermined prices. No gold is sold unless the holders of the options exercise their rights by the expiry dates. At year-end, the Account had commitments to sell 20,000 fine ounces of gold (120,000 fine ounces in 2001).
Under forward contracts, the Account is committed to sell gold at predetermined prices on future dates. At year-end, the Account had outstanding commitments to sell 205,516 fine ounces of gold (95,000 fine ounces of gold in 2001) for a total value of US$ 66 million (US$ 27 million in 2001). The value dates of these contracts are February 24th, April 11th and June 24th, 2003.
c) Foreign currency contracts
The following table presents the fair value of foreign currency contracts with contractual amounts outstanding at December 31:
| 2002 | 2001 | |||
|---|---|---|---|---|
| (in millions of Canadian dollars) | ||||
| Contractual Value | Fair value | Contractual Value | Fair value | |
| Forward Sales | $ 2,975 | $ (29) | 2,321 | $ (14) |
| Forward Purchases | $ 2,991 | $ 29 | $ 2,339 | $ 14 |
The estimated fair values of foreign exchange contracts are calculated using the year-end exchange rates. Foreign exchange contracts that have a positive fair value are those contracts that, if settled immediately, would result in a gain. Conversely, immediate settlement of a contract with a negative fair value would result in a loss.
