Daniel Dominioni, Central Bank of Daniel Dominioni, Central Bank of UruguayUruguayLatin American Network of Central Banks Latin American Network of Central Banks and Ministries of Financeand Ministries of FinanceBID, October 20-21, 2005BID, October 20-21, 2005

SOVEREIGN DEBT: SOVEREIGN DEBT: EVOLUTION AND STRATEGIES IN EVOLUTION AND STRATEGIES IN URUGUAYURUGUAY

The views expressed in this paper are those of the author and do not necessarily represent those of Central Bank of Uruguay

Summary

• Context

• Optimal currency composition

• Maturity problem

• The future

GROSS DEBT TO GDP RATIO

36,2%32,3% 32,7% 31,3% 29,9% 30,9%

28,5%

42,3%

0%

20%

40%

60%

80%

100%

120%

1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

GROSS DEBT TO GDP RATIO

36,2%32,3% 32,7% 31,3% 29,9% 30,9% 28,5%

37,2%41,4%

48,2%

89,9%

112,4%

42,3%

0%

20%

40%

60%

80%

100%

120%

1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Evolution of debt to GDP ratio: main explanations

• Exogenous shocks– Regional capital flows reversion– Argentinean financial crisis and devaluation– Brazilian devaluation– Foot and mouth disease– Terms of trade fall

• Internal causes– Procyclical fiscal policy– Debt dollarization– Concentration of debt amortizations

Debt dollarization

• Local currency denominated debt was almost zero before the crisis

• Long inflation history:– Time inconsistency– Local currency denominated debt very costly

• Exchange rate based stabilization plan induced foreign currency indebtness – Reputation– Implicit insurance

Debt in the nineties

Capital inflows

GDP growth Real appreciation

Debt to GDP ratio decreased

MARGINAL DEBT COMPONENTS: 1991-1998

1,0%

-0,7%

2,5%

-2,2%

-1,5%

-1,2%

-2,2%

-3% -2% -1% 0% 1% 2% 3%

D/Y

other

g

r

(e-p)

s

m

% PBI

Reversion of capital flows

Debt to Gdp ratio rises more than 80 points

70% devaluation and 16% inflation in four months

20% decrease in GDP in four years

4% fiscal deficitfour years in a row

MARGINAL DEBT COMPONENTS: 1999-2003

23,2%

6,4%

18,4%

33,1%

2,0%

-2,0%

81,2%

-5% 0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% 55% 60% 65% 70% 75% 80% 85%

D/Y

other

g

r

(e-p)

s

m

% GDP

Optimal currency composition of public debt

• Licandro and Masoller (2.000)• Tax nivelation model (Bohn, Missale, Barro)• Government loss function

– Increasing in tax volatility– increasing in debt cost

• Three types of debt– Foreign currency – Local currency– Indexed to CPI

• Nature of shocks affecting different types of debt are analyzed– Inflation– Real depreciation– Government endogenous primary expenditure, – GDP growth– Rates of interest

Optimal currency composition of public debt

• Strong negative correlation between real depreciation and GDP

growth

• Lack of correlation between inflation and GDP growth

• Lack of correlation between inflation or real devaluation and

government endogenous primary expenditure and interest rates

• Real depreciation volatility greater than inflation volatility

• Peso debt very costly

Optimal currency composition of public debt

• Foreign currency denominated debt is procyclical

• Local currency denominated debt is costly

• Indexed debt stabilizes real debt service

• Foreign currency denominated debt is less costly than indexed

debt

• Optimal composition

– Some mix between foreign currency and indexed

– There seems to be no room for peso nominal debt

SOVEREIGN DEBT CLASSIFIED BY CURRENCY

    FOREING CURRENCY    

  TOTAL T-BILLS BONDS PESOS INDEXED

         

1999 99,8% 17,5% 82,3% 0,0% 0,2%

2000 99,9% 15,7% 84,1% 0,0% 0,1%

2001 99,9% 8,5% 91,4% 0,0% 0,1%

2002 94,9% 4,7% 90,2% 1,8% 3,2%

2003 87,8% 7,1% 80,7% 6,0% 6,2%

2004 85,3% 7,4% 77,9% 3,2% 11,5%

2005 JUN 81,4% 5,8% 75,6% 4,5% 14,1%

Initial premium for indexed debt

• Not a very liquid instrument

– Local pension funds main holders

– Lack of depth in the market

• Investors use Dollar as unit of account

• No investor education or regulatory incentives

• Institutional restrictions

• Complicated macroeconomic context

YIELDSUI DENOMINATED DEBT

0

5

10

15

20

Dic-02 Mar-03 Jun-03 Sep-03 Dic-03 Mar-04 Jun-04 Sep-04 Dic-04 Mar-05 Jun-05 Sep-05

5 YEARS 10 YEARS 3 YEARS 6 MOTHS

COMPARATIVE YIELDSUI AND DOLLAR DENOMINATED BILLS

0,0

2,0

4,0

6,0

8,0

10,0

12,0

14,0

16,0

Abr-03 Jun-03 Ago-03 Oct-03 Dic-03 Feb-04 Abr-04 Jun-04 Ago-04 Oct-04

UI denominated bills dollar denominated bills

YIELD DIFFERENTIALUI AND FOREIGN CURRENCY DENOMINATED BONDS

-3,00%

-2,50%

-2,00%

-1,50%

-1,00%

-0,50%

0,00%

0,50%

1,00%

1,50%

Ene-04 Mar-04 May-04 Jul-04 Sep-04 Nov-04 Ene-05 Mar-05 May-05 Jul-05 Sep-05

2.011 BOND 2.015 BOND

Other considerations

• Expansion toward international markets would imply higher

premia

• Tax structure highly dependent on tradable goods.

• Improvement in reputation makes room for non-indexed peso

denominated debt

Maturity structure

• Missale, Giavazzi y Beningo (1997)

• Long term indebtness recommended if:– Interest rates volatility

– Yield curve doesn`t reflect time-inconsistency

• Fits to Uruguay during the nineties– Ex ante volatility in capital markets

– Investment grade

Maturity policy

• Lack of planning

• Short run cost considerations

• Opportunistic considerations

• Redemption concentration in crisis years

Maturity trends

• Before crisis: strong participation of t-bills (1 to two years maturity)

• During the crisis : multilaterals

• 2.003 exchange : emergency solution

• Vulnerabilities are still present

T-BILLS ISSUED AND PUBLIC SECTOR FINANCIAL REQUIREMENTS

(millions of US dollars)

1999 2000 2001Fiinancial requirements

Déficit 831 824 790Amortizations 1556 1156 930

Total 2387 1980 1720

T-Bills issued 752 651 517

percentage 31,5% 32,9% 30,1%

Maturity trends

• Before crisis: strong participation of t-bills (1 to two years maturity)

• During the crisis : multilaterals

• 2.003 exchange : emergency solution

• Vulnerabilities are still present

DEBT OF MULTILATERALS AS A PERCENTAGE OF TOTAL DEBT

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

50%

1.999 2.000 2.001 2.002 2003 2004 2005

DEBT OF MULTILATERALS AS A PERCENTAGE OF TOTAL DEBT

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

50%

1.999 2.000 2.001 2.002 2003 2004 2005

Maturity trends

• Before crisis: strong participation of t-bills (1 to two years maturity)

• During the crisis : multilaterals

• 2.003 exchange : emergency solution

• Vulnerabilities are still present

SOVEREING DEBT AMORTIZATIONSBEFORE AND AFTER 2.003 DEBT EXCHANGE

0

100

200

300

400

500

600

700

800

900

20

03

20

05

20

07

20

09

20

11

20

13

20

15

20

17

20

19

20

21

20

23

20

25

20

27

20

29

20

31

20

33

Pre Canje Post Canje

Maturity trends

• Before crisis: strong participation of t-bills (1 to two years maturity)

• During the crisis : multilaterals

• 2.003 exchange : emergency solution

• Vulnerabilities are still present

TOTAL DEBT MATURITY PROFILE

0%

20%

40%

60%

80%

100%

1 2 3 4 5 6 7 8 9 10

MEDIANA

2.000

TOTAL DEBT MATURITY PROFILE

0%

20%

40%

60%

80%

100%

1 2 3 4 5 6 7 8 9 10

MEDIANA

2.000

2.002

TOTAL DEBT MATURITY PROFILE

0%

20%

40%

60%

80%

100%

1 2 3 4 5 6 7 8 9 10

MEDIANA

2.000

2.002

2.003

TOTAL DEBT MATURITY PROFILE

0%

20%

40%

60%

80%

100%

1 2 3 4 5 6 7 8 9 10

MEDIANA

2.000

2.002

2.003

NOW

The future

• Up to now : lack of debt policy

• New government commitment: debt office

• Planning of maturities and currency composition

Cornerstones of a management debt policy

• Fiscal consolidation

• Strong commitment with low inflation

• Debt office

• Liability management