INTERNATIONAL MONETARY FUND

WORLD BANK

Bangladesh Reforming Debt and Cash Management

January 2010

Abha Prasad, Tej Prakash, John Gardner, Henry Mooney, Mike Williams, and Thordur Jonasson
For Official Use Only

FOR OFFICIAL USE ONLY

THE WORLD BANK AND INTERNATIONAL MONETARY FUND

BANGLADESH

REFORMING DEBT AND CASH MANAGEMENT

Abha Prasad, Tej Prakash, John Gardner, Henry Mooney, Mike Williams, and Thordur Jonasson January 2010

The contents of this report constitute technical advice provided by the staff of the World Bank and International Monetary Fund (IMF) to the authorities of Bangladesh (the Fiscal Affairs Department TA recipient) in response to their request for technical assistance. This report (in whole or in part) or summaries thereof may be disclosed by the IMF to IMF Executive Directors and members of their staff, as well as to other agencies or instrumentalities of the TA recipient, and upon their request, to World Bank staff and other technical assistance providers and donors with legitimate interest, unless the TA recipient specifically objects to such disclosure (see Operational Guidelines for the Dissemination of Technical Assistance Information http://www.imf.org/external/np/pp/eng/2009/040609.pdf). Disclosure of this report (in whole or in part) or summaries thereof to parties outside the IMF and the World Bank other than agencies or instrumentalities of the TA recipient, other technical assistance providers and donors with legitimate interest shall require the explicit consent of the TA recipient and the IMFs Fiscal Affairs Department.

3 Contents Page

Acronyms ...................................................................................................................................5 Preface........................................................................................................................................6 Executive Summary...7 I. Macroeconomic Context of Reforms ...................................................................................10 II. Governance and the Institutional Framework .....................................................................12 A. Legislation...............................................................................................................12 B. Institutional Structure ..............................................................................................13 III. Debt management Strategy ................................................................................................19 A. Introduction .............................................................................................................19 B. Debt Data.................................................................................................................20 C. Primary Markets ......................................................................................................22 D. Retail Savings .........................................................................................................25 IV. Cash Management .............................................................................................................29 A. Introduction .............................................................................................................29 B. Government Banking Arrangements .......................................................................30 C. Cash Flow Forecasting ............................................................................................32 D. Cash Management ...................................................................................................35 E. Issues of Capacity and Coordination with Debt Management ................................38 V. Operational Risk, Audit and Systems Issues ......................................................................40 A. Risk Management ...................................................................................................40 B. Systems Strategy for NSD.......................................................................................42 Tables 1. Selected Relevant Indicators ................................................................................................10 2. Devolvement in T-bond Auctions Frequency and Volumes.............................................24 Figures 1. Summarized Governance and the Institutional Framework.................................................15 2. Proposed Structure with an Integrated Debt Management Unit (DMU) .............................17 3. T-bond auctions July 2008 to November 2009, Cutoff Rates and Auction Devolvement ..23 4. Daily TSA Cash Balances ....................................................................................................33 5. Daily Overdraft and Ways and Means Account Balances ...................................................33

4 Boxes 1. The Organizational Structure of a Modern Integrated Debt Management ..........................16 2. The Responsibilities of a Debt Management Committee ....................................................18 3. Options to Enhance NSD Transparency ..............................................................................28 Annexes I. Elements of a Sound Legal Framework for Public Debt Management ................................44 II. Log-frame: Steps to be Taken for the Capacity-Building Plan ...........................................45

5 ACRONYMS
ADP BB BMRC BPDB CDBL CDMC CDMTC C&AG CGA CL CMW DeM DeMPA DMFAS DMU DMW DSA DSLU ERD FABA FD GoB IBAS IRD MEW MOF MTDS MTFF NBR NIB NSC NSD PD SGS SLA SOE T-bonds T-bills TDMW Tk TSA WMA Annual Development Plan Bangladesh Bank Budget Management and Resource Committee Bangladesh Power Development Board Central Depositories of Bangladesh Ltd. Cash and Debt Management Committee Cash and Debt Management Technical Committee Comptroller and Auditor General Controller General of Accounts Contingent Liability Cash Management Wing Debt Management Debt Management Performance Assessment Debt Management and Financial Analysis System Debt Management Unit Debt Management Wing Debt Sustainability Analysis Debt Service Liability Unit Economic Relations Division Foreign Aid and Budget Accounts Finance Division Government of Bangladesh Integrated Budget Accounting System Internal Resources Division Macroeconomic Wing Ministry of Finance Medium-Term Debt Management Strategy Medium-Term Fiscal Framework National Board of Revenue National Investment Bond National Savings Certificate National Savings Directorate Primary Dealer Special government Securities Service Level Agreement State-owned Enterprise Treasury Bonds Treasury Bills Treasury and Debt Management Wing Taka Treasury Single Account Ways and Means Advance

6 PREFACE In response to a request from the authorities a joint World Bank (Economic Policy and Debt Department), IMF (Fiscal Affairs Department) mission visited Dhaka from November 9 19, 2009 to provide technical assistance on reforming debt and cash management. 1 The mission met, from the Ministry of Finance (Treasury & Debt Management Wing, Budget Wing, Economic Relations Division, Internal Resources Divisions & Macroeconomic Wing), Dr. Mohammad Tareque, Finance Secretary, Dr. Nasiruddin Ahmed, Secretary, Internal Resources Division (IRD), Mr. Muslim Chowdhury, Joint Secretary, Treasury & Debt Management Wing, Kazi Shafiqul Azam, Joint Secretary, Budget Wing, Mr. Moinul Islam, Joint Secretary, Macroeconomic Wing, Mr. Iqbal Abdullah Harun, Deputy Secretary, Debt Management Wing, Mr. Zahidul Huq, Deputy Secretary, Debt Management Wing, Ms. Fatima Yasmin, Deputy Secretary, Cash and Contingent Liabilities Management Wing, Mr. Fazlul Bari, Deputy Secretary, Macroeconomic Wing, Mr. Abdus Samad, Additional Controller General of Accounts, Mr. Amir Kasru, Deputy Auditor General, Abu Daiyan Md. Ahsanullah, Asst. Secretary, Debt Management Wing; from the National Savings Directorate, Ms. Mahmuda Akhter Meena, Director, and Mr. A.K.M. Rafiqul Alam, Additional Director General; from the Economic Relations Division, Md. Mostafizur Rahman, Senior Asst. Secretary, Mr. Johirul Islam, Asst. Chief, Shadnaz Khan, Research Asst.; from FMRP, Mr. Ranjit Chakrabarty. From the Bangladesh Bank, the mission met: Mr. Mizanur Rahman Jodder, General Manager, Debt Management Department, Mr. Rahamat Ullah, General Manager, Government Accounts, Mr. Osman Gani, Joint Director, Government Accounts, Mr. Jagannath Ch. Ghosh, Joint Director Debt Management Department. From the State owned and Commercial Banks, the mission met: Mr. Joyanto Kumar Mondal, Deputy General Manager, Sonali Bank, Mr. Bhanu Roy Chowdhury, Deputy General Manager, Agrani Bank, Mr. Samsul Islam, Sr. Asst. Vice President, Southeast Bank, Mr. Mirza Elias Uddin Ahmed, Executive Vice President, Jamuna Bank. The mission also met with Jonathan Dunn, IMF, Resident Representative and Sanjay Kathuria, Lead Economist, Zahid Hussain, Senior Economist, PREM in the Bank. The mission also coordinated with Diepak Elmer and Junghun Cho from the Strengthening Public Expenditure Management Program. The mission would like to thank all the officials from the government of Bangladesh for their time, hospitality and availability to discuss all the issues in an open and frank manner. The mission would not have been successful without their participation. The mission would particularly wish to thank, Jonathan Dunn for his continued guidance right through the mission and Ms. Gloria Halder, office manager for all her help.

The mission comprised Abha Prasad, Henry Mooney, and Mike Williams from the World Bank; and, Tej Prakash, John Gardner, and Thordur Jonasson from the IMF.

EXECUTIVE SUMMARY Debt policy and management is an important part of macrofiscal framework. However, its development is still in a nascent stage. The recent (2009) IMF-World Bank Debt Sustainability Analysis found that the inclusion of high-level and higher-cost domestic debt caused debt stress indicators to deteriorate significantly, pointing to important potential risks associated with such high levels of domestic indebtedness. These and other factors highlight the importance of addressing institutional, procedural, and capacity deficiencies related to debt management in order to minimize fiscal costs and policy risks. The mission focused on several critical areas where reforms and capacity development are required to ensure that debt management (DeM) practices, structures, and capacities are consistent with sound macrofiscal policies. Debt strategy must be formulated and agreed upon at a high level within government. Development of capacity should be a key objective. Decisions regarding government financing are not taken within a medium-term macroeconomic or fiscal framework, that would allow debt policy to be adjusted to accommodate short-term objectives with due regard to longer-term risks. Missions review and recommendations include: Institutional framework: DeM responsibilities are fragmented and dispersed among several entities, with roles and responsibilities delegated mainly on the basis of the type of debt instrument, with no single entity responsible for managing total public sector debt. The mission recommends the development of a comprehensive public debt law, the risks and costs associated with guarantees and contingent liabilities should be analyzed, and existing policies should be applied in a consistent manner. In the institutional context, the mission recommends that the Treasury and Debt Management Wing (TDMW) is transformed into two wings: (i) Debt Management Wing (DMW) and (ii) Cash Management Wing (CMW). In the medium term, the DMW should evolve to an integrated debt management office. The Macroeconomic Wing (MEW) should take the lead in formulating the debt policy, and producing the debt sustainability analysis (DSA), within the overall macrofiscal framework. Until the reorganization takes place, TDMW should prepare a formal medium-term debt management strategy (MTDS), which considers both costs and risks, and sets out the overall debt policy guiding new borrowing. Debt Information: Steps should be taken to further standardize, and integrate, debt information provided by the Bangladesh Bank (BB), Economic Relations Division (ERD) and National Savings Directorate (NSD) to the TDMW, including by developing guidelines and improving capacity. With respect to reporting, the TDMW should distribute its Quarterly Debt Report more widely, which would strengthen governance and increase the transparency of public debt management.

8 Primary markets: The operation of primary market for government securities should be improved, and action should be taken to eliminate policy related distortions and to support the development of a secondary market. This includes ensuring that the rights and obligations of the primary dealers (PDs) are more consistent with the current level of market development. Investigation should continue to explore the advantages of re-opening treasury bonds (T-bonds) and treasury bills (T-bills) to create a larger series of fungible instruments. Technical assistance should be sought to analyze strategic options for moving to a deliveryvs-payments system for government securities. Improving NSD operations: The policy cost of encouraging small savings through NSD should be made transparent and taken into account when formulating Medium-Term Debt Management Strategy (MTDS). In this context, borrowing decisions that flow from the agreed NSD strategy should be monitored by the TDMW. The timing and accuracy of information provided by the NSD should also be strengthened via improved procedures, capacity building, and computerization. Sales of savings instruments to commercial entities should be suspended, and the scheme should focus only on small savers. Strict limits on individual investment amounts must be enforced, and the interest rate structure of the scheme should be modified such that they move in tandem with market rates. Strengthening the Treasury Single Account (TSA): The TSA system must remain effective and allow the government access to all available cash reserves. The government should launch a census of all commercial bank accounts used by ministries, departments, and statutory bodies and the balances in these accounts. The ministry of finance (MOF) should enforce, if necessary by regulations, claw back of surplus funds in these accounts into the TSA. The government should also discuss with donors if donor driven special project funds can follow, with suitable safeguards and assurance, the same procedure for expenditure as other budget expenditures do. Improving cash management: Cash flow forecasting is only beginning to be performed in the MOF. The mission recommends that the MOF should establish the CMW, capable of producing rolling weekly and monthly projections of the governments cash flows. Accurate estimate of cash flows and TSA balances, would allow cash shortages and surpluses to be more efficiently managed. The mission recommends that the Cash and Debt Management Committee (CDMC) allow the auction calendar to be more flexible, ensuring that the governments financing needs are the highest priority when decisions regarding the cut-off points and cancellations of government securities auctions are made; monetary policy factors should not be allowed to impact these decisions. Efficient use of current cash surpluses must be analyzed. A formal service level agreement (SLA) should be signed between the BB and MOF, including the BB paying market-related interest on government call and term deposits, and the government paying for banking services provided by the BB. Operational risk management: There is currently no operational risk management framework for debt management activities. This capacity should be developed across the DeM entities in the MOF and Public Debt Department of the BB. The MOF should develop a

9 modern internal audit function for DeM. Audit reports should be submitted directly to the Finance Secretary and also to the CDMC.

10

I. MACROECONOMIC CONTEXT OF REFORMS 1. Macroeconomic performance in Bangladesh remained strong over the past year, despite headwinds from the global economic downturn. Real GDP growth is estimated at 5.9 percent for FY09, compared to 6.2 percent and 6.4 percent in FY08 and FY07, respectively. The overall fiscal deficit (including grants) was 3 percent of GDP in FY09 about 1 percent of GDP less than targeteddespite lower-than-estimated tax and customs revenues, owing largely to under-execution of the Annual Development Plan (ADP). 2 The current account registered a surplus of 2.8 percent of GDP in FY09. Table 1. Selected Relevant Indicators
Actual FY07 FY08 Real GDP Growth (%) 6.4 6.2 Current Account Balance (%GDP) 1.4 0.9 Inflation (GDP deflator) (%) 6.8 8.8 Primary Balance (%GDP) -1.3 -2.6 Central Government T otal Revenue (%GDP) 10.2 10.8 T otal Expenditure (%GDP) 13.4 15.9 o/w interest payments 1.9 2.5 o/w Annual Development Program 4.0 3.4 T otal Central Government Debt (%GDP) 48.8 46.7 Average Nominal Interest Rate on Forex Debt (%) 0.9 1.0 Average Real Interest Rate on Domestic Debt (%) 3.3 3.4 Est. FY09 5.9 2.8 6.4 -1.2 10.4 14.1 2.4 3.2 45.4 0.8 5.5 Projections FY10 FY11 FY12 FY13 FY14 5.0 5.8 6.0 6.0 6.0 2.9 1.4 0.8 0.8 0.8 6.4 6.0 5.0 5.0 4.5 -1.7 -1.9 -1.8 -1.7 -1.6 10.7 10.5 10.6 10.7 10.7 14.8 14.8 14.9 14.9 14.9 2.3 2.4 2.5 2.5 2.5 3.3 3.3 3.3 3.3 3.3 44.0 44.2 44.1 43.9 43.6 1.5 1.5 1.5 1.6 1.6 4.2 4.6 5.6 5.5 5.9

Source: data provided by the authorities and IMF staff estimates and projections.

2. Total central government gross debt levels reached 45.4 percent of GDP in FY09, down from 48.8 percent in FY07. Public and publically-guaranteed external debt fell from 27 percent of GDP in FY07 to 24 percent of GDP in FY09, while domestic debt increased from 20 percent to 21 percent of GDP. At end-FY09, external debt was primarily on concessional terms. For domestic debt, treasury bills/bonds and national savings certificates (NSCs) made up 40 percent and 38 percent of total domestic debt, respectively. The BB held about 20 percent of total domestic debt in the form of nontradable overdrafts, as well as devolved treasury instruments equal to about 1 percent of GDP. Large and increasing balancesestimated at 3 percent of GDP in FY09were also being held by autonomous and semi-autonomous government bodies at commercial banks, which were not under the direct control of the central government. 3. Interest payments equaled 2.4 percent of GDP in FY09, up from 1.9 percent in FY07. Nominal interest rates on foreign currency debt, most of which is concessional, fell
Over the past five fiscal years, an average of about 73 percent of the programmed ADP spending has been executed. In FY09, ADP spending fell short of the original budgeted amount by 1 percent of GDP.
2

11 from an average of 0.9 percent in 2007 to 0.8 percent in 2009, and are projected to climb to an average of 1.6 percent per year by 2014. Average real interest rates on domestic debt rose from an annual average of 3.3 percent in 2007 to 5.5 percent in 2009, and are projected to rise to an average of 5.9 percent per year by 2014. This illustrates the relatively high and increasing cost of domestic borrowing, when compared with concessional financing. 4. The recent (November 2009) as well as the earlier (September 2008) IMF-World Bank Debt Sustainability Analysis found that although the risk of external debt distress remained relatively moderate, the inclusion of domestic public sector debt caused indicators to deteriorate significantly3. In this context, the DSA concluded that risks to domestic debt accumulation are a source of concern, particularly given the modest revenue base and potential risks from contingent liabilities related to loss-making state-owned enterprises (SOEs) and the under-pricing of energy and fertilizer prices. In this context, the report recommends moving forward as quickly as possible with efforts to strengthen DeM capacity, in line with recommendations put forward by the January 2008 joint IMF-World Bank MTDS and technical assistance mission. 5. Institutional, procedural, and capacity issues related to DeM have led to higher borrowing costs for the central government, as well as inefficiencies in cash planning and management, operational risks, complications for domestic market development, and challenges for both fiscal and monetary policy formulation and execution. Some major issues are outlined below. Institutional arrangements for managing total public sector debt and responsibilities for DeM are fragmented across several institutions, with no single entity responsible for managing total public sector debt. This fragmentation affects, negatively, the implementation of both fiscal and monetary policies. It also limits the capacity of these entities to produce and consolidate accurate debt data in a timely fashion, which has led to the overestimation of government receipts, or underestimation of interest payments, resulting in either reduced government spending or additional costs associated with unplanned borrowing. Current system of cash-flow forecasting and cash balance management is weak and irregular. This has resulted in unremunerated cash balances lying idle in government accounts, while costly financing is being undertaken via overdraft facilities with the central bank. Similarly, cash balances have little or no influence on

The Bank-Fund low-income country debt sustainability framework (LIC DSF) recognizes that better policies and institutions allow countries to manage higher levels of debt. Bangladeshs policies and institutions as measured by the World Banks Country Policy and Institutional Assessment (CIPA) place it as a medium performer.

12 the issuance of domestic securities, allowing the government to over-borrow, and resort to central bank financing when viable alternatives exist. Operational risks: Serious deficiencies are evident with respect to the recording and reconciliation of data, which can lead to both errors and fiscal risks. For example, a lack of information regarding the timing of payments results in budgetary complications and additional costs that can be avoided through improved cash planning and better information. The lack of internal and external audits hampers accountability and transparency.

6. These risks to a large extent could be mitigated with the development of sustained analytical capacity to formulate an MTDS and an efficient cash management function; and by enhancing transparency and accountability by publishing an annual debt statistical bulletin with total public sector debt data and important risk indicators. II. GOVERNANCE AND THE INSTITUTIONAL FRAMEWORK A. Legislation 7. There is currently no separate public debt management act in Bangladesh. There is, however, authorization by the parliament 4 to the central government for approving borrowings and loan guarantees. This responsibility has been allocated to the MOF by secondary legislation, the Rules of Business, 1996. These Rules further indicate that the Finance Division (FD) of the MOF has to be consulted on, among others matters, all flotation of loans and grant of guarantees and receipt or expenditure of foreign exchange. However, this legislation does not specify the DeM objectives or the requirement to develop a DeM strategy or the requirement to report to parliament on DeM. 8. The government of Bangladesh (GoB) recently enacted the Public Money and Budget Management Act 2009. Although the focus of this Act is the management of the budget, it does provide general principles for DeM and 5specifies the borrowing purposes. These include, among others, reducing borrowings from domestic sources to reasonable limits, keeping contingent liabilities within sustainable limits, and reducing public debt gradually, as a percent of GDP, each year. It requires that the government determine annual limits of budget deficit, size of public debt, borrowings from domestic and external sources,
4

The Constitution of the Peoples Republic of Bangladesh states that the President shall by rules specify the manner in which orders and other instruments made in his name shall be attested or authenticated. The Rules of Business, 1996 provides detailed rules of business for each of the ministries and the cabinet of ministers; it also details the roles and responsibility of each wing under the MOF. Reducing public debt gradually is framed as more of a principle in this Act rather than a clear debt management objective.

13 contingent liabilities and a time limit to purchase primary securities by BB; and that the minister reports quarterly to parliament on financial developments. However, these annual limits have so far not been developed. 9. The MOF is considering introduction of a Public Debt Act. The existing legislation includes the minimum requirements. 6 However, some other important provisions that should be included in legislation are (i) clear debt management objectives; 7 (ii) a requirement to develop a debt management strategy; and (iii) establishing audit, reporting and accountability processes; (iv) a requirement to publish a debt strategy, as well as relevant data in a timely manner. Elements for a sound legal framework are given in Annex I. Recommendations Bangladesh should prepare a comprehensive public debt law, that includes debt management objectives and a requirement to develop a debt management strategy, mandatory reporting of debt management performance and a requirement for external audit. B. Institutional Structure 10. Bangladesh has made some progress in improving DeM. These include progress in establishing the TDMW to play the middle office role, retaining experienced staff, improving data collection, completing external debt data entry in the Debt Management and Financial Analysis System (DMFAS), and enhanced coordination among debt management entities. There is, however, room for further improvement and strengthening capacity. Debt management operations are currently spread among different institutions. There is a need to integrate these by developing a well functioning central debt management unit in the MOF. This requires an enabling environment of institutional arrangements, legal mandates and accountabilities; effective cash management, management of operational risks and aggregation and reporting of total public sector debt data. There is also a need to develop a
6

As set out in the World Banks Debt Management Performance Assessment Tool (DeMPA) these are that primary legislation provides clear authorization to the executive branch of government to approve borrowings and loan guarantees on behalf of the central government, and secondary legislation provides clear authorization to the implementing entity or entities to undertake borrowing and debt-related transactions and to issue loan guarantees on behalf of the central government and for specified purposes. Guidance on common elements in debt management legislation was shared with the authorities.

The World Bank/IMF report of March 2008 on Improving the Medium-Term Strategy suggested an objective along the lines to finance the government at the lowest possible cost, taking due account of the risks involved and to support wider macro-economic objectives. In addition debt management actions should help to promote market development. The present proposed approach in the Public Money and Budget Management Act to set an annual borrowing limit consistent with the financing requirement implied by the annual budget will also be useful.

14 complete, accurate and well-structured debt database. A meaningful debt management system would also underpin and support macrofiscal planning and management, as well as development of a medium-term fiscal and budget strategy. Current Arrangements 11. Debt management responsibilities are fragmented and dispersed among several entities in Bangladesh. The demarcation of roles and responsibilities at present is mainly on the basis of the type of debt instrument issued or loans contracted. Thus, different operational units serve as the front and back office for each type of debt instrument: External debt is managed within the ERD, and its Foreign Aid and Budget Accounts (FABA) wing. Domestic marketable debt (T-bills and T-bonds) is managed through the TDMW of Finance Division and by BB which is the government agent for the issuance and servicing of T-Bills and bonds. The IRD and its NSD manage national savings schemes using retail domestic debt instruments such as saving certificates, bonds and Post Office deposits issued through different channels. The Controller General of Accounts (CGA) is responsible for debt-related payments and for the accounting of the issuance, redemption and other servicing payments of these instruments.

12. The TDMW in FD was established to play an integrating role. Its responsibilities include middle office activities in DeM, and preparing ad hoc reports for the senior management on debt and cash management related aspects. It also serves as the secretariat to the CDMC. The TDMW is also responsible for approving all loan guarantees and on-lending through the Debt Service Liabilities Unit (DSLU). 13. Also relevant to DeM is the recent establishment of a MEW within FD. Its responsibilities include developing the medium-term fiscal framework (MTFF). Both MEW and TDMW report directly to the Finance Secretary. 14. In recognition of the dispersion of responsibilities, coordinating committees have been put in place. These include the CDMC, chaired by the Finance Secretary, with representatives from FD, ERD, IRD, the National Board of Revenue (NBR), the CGA, and the BB. Its terms of reference focus on the management of cash, bond and bill issuance and market development. The CDMC meets quarterly. It is supported by a Cash and Debt Management Technical Committee (CDMTC), chaired by the Joint Secretary of TDMW. Its tasks include ensuring that aggregate debt data are available and preparing analytical reports

15 on the debt market, debt strategy, debt sustainability, and related issues. This Committee meets monthly. 15. The budget, the macroeconomic and fiscal framework, and the annual financing plan are considered in the Budget Management and Resource Committee (BMRC). This high-level committee, chaired by the minister, meets in the run up to the budget but infrequently during the rest of the year. It is supported by a technical committee, chaired by the Finance Secretary, which meets 46 times a year. MEW provides secretarial support to BMRC and the technical committee. Fiscal and monetary policies are also discussed at the Coordination Council which meets twice a year, chaired by the prime minister, where a wide range of economic interests within the government are represented. Figure 1. Summarized Governance and the Institutional Framework

Minister of Finance

BRMC (Chaired by Minister of Finance)

CDMC/DMC (Chaired by Finance Secretary)

Internal Relations Division

External Relations Division

Finance Secretary

Other = 1 2

NSD

Other

FABA

Other

MEW

TDMW

BB

Note

Main debt management units The diagram does not show the CGA IRD and ERD are also represented on CDMC/DMC

Issues 16. An organizational structure distinguishing between front, middle and back office functions is sound and widely accepted best practice. Such a structure facilitates specialization and operational risk management. From a control perspective, it is particularly important to separate back and front office activities. Within this framework, it is possible to contract out some operations, while retaining overall responsibility for their integrity and quality. For example, auction management is in some countries contracted out to other government entities, often the central bank. Such arrangements should be covered by agency agreements with clear performance criteria (Box 1). 17. There are difficulties, in the short term, in consolidating the partial debt management functions being performed by different entities. This is because FABA and NSD are long established in ERD and IRD, respectively. The TDMW, has been recently set up as the middle office function and has yet to build up the status and presence that would be

16 regarded as necessary for a fully integrated role. In the medium term, the DMW should evolve so as to perform all government debt management related functions.
Box 1. The Organizational Structure for Modern Integrated Debt Management
The organizational structure of modern debt offices is based on the separation of responsibilities between the front, middle and back office. Their key functions are:

Senior management (supported by internal audit and compliance).1 Front Office: primary issuance and execution, internal and external, and all other funding operations, including secondary market transactions (debt and cash). Middle office (1): policy and portfolio strategy development and accountability reporting. Middle office (2): internal risk management: policies, processes and controls.

Back-office: transaction recording, reconciliation, confirmation and settlement; maintenance of financial records and database management; debt servicing. This structure still allows for the contracting out of some functions, for example, to the central bank as fiscal agent for the handling of auctions (as is the case for Bangladesh). But the debt office retains policy control. High quality audit functions, ideally both internal and external audit, are important, as are internal operational risk management and control processes in line with good practice in the financial sector. Debt management activities should be audited annually by external auditors, who should provide reports on the financial integrity of the central government accounts and of systems and control procedures.
1.

18. For the shorter term, the TDMW should be transformed into two distinct but closely coordinated Wings: (i) DMW; and (ii) CMW in the FD. The DMW should perform the middle office debt management function and CMW would provide cash flow forecasting and cash management. The DMW should be responsible for developing and implementing the MTDS and preparing the debt statistical bulletin. 19. It is important that senior managementand the ministersignal the importance of the DMW. The role of a middle office is central to any debt management function; it develops the strategy, and sets the policy and risk management framework in which the executing or front office functions operate. It should also be responsible for all reporting (or at least its coordination) on performance and data to senior management, ministers, parliament, investors, rating agencies, and the wider public. As part of this, DMW should give formal guidance, derived from the MTDS agreed by the minister, to NSD and FABA on the terms and conditions of borrowing (recognizing that there might be limited choice in respect of external loans and credits).

17 Figure 2. Proposed Structure with an Integrated Debt Management Unit (DMU)

BRMC
(Chaired by Minister of Finance)

Minister of Finance

CDMC/DMC
(Chaired by Finance Secretary)

Internal Relations Division

External Relations Division

Finance Secretary

Other = 1 2 3

MEW

DMW

CMW

BB

Note

Main debt management units The diagram does not show the CGA IRD and ERD are also represented on CDMC/DMC The DMU could also report direct to the Minister

20. The DMW will require increased clarity regarding its roles and responsibilities to focus on its middle-office mandate. Its responsibilities should also include monitoring contingent liabilities (CLs) 8 and certain functions in relation to the approval and issuance of guarantees, borrowing of SOEs and data validation tasks. In addition, the staff are often called upon to provide inputs for important budget related or macroeconomic inputs, as also for other administrative tasks of the MOF. This takes substantial time and staff are not able to participate in crucial debt management related activities such as attending the auction committee meeting. Given the thin capacity and the competing demands, staff are not able to focus on developing a MTDS; although a start has been made through collecting debt data centrally. 21. In the context of responsibilities, an issue arises about which unit within FD should lead in the preparation of DSA. A DSA is not currently being prepared within the FD; although developing this capacity has been recognized. The DSA is more of a fiscal policy function while the MTDS is the core mandate of the debt management unit. The DSA identifies the economys ability over the medium term to be able to service its debts without a sharp correction in the face of a range of economic shocks. It focuses particularly on fiscal risk of these public sector liabilities. Its conclusions, therefore, feed primarily into fiscal policy decisions. An MTDS on the other hand is a strategic plan to achieve a desired
8

Such liabilities assume a significant role; debt managers should have a lead role in relation to CLs: in their identification and the risks arising, in advising on the budgetary provision made and in developing the fees charging regime. The contingent liabilities resulting from the accumulated losses of Bangladesh Petroleum Corporation (Tk 75 billion, 1.4 percent of GDP) were converted into explicit government debt in FY2008.

18 composition of the government debt portfolio capturing the governments preferences with regard to the cost-risk trade-off. The MTDS is concerned with the vulnerabilities arising from the structure of the debt portfolio. 22. The role of the MEW in relation to macroeconomic and fiscal policy generally, and in particular to the MTFF, suggests that it should be the lead wing for the necessary work on DSA. 9 The MEW already has some macroeconomic modeling capability, for example, to generate macro-scenarios; and it has access to the relevant data. It is linked directly to the key fiscal policy-making processes. In practice MEW and TDMW would need to work closely on the DSA as they would on an MTDS. They would need to share models, tools, scenarios, and data. The DSA should be taken forward by a small working group including both wings (and others as necessary). 23. The CDMC has currently been entrusted with both cash management and debt management responsibilities. The responsibilities that would be expected of a high-level debt management committee are given in Box 2 and the current terms of reference of the CDMC should be modified accordingly. Box 2. The Responsibilities of a Debt Management Committee
1. 2. 3. 4. 5. 6. 7. 8. 9. Approve the strategic debt management policy objectives. Approve the associated annual financing plan. Approve guidance to other front office functions (ERD, BB, and NSD) on the terms and conditions of financing. Approve key policies developed within each debt management entity. Review the consistency of cash and debt management operations with monetary policy operations (including the use of central bank bills). Review the consistency of debt management and fiscal policy objectives, taking into account DSA. Review the evolution of the debt portfolio and its risk exposure. Identify the circumstances under which the strategy might be reviewed (e.g., significant movements in markets or government finances outside specified ranges). Specify delegated authorities to officials where that is possible within the law, and those specific items on which the debt management committee will need to be consulted.

10. Approve for publication key documents (e.g., the debt strategy and annual financing plan; and an annual report on performance). Set any other performance targets for the debt managers, and monitor their achievement. 11. Coordinate the market development strategy.

This recommendation would require some amendment to the job descriptions of staff in the TDMW.

19

Recommendations The TDMW is transformed into (i) DMW and (ii) CMW. The development of an integrated DMU should be a medium-term objective for the MOF; but it is unlikely to be practical over the next 23 years. In the short term, the DMW continues to improve its middle office capacities. 10 The role of the new DMW should be defined with all non debt related tasks being taken out and capacity strengthened. The focused DMW should be responsible for preparing the MTDS. TDMW should develop capacity to identify risks to the government from loan guarantees, other contingent liabilities and nonperforming loans. Senior management should signal the importance of DMWs middle office role. All borrowings should be steered on the basis of the MTDS. This requires FABA, BB, and NSD to conform to the formal guidelines issued by DMW relating to the approved debt strategy. The CMW must be provided the capacity to undertake cash flow forecasting and active cash management (see, the cash management section of this Report). The MEW should also play a major role in debt policy formulation, including developing the DSA, which as a part of overall fiscal stance will be prepared by the MEW. The MEW should take the lead on developing the DSA, rather than DMW, although these wings should coordinate on both DSA and MTDS work. The DMW should continue to provide projections of total central government debt service to the MEW, including sensitivity analyses of the base case to interest and exchange rate shocks. III. DEBT MANAGEMENT STRATEGY A. Introduction Current Situation 24. The debt management strategy is predicated on decisions relating to meeting the governments financing needs. There is no formal debt management strategy containing the

This can be done through structured trainings and access to technical assistance. In this context, the joint Bank-Fund follow-up MTDS mission is being scheduled for July 2010.

10

20 government policy that guides future borrowing. 25. However, limited, and ongoing, progress has been made in formulating MTDS in Bangladesh. Reforms over that past two years have focused on improving debt recording and data sharing. DMW is assigned the task to formulate MTDS for the entire central government debt portfolio (external, domestic marketable, and non marketable). As described above, debt management responsibilities are spread across various entities which has resulted in inefficiencies as the issuing agents are influenced by their own policy objectives and have a high degree of autonomy. 26. At present, the implicit debt strategy is to borrow as much as possible from concessional sources and to meet remaining requirements by domestic issuance. Domestic issuance consists of both marketable and non marketable instruments. About half of the domestic funding is raised through the non marketable instruments of NSD and the remainder by issuance of T-bonds and T-bills. The non marketable instruments are complex in nature and managementthey can be sold at any time, be redeemed prior to maturity, and the number of holders and retail outlets is high. It is, therefore, difficult to control the composition between NSD and marketable debt and this may lead to crowding out of marketable debt. 27. On-lending by government is managed separately by the DSLU. 11 The loan records are compiled in Excel and follow an organized procedure. Multilateral funding is directly on-lent to SOEs with an interest rate premium and consists of loans of Tk 727 billion, heavily concentrated with Bangladesh Power Development Board (BPDB), Petrobangla and the fertilizer company (Bangladesh Chemical Industries Corporation). 28. The work on MTDS should be given a high priority. The work program should focus on (i) implementing improved methods for preparing and sharing amortization schedules; (ii) interest payment projections and flow data; (iii) using well-designed underlying databases to generate reports; (iv) preparing detailed financing strategies and building the capacity to do this independently; and (v) setting up a reporting framework. A Bank-Fund Mission to follow up on the MTDS has been proposed for Q3, 2010. B. Debt Data 29. Debt reporting from BB, ERD, and NSD has improvedalbeit slightly. The format for this data differs and manual input and reconciliation is needed by TDMW before data can be used for analysis. External debt records, previously recorded in manual ledgers,
The General Financial Rules (GFR), Chapter 13, contain instruction for the governments loans and advances. The rules require that a budget provision should be made for repayments and defaults. Furthermore, the rules allow the loans to be written off by a competent authority in case they are irrecoverable.
11

21 have now been transferred into the UNCTADs DMFAS debt recording system. ERD has been responsible for this work and quarterly reports on external debt flows are now being prepared using DMFAS data. A project is underway to upgrade to DMFAS version 6.0 that will offer networking capabilities and the ability to record domestic debt. The project calls for terminals to be installed in TDMW, various BB departments, and possibly NSD. Issues 30. Uneven debt data quality and information lags add to inefficiencies in cash and DeM. Further work is required to smooth the process and avoiding duplication of data entry. Reconciling with fiscal ledgers and bank accounts should be done by NSD and ERD so that DMW may readily extract information for its analysis. 12 The new Quarterly Debt Report prepared by DMW could be disseminated internally before entering the public domain. 31. While upgrading DMFAS and including domestic marketable debt it is not likely that consolidation of the entire portfolio will be possible in the short term. ERD has been supported by UNDP funded staff whose term is about to end that raises questions on whether gains made are sustainable. The mission expects that BB and ERD will be able to enter their debt data although each NSD instrument is unique as its cash flow depends on when it is issued and redeemed (prior to maturity). DSLU may be able to use DMFAS for on-lending but assumptions need to be made on debt service payments of the borrowers. The new version of DMFAS should simplify debt reporting and lighten the workload of DMW once operational. 32. On-lending constitutes a large off-setting asset for the government and realistic assumptions need to be set about cash-flows and loan impairment. Around 75 percent of the on-lending portfolio is overdue and annual collections are estimated to be 10 percent of invoiced debt service payments, with smaller borrowers usually paying on time. As these flows represent a fiscal risk they should be dealt with early in the budget process and loan impairments estimated. 13 Debt strategy formulation should also reflect the limited ability of the borrower to service their loans and address currency and maturity mismatches as the original loan terms are not fully passed through to the borrower. 33. In order to reach the stage where DMW will be able to manage the public debt in a medium-term framework the underlying strategy will need to be formulated and agreed upon at a high level within government.
The CGA should provide the useful role of reconciling debt stock and flows with the fiscal ledger as this would confirm that the data submitted by BB, ERD, and NSD was accurate. It can be argued that on-lending which historically has not been paid is an implicit subsidy and its fiscal impact needs to assessed, in the interest of transparency.
13 12

22

Recommendations Continue to standardize debt information emanating from BB, ERD, and NSD. This should be supported by written guidelines to ensure timely reporting and accuracy. Quality data is a precondition to prepare the MTDS. DMW prepares a MTDS taking account of costs and risks of total public sector debt. The MTDS should be formal, documented, and updated at least on an annual basis as part of the budget process. DMW distribute its Quarterly Debt Report more widely; improved information flows strengthens governance and increases transparency of public DeM. C. Primary Markets Current Situation 34. The Debt Department of the BB manages auctions of government securities and supervises the PDs. 14 There has been a move to increase the share of marketable securities in the portfolio but progress has been slow. 15 The obligations of the PDs are extensive and they must participate in each auction and have underwriting requirements. 35. The mission picked up inconsistencies in the policy and operations relating to domestic debt auctions. Since market development issues goes beyond the remit of the mission, these are flagged here but recommendations for reform are not made. 36. Recommendations are only made insofar as these relate to cash and DeM. Currently, the primary auctions are not a robust mechanism for government financing. An auction calendar is published semi-annually and contains information on dates and proposed issuance. Auctions are held every week and are frequently devolved. 16 While the auction calendar is set by the CDMC, the auction committee 17 has

One of the responsibilities of BB as stated in Bangladesh Bank Order of 1972, Article 18 is the management of public debt.
15 16 17

14

Marketable debt is now 38 percent of domestic debt. The term devolved is used to denote the take up of unsold securities by underwriting PDs or the BB.

Members comprise mostly BB and one representative each from TDMW and IRD. In practice, the auction committee members who decide cut-off points are predominantly BB officials since the TDMW are often too busy to attend the weekly auctions.

23 authority to decide the cut-off prices. Auctions may either be: canceled entirely, devolved to the BB or devolved to the PDs. In the past 17 months 18 out of 66 auctions for Tbonds, 19 40 were devolved or canceled. This amounted to 44 percent of the total volumes on offer (Table 2). The lack of secondary markets does not provide a pricing reference for primary market issuances. A new series is opened in each auction and there is no system for reopening. Marketable T-bills and T-bonds are mainly held by commercial banks to meet their statutory reserve requirements and mostly held to maturity.

Issues 37. It is international experience that such failures in relatively efficient primary government securities markets are, and should be, very rare. In such cases it takes large yield differentials or complete lack of bids for auctions to fail. Figure 3. T-bond auctions July 2008 to November 2009, Cutoff Rates and Auction Devolvement

18 19

Based on the data provided by the BB to the mission. The mission was unable to obtain data for the auctions of T-bills.

24 Table 2. Devolvement in T-bond 20 Auctions Frequency and Volumes

(July 2008November 2009) Total devolved amount (Tk crore) 1162 5986 600 7748 Number of devolved auctions Cancelled Devolved to PD Devolved to BB Total (66 auctions) Source: BB. 5 33 2 40 Percentage of overall amount on offer 7 34 3 44

Percentage of auction numbers 8 51 3 62

38. These auction failures affect the governments financing plans, severely distort its cash management activities, and impact on the liquidity position of the banking system. This risks market participants and investors having misgivings regarding the ultimate reasoning behind the cut-off point decisions. Consequently, the unusual pattern of failures in the auction calendar is considered likely to be the result of monetary policy options available to the BB. The process of devolvement to PDs or to the BB itself can ensure that money is either withdrawn or added to the system at the decision of the auction committee. 39. The frequent auction devolvement and interest rate rigidity limits the distribution of government securities to nonbank investors. Other investors regard interest rates determined at the primary auctions to be below market rates and divert their funds to other investment opportunities. If auctions are devolved and rates determined are below market rates, PDs will only be able to sell to other investors at a loss, making the primary dealership and secondary market making unattractive. 40. The rigid and detailed auction calendar should take more account of the uncertainty in the path of future borrowing. At present, the BB is not able to forecast liquidity in the system and the government is equally unable to forecast its cash position and future borrowing needs. The revised auction calendar could still cover the next six months but include a provision for flexibility and revision until cash management improves. 41. Central Depositories of Bangladesh Ltd (CDBL) provides custody services for government securities. The CDBL does not have links to the payment system and settlement arrangements are seriously deficient in terms of providing the necessary platform for the safe and cost-efficient transfer of government securities on a delivery-versus-payment basis.

20

It does not include T-bills.

25 Recommendations 42. There is scope for a number of initiatives to improve the efficiency of the government securities market. This efficiency is necessary to develop a robust MTDS. It is recommended that: Implement initiatives for the primary market so that it can support the development of a secondary market and clarify the obligation of PDs. 21 Continue investigating the advantages of reopening T-bonds and T-bills by creating larger series of fungible instruments for secondary market trading. Make the auction calendar more flexible. Whilst maintaining a semi-annual format, notice should be given in the auction calendar announcement that it is subject to change at any time. Any changes made to the calendar must be announced to market participants as far in advance as possible. The DMW must ensure that the governments financing needs are of the highest priority when decisions are made regarding the cut-off points at auctions. DMW officials must attend auction committee decision meetings. Decisions to reject bids must be made only with regard to fiscal policy and the government financing requirement. In normal circumstances little use would need to be made of the devolvement process. Such action would also make the government yield curve more market-oriented and realistic. This could considerably enhance the depth of the secondary market. Seek technical assistance to analyze options for implementing a delivery-versuspayments system. D. Retail Savings Current Situation 43. The NSD, a department of the IRD, is responsible for the management of retail savings in Bangladesh. NSD borrows directly from the Bangladesh retail and corporate sector through issuance of savings instrument and postal deposits through 71 NSD Bureaus; 8,500 post offices; 3,000 Sonali Bank branches; and 8 BB branches. The NSDs system is entirely manual. NSD has a long history in Bangladesh and is particularly attractive to small
The obligation to actively quote secondary market prices is not observed by the PDs. PDs could also raise awareness of secondary market by providing indicative quotes for on-the-run series of T-bonds and T-bills. This information could be collated by the BB and published on its website.
21

26 savers. The objective of the schemes is to provide access to savings instruments for small savers and to finance the government deficit. 44. The NSD portfolio is large at 8 percent of GDP. The portfolio consists of seven different types of savings certificates, two types of postal deposit accounts, a postal life insurance, prize bonds, a development bond and two US$ bonds on offer. The instruments are issued on tap and each certificate generates its own series of cash flows. Instruments may be redeemed by holders prior to maturity in which case the holder may lose the within-period interest. The instruments are physical, registered in the name of the holder and nontransferable (unless a nominee was appointed at time of sale). Net inflows into NSD products in the first quarter of FY10 were Tk 28 billion, compared with an estimated Tk 32 billion target for the year as a whole, set when the annual financing plan was prepared. 22 Issues 45. It is difficult to control the issuance volume of the NSD. This has at times resulted in both under- and over-issuance against targets. Marketing and raising interest rates may increase demand (if targets are not being met). In case of over-issuance purchases by individual/family can be restricted but in the absence of a computerized system purchases through multiple sales locations may occur. Lowering interest rate settings may also deflect demand but interest rates cannot be changed frequently as it involves printing new physical certificates and retiring old ones and updating brochures. 23 46. The 3-year National Investment Bond (NIB) that can be purchased by nonbanks directly competes with the T-bond auctions. This NIB bond pays 8 percent a year (simple rate), compared with a private sector return of about 7.8 percent. Insurance and other non-bank companies are eligible to purchase this instrument and most of the inflow is attributable to them. The nature of fixed rate open-ended bond issuance influences expectations of rates in the primary auctions and reduces demand for T-bonds. It should be noted that although the share of the NIB bond represented only 1.3 percent of outstanding NSD products at the end of last fiscal year, it contributed 13 percent to net NSD sales in the third quarter of 2009. The policy of encouraging individual domestic savings through offering retail access to government debt at subsidized rates of interest is clear. This policy is distorted, however, by the historical anomaly of allowing nonbank financial institutions to invest in one type of NSD bond and, thereby, take advantage of a subsidy specifically targeted at individual small savers.
22

On NSD redemption, the previous MTDS mission had observed that the average early redemption appears to be about 7 percent, but could be higher (perhaps 14 percent) for certain instruments in certain periods.

Over the last 10-year period, interest rates on postal deposit accounts were changed once in; savings certificates (3- and 5-year) were changed four times.

23

27

47. The scale of the schemes also appears to be uncontrolled. Despite some of the savings instruments having rigid ceilings for investment by individuals and couples, the recent levels of investment suggest that these are not being enforced effectively. More importantly, however, there is no ceiling on the 3-year NIB, which is the NSD bond allowed for investment by insurance companies and other institutions. 48. Government should clearly show that the policy of subsidizing savings is solely targeted at individual savers at the lower and middle income brackets. There should be a specific prohibition on any institutions from purchasing NSD products. There should be a reasonable ceiling on the amount that any single individual or couple can invest in any NSD instrument during a fiscal year. The government, on changing the rules to accommodate these recommendations, should publish a statement on this policy. 49. The government should consider introducing an internal investment structure for NSD inflows. This should introduce transparency into the cost of the subsidy being provided through the budget. There are certain options by which this transparency may be achieved. Essentially, these can be considered through two means: A distinct government savings fund which invests in market-related interest bearing government securities and receives direct subsidy payments to cover excess returns to savers. An accounting mechanism through which the returns to savers are compared against market yields at the time the instruments were purchased, and the difference calculated as the inherent subsidy from the government. A description of the two methodologies is given in Box 3. Recommendations 50. The overriding concern should be how to firmly integrate NSD into the process for development of the MTDS. This can be achieved by: Ensuring that borrowing decisions that flow from the agreed MTDS should be monitored by the TDMW. A full analysis of the costs, structure, and policy behind the issuance of NSD instruments must be made by the MOF. If the policy for these savings instruments is considered to be social, institutional investors must be prohibited from purchasing them. Strict limits on individual investment amounts must be policed effectively. The interest rate structure of the NSD instruments must be re-thought and analyzed in order to consider making them move in tandem with market rates.

28

Box 3. Options to Enhance NSD Transparency

1. The fund would be a subaccount of the TSA. This fund receives all inflows from the NSD investors and invests these in special government securities (SGS). a. The SGS are non marketable but have market-related interest rates. The SGS are issued with approximately the same maturity structure as the underlying NSD instrument. The government will issue these SGS only at distinct datessay monthlyso as to reduce complexity of investments of the fund On payment of interest to investors, an imbalance will occur in the accounts of the fund. The interest received by the fund on its investments in SGS will be less than the payments it makes on the NSDs. This shortfall will be paid by the government directly to the fund from the TSA (and the budget). On maturity date of the NSD instrument, the fund will receive the maturity proceeds from its investments in SGS and pay the redemption amounts to investors. Where the fund has SGS maturing slightly after the required payment date, it will borrow short-term funds from the TSA and repay these on maturity of the associated SGS. The maturity proceeds of the NSD instruments and the SGS will exactly match and no subsidy is incurred in this transaction The total amount of money injected to the fund during the year will equate to the level of subsidy being provided by the budget to the savings policy. This level can then be published as the result of the policy in a transparent manner. An estimate of this amount can be made at the time of budget preparation for the following fiscal year and accounted against the specific accounting head of savings subsidy. The government will continue to bear the risk of the embedded put option being exercised against it by the investor. Exercise will cause a mismatch in the maturities of the SGS. Currently, the government bears this risk in a non-transparent manner. At present, there is no duration matching of NSD-related liabilities and the assets which the government gains as a result of the savings investment. When an investor exercises the option to redeem early, the government simply pays from the TSA. This does not account for whether the money raised from the investor has been spent on budget expenditure, or invested in long-term capital infrastructure, for example. Under the proposed fund structure, the government can, if it wishes, calculate the exact cost it bears when a put option is exercised by determining the market price of the underlying (now shorter-maturity) T-bond and calculating the difference from the par value paid to the saver. Analysis of this cost may lead to more stringent rules and/or penalties being imposed on early redemptions. The proposed fund mechanism will be invisible to the individual savers who will purchase the same instruments from the same vendors as normal. They will, though, be able to obtain information from the government regarding the subsidies they are receiving. Taxpayers will also be able to see directly the cost of the savings schemes.

b.

c.

d.

e.

f.

2. An alternative proposal (and one preferred by the mission) would contain a virtual mechanism identical to the above fund structure.

a.

b.

When an inflow into the NSD subaccount of the TSA occurred from a saver into an NSD instrument, this would be recorded electronically. At the same time, a record would be made of the principal amount of an equivalent par-value T-bond which that money could have bought at the time. The market interest rate available on the par T-bond would also be recorded. At the payment date of interest on the NSD, the difference between that payment and the virtual T-bond interest payment would be calculated and aggregated in a ledger account relating to that particular NSD instrument. This aggregate amount would represent the subsidy paid on that instrument in the year to date.

At the end of the fiscal year, the total of the aggregates would represent the entire subsidy paid on the savings policy over the fiscal year. This would be budgeted in the annual budget in a transparent manner, and debited against a government accounting head and published in the government accounts for the year. An estimate of this amount could be made during preparation of the budget for the following year.

29 Improving the timing and accuracy of information from the NSD through computerization. The project should take into account the format and frequency of reporting for debt stocks and flows to TDMW. MOF should seeks technical assistance from its development partners in order to make a study of these alternative investment structures (Box 3) and implement the most favorable one with a view to increasing the transparency of government savings policies. IV. CASH MANAGEMENT A. Introduction 51. It is often said that effective cash management is having the right money in the right place at the right time. 24 This phrase encapsulates the concepts of government banking arrangements, cash planning, and active cash management. The right place is usually considered to be a TSA maintained by the treasury in the central bank. The right time requires that cash managers produce accurate projections of the movement of funds into and out of the TSA. The right money requires that cash managers raise sufficient cash from various sources (particularly the T-bill market) in times of predicted cash shortage, and efficiently utilize cash resources in times of surplus. 52. A government can lose three times over if an effective TSA structure is not in place. This is due to (i) idle cash balances in commercial banks that earn a nil or belowmarket return; (ii) an ignorance of idle cash necessitates borrowing to make up the perceived shortfall; and (iii) costly monetary operations are necessary to drain the consequent excess liquidity from the banking system. 53. Unplanned or inaccurately forecast movements of cash in the operation of government business can be extremely costly. It can lead to cash rationing and the build-up of expenditure arrears which will tend to increase the costs to government by suppliers and contractors who expect to have to wait to be paid. It can also lead to unused balances of cash building up at the central bank which might be used for other government priorities, or for earning a higher remuneration on term deposits. 54. Active cash management allows the cash manager access to tools which can be used to make up for anticipated periods of cash shortage and smooth out volatility in the balances in the TSA. These tools might include short-term government securities, repurchase agreements (repos), central bank short-term overdraft and ways and means advance
For a review of issues in contemporary cash management, and international good practice, see Ian Lienert, Modernizing Cash Management, IMF Technical Notes and Manuals, No. 3, 2009.
24

30 (WMA), central bank, and commercial bank call and term deposits. Surplus cash can also be efficiently managed by actively reducing other government short-term debts whenever feasible. B. Government Banking Arrangements Current Situation 55. Historically, the government banking arrangements in Bangladesh have been reasonably efficient. There is a TSA system of subaccounts which operates to allow fungible access to government cash in the BB. Currently, 101 subaccounts exist in the BB which are monitored by the MOF as an aggregated total. Each year, this TSA structure is physically consolidated once, at the end of the fiscal year, with subaccounts being swept into the 0001 government account. 56. The subaccounts at the BB within the TSA system include those belonging to the 49 line ministries which have at least one expenditure account and may have revenue accounts. There are also loan and grant accounts for projects and budget support, revenue accounts, and interest accounts. These separate subaccounts are not monitored by the TDMW for cash management purposes and they are reconciled by the line ministries and project directors as necessary. The movements in the subaccounts are accounted for within the central government by the CGA. 57. The aggregate balance of the TSA and the cash management operations of the BB are reported daily to the TDMW. Where the daily movements are negative (expenditures greater than revenues), any surplus in the TSA is reduced or the WMA loan balance is increased. If the WMA is above its total limit of Tk 10 billion, the BB operates an unlimited short-term overdraft facility for the government. The current surplus of government reserves has allowed both the overdraft and the WMA balances to remain at zero for the past few months. 25 58. Government ministries and departments, statutory bodies, nonfinancial SOEs, and public financial entities (nonbanks) hold large numbers of accounts in commercial banks outside the TSA. For ministries, central government agencies, and departments these accounts have traditionally been imprest accounts for small petty cash expenditures, or ringfenced donor-funded project accounts.

The mission indicated its concern regarding BB monetary financing of government operations in regard to the unlimited overdraft facility. It suggested that the forthcoming World Bank/MCM mission should look further at this issue.

25

31 59. The total cash holdings of government and public sector entities in commercial banks at end-June 2009 was Tk 474.3 billion or 7.7 percent of GDP. This figure is rising steadily from year-to-year having been 5.7 percent of GDP in 2005. The total of the balances in the accounts of the central government at end-June 2009 was Tk 64.2 billion or 1 percent of GDP. This amount is rising in line with GDP and has continued at around 1 percent of GDP for the past five years. 26 Issues 60. The historical structure of the government banking arrangements remains in place with the majority of central government transactions taking place either through the TSA at the BB or in donor-sanctioned commercial bank accounts. The traditional use of ministerial imprest accounts, however, is being replaced in many cases by them being used to build up large balances associated with unexpended capital project funds. There appears to be no legislation or rule by which the MOF can claw back these surplus funds into the TSA and used to reduce government borrowings. Recommendations 61. It is important to ensure that the TSA system remains effective and allows the government access to all its cash reserves. In order to utilize these efficiently, it is recommended that The government should initiate a project to determine how commercial bank accounts are being used by ministries and departments. It should include a census of all government bank accounts in the commercial banks, including balances in these accounts. It should determine whether there is legislation to enforce the return of surplus and unused funds in these accountsat least once per fiscal year. If not, regulations should be enacted to allow claw back of these funds into the TSA. The government should also explore with the donors the possibility of these funds being a part of the TSA, and following the same system of spending and outflows as other budget expenditures. The CGA can devise systems to provide necessary assurance to the donors regarding safeguarding of their funds to be spent for the purpose meant.

26

Source: BB Monetary Survey. The majority of such funds were categorized as being held by other directorates and government offices without these being specifiedTk 39.5 billion (US$580 million).

32 It should discuss with donors the mechanisms whereby funds are disbursed to government agencies and ensure that these are appropriately coordinated with shortterm expenditure plans. C. Cash Flow Forecasting Current Situation 62. As shown in the Debt Management Performance Assessment (DeMPA) findings of 2008, there is very little cash flow forecasting being performed by the government. The existing structure of the TDMW has a cash and contingent liabilities section, but no disaggregated analysis of central government expenditure and revenue data is undertaken. Observation of the monthly time series of total government expenditure and revenue outturns has led to broad conclusions regarding the propensity for shortages and surpluses to occur in certain months of the fiscal yearsuch as a rising deficit being seen in May and June each year as departments engage in the year-end rush to complete budget expenditures. 63. These general trends are useful in predicting likely financing requirements in the year and are used by the TDMW to help produce the T-bills and T-bonds auction calendar in conjunction with the BB. There is, however, no analysis performed on disaggregated data from the spending units or the revenue agencies. Little or no communication is made with the departments to determine whether they are planning to change their patterns of expenditures. This is particularly relevant to capital project expenditures relating to counterpart funding by the government through the budget. 64. Similarly, few attempts are made to predict changes in revenue patterns which create volatility in government cash balances. A very large inflow into NSD instruments has been a major factor causing surpluses to grow rapidly over the current year. The current surge in domestic investment into the NSD instruments has been unexpected and there are no projections available to predict if this trend will continue into the future. The time-series showing total balances of the government reserves is plotted in Figures 4 and 5. These show that the current surplus has built up extremely quickly. The mechanism of the WMA and the overdraft facility can also be seen clearly with both being reduced to zero in times of surplus cash resources.

33 Figure 4. Daily TSA Cash Balances July 1, 2008 to October 31, 2009
(In Tk crore)

10/14/2008

11/25/2008

12/16/2008

10/27/2009

1/27/2009

2/17/2009

3/10/2009

3/31/2009

4/21/2009

5/12/2009

6/23/2009

7/14/2009

7/22/2008

8/12/2008

9/23/2008

11/4/2008

8/25/2009

9/15/2009

10/6/2009

6/2/2009

8/4/2009

Source: data provided by authorities and staff calculations. Note: does not reflect the overdraft block maintained by the BB, which maintained a constant balance of 20830 crore taka (Tk) over the period.

7/1/2008

Figure 5. Daily Overdraft and Ways and Means Account Balances July 1, 2008 to October 31, 2009
(In Tk crore)

9/2/2008

1/6/2009

5,000 4,000 3,000 2,000 1,000 0 -1,000 -2,000 -3,000 -4,000 -5,000

10/1/2008

11/1/2008

12/1/2008

10/1/2009

7/1/2008

Source: data provided by authorities. Note: does not reflect the overdraft block maintained by the BB, which maintained a constant balance of Tk 20830 crore over the period.

8/1/2008

9/1/2008

1/1/2009

2/1/2009

3/1/2009
OD

4/1/2009

5/1/2009
WMA

6/1/2009

7/1/2009

8/1/2009

9/1/2009

4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 -

34

Issues 65. To date, reform measures relating to budget execution have concentrated on improving the reporting times of government expenditure transactions through the branches of the BB and Sonali Bank. Also, debt servicing projections have significantly improved through the use of the DMFAS system for external debt and the BB system for domestic debt. 66. It is important that the CMW commence the development of capacity in bestpractice cash flow planning techniques. These require the analysis of expenditure and revenue patterns in a fully disaggregated manner in order that the causes of errors and deviations from trend can be determined. Close coordination with the budget wing is necessary to ensure that the budget spending units are encouraged to provide accurate forward-looking plans of their in-year expenditures to the cash managers in the CMW. These should be regularly updated and significant deviations from the plans must be investigated by the cash managers. Similarly, the cash managers must be informed of the most recent projections of government revenues by the revenue agencies and the MEW. 67. Revenue projections for the government of Bangladesh will be particularly difficult to make with consistent accuracy. Government financing initiativessuch as those undertaken by the NSDmust be included in these projections. These financings are extremely difficult to forecast due to their attractiveness to investors being subject to movements in domestic interest rates and perceptions of future inflation. It is important, however, that the cash managers make an informed estimation of the amounts which might be raised. The high variance in such estimates, both for inflows and outflows, would, in a well developed cash management system, be used to determine the appropriate cash buffer level to hold against unexpected movements away from the forecasts. 68. Once this information is being provided to the cash managers, a cash planning 27 model must be devised. This should detail the budget chapter of revenue and expenditure estimates across the current year, and aggregate these to form a profile of expected surpluses or shortages of cash resources. Once the opening TSA balance for the year is known, this profile can be used to project the TSA balance over the fiscal year.

27

An Excel-based spreadsheet model is sufficient for these purposes in most cases.

35 Recommendations 69. Since cash flow forecasting is being introduced in the MOF, it is recommended that the CMW enhance its capacity in this field significantly in the near term. 28 This can be achieved by: Establishing a CMW function whose objective is to produce a weekly and monthly rolling cash flow projection of the governments TSA balance, based on information from the budget agencies; Seeking and obtaining technical assistance and training in cash planning from external agencies; Determining errors in cash flow forecasts and enhancing accuracy in individual expenditure and revenue projections; and Establishing regulations which provide the CMW with sufficient authority to communicate with spending and revenue agencies and insist on accurate forecasting data. D. Cash Management Current Arrangements 70. In the absence of an estimated cash flow profile, as described above, Bangladesh government cash management has been achieved only on an ad hoc basis in the past. This has required the government to enter into an agreement with the BB to utilize a system of short-term borrowings to meet its financing needs. This agreement, made in 2006, precludes the BB from issuing T-bills to meet short-term cash shortages, which had been the standard cash management procedure previously. Currently, the only issuance of T-bills is through the scheduled auction calendar. 71. During times of cash shortage the BB draws on an overdraft facility in the WMA to meet payments. The limit on this account is Tk 10 billion. When this limit is exceeded, the BB allows the government to draw on a separate, unlimited overdraft facility. The WMA incurs an interest charge based on a premium over the overnight repo rate and the regular overdraft facility is charged interest at a premium over the overnight reverse repo rate.

Details and recommended timing of capacity building for cash planning are given in the log frame attached to this report.

28

36 72. This system, in the past, has led to the need to section off large accumulated government debts to the BB. These debts have effectively been securitized into a bond called the overdraft block totaling Tk 208.3 billion. 29 This bond is an amortization scheme designed to pay the debts off over 15 years. The scheme is charged a floating interest rate equivalent to the 91-day T-bill rate. The mission was told that the securitization of the overdraft block excludes the possibility of early repayment, or conversion to a fixed rate. 73. Periods of surplus are handled as follows. When revenues exceed payments at the end of the business day, the excess is credited to, firstly, the overdraft; secondly, the WMA; and, thirdly, to the TSA current account deposit which earns no interest. At present, there is no negative balance in the overdraft or WMA, and the surplus in the TSA is of the order of Tk 50 billion. 30 74. The reasons behind the current large account balances at the BB include: Macroeconomicincluding excess liquidity in the financial system due to unsterilized foreign exchange purchases by the BB, low import duties, high remittances, and a relative lack of automatic stabilizers in the system. High inflows of investments into the NSD. Increased donor-funded budget support loans and grants. Low implementation of the ADP capital expenditure. Delayed implementation of the new public pay scale. Continued adherence to the previously announced government securities auction calendarboth for T-bonds and T-bills.

Issues

75. The lack of any detailed cash flow forecasting implies that shortages in government cash resources are met through costly WMA/overdraft facilities at the central bank. This has worked adequately in the past; 31 although, no analysis of the costs
It should be noted that the government made no amortization payment during FY 2009 and first months of FY2010.
30 29

This has very recently doubled to approximately Tk 100 billion (approximately US$1.47 billion) owing to the receipt of a large budget support loan from the ADB.

At the time of the January 2008 mission, the WMA was at its upper limit and an additional large, increasing overdraft amount was being borrowed.

31

37 incurred, or the savings which may have been made through active use of forecasting, are available. Similarly, the current period of large cash surpluses is not being handled in an efficient manner. 76. There is clearly little that can be done by the CMW to counter the effects of many of the above reasons behind the surplus cash balances. Much of the impact of such events, however, might have been estimated in advance had cash flow forecasting been performed. An area of concern, however, is the raising of financing through the government securities market. There has been no flexibility allowed in the structure or quantity of the auction calendar. Whether auctions are successful or partially successful, debt continues to increase, as do the government balances at the BB. 77. A relatively unusual feature of the auction calendar is its inclusion of the sale of T-bills. In many countries where cash management is actively and efficiently performed, the issuance of T-bills occurs as and when there is a forecast need for short-term financing in the government cash planning. When auctioning regular T-billsusually when there is a structural cash shortagethe amounts of auctions are reasonably flexible and only announced to the market slightly in advance of the auction itself. 78. The cash management impact of the rates available to investors on NSD instruments is large. As discussed in other sections of this report, a major portion of the current surplus cash reserves of the government relates to borrowings from individuals (and some institutional investors) through the NSD. 79. The cash management activities of the government do not conform to international best practice in its relations with the BB. There is no payment of interest on positive government cash balances at the BB and all BB services are provided to the government at no explicit cost. It would enhance transparency and cash management operations if a SLA incorporating these two factors were negotiated and signed between the government and the BB. 80. A large, structural cash surplus gives the government the option of investing this in the commercial term deposit money market, or utilizing other interest-bearing instruments in the private sector, in order to increase its revenues. Since the government is normally the largest constituent of the financial market, this action can have considerable impact on the liquidity position of the banking system and, hence, the central bank monetary policy activities. The central bank would normally be required to drain these government deposits at a substantial cost. It is therefore usually of significant benefit to the central bank for the government to maintain its deposits there. This benefit should be paid for by marketrelated interest payments on these positive balances.

38 81. Similarly, service provision to the government should be costed and paid for by the user. These services can take the form of banking transactions, foreign exchange services and payments, auction and registration of securities, and many other activities. In this manner, the relationship between the government and the central bank becomes fully transparent. Recommendations 82. Clearly, the capacity to produce accurate cash flow estimates and profiles of the TSA balances would considerably enhance government cash management. Predicted shortages and surpluses could be efficiently managed ahead of time through movements in budget transactions, borrowing instruments tailored to the period of shortage, and interestbearing deposits over periods of surplus. The lack of such capacity at present does not, however, mean that cash management reforms cannot take place. As such, it is recommended that: The CMW must analyze the most efficient use of the current cash surpluses. The devolvement of T-bonds and, especially, T-bills on to the BB is an inefficient and ambiguous procedure. 32 The current cash surplus should be used to buy back and cancel these securities 33 in order to reduce circular 34 payments to the BB. The agreement relating to the block overdraft should be renegotiated in order to allow the surplus to reduce this debt and its servicing costs. Transparency must be enhanced in the relationship between the government and the BB. Discussions should commence with a view to negotiating a formal SLA. This would include the BB paying market-related interest on government call and term deposits, and the government paying for banking services provided by the BB. E. Issues of Capacity and Coordination with Debt Management Current Arrangements 83. Little cash management or cash flow planning is being performed in the MOF at present. As a consequence, no meaningful coordination exists except to the extent that the

32 33

Devolved T bills and T Bonds on BBs balance sheet amounted to Tk 28 billion at the end of October 2009.

They are not a direct part of the capital of the BB and they should, therefore, not be required as collateral for open market repo operations by the BB. Although these debt servicing payments add to BB profitability, this is unlikely to be returned in full within the BB dividend paid to government.
34

39 same officials responsible for DeM provide the relevant advice on cash management issues to the CDMC. Issues 84. The cash management capacity is very low. One official has been appointed as the cash and CL officer, but has no training or formal role in cash management. There is a strong requirement for cash planning and cash management in the government, as discussed above. CMW will need the capacity to coordinate data relating to all expenditure and revenue plans and estimates of the government. This will require substantial resources and commitment from senior management of the MOF. 85. The staff will need to be fully trained in public sector cash planning and management techniques. They will need to be competent in large volume data forecasting analysis and the ability to establish good working relationships with the data providers in all ministries and departments. A full technical assistance program must be established in order to build the capacity which will be required in the near future. 86. It is important that, within the MOF and the BB, cash management operations are coordinated with those of debt management. This is for several reasons: Debt servicing costs are a major constituent of cash planning; Debt issuance proceeds directly affect the TSA balances; Cash managers access the same domestic securities market as debt managers and must coordinate these activities carefully; and Often the objectives of debt market development and cash management conflict, and this tension must be carefully managed.

87. The first three of the above points will be of relevance only once a cash planning function is operating effectively. It is important that the DMW coordinate domestic borrowing activities with CMW. The CMW will also be required to coordinate with the other areas of debt issuance and settlementFABA, the debt division of the BB, and the NSD. 88. The fourth point is, however, currently having a significant impact on cash levels due to debt being raised while surplus cash is available. This has been discussed above and recommendations regarding the auction calendar and the devolvement process necessitate close coordination between cash and debt managers.

40 Recommendations 89. It is recommended that: Technical assistance be sought in the near-term to help establish, staff, and train a CMW within the MOF. The objective should be to build capacity within the unit in order to become proficient in cash planning and cash management techniques, using money and security markets as necessary, to an international standard. Once a formal cash management function is set up and operating effectively, coordination and cooperation between it and the debt managers must be formally established. This will entail data sharing on debt servicing and issuance plans, and close coordination of domestic market transaction activity. V. OPERATIONAL RISK, AUDIT AND SYSTEMS ISSUES A. Risk Management Current Arrangements 90. There is currently no developed operational risk management framework that covers debt management activities within the MOF. 35 The regulations made under the rules of business cover the proper handling of financial transactions and their accounting; but the internal control regime does not currently extend to all activities that carry operational risks. 91. In practice individual line managers are responsible for the management of operational risks arising in their own area. Thus individual managers determine processes, in their functional areas, to ensure data integrity and the arrangements for back up. In relation to systems, there are codes of practice adopted by IT professionals that will, where possible, be applied. 36 92. Managers are not supported by an internal audit or similar other risk assessment and management professionals, who can assist in risk assessment, design of

35

Operational risk is defined under Basel II as the risk of loss (financial or nonfinancial) resulting from inadequate or failed internal processes, people and systems, or from external events that impact a companys ability to operate its ongoing business processes. This is a problem in several countries as evidenced by DeMPA results so far.

It was nevertheless surprising to see the (only) DMFAS server on the floor in an open office, linked by trailing wires, without any protection from dust or spills.

36

41 controls, and to provide senior management with some assurance about the effectiveness of controls. 93. The MOF has circulated guidance to all ministries on the need to develop an internal audit function, and budgetary provision has been made available. However, few ministries have made any progress; and there is no internal audit function in the MOF. Professional internal audit capacity is very limited in the public sector. 37 Ministries have the freedom to buy-in internal audit advice from the private sector, but have not taken advantage of that, a reflection probably both of the lack of human resources and some confusion within government on the role of internal audit. 38 94. There has been no comprehensive external audit of debt management functions. The Comptroller and Auditor General (C&AG) recognizes the importance of DeM and the potential risks. His office also acknowledges the need for conventional financial and propriety audit to be extended to systems and processes, and subsequently to value for money audit. But his office lacks capacity and expertise on DeM or related financial issues. The C&AG intends to address this lack in the human resources plans now being developed and to develop a cadre of staff with the required skills. Issues Arising 95. The absence of any effective external or internal audit makes the assessment of operational risk especially important. Individual managers have developed over time their own judgment of the controls needed and experience of what is practically available. But they will not necessarily be able to judge the risks associated with failure of those controls or processes, whether through error, fraud, or an interruption to business, which may be beyond their immediate horizon or experience. It is also likely that the controls will be applied inconsistently between units. 96. The development of an integrated and consistent operational risk framework is a significant task. A guidance note was shared with the authorities on how a risk framework might be developeda technique that has been used in a number of debt offices, as well as comparable operations in the private sector. This technique can be applied to a well developed DMW in the medium term. It would be somewhat more difficult to apply fully to individual parts of the current fragmented debt management function, unless it was being used more widely over a range of operations within the FD. But the approach can be applied initially in a broad brush manner with only modest cost in terms of staff time, with potential benefits even as it is refined later.
37 38

There is no professional internal audit body in Bangladesh. Mission shared a guidance note on this with the authorities.

42

97.

A process within FD involves: Identifying key risks, through a number of workshops involving relevant staff. A DMW official might be appointed risk champion to facilitate this process. Managers to identify and judge risks that carry the greatest exposures (the product of likelihood and impact). Senior management considering the mitigating action needed, developing a risk management program accordingly, and seeking advice as necessary (e.g., on the design of controls).

Recommendations An operational risk management framework should be put in place in the MOF to apply, in the first instance at least, to all units with debt management responsibilities. A similar function should be adopted for BB at least for the Public Debt Department. In the medium term, the MOF should develop a modern internal audit function. In the short term it should be outsourced to external experts for carrying out such an audit on annual basis. This maybe a more expensive option but perhaps more practical in the short term and also more efficient. It will be useful if the trainee auditors from the C&AG participate along with the external auditors to develop understanding and in-house capacity. The reports of the external experts on risk assessment should be submitted directly to the Finance Secretary and to the CDMC (so that NSD and FABA are also covered) to ensure that the there is commitment to address the recommendations of these reports. In the medium term, for external audits, the C&AG needs to create a team of 510 auditors with skills in auditing public DeM. This requires extensive trainings that cover both knowledge in finance and the auditing methods and standards. B. Systems Strategy for NSD 98. The NSD acknowledges the urgent need to automate its processes and maintain its data in electronic form. This will be a major task, made worse by the lack of any inhouse IT capability and the unfamiliarity of the staff with even administrative systems.

43 99. It is not possible to set out at this stage a strategy for the automation of NSD, but two observations can be made: It will be essential that NSD instruments can be issued in dematerialized form. That will reduce the administrative, storage and production costs associated with the current certificates. In practice it will mean that the name on the NSD electronic register represents legal title to the instrument, not the certificate itself. It will still be possible to issue a piece of paper to an individual recording a purchase if that is required; but it will not need to be printed on security paper. It is likely that automation will allow substantial reengineering of existing NSD processes. But the extent of this, and the implications for costs, and for the staff and management of NSD, cannot be estimated without further work. An outline for this work could be: Seek advice on reengineering and the system architecture to support it. Prepare contract specification. Lead to the design, development and implementation of the system, and train staff as necessary. Separate arrangements would probably be required for the hardware needed. Further implementation work and subsequent maintenance would be managed inhouse.

100.

Recommendations NSD should prepare the business reengineering study. Assistance might be sought from the IT Staff at the MOF that have an idea of the work undertaken for automating the customs, or from the Integrated Budget Accounting System (IBAS) team. NSD should set a timetable for the re-engineering and automation of their processes. A useful way will be computerize in phases: (i) Phase 1, focus on automation of all NSD Bureaus; (ii) Phase 2, link with commercial banks; and, (iii) Phase 3, link with the post offices (the post offices are already being computerized, and useful to ensure convergence with the systems there).

44 Annex I. Elements of a Sound Legal Framework for Public Debt Management The legal framework for public debt management ideally contains the following key elements: Clear authorization by parliament/congress to the executive branch of government to approve borrowings and loan guarantees on behalf of the government. Clear authorization by the executive branch of government to the debt management entities to undertake borrowing and debt-related transactions and to issue loan guarantees. Clear debt management objectives. Common debt management objectives found in modern legislation are that central governments funding needs are always met, the cost of the debt is minimized from a medium/long-term perspective, the risks in the debt portfolio are kept at acceptable levels, and that development of the domestic debt market is promoted. A requirement to develop a debt management strategy. Once the debt management objectives are set, these objectives must be translated into an operational strategy that will provide a framework for how the government will achieve its debt management objectives. Mandatory reporting on an annual basis covering an evaluation of outcomes against stated objectives and the determined strategy. Such accountability is the counterpart to the delegation by parliament/congress of borrowing power to the executive. A requirement for an external audit. Such a requirement for external audit is normally found in the general Public Audit Act, rather than in specific debt management legislation.

References: 1. World Bank (November 2007), Government Debt Management Performance Assessment (DeMPA) tool. 2. World Bank and the International Monetary Fund (March, 2009), Developing a Medium-Term Debt Management Strategy (MTDS) - Guidance Note for Country Authorities

Annex II. Log-frame: Steps to be Taken for the Capacity-Building Plan

Issues/ Project Components Actions Timing (end-dates) Expected Outputs of the Actions Budget Expected Outcomes of the Project Components

I. Legal Framework A. The current legislation does not specify the DeM objectives or the requirement to develop a DeM strategy or the requirement to report to parliament on DeM Prepare a comprehensive public debt law, in line with best international practice Draft agreed with stakeholders Passed into law 1. Draft the secondary legislation for the CMW (or regulations as applicable) with roles, responsibilities and authorities granted to the CMW (hire an external expert) 2. Enact legal framework for CMW Institutionalize the debt management objectives and provide legal basis and requirement for developing a MTDS Framework for cash management and CMW established Hire an adviser to prepare draft; need internal procedures to approve and submit for enactment in to a law (US$20,000) US$13,000 (1 staff week + travel) Provide more transparency and accountability to parliament

January 2011 January 2012 December 2010

B. Institutional framework for cash management not robust or structured

Institutional framework of CMW established in a robust manner

45

August 2010

Legal framework for CMW established

Issues/ Project Components

Actions

Timing (end-dates)

Expected Outputs of the Actions

Budget

Expected Outcomes of the Project Components

II. Institutional Structure A. Several debt management entities, performing partial debt management functions based on the type of debt issued. No holistic coverage of total public sector debt and no debt management strategy Development of an integrated DMU should be a medium-term objective: December 2013 DMU main entity to prepare implement MTDS, driving force for domestic auctions DMW to prepare MTDS Internal order It will have capacity to develop and implement the debt strategy, taking a holistic view of both debt liabilities and debt policy execution; and identify risks to the government from loan guarantees, other contingent liabilities and nonperforming loans.

For the short term the TDMW is transformed into (i) Debt Management Wing (DMW) and (ii) Cash Management Wing (CMW) Develop a specification of the DMW and the CMW and a work plan for its formation Define the role of DMW; all non-debt related tasks to be taken out and capacity strengthened. DMW should be responsible for preparing the MTDS. MEW prepare DSA training on DSA (external expert to deliver, 1 staff week) Review ToR of CDMC; develop as a Debt Management Committee

August 2010

June 2010 June 2010

Internal order

46

Internal order

August 2010 May 2010 February 2010 Internal order, US$13,000

Issues/ Project Components

Actions

Timing (end-dates) February 2010

Expected Outputs of the Actions Organizational setup/work programs of cash management unit to be identified. CMW initial level of staffing achieved (assuming that job descriptions exist) CMW initial equipment provided Training program in cash planning has been delivered; all CMW staff received adequate training Generate cash forecasts, manage cash balances better and integrate with auction calendar CMW established in FD carved out from TDMW

Budget

Expected Outcomes of the Project Components The GoB has established a trained Cash Management Wing in the Finance Division of the MOF. The CMW is fully equipped to handle expected data workloads. The staff of CMW receive training in data handling, spreadsheet formulation, time series forecasting, budget execution operations, public sector banking arrangements, and relationship management. Reduced surplus or idle cash balances. Reduction in unremunerated cash. Earnings on cash surpluses.

B. Almost non-existent cash management functionality in central government

1. In-principle decision to establish CMW

Internal decision

2. Recruit 2 more staff with competencies in spreadsheetbased data analysis and forecasting, and relationship management 3. Equip CMW with three webenabled computers with Excel spreadsheet capability 4. Deliver structured training program for CMW staff, including new staff (Training by external Cash Management expert) 5. Integrate staff training program in daily work routine

By May 2010

Internal decision

By March 2010 May-June 2010 (1 work week)

US$5,000

47

US$13000

June 2010

Internal decision

6. A new Cash Management Wing (CMW) is established within the Finance Division (FD)

July 2010

Issues/ Project Components

Actions

Timing (end-dates) III. Debt Strategy

Expected Outputs of the Actions

Budget

Expected Outcomes of the Project Components

A. Debt data quality is uneven and information lags add to inefficiencies in cash and debt management.

TDMW to prepare guideline and define reporting formats for information from BB, ERD and NSD. [ERD may need to consult with local DMFAS team and/or UNCTAD]

By March 2010

Written guideline by TDMW agreed by BB, ERD and NSD. Spreadsheet examples to show format for stock, flow, amortization profiles and terms of debt information. Confirmation of data accuracy from BB, ERD, and NSD Quarterly Debt Report prepared regularly and disseminated internally and externally In context of MTDS, DMW approves cost and issuance of NSD borrowings within parameters agreed in DMC

Requested MTDS follow-up Joint Bank-Fund TA mission; internal budget ; links with other PFM related capacity building projects (e.g., SPEMF) Internal

Timely debt data will be available that can be used in strategy analysis and for day-today management of the public debt

Reconciliation should be undertaken to ensure data quality by BB, ERD and NSD B. There is no reporting on the public debt DMW to complete the Quarterly Debt Report and distribute, first internally and, at a later stage, externally

By April 2010

Accurate debt data

48

By September 2010

Internal

Improved transparency for all stakeholders and strengthened governance

C. DMW has limited control over interest rates and quantities borrowed through NSD instruments

Ensure that once an MTDS is in place that all borrowing decisions that flow from the strategy are monitored by DMW

October 2010

Internal

Framework will ensure NSD issuance conforms with the MTDS

Issues/ Project Components

Actions

Timing (end-dates) By June 2010

Expected Outputs of the Actions Accurate, complete, timely and comprehensive central government external and domestic debt. Timely data on NSD instruments and debt service is made available to DMW and the MEW

Budget

Expected Outcomes of the Project Components

D. The implementation of DMFAS v6.0 will be able to record domestic debt but not necessarily NSD instruments

TDMW and FABA should carefully monitor DMFAS implementation and take appropriate actions for NSD instruments TDMW (later DMW) along with NSD should create a spreadsheet model for NSD debt that produces a forecast of future redemptions and sensitivity analysis to a range of assumptions that affect debt flows. DSLU to prepare an analysis of the on-lending portfolio and also assess whether it can be recorded in DMFAS version 6.0

Equipment, DMFAS Advisor, air travel and 4 weeks US$50,000

E. NSD data are incomplete and delayed

September 2010

Link with NSD computerization project and will require input from an expert

DMW to have adequate tools to assess debt flows from NSD instruments

49
DMW to have a reliable tools to assess cash flows from the onlending portfolio

F. On-lending portfolio needs to be further analyzed and appropriate assumptions made about future cash flows and loan impairments

By March 2010

Assessment of loan impairments and suitability for transferring the onlending to DMFAS

DMFAS staff to provide input to recording of onlending in DMFAS. Analysis of balance sheet (with a view to identifying impairment risks) of 3-4 major borrowers prepared by a qualified accountant, estimate US$10,000

Issues/ Project Components

Actions

Timing (end-dates) June 2010 December 2010

Expected Outputs of the Actions Revision of the operational procedures and policies for the primary market Increase fungibility; BB offers same bond in auctions and target size of a single bond defined Auction calendar for T-bonds announced

Budget

Expected Outcomes of the Project Components More stability in domestic financing operations

Market issues impacting debt strategy development: (i) Auctions frequently undersubscribed and devolved to PDs and BB (ii) Issuing new T-bond in every auction does not provide good basis for secondary market to develop (iii) Lack of credible auction calendar, particularly acute for T-bonds, limits transparency and makes it difficult for investors to plan participation in the T-bond auctions

Implement initiatives for primary market to support development of secondary market and clarify obligation of PDs. Draft document Implement initiatives Analyze legal obstacles to offer the same T-bond in multiple auctions and define a target size of any single maturity (subject to refinancing risk) DMW should, in cooperation with the BB publicly announce an auction calendar for T- bonds that is subject to quarterly revisions 39 Precise amounts would be announced near the time of each auction

To be covered by IMF peripatetic or from FIRST consultant (confirm)

July 2010

To be covered by IMF peripatetic Adviser/FIRST consultant (confirm Internal with input from IMF peripatetic Adviser /FIRST

T-bond issuance conducive to further market development

July 2010

Allow investors to plan investments; Enhance transparency

50

To be clarified to the market that the auction calendar over the next 6 months would be subject to revision although it will be firm for the next quarter to meet the investor expectations, since the calendar is already announced. Subsequently calendar will identify which bond is to be issued and the dates for the same, the precise amounts will be announced near the time of each auction keeping in view governments borrowing requirements.

39

Issues/ Project Components

Actions

Timing (end-dates) January 2010

Expected Outputs of the Actions DMW to regularly attend Auction Committee Meetings

Budget

Expected Outcomes of the Project Components Decisions to accept/reject bids made according to needs of fiscal policy Reduced settlement risk and reduced impediments to primary and secondary market activity Separation of social and fiscal policies regarding NSD instruments and appropriate allocation of costs Will streamline NSD system and provide timely and accurate information flows that supports debt management

(iv) TDMW does not participate in Auction Committee Meetings and decisions to accept or reject bids do not always reflect fiscal policy considerations (v) CDBL does not provide for simultaneous transfer of securities and payment. This adds to settlement risk Clarify and transparently report costs on the two-fold objectives of NSD (i) to provide savings instrument to small savers and (ii) to finance the budget Lack of timely and accurate information from NSD attributed to paper-based system that collects data from more than 10,000 retail outlets

TDMW staff to participate in Auction Committee Meetings and take decisions on auction cut-off (even if through fax/email) Analyze options for implementing a delivery-versus-payment settlement for T-bills and T-bonds

Internal

March 2010

Analysis and costing of upgrading the current CDBL system Paper on analysis of costs, structure and policy of NSD instruments

Analysis of costs, structure and policy for issuance of NSD instruments. Hire advisor to provide recommendations on this calculation and presentation in budget (IRD with NSD) Assess the feasibility of computerizing the NSD

By March 2010

Advisor to work with BB on this issue, air travel and 2 weeks, estimated US$16,000 US$15,000

51

March 2010

Feasibility analysis for computerization of NSD operations

Appoint local IT expert to prepare feasibility study with procurement specifications; 6 weeks US$10,000

Issues/ Project Components

Actions

Timing (end-dates)

Expected Outputs of the Actions

Budget

Expected Outcomes of the Project Components Debt management carried out on the basis of a formal approved debt strategy

Lack of formal debt strategy

A. Little or no cash planning, forecasting and TSA balance projections being produced

Design and develop a debt August 2010 Agreed debt strategy strategy covering total public sector debt, for the medium term with guidelines for the direction of currency risk, interest risk and refinancing risk. (staff to be trained in the use of analytical cost-risk tool) IV. Cash Management 1. CMW to design spreadsheetAugust 2010 Cash flow model for based model of government cash central government flow estimates and forecasts. designed and tested; Budget classification structures reasonably reliable (e.g., chapters & subchapters) cash-flows possible incorporated into model as in to be generated government Chart of Accounts. Totals and sub-total of classification groups and whole-of government cash flow produced and compiled with bank account balances. 2. Model populated with several years historical data of revenues and expenditures and time series trend analysis performed on these to identify seasonality patterns for each classification (e.g., chapter) April/June 2010 Seasonality patterns for expenditure and revenue flows established. Model populated with initial new fiscal year estimates

TA mission and internal decision

May be provided by IMF peripatetic or combined with FIRST, 2 visits by a cash/debt advisor, US$36,000

Cash flow analysis capable of distribution. Modeling on seasonal trend forecasting available. Initial model populated with expenditure and revenue estimates. Full year ahead profile of projected TSA balance available to MOF management.

52

Internal and oversight by expert

Issues/ Project Components

Actions

Timing (end-dates) May/June 2010

Expected Outputs of the Actions

Budget

Expected Outcomes of the Project Components

3. Budget estimates for fiscal 2010/2011 entered into cash flow model. Revenue and expenditure projections obtained (or predicted from annual data by applying seasonality patterns) 4. Opening fiscal year TSA balance(s) entered into model and used to aggregate in-year cash flow profile

Internal and oversight by expert

July 2010

TSA bank balance profile available calculated from previous balance plus expected revenues less forecast expenditure payments Cash planning model updated continuously

Internal

53

5. Relationships established with spending units and revenue agencies in order to provide CMW with regular updates on plans and projections 6. CMW analyses errors in forecasts and uses its authority to encourage greater accuracy and better timing on updated planning information from agencies

July 2010

Internal and oversight by expert (only in the beginning) Internal

September 2010

Cash planning for whole-ofgovernment becomes continuously more accurate

Issues/ Project Components

Actions

Timing (end-dates) September 2010

Expected Outputs of the Actions Service-level agreement signed between MOF/BB

Budget

Expected Outcomes of the Project Components Active cash management by the CMW has reduced the volatility of the TSA balances to an acceptable minimum. A service-level agreement is signed between the MOF and the BB which allows the BB to pay interest on deposits and the government to pay fees for banking services. The CMW utilizes term deposit instruments and T bills and other borrowing instruments to meet cash needs. The desired cash level kept in the TSA reflects a calculated contingency reserve based on expected cash volatility profiles.

B. No management of cash balances occurring. Large surpluses being left in TSA deficits handled automatically through ways-and-means and overdraft facilities

1. Draw up agreement with central bank to ensure that instructions from the CMW can make efficient use of T-bill issuance in predicted times of cash shortage(Consultant) 2. Ensure that overdraft facilities are used by the CMW as a last resort to borrowing and are paid off before other short-term debt facilities. 3. Negotiate for the central bank to pay market-related interest on cash surpluses 4. Use the projected TSA balance profile to determine the terms for short-term borrowings (T bills, repos, etc.) and time deposits (or reverse repos, etc.) (Financial Market training) 5. CMW to have as its main objective the smoothing of the balances in the TSA to a cash buffer level calculated according to forecast cash volatility profiles

Model agreement to be provided by IMF peripatetic/SPEMF team/legal, budget internal Internal

September 2010

CMW actively managing the borrowing facilities at the BB BB pays marketrelated interest rates on MOF call and term deposits Volatility in the TSA reduced substantially through actively matching predicted balances to instruments TSA balance contains buffer cash level sufficient for contingency needs (calculated from expected cash volatility profiles)

January 2011

Internal

54

January 2011

Internal and IMF peripatetic

July 2011

Cash/debt expert air travel and budget US$13,000

Issues/ Project Components

Actions

Timing (end-dates)

Expected Outputs of the Actions

Budget

Expected Outcomes of the Project Components Operational risk management framework in place, key risks identified; and mitigation priorities established and regularly reviewed by senior management. Processes and controls monitored by an internal audit function supported by checks and balances resulting in a significantly reduced risk of errors and fraud.

V. Operational Risk Absence of effective external or internal audit makes the assessment of operational risk especially important An operational risk management framework should be put in place in MOF to apply to all units with debt management responsibilities July 2012 Risk register agreed and scored; controls identified; and mitigation priorities established. Job descriptions updated Establishment of an internal audit function that is adequately staffed Contract awarded to local audit expert in cooperation with the Auditor General Internal decision

In the medium term, the MOF should develop a modern internal audit function

January 2014

Internal decision

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In the short term outsource it to external experts

July 2010

US$25,000 budget

Develop in-house capacity

July 2013

Hire staff and provide structure for the unit as well as reporting lines and terms of reference

Internal decision

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Actions

Timing (end-dates)

Expected Outputs of the Actions

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Expected Outcomes of the Project Components

Submit reports of external experts on risk assessment directly to the Finance Secretary and [as appropriate] to the CDMC to ensure commitment to these reports In the medium term, to develop external audit, C&AG needs to create a team of 5auditors with skills in auditing public DeM

September 2010

January 2012

Developed external audit function. Recommendations observed and amendments made Trained staff that are capable of conducting DeM audit

Internal decision

56

Training that covers knowledge in finance and auditing methods and standards

February 2014

US$50,000 budget for training

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Actions

Timing (end-dates)

Expected Outputs of the Actions

Budget

Expected Outcomes of the Project Components

VI. Systems Strategy for NSD NSD should set timetable for reengineering and automation of their processes in phases: By January 2012 Automation of NSD processes, securities dematerialized, sales and redemption figures available within a short time lag to the DMW To be determined by NSD computerization analysis Improved control and reduced operational costs and risks of issuing NSD instruments

Initiate this with contract to identify reengineering options, procurement issues and the way forward (i) Phase 1, focus on automation of all NSD Bureaus (ii) Phase 2, link with commercial banks (iii) Phase 3, link with the post offices (the post offices are already being computerized, and useful to ensure convergence with the systems there)

June 2010

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January 2011 By July 2011 By October 2011