The following Questions and Answers provide a plain English explanation of how and why the Treasury conducts borrowing on behalf of the Government.
1. Why does the Government borrow?
The Government receives cash inflow from things such as tax revenue, levies and investments. The Government’s cash outflows are the things it pays for such as hospitals roads, schools, social welfare and the cost associated with current borrowing.
If cash inflows are higher than cash outflows the Government has a cash surplus. However, if inflows are lower, this creates a cash deficit. A cash deficit generally means the Government will need to borrow money to continue to deliver public goods and services.
2. How does the Government know when it needs to borrow, and how much?
Each year the Treasury forecasts how much the Government is likely to earn, and how much it will need to spend. This usually happens twice a year, at Budget in May and again in December. In an election year, an additional update is provided just prior to the election.
These forecasts will establish whether there is a cash deficit or a cash surplus and will include advice to the Government on how much will need to be borrowed. Once the borrowing needs are determined, a borrowing programme is agreed with the Minister of Finance. New Zealand Debt Management (NZDM), the Treasury function responsible for managing the borrowing programme, then conduct regular, planned borrowing over the period of a year
3. How does the Government borrow?
In contrast to how a member of the public borrows money, which is typically through a bank, the Treasury borrows money on behalf of the Government by selling New Zealand Government Securities.
Government borrowing is governed by legislation and Acts of Parliament – the main one being the Public Finance Act 1989. This Act gives the Minister of Finance the authority to borrow funds on behalf of the Crown, when it is in the public interest to do so. The Minister has then appointed certain Treasury staff as Borrowing Agents, to conduct borrowing on behalf of the Crown.
While typically referred to as ‘Government borrowing’, legally speaking, this borrowing is always done in the name of “the Crown”; all Government borrowing (debt) is tied to the Crown rather than the Government of the day.
4. What are Government Securities?
There are several different mechanisms used to borrow money. These are often called funding or debt instruments and are collectively referred to as Government Securities.
It is worth noting that debt management terminology; ‘funding’ and ‘debt’ are frequently used interchangeably. In other words, funding and debt can mean the same thing.
The borrowing programme provides detail on which types of funding instruments or securities will be used to raise funds, and to what value.
Bonds and Bills are the main types of New Zealand Government securities, these include:
- Nominal bonds: Fixed-term securities that have an initial maturity of one year or more.
- Inflation Indexed Bonds: Fixed-term debt securities where the rate of interest is linked to the rate of inflation. They have an initial maturity of one year or more.
- Treasury Bills: Fixed-term securities issued with 3-month, 6-month and 1-year maturities.
The Bonds and Bills are like a written IOU – a legal contract between the Government and an investor. These are sold to an investor at an agreed price and a date for when the debt will be repaid. The date is called the maturity date. Investors who hold bonds also receive payments throughout the year which is called a coupon, this is like interest paid on a bank term deposit.
5. How are the securities sold to investors?
Bonds and Bills are sold on a weekly basis through a 30-minute online auction called a tender, where approved investors bid to buy the securities on offer. Details of the tender are communicated in advance, and interested investors participate in the auction. Investor’s bids are made in multiples of $1 million.
6. Who buys New Zealand Government Securities?
Only approved Primary Market participants can bid in tenders to buy NZGS. Approved participants are called Registered Tender Counterparties (RTC), and are typically large banks who will often on-sell securities to other investors, known collectively as the Secondary Market. While Secondary Market investors cannot directly participate in tenders, they may offer their bids through a RTC.
The current list of approved Registered Tender Counterparties can be seen on the Primary Market Access Information webpage.
In the Secondary Market, NZGS are bought by a range of investors including, fund managers, insurance companies, Central Banks and pensions companies. They purchase NZGS because they are relatively low risk compared to many other types of investments.
Approximately half of all NZGS are held by New Zealand investors with the remainder held by investors who live offshore. NZDM does not hold details of individual secondary market holders of NZGS.
7. How is borrowing repaid?
With any Government borrowing, if sufficient revenue has been earned by the time the borrowing period matures then the debt can be paid off, alternatively additional borrowing can be undertaken.
Because all government securities are issued with a specific maturity or due date, that date is when the borrowing must be repaid. Before a maturity, money is built up in advance to ensure that the Government can repay the investor on the due date. If the Government has a cash surplus, it can be put towards repaying borrowings. Alternatively, additional securities can be issued, which effectively extend or roll over the borrowing. Defaulting on a debt repayment is to be avoided, as it can affect investor confidence and limit the ability to borrow money in the future.