Understanding and managing risk is an essential part of debt management operations.
We operate within a risk management framework approved by the Minister of Finance. The framework specifies policies for managing credit risk, market risk, operational risk, funding risk and liquidity risk. These policies aim to ensure that risk is maintained within organisational risk appetite while enabling the delivery of core roles and responsibilities.
The risk management framework is subject to continuous improvement as best practice evolves. The framework and practices are subject to regular audit review, and are also reviewed periodically by the Treasury’s Risk and Audit Committee, the Controller and Auditor-General, and the Capital Markets Advisory Committee.
The risk management framework sets out the governance framework for debt management operations, including the legislative provisions governing borrowing and investment activities. Internal operations are governed by an established risk culture, body of policies, ethical guidelines, defined responsibilities and formal delegations, segregated duties and reporting and performance management requirements.
Credit risk is defined as the risk of loss in portfolio value owing to the downgrade or default of an institution.
Credit risk is managed through the credit screening of counterparties, use of credit exposure limits and counterparty collateral obligations. Credit exposures are maintained only with highly rated institutions. The creditworthiness of counterparties, and credit exposures against limits, are monitored daily.
Market risk is defined as the impact of changes in interest rates, exchange rates or other market variables on portfolio value.
Market risk is managed through the use of Value at Risk limits, portfolio sensitivities, stress testing and stop loss limits. Foreign exchange contracts, currency swaps, interest rate swaps and futures contracts are used to manage market risk associated with its core asset and liability portfolios.
Operational risk is defined as the risk of loss resulting from inadequate or failed internal processes, people and systems, or from external events.
Operational risks are managed in a number of ways. Controls include policies governing staff behavior, reporting and performance management requirements, delegations and access controls. An operational risk register and operational risk event log is maintained, and events are reviewed to reduce the likelihood of recurrence. These practices are supported by a strong operational risk management culture.
Funding risk refers to the inability to raise funds at an acceptable price.
Funding risks are managed by limiting government bond tranche sizes and limiting the amount of short term debt on issue – thus reducing refinancing risk, diversifying funding sources and by maintaining access to a range of funding markets.
Liquidity risk is defined as the risk of not being able to meet cash flow requirements as they fall due.
Liquidity risk is managed by ensuring that liquid assets are held in each currency to cover obligations. A pool of liquid assets is held as a buffer against contingencies. Cash management arrangements have been established with the Reserve Bank of New Zealand to support effective management of overall Crown cash flows.