Federal Debt: Debt Management Actions and Future Challenges (Letter
Report, 02/28/2001, GAO/GAO-01-317).
This report discusses the Treasury Department's debt management
strategies in a period of budget surplus. As the level of debt held by
the public has decreased, the Treasury has had to rethink its strategies
for best achieving its three goals--having sufficient cash on hand,
minimizing cost over time, and promoting efficient markets. The Treasury
has used existing and new debt managing tools in response to the
challenges posed by declining debt. In calendar year 2000, the Treasury
began two new programs designed to improve market liquidity: regularly
reopening existing debt issues rather than creating new issues, and
conducting buybacks of about $30 billion in longer-term bonds before
they matured, thereby enabling the Treasury to issue more new
securities. In addition, higher issuance levels of short-term bills were
made possible by eliminating longer-term notes. Capital markets have
been adjusting to the reduced supply of Treasury securities. For
example, capital market participants have begun using financial
instruments other than Treasury securities as pricing tools for
transactions. If projected budget surpluses materialize, the current
combination of debt auction schedules, issue sizes, and maturities will
be unsustainable over the next several years.
--------------------------- Indexing Terms -----------------------------
REPORTNUM: GAO-01-317
TITLE: Federal Debt: Debt Management Actions and Future
Challenges
DATE: 02/28/2001
SUBJECT: Economic analysis
US Treasury securities
Future budget projections
Budget surplus
Budget deficit
Deficit reduction
Debt held by public
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GAO-01-317
February 2001 GAO- 01- 317 Printed copies of this document will be available
shortly.
FEDERAL DEBT Debt Management Actions and Future Challenges Report to
Congressional Requesters
United States General Accounting Office
GAO
Page 1 GAO- 01- 317 Federal Debt
3 Appendix I: Outstanding U. S. Treasury Marketable Securities, by Year
of Maturity (or Callable Date), as of 9/ 30/ 2000 27 Appendix II: U. S.
Treasury Debt Buybacks, Calendar Year 2000 28
Figure 1: Federal Debt Held by the Public as a Share of GDP (1980–
2000) 5 Figure 2: CBO's Projections of Federal Debt Held by the Public as a
Share of GDP (Under “Current Policies” Baseline Scenario) 6
Figure 3: Ownership of Outstanding U. S. Federal Debt 8 Figure 4: Year- to-
year Change in Composition of Outstanding
Marketable Public Debt 13 Figure 5: Composition of Outstanding Marketable
Public Debt, at End
of Fiscal Year 14 Figure 6: Month- to- Month Change in Treasury Securities
and Budget
Results, Fiscal Years 1999 and 2000 15 Figure 7: Treasury's Daily Cash
Balances, February – September 16 Figure 8: Callable High- Interest
Rate Treasury Bonds, End of Fiscal
Year 2000 18 Figure 9: Buybacks in Calendar Year 2000: Amount Bought Back by
Maturity 20 Figure 10: Debt Buybacks, Calendar Year 2000 21 Figure 11: Debt
Buybacks, Calendar Year 2000 23 Letter
Contents Appendixes Figures
Page 3 GAO- 01- 317 Federal Debt
February 28, 2001 The Honorable Pete V. Domenici Chairman, Committee on the
Budget United States Senate
The Honorable Bill Thomas Chairman, Committee on Ways and Means House of
Representatives
The Honorable E. Clay Shaw Chairman, Social Security Subcommittee Committee
on Ways and Means House of Representatives
You asked us to provide an updated analysis and status report on the
Department of the Treasury's debt management strategies and actions in a
period of budget surplus. In addition to this analysis, we are completing
work on your request that we review debt management experiences of selected
nations that also have budget surpluses. We plan to issue a report on
international experiences and “lessons learned” later in the
year.
As we have stated in previous reports, 1 the transition from annual unified
budget deficits to surpluses has had consequences for both the profile of
federal debt held by the public and the Treasury's strategies for achieving
its three debt management objectives. These objectives are efficient cash
management, lowest cost financing over time, and promoting efficient (broad
and deep) capital markets. Balancing these debt management goals in a time
of surplus has prompted the Treasury to consider and implement new
approaches and techniques, which we will discuss in this report.
1 See Federal Debt: Debt Management in a Period of Budget Surplus (GAO/
AIMD- 99- 270, September 29, 1999) and Federal Debt: Answers to Frequently
Asked Questions- An Update (GAO/ OCG- 99- 27, May 28, 1999) for more
extensive background information.
United States General Accounting Office Washington, DC 20548
Page 4 GAO- 01- 317 Federal Debt
To answer your request that we provide information on how the Treasury has
managed down debt, we reviewed publications, 2 conducted analysis, and
interviewed officials from the Treasury Department, Federal Reserve Board
and Federal Reserve Bank of New York, and from private sector market
participants in Washington, D. C., and New York City. We did our work in
accordance with generally accepted government auditing standards from August
2000 through January 2001. The Treasury and Congressional Budget Office
(CBO) generally agreed with this report and provided technical comments. We
have incorporated these comments as appropriate.
At the end of federal fiscal year 2000, 3 the United States recorded its
third consecutive budget surplus- an achievement not seen in 50 years. As a
result of these surpluses, the debt held by the public has been reduced by
approximately $363 billion since fiscal year 1997, with the government
paying down $223 billion of publicly held debt in fiscal year 2000 alone. 4
Figure 1 shows how federal debt held by the public generally increased as a
share of gross domestic product (GDP) from 26.1 percent in 1980 to a high of
49.5 percent in 1993, and then declined to 34. 8 percent in 2000.
2 We used the Monthly and Daily Treasury Statements, the Monthly Statement
of Public Debt (recently renamed the Monthly Statement of Treasury
Securities), Treasury's public announcements, and publications from capital
market participants to provide data for our analysis.
3 Federal fiscal year 2000 refers to the period from October 1, 1999,
through September 30, 2000. 4 Gross federal debt includes debt held by the
public and debt held by government accounts. Debt held by government
accounts primarily represents balances in the Social Security and federal
civilian employee and military retirement trust funds. The money is invested
in special U. S. Treasury securities that are guaranteed for principal and
interest by the full faith and credit of the U. S. government. Despite the
current budget surpluses, gross federal debt continues to grow because debt
held by government accounts has increased at a faster rate than debt held by
the public has declined. Because the debt held by government accounts is an
intragovernmental transaction, it is not the focus of this report.
Background
Page 5 GAO- 01- 317 Federal Debt
Figure 1: Federal Debt Held by the Public as a Share of GDP (1980–
2000)
Source: OMB.
This lower debt has already produced benefits for the federal budget by
decreasing net interest from 15.2 percent of total outlays in fiscal year
1997 to 12.5 percent of outlays in fiscal year 2000. Lower interest payments
and increased budgetary flexibility- along with increased national savings,
increased productivity, and output growth in the private sector- are the
government's reward for the debt reduction.
Figure 2 shows the CBO's January 2001 projection of debt held by the public
for the period from fiscal year 2001 through 2011. This baseline assumes
that the total surplus- both on- and off- budget- is used to reduce
0 10
20 30
40 50
60 1980
1981 1982
1983 1984
1985 1986
1987 1988
1989 1990
1991 1992
1993 1994
1995 1996
1997 1998
1999 2000
Fiscal year Percent of GDP
Page 6 GAO- 01- 317 Federal Debt
debt to the extent possible. 5 As a result, debt held by the public could
fall significantly, declining to below 5 percent of GDP by 2011.
Figure 2: CBO's Projections of Federal Debt Held by the Public as a Share of
GDP (Under “Current Policies” Baseline Scenario)
Source: CBO, The Budget and Economic Outlook: Fiscal Years 2002- 2011,
January 2001.
Most U. S. Treasury securities held by the public are marketable, meaning
that once the government issues them, they can be resold. The Treasury's
marketable securities may consist of bills that mature in a year or less,
notes with original maturities of at least 1 year to not over 10 years, and
bonds with original maturities of more than 10 years out to 30 years.
5 CBO's projection assumes that a portion of the debt- including some long-
term bonds and savings bonds- will not be available for redemption during
CBO's 10- year projection period. Therefore, in any given year, some debt
will remain outstanding and incur interest costs, regardless of the size of
the surplus. CBO estimates that the amount of debt unavailable for
redemption will decline each year, eventually falling to $818 billion by
2011.
0 5
10 15
20 25
30 35
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Fiscal year
Percent of GDP
Page 7 GAO- 01- 317 Federal Debt
Nonmarketable debt held by the public consists primarily of savings bonds
and special securities for state and local governments. 6
The ownership of the debt held by the public also has changed since 1995.
The share of debt held by the Federal Reserve increased from about 10.5 to
over 15 percent. In addition, estimated foreign- held holdings increased
from about 23 percent to over 35 percent of the total in that period. (See
figure 3.)
6 The amount of these nonmarketable securities is determined by demand from
individual investors and state and local governments, given the terms and
conditions of the securities as set by the federal government.
Page 8 GAO- 01- 317 Federal Debt
Figure 3: Ownership of Outstanding U. S. Federal Debt
Note: For 1995 through 1999, the data represent the amounts at the end of
each calendar year; for 2000 the data represent the amounts at the end of
September.
Source: Board of Governors of the Federal Reserve System.
Three consecutive fiscal years of unified budget surpluses have reduced
significantly the amount of debt held by the public- by nearly $363 billion
or approximately 10 percent since the end of fiscal year 1997. The Treasury
achieved this result by redeeming maturing debt, reducing the number and
size of new debt auctions, redeeming callable securities when the
opportunity arose, reopening existing issues, and buying back debt before
its final maturity.
As the level of debt held by the public has decreased, the Treasury has had
to rethink its strategies for best achieving its three goals- having
sufficient Results in Brief
0% 10%
20% 30%
40% 50%
60% 70%
80% 90%
100% 1995 1996 1997 1998 1999 2000
Calendar year Percent of total
Household sector Other State and local governments Foreign Federal Reserve
Commercial banking
and finance
Page 9 GAO- 01- 317 Federal Debt
cash on hand, minimizing cost over time, and promoting efficient (broad and
deep) markets. The Treasury has used existing and new debt management tools
in response to the challenges posed by declining debt. In calendar year
2000, the Treasury began two new programs designed to improve market
liquidity: regularly reopening existing debt issues rather than creating new
issues, and conducting buybacks of about $30 billion in longer- term bonds
before they matured, thereby enabling the Treasury to issue more new
securities. In addition, higher issuance levels of short- term bills were
made possible by eliminating longer- term notes. Nevertheless, promoting
market efficiency has proven to be challenging as the amount of debt has
declined. As this new environment evolves, the strategies for achieving any
one of the three goals may change and, thus, the trade- offs made among them
will be different.
Capital markets have been adjusting to the reduced supply of Treasury
securities. For example, capital market participants have begun using
financial instruments other than Treasury securities as pricing tools for
transactions (that is, as an alternative pricing benchmark); investors have
begun to include other fixed- income instruments in their portfolios; and
some government- sponsored enterprises 7 have increased their issuance of
securities to appeal to investors in Treasury securities with the aim of
becoming an alternative benchmark.
If projected budget surpluses materialize, the current combination of debt
auction schedules, issue sizes, and maturities will be unsustainable over
the next several years. Even with changes to the debt profile, analysts
point out that the federal government will reach the point where annual
surpluses will exceed the amount of debt available to be redeemed or that
can be bought back at reasonable prices. Although estimates as to when this
point will be reached vary depending on several assumptions, most analysts
agree that it could occur within the decade. If this happens, the federal
government will be faced with the prospect of accumulating cash balances or
acquiring other financial assets.
7 Federal National Mortgage Association (Fannie Mae) and Federal Home Loan
Mortgage Corporation (Freddie Mac) are two of the largest government-
sponsored enterprises.
Page 10 GAO- 01- 317 Federal Debt
Even as budget deficits have turned to surpluses and borrowing has declined,
the Treasury has maintained three principal goals of debt management:
to ensure efficient cash management,
to ensure that the government finances its debt at the lowest cost over
time, and
to promote efficient capital markets. The Treasury's present debt issuance
schedule will have to be changed given the current budget surplus
projections. Appendix 1 shows outstanding Treasury securities by year of
maturity and amount as of September 30, 2000. Although major changes may not
be needed this year, the Treasury will have to make significant changes
after fiscal year 2001 to achieve its debt management goals. As surpluses
continue, the Treasury will not be able to issue all of the securities it
currently offers in sufficient amounts and regularity to maintain the
interest savings that come from being benchmark securities.
As surpluses continue, the Treasury will face greater challenges in meeting
its three debt management goals. Declining debt can be expected to
accentuate the tensions between promoting efficient markets and achieving
lowest- cost financing for the government. For instance, the Treasury has
stated that financing across the yield curve (that is, issuing short-,
medium-, and long- term debt) appeals to the broadest range of investors,
mitigates refunding risks, and provides the market with a pricing mechanism
for setting interest rates. These all contribute to overall market liquidity
and promotion of efficient capital markets. However, as the debt declines it
will not be cost efficient to issue across the current 30- year yield curve,
and it will be more difficult to maintain market liquidity.
This new environment has already prompted the Treasury to add to its
existing set of tools in both managing the outstanding stock of debt and
changing the mix of new debt issued. The Treasury has changed the issuance
schedule of several securities, initiated regular reopenings, redeemed
callable bonds, and implemented debt buybacks.
With the advent of sustained surpluses, a key Treasury strategy in meeting
its goals has been to concentrate outstanding debt into a smaller number of
liquid benchmark issues. The term “liquid” refers to a market's
having sufficient depth to handle trades of a significant size without
significantly Treasury's Debt
Management Strategy Fewer Benchmark Securities
Page 11 GAO- 01- 317 Federal Debt
changing the price. A “benchmark issue” is a debt instrument
that is large enough and attractive enough that it will be readily bought
and sold by participants in the debt market. Governments issue a set of
benchmark securities at different maturities to build a yield curve that can
be used as a reference point by capital markets and others to price other
financial transactions.
Over the past several years, the Treasury has reduced the number and
frequency of instruments it issues to the public. The result of these
changes has been that the Treasury has reduced the number of note and bond
auctions by more than one- third since 1996. For example, the Treasury
eliminated the 3- year note in May 1998. Appendix 1 shows the elimination of
the 3- year note and the discontinuation of the 20- year bond, which
occurred much earlier.
Early in 2000, the Treasury indicated that it would consider eliminating the
52- week bill. On November 1, 2000, the Treasury announced that the Treasury
Borrowing Advisory Committee 8 recommended that the Treasury eliminate the
52- week bill in early 2001. The Committee has stated that the 52- week bill
provides the least utility to the Treasury and the market compared to other
regular offerings. In addition, it noted that the elimination of the 52-
week bill would be less disruptive to the Treasury's monthly cash flows than
other alternatives. The Congress, in December 2000, facilitated the
transition to ending auctions of the 52- week bill by passing legislation
that substituted another reference rate for the 1- year bill in certain
programs. 9 On January 31, 2001, the Treasury announced the elimination of
the 52- week bill, with the final auction of this type of security to take
place on February 27, 2001.
In addition to eliminating issues, the Treasury decreased the frequency of
its auctions of certain maturities. The effects of this change also can be
seen in appendix 1. For example, the 5- year note auction schedule was
changed from monthly to quarterly in 1998. As a result, the amount of
8 The Treasury Borrowing Advisory Committee was chartered under the Federal
Advisory Committee Act, as amended, and is composed of between 20 and 25
members who are from securities firms, banks, and investor groups. The
Committee is self- selecting in that new members are nominated by the
Committee and approved by the Treasury.
9 The legislation was contained in two acts: the Consolidated Appropriations
Act, 2001, Pub. L. No. 106- 554, Stat. (2000), incorporating by reference
the Labor, HHS Education Appropriation Act for fiscal year 2001, H. R. 5656,
SEC. 318, as introduced December 14, 2000, and the Community Renewal Tax
Relief Act of 2000, H. R. 5662, SEC. 307, as introduced on December 14,
2000.
Page 12 GAO- 01- 317 Federal Debt
maturing 5- year notes decreases sharply from $162 billion in 2001 to $61
billion in 2005. In another example, the Treasury changed the auction
schedule of the 30- year bond from three times a year to twice a year- one
new issue and one reopening of that issue. Appendix 1 shows that only $17
billion in 30- year bonds will mature in 2030 compared to $33 billion in
2029. However, the $17 billion in 2030 is a single, liquid issue while the
$33 billion is split into three, less liquid, $11 billion issues.
The Treasury has also sought to prevent the undue lengthening of the debt
maturity profile. Absent the Treasury's recent actions, declining debt would
have disproportionately reduced bill volume since these short- term
instruments come due most often. While bill issuance has dropped since 1996,
the Treasury has taken steps to forestall further declines in the past 2
years. The Treasury has concentrated debt reduction more on notes and less
on bills, thereby addressing the liquidity problem in the bill market,
preventing the undue lengthening of the average maturity of outstanding
debt, and promoting efficient cash management.
As a result of these debt management choices, the relative amounts of bills,
notes, and bonds in the market have changed. Because bills are a short- term
borrowing instrument that the Treasury adjusts weekly to meet borrowing
needs, the volume of bills has fluctuated more than that of other types of
instruments. The Treasury recently changed the relative amounts of 3- month
and 6- month bills. Historically, the Treasury has issued approximately the
same amount of 3- month and 6- month bills, but this year increased the
overall issuance of 3- month bills by nearly $100 billion to increase its
flexibility in cash management .
Over the past 3 years of budget surpluses, the amount of outstanding notes
decreased while outstanding bonds increased. (See figure 4.) Issuing fewer
notes allowed the Treasury to reverse the decline in bill issuance that
resulted from unexpectedly large revenue inflows in 1997 and 1998, in part
caused by the “April surprises”- larger than expected influx of
April tax receipts- in those years.
Page 13 GAO- 01- 317 Federal Debt
Figure 4: Year- to- year Change in Composition of Outstanding Marketable
Public Debt
Source: Department of the Treasury.
In the last year, although the amount of outstanding long- term bonds fell
in absolute terms, it increased relative to the sizes of other instruments
as the amounts of outstanding notes and bills fell by larger amounts. (See
figure 5.) One goal of the Treasury's ongoing program to buy back certain
bonds before they mature is to allow continued issuance of new benchmark
notes and bonds.
-250 -200
-150 -100
-50 0
50 9/ 30/ 96 - 9/ 30/ 97 9/ 30/ 97 - 9/ 30/ 98 9/ 30/ 98 - 9/ 30/ 99 9/ 30/
99 - 9/ 30/ 00 Billions of dollars
Bills Notes Bonds Inflation- Indexed Securities
Page 14 GAO- 01- 317 Federal Debt
Figure 5: Composition of Outstanding Marketable Public Debt, at End of
Fiscal Year
Source: Department of the Treasury.
Figure 6 shows the month- to- month change in Treasury securities with
monthly budget results. The figure indicates that even during two
consecutive years of budget surpluses and overall debt reduction there were
still months in which the government ran deficits, suggesting that even if
surpluses continue some future borrowing may be required.
0% 10%
20% 30%
40% 50%
60% 70%
80% 90%
100% 09/ 30/ 1996 09/ 30/ 1997 09/ 30/ 1998 09/ 30/ 1999 09/ 30/ 2000
Percent of total
Bills Notes Bonds Inflation- Indexed Securities Other
Page 15 GAO- 01- 317 Federal Debt
Figure 6: Month- to- Month Change in Treasury Securities and Budget Results,
Fiscal Years 1999 and 2000
Source: Department of the Treasury.
Efficient cash management is the first of the Treasury's three debt
management goals. Cash balances both drive and result from the Treasury's
debt management decisions. Figure 7 shows that between February and
September of 2000, 10 cash balances were generally higher than they were for
the same period in 1999. A Treasury official indicated the higher cash
balances and increased volatility were due, in part, to the uneven cash
flows resulting from lower issuance of bills, notes, and bonds, fewer
auctions, debt buybacks, and the revenue from higher monthly
10 We chose to show fiscal year 2000 cash balances from February 2000 rather
than October 1999 because cash management decisions related to Y2K distorted
balances. Higher Cash Balances
-$ 125 -$ 100
-$ 75 -$ 50
-$ 25 $0
$25 $50
$75 $100
$125 $150
$175 Oct Nov
98 Dec
98 Jan
99 Feb
99 Mar
99 Apr
99 May
99 Jun
99 Jul
99 Aug
99 Sep
99 Oct
99 Nov
99 Dec
99 Jan
00 Feb
00 Mar
00 Apr
00 May
00 Jun
00 Jul
00 Aug
00 Sep98
00 Millions of dollars
Borrowing from the public Deficit (-) or surplus (+)
Page 16 GAO- 01- 317 Federal Debt
surpluses. 11 This has caused the Treasury's cash balances to fluctuate more
widely than in the past, leading to increased use of very short- term cash
management bills 12 to provide funds to meet the government's obligations.
Figure 7: Treasury's Daily Cash Balances, February – September
Source: Department of the Treasury.
11 The fiscal year 2000 average daily cash balance was $37.7 billion, a 40-
percent increase from the previous year. 12 Cash management bills are short-
term variable dated securities used to bridge gaps in cash flows.
0 20
40 60
80 100
120 01- Feb
10- Feb 21- Feb
01- Mar 10- Mar
21- Mar 30- Mar
10- Apr 19- Apr
28- Apr 09- May
18- May 29- May
07- Jun 16- Jun
27- Jun 06- Jul
17- Jul 26- Jul
04- Aug 15- Aug
24- Aug 04- Sep
13- Sep 22- Sep
Dollars in billions Feb. 1999 - Sept. 1999 Feb. 2000 - Sept. 2000
Page 17 GAO- 01- 317 Federal Debt
Regular reopening of existing issues is another technique that has allowed
the Treasury to further concentrate outstanding debt into liquid benchmarks.
Reopening is the practice of adding new amounts of debt to an existing issue
rather than issuing a new security. A regular schedule of reopenings,
adopted in early 2000, has allowed the Treasury to add to the size of
existing benchmark issues of a note or bond rather than creating smaller,
and less liquid, new issues. This has added benefits to the Treasury and the
market by extending the most recently issued (or “onthe-
run”) securities. On February 2, 2000, the Treasury announced that it
was planning to reduce issuance of the 5- and 10- year notes and the 30-
year bond at the same time that it was adopting a regular reopening schedule
for those securities.
In some years, the Treasury has an option to redeem certain securities
before their maturity dates. Before February 1985, the Treasury issued bonds
that can be redeemed at the Treasury's option 5 years in advance of the
maturity dates (or on any interest payment date thereafter, after providing
4 months notice) without paying a premium. Although the Treasury has not
issued “callable” bonds since 1985, there are a number of
outstanding callable bonds with relatively high interest rates that could be
redeemed before their maturity dates. The coupon rates on these callable
bonds range from 7.625 percent to 14 percent. The Treasury is expected to
exercise its option to redeem these bonds on their call dates. Most
recently, $4.2 billion in 30- year bonds issued on May 15, 1975, was
eligible to be called on May 15, 2000, and the Treasury redeemed them at
that time. Figure 8 shows the inventory of callable bonds as of the end of
fiscal year 2000 and the earliest dates on which they can be redeemed by the
Treasury. Regular Reopenings
Callable Bonds
Page 18 GAO- 01- 317 Federal Debt
Figure 8: Callable High- Interest Rate Treasury Bonds, End of Fiscal Year
2000
Source: Department of the Treasury.
According to Treasury officials, debt buybacks (repurchasing debt in advance
of its maturity date) have become an important debt management tool in the
environment of continuing budget surpluses and have been beneficial in a
number of ways. First, debt buybacks have helped the Treasury manage the
maturity structure of outstanding debt, allowing for more balance in the
debt paydown. According to capital market and Treasury sources, buybacks
prevented the lengthening of the average life Buybacks
$4.2 $1.5
$2.1 $5.2
$4.6 $4.2
$2.5 $3.0 $4.7 $4.6 $4.9
$11. 0 $14. 5
$4.8 $4.8 $6.0
$0 $2
$4 $6
$8 $10
$12 $14
$16 7.625% - Feb/ 2002
7.875% - Nov/ 2002 8.375% - Aug/ 2003
8.75% - Nov/ 2003 9.125% May/ 2004
10.375% - Nov/ 2004 11.75% - Feb/ 2005
10% - May/ 2005 12.75% - Nov/ 2005
13.875% - May/ 2006 14% - Nov/ 2006
10.375% - Nov/ 2007 12% - Aug/ 2008
13.25% May/ 2009
12.5% - Aug/ 2009 11.75% - Nov/ 2009
Coupon rate - callable date Amount outstanding (billions)
Page 19 GAO- 01- 317 Federal Debt
of outstanding Treasury debt by about 2 months by permitting the Treasury to
reduce the volume of outstanding long- term bonds. Second, buybacks have
allowed the Treasury to add to the liquidity of benchmark issues. By using
excess cash to buy back high- interest, less liquid outstanding debt issues,
the Treasury has been able to maintain more liquid benchmark issues than
would otherwise have been possible.
In early 1998, the Treasury announced it was considering implementing a
buyback program, and in August 1999 it made available draft regulations for
public comment. In January 2000, the final regulations for the buyback
program were issued, and the Treasury announced plans to buy back $30
billion in debt (par value) by the end of calendar year 2000. On March 9,
2000, the Treasury held the first in a series of reverse auctions 13 to buy
back outstanding debt. In May 2000, the Treasury announced it would
implement a program of regular buybacks in the third and fourth weeks of
each month. By acting at a measured pace with input from market
participants, the Treasury sought to minimize the effects on the market of
this new program.
The Treasury's buybacks have targeted bonds maturing between 2010 and 2026.
On August 2, 2000, the Treasury announced it would start including callable
bonds in the buyback program. The three buybacks of callable bonds conducted
in calendar year 2000 targeted bonds with final maturity dates from 2010
through 2014. The Treasury targeted these callable bonds for buyback because
of their relatively long maturities.
The August 24, 2000, buyback of $0.8 billion (plus $0.3 billion in premium)
was the first to include callable bonds. The buyback consisted entirely of
callables because isolating buybacks of callable bonds facilitates pricing.
Since then, the buybacks on September 28 and November 16, 2000, also
targeted callable bonds. These auctions had higher market participation than
recent buybacks of noncallable securities.
The results of the buybacks through the end of December 2000 are shown in
appendix 2. In each buyback operation, the Treasury specifies the maturity
ranges of securities it will consider buying back. Figure 9 shows the
distribution of the securities bought back in terms of their maturity dates.
The buybacks have been concentrated in issues maturing in three narrow
ranges, namely, 2020 to 2021, 2018 to 2019, and 2014 to 2015.
13 In a reverse auction, market participants submit offers and the Treasury
accepts the most competitive offers.
Page 20 GAO- 01- 317 Federal Debt
Figure 9: Buybacks in Calendar Year 2000: Amount Bought Back by Maturity
Source: Department of the Treasury.
In calendar year 2000, the Treasury completed 20 reverse auctions and bought
back $30 billion (par value) in bonds for which it paid a premium of $8.3
billion (for a total of $38.3 billion). 14 (See figure 10.) The premium is
essentially the amount paid above the bonds' par or face value. However, the
prices paid by the Treasury could also reflect other market- driven
14 In January 2001, the Treasury conducted two buybacks- the par amount
bought back was $2.75 billion and the premiums paid totaled $751 million.
The buyback on January 25, 2001, was for callable bonds.
0 1,000
2,000 3,000
4,000 5,000
6,000 7,000
8,000 9,000
10,000 2010-
2011 2012-
2013 2014-
2015 2016-
2017 2018-
2019 2020-
2021 2022-
2023 2024-
2025 2026-
2027 2028-
2029 2030
Maturity range by calendar year Millions of dollars
Page 21 GAO- 01- 317 Federal Debt
factors such as a bond's increasing scarcity, overcoming the reluctance of
some long- term investors to sell, and the fact that some less- liquid bonds
could become less desirable. Market analysts have suggested that the
Treasury's ability to perform debt buybacks at a reasonable cost could
become more difficult as the debt available for repurchasing shrinks and
Treasury investors demand higher bond premiums. The premium is treated in
the federal budget as a “means of financing other than borrowing from
the public;” that is, the amount is reflected as a use of cash but is
not included in budget totals.
Figure 10: Debt Buybacks, Calendar Year 2000
Source: Department of the Treasury. 0
500 1,000
1,500 2,000
2,500 3,000
3,500 4,000
3/ 9 3/ 16
4/ 20 4/ 27
5/ 18 5/ 25
6/ 22 6/ 29
7/ 20 7/ 27
8/ 17 8/ 24
9/ 21 9/ 28
10/ 19 10/ 26
11/ 9 11/ 16
12/ 7 12/ 14
Date of buyback Millions of dollars
Par value Premium
Page 22 GAO- 01- 317 Federal Debt
Figure 11 shows the 20 buyback operations varied in terms of size, number of
issues included, market participation, and cost. The size of buyback
operations in calendar year 2000 ranged from $750 million in par value for
bonds in three issues to $3 billion for bonds in 24 issues. A measure of
market interest and participation in the buybacks is indicated by the
“bidto-
cover” ratio. The bid- to- cover ratio is the par value of securities
offered to the Treasury divided by the par value of the securities that
Treasury bought back. This ratio indicates the volume of offers the Treasury
had to select from at each buyback operation. While this ratio fluctuated,
Treasury officials told us that the bid- to- cover ratio for buybacks have
generally been larger than the ratio for auctions of Treasury securities,
indicating market interest in the buybacks.
Also included in figure 11 is a cost measure used by private market
participants called the “average concession.” The average
concession is the difference between the price of a security on the morning
of the buybacks and the price paid by the Treasury, in this case measured in
basis points (one basis point equals one one- hundredth of a percent or
0.0001). The average concession could be used to indicate whether Treasury
paid more or less than other buyers. A positive average concession could
indicate securities were bought back at higher than market price, while a
negative number could indicate below market price. Figure 11 shows that
while there was variation across the 20 buyback operations, generally the
average concession was small or negative. For example, for the first buyback
the average concession was 0.36 basis points which, when multiplied by the
total price paid by the Treasury of $1.345 billion, equates to $48,420. 15
Market analysts have raised the question of whether there was an
“announcement effect” that increased the premium the Treasury
paid to buy back debt. While comparing the price the Treasury paid and the
market price of the securities the day of the purchase measures the price
asked by the markets for buybacks, there may have been an announcement
effect dating back as far as the Treasury's August 1999 release of draft
regulations for a buyback program. Quantifying this effect
15 Treasury officials explained that the “bid” and
“ask” prices could also be used as indicators to determine
whether the transaction was conducted at a fair market price. The
“bid- ask” spread is defined as the difference between the
highest price a potential buyer is willing to pay (the bid price) and lowest
price the potential seller is willing to accept (the ask price). Treasury
officials stated that the prices paid in the buybacks have fallen within the
bid- ask spreads observed in the market, indicating that the Treasury has
been paying fair market prices.
Page 23 GAO- 01- 317 Federal Debt
is quite difficult because its effect on prices of coupon securities cannot
be isolated from that of other economic factors such as changes in monetary
policy and announcements of budget projections, inflation, unemployment, and
other data.
Figure 11: Debt Buybacks, Calendar Year 2000
Notes The average concession data was obtained from Goldman, Sachs & Co.,
and were calculated as the difference in basis points between the price of
an issue at about 11 a. m. on the day the buyback is implemented and the
price paid by the Treasury.
Basis point: one basis point equals one one- hundredth of a percent point or
0.0001. Bid- to- cover: a ratio of the par value of securities offered to
the Treasury divided by the par value of the securities the Treasury bought
back.
Sources: Department of the Treasury and Goldman, Sachs & Co.
While the national economy and budget will benefit substantially from
sustained surpluses, surpluses have and will continue to pose challenges to
the Treasury's debt management. Declining levels of debt prompt the need to
make choices on how to allocate debt reduction across the full maturity
range of securities. In addition, both declining amounts of Treasury
securities as well as shifts in composition affect the use of Treasury
securities as benchmarks to price other financial transactions. Although
markets tend to adjust to these shifts over time, changes are not seamless
or without cost. In fact, capital market participants have begun using
alternative benchmarks as pricing tools for transactions; investors Future
Debt
Management Challenges
Date of buyback 3/ 9 3/ 16 4/ 20 4/ 27 5/ 18 5/ 25 6/ 22 6/ 29 7/ 20 7/ 27
8/ 17 8/ 24 9/ 21 9/ 28 10/ 19 10/ 26 11/ 09 11/ 16 12/ 07 12/ 14 Number of
issues offered 13 11 14 26 12 13 12 13 8 6 11 10 11 10 10 11 11 10 11 9
Number of issues accepted 9111224101211117583102 9 910 3 6 7
Average concession (basis points) 0.36 0.23 -0.13 1. 52 -0.18 -0.4 0.18 0.3
0. 14 -0.08 -0.03 0. 29 0. 31 0. 66 0. 03 0. 24 0. 19 0. 3 -0.04 0. 16
Bid- to- cover ratio 8.63 6.45 4.26 3.61 4.56 4.06 3.67 3.51 2.96 3.64 4.59
6.60 3.93 5.66 3.19 3.54 3.84 4.90 3.99 3.35
Total price paid by the Treasury ($ millions) 1,345 1,268 2,431 3,724 2,556
2,380 2,678 2,478 1,803 1,300 1,760 1,068 1,917 1,394 2,075 1,935 1,398
1,313 1,810 1,670
Page 24 GAO- 01- 317 Federal Debt
have begun to include other fixed- income instruments in their portfolios;
and some government- sponsored enterprises have increased their issuance of
securities to appeal to investors in Treasury securities with the aim of
becoming an alternative benchmark.
As debt held by the public continues to shrink, there will be greater
pressure on the Treasury to further concentrate debt into fewer issues to
maintain deep and liquid markets . Moreover, the Treasury ultimately may be
forced to reassess its issuance of nonmarketable securities, such as the
state and local government series. The Federal Reserve Bank System currently
has a study underway to examine what debt instruments might be used to
replace U. S. Treasury securities for use in the Federal Reserve's open
market operations. 16
Analysts have estimated that the United States will reach a point within
this decade when the Treasury will be unable to fully use annual budget
surpluses to either redeem maturing debt or buy back outstanding debt at a
reasonable price. A number of sources have estimated this point but all of
these estimates occur in a fairly narrow time frame- from a private market
projection of 2004 17 to the CBO's January 2001 estimate of 2006. This point
will occur well before the level of zero debt held by the public is reached,
and the resulting accumulation of cash will require decisions about what to
do with these cash balances.
We completed four simulations to identify the potential range of dates in
which annual budget surpluses could not be fully used to reduce debt. The
estimates of the dates vary by debt management choices and the size of the
budget surplus. 18 In the first simulation we assume the Treasury uses
16 On July 5, 2000, the Federal Reserve announced that it was placing limits
on the amount of an issue it acquires and holds. The new investment
guidelines would effectively reduce the Federal Reserve's holdings of the
most liquid- referred to as “on- the- run”- Treasury securities,
thus allowing a larger portion of these securities to remain available to
private investors.
17 Salomon Smith Barney, Bond Market Roundup: Strategy, January 5, 2001,
pages 9- 18 . 18 In simulations 1 and 2 we used CBO's estimates of the total
budget surplus. In simulations 3 and 4 we used CBO's estimates of the off-
budget surplus and assumed that the on- budget surplus would not be
available for debt reduction or accumulating cash (for example, it would be
allocated to tax cuts and/ or spending increases). In the two simulations in
which we maintained current benchmark securities (the first and third
simulations mentioned above), we assumed that the Treasury would gradually
reduce both the auction frequency and issue size of the benchmark
securities. In all four simulations, we assumed a declining level of debt
buybacks over the 10- year period. Surplus Available for Debt
Reduction May Exceed Amount of Debt Maturing
Page 25 GAO- 01- 317 Federal Debt
the total budget surplus to reduce debt and continues to issue debt in
current benchmark securities (albeit at lower levels). The first simulation
showed that cash accumulation would start in 2005.
In the second simulation we assumed that Treasury uses the total budget
surplus for debt reduction and eventually stops issuing debt in all but the
shortest- term borrowing- effectively eliminating the debt market for most
new issues and rollovers. These assumptions postpone the start of cash
accumulation by one year to 2006.
In the third simulation we found that cash accumulation would begin in 2009
if the Treasury maintained current benchmark securities at lower levels and
used only the off- budget (mostly Social Security Trust Fund) surpluses to
reduce debt. In our final simulation, we assumed again that only the
shortest- term borrowing was maintained and that just the offbudget surplus
was used to reduce debt. In this last simulation we found that cash
accumulation would begin in 2011.
All of these estimates put the time at which maturing debt is less than the
surplus within the next 10 years. This event is significant because when the
United States reaches this point, policymakers will face a decision about
how to deal with the excess cash balances. Today the Treasury cannot legally
invest operating cash in assets other than tax and loan accounts and
obligations of the U. S. government for purposes of cash management; 19
therefore, the Congress will need to consider what other types of assets it
might be beneficial for the U. S. government to hold. 20
Governments in some countries- for example, Norway, Australia, and New
Zealand- have decided to maintain a government securities market (by keeping
a certain level of gross debt) in order to maintain a role for the central
government in the domestic and international debt markets and/ or to
facilitate potentially higher levels of borrowing in the future.
19 The Treasury is authorized for cash management purposes to invest any
portion of its operating cash for periods of up to 90 days in obligations of
depository institutions that maintain collateralized Treasury tax and loan
accounts and obligations of the United States government. There are other
statutes that authorize the Treasury to invest in other obligations, such as
foreign currency and securities, for the purpose specified in the law that
created the Exchange Stabilization Fund. The Treasury can also hold cash in
a noninterest- bearing account at the Federal Reserve.
20 See Social Security Financing: Implications of Government Stock Investing
for the Trust Fund, the Federal Budget, and the Economy (GAO/ AIMD/ HEHS-
98- 74, April 22, 1998) for a discussion of the issues surrounding
government investment in equities.
Page 26 GAO- 01- 317 Federal Debt
Consequently, they have begun to acquire and hold financial assets, although
the type of the financial assets differs among countries. However, the
United States may face a more difficult challenge than did these nations
because U. S. debt reduction is projected to be much larger and the time
horizon is projected to be much faster. Nevertheless, examining the
experiences of these nations can be useful.
As these other nations already have done, the United States will face
progressively harder choices and more difficult debt management tradeoffs.
Continuing the reduction in outstanding debt means the Treasury will face
increasing pressure with regard to two of its goals- lowest borrowing cost
and efficient markets. As debt continues to fall, the Treasury will be hard
pressed to continue to promote liquid markets for its securities and to keep
cost at a minimum. Further, analysts estimate that if surplus projections
hold the United States will reach a point within 10 years when the Treasury
will be unable to fully use the annual budget surpluses to either redeem
maturing debt or buy back outstanding debt at a reasonable price. U. S.
policymakers will have to address the questions sooner rather than later of
whether and how to maintain a domestic debt market and whether and how to
hold and invest excess cash.
We are sending copies of this report to Representative Charles B. Rangel,
Ranking Member, House Committee on Ways and Means; Representative Robert T.
Matsui, Ranking Member, Social Security Subcommittee; Senator Kent Conrad,
Ranking Democrat, Senate Committee on the Budget, the Honorable Paul
O'Neill, Secretary of the Treasury; and other interested parties. We will
also make copies available to others upon request.
If you or your staff have any questions concerning this letter, please
contact me at (202) 512- 9573. Key contributors to this assignment were
Thomas James, Jose Oyola, Carolyn Litsinger, and Melinda Bowman.
Paul L. Posner Managing Director Federal Budget Issues, Strategic Issues
Page 27 GAO- 01- 317 Federal Debt
(Dollars in billions) Source: Department of the Treasury.
Appendix I
Outstanding U. S. Treasury Marketable Securities, by Year of Maturity (or
Callable Date), as of 9/ 30/ 2000
FY 13-week 26-week 52-week 2-yr 3-yr 5-yr 10-yr 20-yr 30-yr Notes Bonds
Total 01 $179 $317 $120 $241 $44 $162 $48 $5 $1,115 02 149 200 60 4 4 18 434
03 136 52 13 4 203 04 73 41 15 10 139 05 61 58 22 10 151 06 69 5 9 84 07 75
5 17 97 08 41 26 18 84 09 67 10 17 94 10 36 6 12 53 11 0 12 0 13 0 14 0 15
18 18 16 32 32 17 49 49 18 8 8 19 45 45 20 38 38 21 32 32 22 42 42 23 50 50
24 0 25 34 34 26 24 24 27 33 33 28 34 18 52 29 33 15 49 30 17 17 Total $179
$317 $120 $390 $44 $631 $546 $63 $573 $82 $33 $2,977
Bills Inflation Indexed Bonds Notes
Page 28 GAO- 01- 317 Federal Debt
(Dollars in millions) Note: * indicates that the security is a callable
security – the dates shown are the earliest call date and the final
maturity date.
Source: Department of the Treasury.
Appendix II
U. S. Treasury Debt Buybacks, Calendar Year 2000
Coupon Maturity date 3/9 3/16 4/20 4/27 5/18 5/25 6/22 6/29 7/20 7/27 8/17
11.75 02/15/05-10*
10 05/15/05-10* 12.75 11/15/05-10* 13.875 05/15/06-11*
14 11/15/06-11* 10.375 11/15/07-12*
12 08/15/08-13* 13.25 05/15/09-14*
12.5 08/15/09-14* 11.75 11/15/09-14* 11.25 02/15/15 160 164 145 175 10.625
08/15/15 352 72 318 662 9.875 11/15/15 125 65 326 228
9.25 02/15/16 93 40 222 45 7.25 05/15/16 0 0 0 0 7.5 11/15/16 0 0 10 10 8.75
05/15/17 148 155 385 242 8.875 08/15/17 53 55 479 65 9.125 05/15/18 20 28
330 12 55
9 11/15/18 25 383 461 100 205 8.875 02/15/19 25 90 150 0 247 137 423 568
8.125 08/15/19 0 15 57 4 25 176 60 0 8.5 02/15/20 0 24 1 48 122 25 5 8.75
05/15/20 155 225 25 330 180 125 8.75 08/15/20 221 441 77 317 494 235 7.875
02/15/21 60 100 116 62 11 240 67 8.125 05/15/21 5 100 230 122 60 351 8.125
08/15/21 10 260 205 235 210 320
8 11/15/21 10 0 65 95 152 209 291 7.25 08/15/22 0 4 10 0 25 25 7.625
11/15/22 100 215 305 270 280 235 7.125 02/15/23 48 156 130 115 75 280 6.25
08/15/23 75 140 0 0 0 25 7.5 11/15/24 335 35 330 7.625 02/15/25 100 75 14
6.875 08/15/25 215 60 300
6 02/15/26 0 6.75 08/15/26 0 6.5 11/15/26 0 6.625 02/15/27 6.375 08/15/27
6.125 11/15/27 5.5 08/15/28 5.25 11/15/28 5.25 02/15/29 6.125 08/15/29 6.25
05/15/30 Total 1,000 1,000 2,000 3,000 2,000 2,000 2,000 2,000 1,500 1,000
1,500
Buyback date
Appendix II U. S. Treasury Debt Buybacks, Calendar Year 2000
Page 29 GAO- 01- 317 Federal Debt
(Dollars in millions) Note: * indicates that the security is a callable
security – the dates shown are the earliest call date and the final
maturity date.
Source: Department of the Treasury. (450013)
Coupon Maturity date 8/24 9/21 9/28 10/19 10/26 11/9 11/16 12/7 12/14 Total
amout
bought back 11.75 02/15/05-10* 0 0 0 0
10 05/15/05-10* 0 0 0 0 12.75 11/15/05-10* 0 0 0 0 13.875 05/15/06-11* 0 0 0
0
14 11/15/06-11* 0 0 0 0 10.375 11/15/07-12* 0 0 580 580
12 08/15/08-13* 230 726 340 1,296 13.25 05/15/09-14* 173 274 80 527 12.5
08/15/09-14* 347 0 0 347 11.75 11/15/09-14* 0 0 0 0 11.25 02/15/15 220 453
1,317 10.625 08/15/15 305 225 1,934 9.875 11/15/15 230 0 974 9.25 02/15/16
55 10 465 7.25 05/15/16 0 0 0
7.5 11/15/16 20 0 40 8.75 05/15/17 90 208 110 1,338 8.875 08/15/17 115 118
203 1,088 9.125 05/15/18 307 340 249 1,341
9 11/15/18 165 5 0 1,344 8.875 02/15/19 170 380 0 2,190 8.125 08/15/19 20 0
262 619 8.5 02/15/20 0 25 61 311 8.75 05/15/20 225 250 270 1,785 8.75
08/15/20 188 300 273 2,546 7.875 02/15/21 38 5 0 699 8.125 05/15/21 182 160
30 1,240 8.125 08/15/21 5 235 1,480
8 11/15/21 125 120 1,067 7.25 08/15/22 0 0 64 7.625 11/15/22 250 200 1,855
7.125 02/15/23 90 894 6.25 08/15/23 0 240 7.5 11/15/24 243 943 7.625
02/15/25 60 249 6.875 08/15/25 20 595
6 02/15/26 67 67 6.75 08/15/26 70 70 6.5 11/15/26 10 10 6.625 02/15/27 170
170 6.375 08/15/27 320 320 6.125 11/15/27 0 5.5 08/15/28 0 5.25 11/15/28 0
5.25 02/15/29 0 6.125 08/15/29 0 6.25 05/15/30 0 Total 750 1,500 1,000 1,500
1,500 1,250 1,000 1,250 1,250 30,005
Buyback date
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