III. Public Debt Management Strategy 2013-20151].pdf · III. Public Debt Management Strategy...

III. Public Debt Management Strategy 2013-2015

Pursuant to the Public Debt Law (Official Gazette of the Republic of Serbia Nos. 61/05, 107/09

and 78/11), which constitutes the legal basis for Serbia’s borrowing, public debt includes1:

1) Debt of the Republic arising from agreements entered into by the Republic,

2) Debt of the Republic arising from securities,

3) Debt of the Republic arising from treaties and/or agreements on rescheduling of liabilities assumed

by the Republic under earlier treaties and securities issued under special laws,

4) Debt of the Republic arising from guarantees issued by the Republic or from direct accession to debt

in the capacity of a debtor for debt arising from guarantees and/or counter-guarantees issued by the

Republic,

5) Debt of local governments and legal entities founded by the Republic whose debt is guaranteed by

the Republic.

The Law allows borrowing in the country and abroad, i.e. in domestic and foreign markets. The

Republic may borrow in local and foreign currency to cover liquidity deficit, to refinance public debt, to

finance investment projects and to cover liabilities arising from guarantees issued. Pursuant to Article 9

of the Law on Deposit Insurance Agency, the Republic may also borrow to cover potential loss with

commercial banks (Official Gazette of the Republic of Serbia Nos. 61/05, 116/08 and 91/10).

Under Article 13 of the Public Debt Law, public debt is an unconditional and irrevocable

obligation of the Republic concerning the repayment of principal, interest and any and all borrowing

costs. Public debt repayment has a permanent appropriation in the national budget and is prioritized

over other public expenditure provided for by the law governing the national budget.

The Budget System Law (Official Gazette of the Republic of Serbia Nos. 54/09 and 73/10) lays

down general fiscal rules, according to which general government debt, exclusive of liabilities for

restitution, may not exceed 45% of gross domestic product (GDP). This provision of the Law was

welcomed by international financial institutions, because it limited Serbia’s public debt to a relatively low

share of GDP. It should be noted that, according to the Maastricht criteria, general government debt

includes local government debt, but does not include total guarantees issued by the government. If this

methodology were applied, the balance of Serbia’s public debt would be even lower than according to

the currently applied methodology. According to the same Law, if public debt exceeds 45% of GDP, the

Government is required to adopt and put in place measures to restore public debt to the level defined by

the law.

The Public Debt Law establishes the Public Debt Agency as an authority within the Ministry of

Finance and defines its powers and organization for the purpose of recording and managing Serbia’s

public debt.

1 For the purposes of this Strategy, the balance of central government debt (a methodology defined by the Public Debt

Law) includes also non-guaranteed liabilities of local government units.

2

1. Public Debt Balance and Structure in the Period 2008-2011

According to the records kept by the Ministry of Finance and Economy of the Republic of Serbia,

the Public Debt Agency, more specifically, Serbia’s public debt includes all direct liabilities of the Republic

arising from borrowing, as well as guarantees issued by the Republic for borrowing by public enterprises

and local governments. Public debt of the Republic of Serbia is categorized as direct and indirect

liabilities, i.e. liabilities for and on behalf of the Republic and liabilities arising from guarantees issued by

the Republic in favor of other legal entities. Direct and indirect liabilities are further categorized as

internal debt and external debt, depending on whether they arose from borrowing in the domestic

market or in international markets2.

At year-end 2000, Serbia’s total public debt as a share of GDP reached 169.3%. As a result of GDP

increase, timely public debt servicing, lower budget deficit, partial London and Paris Club debt write-off

and other factors, the public debt-to-GDP ratio was cut down to 28.4% in 2008. Due to adverse effects of

the global economic crisis on Serbian economy, the Republic of Serbia increased borrowing to finance its

budget deficit in the period 2009-2012. Trends of Serbia’s public debt as a share of GDP in the period

2009-31 October 2012 are shown in following Graph:

Graph 25. Public debt as a share of GDP, in %

Increasing budget deficit, low real GDP growth and depreciation of the dinar against foreign

currencies in which Serbian public debt is denominated have brought about to an increase in the level of

public debt in the past four years, which thus exceeded the limit set by the Budget System Law. At year-

end 2011, Serbia’s total public debt stood at RSD 1,598.13 - up from RSD 1,313.2 billion at year-end 2010.

Public debt as a share of GDP at year-end 2011 was 50.3%.

Internal public debt increased considerably in 2011 compared to 2010, from RSD 525.2 bn to RSD

644.3 bn. External public debt increased from RSD 788.0 billion to RSD 953.8 billion in the course of 2011.

Direct liabilities of the Republic of Serbia in 2010 amounted to RSD 1,101.8 billion, rising to RSD 1,326.3

billion in the following year. On the other hand, indirect liabilities also increased from RSD 180.7 billion in

2010 to RSD 220.7 billion in 2011.

At the end of October 2012, total public debt stock stood at RSD 1,936.0 billion or 59.2% of GDP.

Out of that amount, direct obligations accounted for RSD 1,608.6 billion, indirect liabilities accounted for

RSD 271.0 billion whereas non-guaranteed local government debt accounted for RSD 56.4 billion. Internal

2For the purposes of this Strategy, the stock of central government debt (a methodology defined by the Public Debt Law)

includes also non-guaranteed liabilities of local government units. 3Including non-guaranteed local government debt. This component of general government’s public debt increased from

RSD 30.7 bn in 2010 to RSD 51.1 bn in 2011.

29.7% 38.2% 41.8%

49.2%

5.2%

6.3% 6.9%

8.3%

0.7%

1.1% 1.6%

1.7%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

2009 2010 2011 2012 - Х Direct Liabilities Indirect Liabilities Local Government Debt (non-guaranted)

3

direct liabilities amounted to RSD 697.8 billion, while external direct liabilities amounted to RSD 910.8

billion. As regards indirect liabilities, internal debt stood at RSD 67.4 billion, while external debt reached

RSD 203.6 billion. If broken down into internal and external public debt, total public debt amounted to

RSD 801.1 billion and RSD 1,134.9 billion, respectively.

Table 30 shows internal and external debt balance (absolute and relative) at year-end over the period 2009 - October 2012. It also contains figures showing internal and external debt as a share of GDP. Table 31 shows the absolute balance of Serbia’s direct and indirect liabilities and their respective balance as a share of GDP:

Table 30. Internal and external public debt in the period 2009-31 October 2012

2009 2010 2011 2012/X

in RSD billion

Public debt 962.8 1,313.2 1,598.1 1,936.0

Internal public debt 405.5 525.2 644.3 801.1

External public debt 557.3 788.0 953.8 1,134.9

Of which central government: 944.4 1,282.5 1,547.0 1,879.6


External public debt 543.1 764.3 922.1 1,114.4

In % of GDP

Public debt 35.5 45.6 50.3 59.2


External public debt 20.5 27.3 30.1 34.7

Of which central government: 34.8 44.5 48.7 57.5



Table 31. Direct and indirect liabilities in the period 2009-31 October 2012

2009 2010 2011 2012/X

in RSD billion

Public debt 962.8 1,313.2 1,598.1 1,936.0

Direct liabilities, of which: 810.9 1,101.8 1,326.3 1,608.6



Indirect liabilities, of which: 133.5 180.7 220.7 271.0



Local government debt (non-guaranteed by central government) 18.4 30.7 51.1 56.4



as % of GDP

Public debt 35.5 45.6 50.3 59.2

Direct liabilities, of which: 29.9 38.2 41.8 49.2



Indirect liabilities, of which: 4.9 6.3 6.9 8.3



Local government debt 0.7 1.1 1.6 1.7



4

It should be noted that Serbia’s public debt does not include liabilities arising from restitution.

Those liabilities will become due and payable in 2015. The Law on Restitution and Compensation (Official

Gazette of the Republic of Serbia No. 72/11) provides for relevant time limits, conditions, methods and

procedures which will apply to the Restitution Agency in the restitution of property nationalized after

WWII. The Law states a preference for restitution in kind, but where this is not possible, restitution will be

made in treasury bonds and cash. The total amount of compensation must not be such as to threaten

Serbia’s macroeconomic stability and economic growth. The total amount earmarked for this purpose is

maximum EUR 2 billion, increased by the sum of accrued interest payable to all compensation subjects at

the rate of 2% per annum for the period from 1 January 2015 to the maturity dates provided for by the

Law. The maturity of these bonds will be fifteen years, with annual installments payable as from 2015. In

specific cases, compensation in cash will be paid in advance, with the maximum amount of such advance

payments limited to EUR 10,000.

Internal public debt

Pursuant to the Public Debt Law, internal public debt includes direct and indirect liabilities of the

Republic of Serbia to domestic investors and lenders. As at 31 October 2012, internal public debt included

RSD 697.8 billion in direct liabilities and RSD 67.4 billion in indirect liabilities. Serbia’s total internal public

debt, inclusive of non-guaranteed local government debt (RSD 35.9 bn) stood at RSD 801.1 bn.

Table 32 shows the structure of Serbia’s internal public debt as at 31 December 2009 through

2011 and as at 31 October 2012:

Table 32. Internal public debt structure in the period 2009-31 Oct 20124

2009 2010 2011 2012/X

in RSD billion


Government securities, of which: 363.8 430.8 526.2 650.3

Government bills and bonds 100.7 178.2 302 437.1

Frozen Forex savings bonds 251.6 251.8 223.4 212.3

Long-term securities (debt to NBS) 10.7 - - -

Loan for economic revival 0.8 0.8 0.8 0.9

Other 37.5 87.4 98.7 114.9

Non-guaranteed local government liabilities 4.2 7.0 19.4 35.9

The Government issued securities for the first time in 2003, and their maturities were 3 and 6

months. As privatization proceeds were high and primary fiscal result was relatively balanced in the

period 2005-2008, the government did not issue any securities over that period and the amount of

government securities was therefore relatively low at year-end 2008. In the past four years, the

government issued securities with different maturities, and a dinar yield curve was created for maturities

ranging from three months to five years. Table 33 shows the stock of government securities at year-end in

2009, 2010 and 2011, and as of 31 October 2012:

4The figures include both public debt balance calculated according to the methodology defined in the Public Debt Law

(central government level) and local government liabilities, i.e. their non-guaranteed debt. As at 31 October 2012, this component accounted for RSD 40.3 billion of internal public debt

5

Table 33.Debt balance by Government securities (2009-31 Oct. 2012)

2009 2010 2011 2012/X

Instrument type % Nominal in

RSD bn %

Nominal in RSD bn

% Nominal in

RSD bn %

Nominal in RSD bn

3M Government bills 25.8 26.0 12.1 21.5 1.3 4.0 1.0 4.2

6M Government bills 56.6 57.0 30.9 55.1 9.0 27.1 4.6 20.1

6M Government bills indexed in EUR - - 11.8 21.0 - - -

12M Government bills 17.6 17.7 34.0 60.6 3.3 10.0 -

53W Government bills - - 28.1 84.8 19.0 83.1

53W Government bills - - 6.9 20.9 5.3 23.2

18M Government bills - 8.4 15.0 21.2 64.1 16.2 70.6

18M EUR Government bills - - 5.2 15.7 9.1 39.6

24M Government bills - 2.8 5.0 13.3 39.9 14.2 61.9

2Y Government bonds amortizing - 1.5 6.7

2Y EUR Government bonds - - - 0.0 2.9 12.7

3Y Government bonds - - 4.7 14.2 16.5 72.3

3Y Government bonds inflation indexed - 2.6 11.5

3Y EUR Government bonds - - 2.0 6.2 1.5 6.7

5Y Government bonds - - - - 0.7 3.2

10Y Government bonds inflation indexed - - - - 1.1 5.0

15Y EUR Government bonds - - 5.0 15.1 3.8 16.3

Total 100 100.7 100 178.2 100 302.0 100.0 437.1

In early 2009, aiming to finance the budget deficit, the Government issued 3-month bills, followed by issues of 6-month and 12-month bills. The total market value of issued Government bills in that year was RSD 202.8 billion, while the balance of debt arising from Government bills at year-end 2009 was RSD 100.7 billion.

In the course of 2010, debt from government securities increased, peaking at RSD 178.2 billion at year-end. In an effort to boost the development of the Serbian capital market, the Public Debt Agency of the Serbian Ministry of Finance issued the first 18-month and 24-month Government bills in March 2010. In February 2011, the Public Debt Agency of the Serbian Ministry of Finance issued a 15-year euro-denominated coupon bond, as well as a 53-week euro-denominated T-bill, followed by the issue of the first 3-year dinar-denominated coupon bond in March 2011. June 2011 saw the first issue of a 3-year euro-denominated coupon bond in the Serbian market and in July 2011 an 18-month euro-denominated T-bill was issued.

At year-end 2011, the debt based on dinar-denominated government securities amounted to RSD 244.1 billion, while that based on euro-denominated government securities issued in the domestic market stood at RSD 57.9 billion.

Efforts to introduce new long-term dinar-denominated instruments continued in 2012 in order to extend the maturity structure of government securities and increase the share of dinar-denominated public debt. The first 5-year dinar-denominated bond with a 10% coupon was issued on 24 January 2012 in an issue worth RSD 2.7 billion, and was followed by the second issue on 29 May 2012 worth RSD 520 million.

In an effort to diversify the debt, on 1 August 2012, a 2-year amortizing coupon-bond tied to the key policy rate of the National Bank of Serbia was issued.

As at 31 October 2012, the debt based on dinar-denominated government securities amounted to RSD 338.6 billion while the debt based on euro-denominated government securities issued in the domestic market stood at RSD 98.5 billion.

6

External public debt

Pursuant to the Public Debt Law, external public debt includes direct and indirect liabilities to foreign investors and creditors. The following table shows the structure of Serbia’s public debt at year-end 2009, 2010 and 2011 respectively and as at 31 October 2012:

Table 34. External public debt structure in the period 2009-2012

2009 2010 2011 2012/X

in RSD bn

Multilateral creditors, of which: 407.4 536.2 543.2 589.7

Paris Club 153.8 170.6 165.5 169.1

IBRD 118.7 143.3 150.4 165.0

EIB 15.2 38.8 42.3 60.3

London Club 71.8 79.6 75.4 75.2

IDA 44.5 53.1 55.4 60.5

IMF - 47.4 48.1 52.2

EBRD - - 1.3 2.3

CEB 3.4 3.4 4.8 5.1

Others - - - -

Bilateral creditors, of which: 14.7 63.2 85.1 98.0

Italy 3.2 3.5 4.8 4.9

EU 4.7 5.2 15.6 16.9

China 6.8 8.9 13.6 21.9

Russia - 15.9 16.2 16.2

France - - 0.4 0.9

Libya - - 4.1 4.3

Others - 29.8 30.4 32.9

Other borrowing 0.4 20.1 129.1 223.1

Of which Eurobonds 2021 - - 80.9 174.8

Guaranteed external debt 120.6 144.8 164.7 203.6

Local governments’ debt 14.2 23.7 31.7 20.5

Total external public debt 557.3 788.0 953.8 1,134.9

At year-end 2011, debt to multilateral creditors amounted to EUR 5.2 bn (RSD 543.2 bn), or 35.1%

of total public debt, as opposed to EUR 5.1 bn (RSD 536.2 bn), or 41.8% of total public debt, in 2010. Paris

Club debt at year-end 2011 amounted to EUR 1.6 bn (RSD 165.5 bn), or 10.7% of total public debt,

compared with EUR 1.6 bn (RSD 170.6 bn), or 13.3% of total public debt, in 2010. London Club debt at

year-end 2011 amounted to EUR 720.4 mil (RSD 75.4 bn), or 4.9% of total public debt, compared with

EUR 748 mil (RSD 79.6 bn), or 6.2% of total public debt, in 2010.

As at 31 October 2012, Paris Club debt stood at EUR 1.49 bn (RSD 169.1 bn). EBRD loans

amounted to EUR 1.46 bn (RSD 165.0 bn), London Club debt was EUR 0.66 bn (RSD 75.2 bn) and bilateral

loans stood at EUR 0.86 bn (RSD 98.0 bn). IDA loans amounted to EUR 0.53 bn (RSD 60.5 bn), IMF loans

amounted to EUR 0.46 bn (RSD 52.2 bn), and EIB loans amounted to EUR 0.53 bn (RSD 60.3 bn).

In September 2011, the Republic of Serbia issued for the first time a Eurobond in the

international financial market with the nominal value of USD 1 bn. The terms of issue included a 7.25%

coupon and a 7.5% rate of yield to maturity. Spread at the time of issue compared with the US benchmark

bond was 561 base points, while bond price from the time of issue to the end of November 2011 ranged

from 90 to 102. US investment funds bought more than two thirds of the primary issue of this security.

7

This issue gave Serbia a liquid bond which will be used as a benchmark for future Eurobond issues in the

international financial market.

In the first ten months of 2012, the price ranged from USD 96.9 to USD 110.5, while yield rates

ranged from 5.73% to 7.71%.

In September, yield rates on the first Serbian Eurobond reached an all-time low and the Ministry

of Finance and Economy decided it would be beneficial to issue a Eurobond by the end of the year in

order to finance budget expenditures. On 28 September 2012, Serbia entered the international financial

market for the second time and successfully reopened the issue Serbia 2021. Reopening volume was USD

1 bn, with a yield rate of 6.625%. Bond price at reopening reached USD 104.179, meaning that the tap

issue was issued with a premium.

Even though Standard and Poor’s downgraded the country’s credit rating from BB to BB- with

negative outlook in August and Fitch assessed its outlook for the forthcoming period as negative, Serbia

has managed to issue a security with a yield higher than that achieved by some countries in the region

with higher credit rating.

Graph 26. Serbia’s 2021 Eurobond price and yield trends from the issue date to 31 October 2012

Currency structure of Serbia’s public debt in the period 2009-2012

At year-end 2009, more than 66% of Serbia’s public debt was denominated in euros, followed by

debt denominated in US dollars (12.9%), while the share of debt denominated in local currency was

12.7%. For the purpose of financing the budget deficit, 2011 saw intensified issues of dinar-denominated

securities, which increased the share of dinar-denominated public debt to approximately 16.2% at year-

end 2011. At the end of October 2012, dinar-denominated debt accounted for nearly 18.9% of Serbia’s

public debt.

5.05.35.55.86.06.36.56.87.07.37.57.88.08.38.58.89.0

93 $94 $95 $96 $97 $98 $99 $

100 $101 $102 $103 $104 $105 $106 $107 $108 $109 $110 $111 $112 $

In p

erce

nta

ge

Closing price YTM

8

Table 35. Currency structure of public debt in the period 2009 – October 2012

2009 2010 2011 2012/X

(RSD bn) % (RSD bn) % (RSD bn) % (RSD bn) %

Special Drawing Rights 45.0 4.7 101.4 7.7 104.6 6.6 114.5 5.9

EUR 642.3 66.7 793.0 60.4 915.0 57.3 1,022.6 52.8

USD 124.5 12.9 188.7 14.4 284.9 17.8 395.7 20.4

CHF 18.6 1.9 22.8 1.7 21.5 1.3 24.2 1.3

RSD 121.9 12.7 194.3 14.8 258.9 16.2 365.6 18.9

Other 10.5 1.1 13.0 1.0 13.2 0.8 13.4 0.7

Total 962.8 100 1,313.2 100 1,598.1 100 1,936.0 100.0

Graph 27.Currency structure of public debt in the period 2009– October 2012

According to the figures as at 31 October 2012, the bulk of Serbia’s public debt remains

denominated in euros – 52.8% of total public debt stock. This is followed by public debt denominated in

dinars and US dollars, with 18.9% and 20.4% respectively. The remaining debt is denominated in Special

Drawing Rights (5.9%) and other currencies (2.0%).

Interest rate structure of Serbia’s public debt in the period 2009–2012

The structure of public debt, including non-guaranteed local government debt of Serbia,

according to interest rates is favorable, because the majority of debt is tied to fixed interest rates. The

share of fixed-rate interest was even higher in 2009 (75.3%), but in 2010 it dropped sharply to 65.2%.

According to figures as at 31 October 2012, debt with fixed interest rates accounted for 70.6% of public

66.7 60.4 57.3 52.8

12.9 14.4 17.8

20.4

12.7 14.8 16.2 18.9

4.7 7.7 6.6 5.9 3.0 2.7 2.1 1.9

0

20

40

60

80

100

120

2009 2010 2011 2012 - X

In p

erce

nta

ges

EUR USD RSD SDR Other

9

debt. On the other hand, as regards variable interest rates, they were mostly linked to EURIBOR and

LIBOR on EUR. The structure of interest rates on Serbia’s public debt is showed in Graphs 28 and 29:

Graph 28. Interest rate structure of public debt in the period 2009 – 2012

The majority of Serbia’s public debt (70.6%) is subject to fixed interest rates, while debt with variable interest rates accounted for 29.4% of total public debt. As regards variable interest rates, EURIBOR and LIBOR on EUR account for the highest share - 72.7% combined of total public debt subject to variable interest rates. LIBOR on USD accounts for 12.0%, while LIBOR on CHF accounts for 2.0% of public debt subject to variable interest. Variable interest rates linked to LIBOR on GBP and JPY and other variable rates account for 13.3% of public debt subject to variable interest; of that number, interest rates on Special Drawing Rights account for 2.7% of total public debt.

Graph 29.Structure of variable interest rates in the period 2009 – 2012

75.3% 65.2% 68.4% 70.6%

24.7% 34.8% 31.6% 29.4%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2009 2010 2011 2012 - Х Variable interest rates Fixed interest rates

78.1% 82.5% 73.5% 72.7%

12.9% 11.6%

11.5% 12.0%

3.6% 2.4%

2.1% 2.0%

5.4% 3.5% 12.9% 13.3%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2009 2010 2011 2012 - Х EURIBOR and LIBOR on EUR LIBOR on USD LIBOR on CHF Оther

10

Structure of government securities and their duration in the period 2009-2012

The Republic of Serbia began issuing Government bonds in 2003. Originally it issued only short-

term Government bills from 2003 to 2006; however, after a period of stagnation in the market for dinar-

denominated Government bonds, the Government began reissuing the bills in February 2009. Within four

years, the balance of this debt exceeded RSD 400 bn. In other words, of the EUR 6 bn of absolute debt

growth compared with year-end 2008, nearly one half was generated in the domestic market through

issues of dinar- and euro-denominated government securities. 2012 saw the introduction of new dinar-

denominated instruments such as inflation-indexed bonds and 2-year amortizing bond with variable

coupon. A 5-year Government bond was also issued for the first time, in an effort to extend the maturity

of dinar-denominated securities. As at 31 October 2012, about 83% of planned borrowing was achieved

through issues of dinar-denominated government securities for 2012. The maturity structure of dinar-

denominated government securities is shown in Graph 30:

Graph 30. Structure of Government securities by original maturity at the end of the observed period 2009 – 31 October 2012

In 2011, the Republic of Serbia issued euro-denominated Government bills and bonds for the

first time in the domestic market. It issued 53-week and 18-month Government bills with the total

nominal value of EUR 350 mil and with a weighted interest rate of 4.9%. As regards bonds, the

Government issued on two occasions 15-year Government bonds with a 5.85% coupon and 3-year

Government bonds with a 5% coupon, with the total nominal value of about EUR 200 mil. In 2012 the

government continued issuing euro-denominated instruments: a 2-year euro-denominated security with

a 5.75% coupon was issued for the first time, in the total nominal value of EUR 111.9 mil. In the total

government securities portfolio at the end of October 2012, dinar-denominated government securities

accounted for 77.5%. The remaining 22.5% of the portfolio are euro-denominated government securities.

The maturity structure of euro-denominated government securities and an overview of accepted rates of

government securities are given in Graphs 31 and 32, respectively:

25.8

12.1

1.3 1.0

56.6

30.9

9.0 4.6

11.8

17.6

34.0

3.3

28.1

19.0

6.9

5.3

8.4

21.2

16.2

5.2

9.1

2.8

13.2

14.2

1.5 2.9

4.7

16.5

2.6 2.0 1.5 0.7 1.1 5.0 3.8

0

10

20

30

40

50

60

70

80

90

100

2009 2010 2011 2012 - Х

15Y Government Bonds - EUR denominated

10Y Government Bonds - inflation indexed

5Y Government Bonds


3Y Government Bonds - inflation

3Y Government Bonds


2Y Government Bonts - amortising

24M Government Bills

18M Government Bills - EUR Denominated


53W Government Bills - EUR Denominated

53W Government Bills


6M Government Bills - EUR Indexed

6M Government Bills

3M Government Bills

11

Graph 31. Structure of euro-denominated government securities by original maturity at the end of

October 2012

Graph 32. Overview of accepted rates of government securities

Considering that securities issued until 2010 were mostly 3-month Government bills, the

duration, or average days to maturity, was low. With the introduction of new instruments with longer

maturity and the lower share of short-term instruments in the total balance of dinar-denominated

securities, duration was extended considerably. As at October 2012, the duration of dinar-denominated

Government bonds was 391 days, while the average duration of total securities was 628 days. Trends in

the duration of dinar-denominated government securities in recent years are shown in Graph 33:

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2011 2012 - Х

36.2% 23.6%

27.1% 40.1%

12.9% 10.6%

6.8%

26.1% 16.6%

15 year Government Bonds-EUR Denominated

3 year Government Bonds-EURDenominated

2 year Government Bonds-EURDenominated

18 month Government Bills-EUR Denominated

53 week Government Bills-EURDenominated

5.00%

5.25%

5.50%

5.75%

6.00%

6.25%

6.50%

6.75%

7.00%

7.25%

7.50%

7.75%

10.0%

10.5%

11.0%

11.5%

12.0%

12.5%

13.0%

13.5%

14.0%

14.5%

15.0%

15.5%

16.0%

16.5%

1 2 3 4 5 6 7 8 9 10 11

Pri

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ion

s a

ccep

ted

ra

tes

- EU

R d

eno

min

ate

d

Pri

ma

ry a

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ion

s a

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tes

- R

SD d

eno

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ate

d

Number of auctions of Government securities issued on domestic market from the 1st January 2012

Government Bills 3M Government Bills 6M Government Bills 53WGovernment Bills 18M Government Bills 24M Government Bonds 3YGovernment Bonds 5Y Amortizing Government Bonds 2Y Government Bills 53W - EURGovernment Bills 18M - EUR Government Bonds 2Y - EUR Serbia 2021

12

Graph 33. Duration of Government securities issued in the domestic market in the period 2009-31 October 2012

Servicing of Serbia’s public debt (central government5) in the period 2013-2015

The figures presented in this section relate to past repayments of interest and principal and

projections for the forthcoming period. Table 36 shows the history of public debt servicing from 2009 to

2011, while Table 37 shows projected public debt servicing for the period 2012-2015:

Table 36. Interest and principal repayment in the period 2009-2011

2009 2010 2011

in RSD bn

Principal 144.0 245.1 290.5

Interest 20.1 30.1 40.4

Total 164.1 275.2 330.9

Table 37.Projections of interest and principal repayment by 2015

2012p 2013p 2014p 2015p

in RSD bn

Principal 328.2 403.6 359.6 300.06

Interest 65.4 91.2 99.7 91.9

Total 393.6 494.8 459.3 391.9

public debt as at 31 October 2012 20.3 25.6 23.7 20.2

Table 38. Projections of interest and principal repayment by 2015 (as a % of GDP)

2012p 2013p 2014p 2015p

in RSD bn

GDP 3,267.1 3,679.0 3,979.1 4,316.2

Principal 10.0% 11.0% 9.0% 6.9%

Interest 2.0% 2.5% 2.5% 2.1%

Total 12.0% 13.5% 11.5% 9.0%

5 Central government level includes the Budget of the Republic of Serbia, compulsory social insurance funds and the public enterprise “Putevi Srbije” (Serbian public roads company)

6 Principal repayment projection for 2015 includes the obligations based on restitution.

117 154

273

391

117 154

600 628

0

100

200

300

400

500

600

700

2009 2010 2011 2012 - Х Duration of dinar-denominated securities Duration of total securities

13

2. Projection of General Government Debt Balance in the Period 2013-2015

Taking into account Serbia’s projected primary budget deficit in the period 2012-2015, including

the withdrawal of loans for project financing of budget beneficiaries, the effects of exchange rate

changes between the dinar on the one side and the euro and the US dollar on the other side in the basic

macroeconomic scenario, and considering the plan to finance future deficit primarily through long-term

debt in the form of securities issues, the balance of Serbia’s public debt excluding guaranteed liabilities

(except for “Železnice Srbije” (Serbian Railways) and “Putevi Srbije” (Serbian public roads company)) and

including local government debt should – according to the basic scenario –equal about 60% of GDP,on

average.

Table 39. Basic projection of general government debt by 2015

2012p 2013p 2014p 2015p

in RSD bn

GDP 3,267.1 3,679.0 3,979.1 4,316.2

Primary deficit -133.7 -39.9 24.8 50.9

Interest 69.3 95.7 104.7 97.4

Public debt 2,064.8 2,314.1 2,228.3 2,391.2

Non-guaranteed local government debt 62.6 84.2 107.0 128.9

Debt-to-GDP 63.2% 62.9% 56.0% 55.4%

Local government debt-to-GDP 1.9% 2.3% 2.7% 3.0%

According to the projections, local government debt will remain at a relative level of 2% to 3% as

a share of GDP. Debt arising from guaranteed liabilities, which are not included in public debt balance

according to the Maastricht criteria, is expected to be between 4% and 6% of GDP.

Analyses underlying the Public Debt Management Strategy

The Public Debt Agency based its Public Debt Management Strategy on the quantitative

approach, identifying potential limitations by applying macroeconomic indicators, cost and risk analysis

and market conditions that affect public debt management. The cost and risk analysis took into account

all viable financing alternatives. The share of each instrument in the overall financing needs for a given

year is determined on the basis of Strategy objectives.

The following instruments available in domestic and international financial markets were used in

the analysis.

Sources of financing denominated in foreign currency

Loans by foreign governments and international financial institutions are presented as two

instruments denominated in euros, with fixed and variable interest rates;

Domestic debt denominated in euros is presented through three instruments: loans by

domestic commercial banks with variable interest rates, Government bills and bonds issued

in the domestic financial market;

Eurobond issued in euros or US dollars.

14

Sources of financing denominated in local currency

All government securities denominated in dinars are categorized in a number of groups,

including short-term Government bills (with maturity up to 53 weeks), 2-year government

securities (Government bills and bonds with maturity of 18 months and 24 months) and 3-

year and 5-year coupon Government bonds.

Future market interest rates and scenario analysis

The mid-term public debt management strategy for the period 2013-2015 was developed using

quantitative cost and risk analyses based on various scenarios and projections.

The starting point was the basic scenario, developed using the most probable market conditions.

We then proceeded to identify three groups of market variables: foreign exchange rate, reference

interest rates in the international market and reference interest rate on dinars. The first two variables

were readily available. Future market rates can be deducted from an analysis of available purchase power

parity or interest rate parity forecasts. The analysis assumes an average depreciation of the dinar against

the euro of 3.0% as well as of the dinar against the US dollar of 2.5% over the observed period. Another

possibility is to use the forward exchange rate between EUR and USD, but in this case external influences

(“background noises”) are limited and the EUR:USD exchange rate is assumed to be fixed, in order to gain

a clear picture of the effects of the applied shock. Similarly, market forward rates are currently poor

predictors of future interest rates. The analysis also used constant rates. The effects of market rate

changes were fully tested in shock conditions.

Interest rates on debt denominated in dinars cannot be real, constant or forward rates, because

the projected curbing of inflation has not yet resulted in the reduction of projected interest rates. Among

other issues, there is a lack of research of consumer prices and of structure rules that lead to very high

interest rates. The approach used for interest rates in dinars is based on real rates that reflect the current

situation, taking into account also the expected inflation rate reduction in the following years.

Once the basic scenario was defined, four additional types of scenarios (shocks) were chosen.

Macroeconomic shocks or shocks in the primary budget are examined separately in the debt

sustainability analysis.

1. Depreciation of the dinar against the dollar by 25%. In this type of shock, all other exchange

rates remain unchanged. This global scenario is not particularly related to the Serbian

economy, but it can have a significant impact on Serbia’s debt because of the portion of the

debt denominated in dollars (which should account for more than 20% of Serbian central

government public debt by the end of the year). In this scenario, the EUR/USD exchange rate

would change from 1.30 to 0.98. This scenario is likely to occur once the US economy

recovers and sees a higher growth rate, as the European economy continues to suffer from

effects of the current debt crisis.

2. Depreciation of the dinar against all currencies by 25%. In this scenario, exchange rates in

the whole world would remain stable, while only the dinar would depreciate against them.

Macroeconomic circumstances in this scenario would include a high balance of payments

deficit and low inflow of foreign direct and portfolio investment.

3. Interest rate increase in the international market. At present, interest rates worldwide are at

a historic low. Central banks keep low rates anchored, thus enabling governments to address

the issue of debt and banks to profit from positive yield curves and recapitalization, as long

15

as inflation is kept at bay. If global economy recovers, interest rates will probably increase by

about 2-3 percentage points.

4. Interest rate increase in the domestic market by 5%. This scenario would be possible if

inflation remained high (above 10%) and the RSD:EUR exchange rate were highly volatile.

Each of the above stress tests or risk scenarios was used to examine the cost effects of the

strategies considered.

2.1 Alternative Borrowing Strategies for the Period 2013-2015

In cooperation with World Bank experts, the Public Debt Agency of the Serbian Ministry of

Economy and Finance applied the WB Medium Term Debt Strategy Model (MTDS) as a cost and risk

analysis for the purpose of portfolio optimization and more efficient public debt management.

The optimum choice of costs and risks defined the basic borrowing strategy for the following

mid-term period. The following alternative borrowing strategies were analyzed:

Basic strategy (S1): a strategy that largely covers the financing need with existing financial debt

instruments. The majority of new borrowing is based on issuing government securities in local

and foreign currencies in the domestic market and issuing Eurobonds denominated in US dollars.

S2 Strategy: unlike the S1 Strategy, Eurobonds are issued in euros with five-year maturity.

Supplementary dinarization strategy with extended maturity (S3): relying on increased issuing of

dinar-denominated government securities (from 58% to 73% of gross financing needs until

2015), while maintaining the existing package of standardized dinar-denominated instruments,

with a higher preference for long-term instruments.

Strategy of financing through a Eurobond issue (S4): a strategy that fully covers financing needs

in the period 2013–2015 through an issue of Eurobonds denominated in US dollars, without

borrowing in the domestic market or in local currency.

All strategies envisage financing of national budget expenditures primarily through government

securities issues in international and domestic capital markets. The debt covered by this analysis is central

government debt, including debt arising from indirect liabilities serviced by the Republic, but excluding

non-guaranteed local government debt. The balance of public debt thus calculated is estimated to be

57.7% of GDP at 2012-end.

Cost and risk analysis of alternative borrowing strategies

Quantitative analysis presents the performance of each of the four alternative borrowing

strategies. The vertical axis shows debt as a share of GDP in the basis macroeconomic framework defined

by the Fiscal Strategy and it is the basic measure of each individual borrowing strategy, while the

horizontal axis shows the potential cost of each individual borrowing strategy (stress test result). Two

different cost ratios were used: public debt-to-GDP and nominal interest-to-GDP. The first ratio is a

balance indicator, while the second is a flow indicator. For the sake of comparison, the analyses focus on

the results of examined strategies at year-end 2015.

16

Comparison between alternative strategies

The declining debt-to-GDP ratio is a result of lower financing needs in the forthcoming period

and privatization of state-owned property in industries where there is competition. The graph clearly

shows costs associated with each of the examined strategies: the S1 Strategy has a significant interest

rate risk, given the relatively high share of dinar-denominated securities in the financing of budget needs,

and historical figures show this shock is justifiable; furthermore, this strategy of financing from foreign

sources is based on dollar-denominated securities and the effect of volatility of the dollar is seen as a

significant shock. The S2 Strategy, as opposed to the S1 Strategy, considers a swap of dollar-denominated

securities for euro-denominated securities; the results require further analysis of the need for applying

hedging techniques and swapping dollars for euros, taking into account the lower volatility of the

RSD:EUR exchange rate compared with the RSD:USD exchange rate. The reason for hedging instead of

direct euro-denominated issues lies in the fact that many banks have reported that the international

financial market is currently not open to Serbian securities denominated in euros. The S3 Strategy is

shown to be the relatively priciest of all, but its advantage is that the relatively high share of dinar-

denominated debt would improve the stability of the debt-to-GDP ratio. The S4 Strategy carries a lower

risk compared with S1 and S3 in terms of interest cost, but it has a relatively high risk associated with the

debt-to-GDP ratio compared with other strategies, due to the high share of dollar-denominated debt in

the total debt, which is the result of total elimination of dinar-denominated securities.

S1

S2

S3

S4

47.0 47.1 47.2 47.3 47.4 47.5 47.6 47.7 47.8 47.9 48.0 48.1

9.50 10.00 10.50 11.00 11.50

Co

st (

%)

Risk

Debt-to-GDP at year-end 2015

S1

S2

S3

S4

-

0.5

1.0

1.5

2.0

2.5

- 0.20 0.40 0.60 0.80 1.00 1.20

Co

st (

%)

Risk

Interest-to-GDP at year-end 2015

17

In this model, the analysis of the public debt-to-GDP ratio shows that the S4 Strategy is the

riskiest choice, while the analysis of the interest-to-GDP ratio shows that the S3 Strategy is the most

expensive one. The basic strategy (S1) carries a relatively low risk, but it is associated with relatively high

interest costs due to the high share of dinar-denominated securities. The most advantageous solution

appears to be the S2 Strategy, which has both low risk and low costs; however, as this strategy is based

on an issue of euro-denominated Eurobonds, it should be taken into account that Serbia’s current credit

rating (BB-) prevents the country from borrowing in the international market by issuing euro-

denominated securities. As the S2 Strategy is currently unviable, the basic strategy is the best solution for

the time being; however, efforts will be made whenever possible to borrow through issuing euro-

denominated securities in the international market or, if market conditions are favorable, to swap dollar-

denominated debt for euro-denominated debt.

Table 40. Public debt-to-GDP at year-end 2015

Scenarios S1 S2 S3 S4

Basic scenario 49.6 49.0 49.9 49.2

Exchange rate shock (25% all currencies) 60.2 59.4 60.0 61.0

Interest shock (scenario 1) 50.9 50.1 51.3 50.2


Combined shock (25% USD and interest shock 1) 50.7 52.5 54.3 54.8

Maximum risk 10.6 10.1 10.1 11.7

Table 41. Interest-to-GDP at year-end 2015

Scenarios S1 S2 S3 S4

Basic scenario 2.6 2.2 2.8 2.2

Exchange rate shock (25% USD) 3.0 2.6 2.3 2.6



Combined shock (25% USD and interest shock 1) 3,6 3.0 3.9 3.1

Maximum risk 1.0 0.8 1.1 0.9

The following table shows the trends in basic parameters of public debt in each of the four

examined strategies, which reflect the characteristics of each strategy explained above:

Table 42. Risk indicators for alternative strategies

Risk indicators Year-end 2015

S1 S2 S3 S4

Nominal debt (% of GDP) 49.6 49.0 49.9 49.2

Net present value (% of GDP) 46.1 45.5 46.4 45.9

Applied interest rate (%) 5.2 4.5 5.7 4.4

Refinancing risk

ATM7 external portfolio (in years) 8.5 8.4 8.5 8.3

ATM domestic portfolio (in years) 1.2 1.2 1.1 1.8

ATM total portfolio (in years) 7.9 7.9 7.8 8.2

Interest rate risk

ATR8 (in years) 4.8 4.8 4.7 4.9

Refixing (% of total debt) 32.9 32.9 34.7 26.4

Debt at fixed rates (% of total debt) 73.2 73.2 71.4 79.3

Foreign exchange risk Debt in foreign exchange (% of total debt) 86.8 87.1 76.3 98.6

7 АТМ - Average Time to Maturity

8 АТR - Average Time to Refixing

18

Reducing public debt as a share of GDP in the period 2013-2015

According to the fiscal rule laid down by the Budget System Law of the Republic of Serbia,

general government public debt may not exceed 45% of GDP. If debt exceeds that level, the Government

must adopt a program to reduce public debt as a share of GDP, i.e. to restore debt to the level permitted

by the law.

At year-end 2011, central government debt reached 48.7% of GDP and general government debt

reached 50.3% of GDP. The upward trend of the public debt-to-GDP ratio continued and at the end of

October 2012 general government debt reached 57.5% of GDP. It is expected to continue growing until

the end of the year, reaching about 63% of GDP.

It should be noted that, in addition to public debt operations (net withdrawals), the increase in

public debt in the first ten months of this year was largely due to the increasing exchange rate of the euro

and US dollar against the dinar. In the past year, the dinar has depreciated against the euro by more than

10%,. Due to the high share of debt denominated in foreign currencies (more than 80%), foreign

exchange risk will obviously determine the trends of the public debt-to-GDP ratio in the future and

influence the success of fiscal policy measures aimed at consolidating public finance and reducing public

debt.

Taking into account the planned macroeconomic framework, provided that potential risks

(primarily foreign exchange risk) do not materialize, public debt (excluding liabilities arising from

restitution and non-guaranteed local government debt) should drop to 55.4% of GDP by 2015.

The key factors of public debt-to-GDP ratio reduction include GDP growth, primary deficit,

exchange rate of the dinar against foreign currencies and interest levels. The planned fiscal policy

measures provide for a reduction of primary deficit, which means that the key factor of debt growth will

be eliminated as of 2014. Interest levels are expected to stagnate in the period 2014-2015, while nominal

GDP should increase by 8-10%. All these factors combined are expected to reduce the level of public debt

serviced by the Republic of Serbia to a level of about 49.5% of GDP in 2015. Local government debt as a

share of GDP is expected to increase to 3%, while guaranteed debt serviced by guarantee beneficiaries

will increase to around 6.0%, in the next three years.

The key measure of public debt-to-GDP ratio reduction in 2014 will be the sale of state-owned

property (enterprises) in tendering procedures, in industries where such enterprises have competition

and are not the so-called state monopolies, as well as the sale of minority interest packages held by the

government in certain enterprises. One of the sources of proceeds that will contribute to public debt-to-

GDP ratio reduction is also the sale of disused state-owned resources (buildings, other constructions,

agricultural land etc.).

Proceeds from the sale of state-owned assets will contribute to public debt reduction because

they will be available for debt repayment. This will directly reduce interest burden in the coming budget

years and increase primary budget deficit.

It should be noted that another contributing factor to public debt-to-GDP reduction will be more

adequate control of guarantee issuing and improved prioritization of investment projects eligible for

funding from credit lines approved by multilateral and bilateral creditors. Also, basic definitions of the

debt will be redefined and harmonized in the Budget System Law and Public Debt Law for the purpose of

adequate statistical reporting of the government debt.

19

2.2 Public Debt Management Principles

Pursuant to the Public Debt Law, the primary objective of Serbia’s borrowing and public debt

management is to ensure funds needed to finance budget expenditures, with minimum mid- and long-

term financing costs and with acceptable risk levels. Minimization of long-term costs of public debt

services is limited by the structure of debt and actual cost reductions will depend on a number of factors

and risks. Taking this into account, Serbia’s public debt management strategy identifies the following

overall objectives and principles:

1) It is necessary to ensure financing of Serbia’s fiscal deficit, including both short-term (liquidity)

and long-term deficit, as part of the policy aimed at maintaining public finance system stability;

2) It is necessary to define the acceptable level of risk, which should be determined as a targeted

debt portfolio structure in terms of currency structure of debt, interest rate structure, maturity structure

and debt structure by types of financial instruments;

3) Support should be provided for the development of a market for government securities issued

in domestic and foreign markets in order to utilize the developed markets as a means of cutting

borrowing costs in the mid and long term, in line with the high-quality diversification of the debt

portfolio;

4) The borrowing process should be transparent and predictable.

The Public Debt Management Strategy should be supported by and consistent with the

Government’s general mid-term macroeconomic framework.

Serbia’s financing strategy needs to take into account a number of limiting factors. As a middle-

income country, sources of finance available to it in domestic and international financial markets

available to it are limited, especially at a time when developed EU Member States are facing difficulties in

their efforts to secure financing for their fiscal deficits and refinancing for their mature debt. There are

also strict conditions under which the country may borrow from bilateral and multilateral loan facilities.

Taking into account the above limitations and potential risks, it was nevertheless decided that

public debt management strategy in the following mid-term period should focus on financing national

budget expenditures mainly through issues of government securities in international and domestic capital

markets. The existing debt structure is rather heterogeneous, taking into account the inherited debt of

the former Yugoslavia, the limited availability of market instruments in the past period and the specific

status in terms of project financing by international financial institutions. The market for government

securities is still in its infancy. One of the tenets of public debt management is the requirement for

flexibility, to ensure financing for national budget expenditures. Flexibility will be reflected in the choice

of markets in which the country will be borrow, the currency of borrowing and the financing instruments.

The choice of financing structure will take into account the current situation and development trends in

domestic and foreign financial markets (interest rate levels, risk premiums, yield curve, exchange rates of

reference currencies) and acceptable levels of exposure to financial risks.

The aim is to finance debt in the following period through issues of mainly dinar-denominated

securities in the domestic market. However, given the present circumstances, much as the government is

determined to develop the domestic market for government securities, a large share of financing in the

mid-term will have to be ensured in the international financial market. Guidelines for borrowing in

foreign currencies in the international market will be to ensure access to a large number of investors in

different segments of the international financial, to match borrowing in foreign currency with repayment

of debt denominated in foreign currency (including interest) where possible and to allow borrowing in

20

the international market when financial conditions are more advantageous than in the domestic market,

in order to stabilize public finance as fiscal risks materialize.

Borrowing in foreign currency also implies foreign exchange risk due to changes in the RSD:EUR

and RSD:USD exchange rates, which means that public debt management faces the difficult task of

actively considering and using hedging in case of borrowing in dinars or in euros.

Public debt management policy must take the long-term perspective into account, but decisions

to finance budget expenditure must be made on an annual basis. Decisions on annual borrowing are

made within the framework of the Budget Law for the fiscal year concerned and are subject to change

during the fiscal year covered by the borrowing plan if basic fiscal aggregates change.

2.3 Financial Risks and Public Debt

Financial and fiscal risks can lead to public debt increase larger than envisaged by basic scenario.

The risks that are present and that can lead to increase of indebtedness and of the costs of public debt

servicing are:

1) refinancing risks,

2) foreign exchange risk,

3) market risk (interest rate risk, inflation risk),

4) liquidity risk,

5) credit risks,

6) operational risks,

7) risks linked with servicing cost distribution (debt structure, concentration of obligations).

In order to reduce the exposure to financial risks, it is necessary to implement the following

measures:

1) refinancing risk

increase in the share of medium-term and long-term financial instruments denominated in

dinars on the domestic financial market,

uniform distribution of obligations based on public debt, on an annual basis and during the

fiscal year in the next long-term period,

lengthening of average maturity of the debt issued in securities;

2) foreign exchange risk

attempt aimed at reducing the share of the debt denominated in foreign currency by

observing at the same time the costs of the new debt (debt “dinarization” costs),

use of financial derivatives in order to limit the effect of changes of the reference currencies’

exchange rates,

attempt that foreign debt is mainly in the euro and that the dollar denominated debt is used

only if the financing in the dollar is cheaper on the international market, and simultaneous

use of financial derivatives for risk limitation;

3) market risk (interest rates risk, inflation risk)

attempt to extend the duration of domestic debt in dinars,

issuance of indexed bonds (interest rate indexation),

21

risk based on interest rate on foreign debt does not affect the long-term goal to minimize the

public debt costs;

4) liquidity risk

permanent maintenance of the cash in the Republic of Serbia accounts at the level which

enables a smooth financing of obligations over a minimum of four months and at a level

which enables amortization of possible smaller inflows based on the borrowing in relation to

the plan,

adequate management of freely available cash assets in the Republic of Serbia accounts in

accordance with the asset-liability management principles,

redefinition of the agreements with the National Bank of Serbia for placement of dinar and FX

assets, and possible amendments of the Law on Foreign Exchange Operations. Providing an

opportunity to the Government to use liquidity surpluses for BUYING BACK the relatively

more expensive debt,

automatic execution of orders in the system of the Republic Treasury in order to avoid arrears

(short-term obligations - debts) in the system, and respect for the Rules on Budget Execution

System,

consolidation of FX assets, apart from those in dinars, within the consolidated Treasury

system maintained with the National Bank of Serbia, and utilization of FX assets for active

management of the liquidity on the dinar account of the budget execution;

5) credit and operating risks

transactions with financial derivatives may be carried out only with the financial institutions

having a high credit rating,

use of financial instruments which limit the credit risk,

granting of guarantees and approval of a new debt to local authorities only if an adequate

analysis is in place of the relatively low level of probability for the guarantees’ realization in

the medium term, which needs to be regulated by legal provisions,

introduction of adequate control in all business activities in the Public Debt Agency and

improving the knowledge of the employed staff, which requires raising the limit of the

number of employees and approving adequate budget resources,

upgrading and improvement of the existing information system for monitoring the public

debt and operations with the same;

6) risks relating to servicing cost distribution

adequate planning of the borrowing on an annual level and uniform distribution in the next

years and in the course of the fiscal year so as to avoid the risk of large concentration of

refinancing obligations,

avoiding concentration of obligations based on public debt at monthly level, which could not

be amortized by freely available cash assets in the Republic of Serbia accounts.

In view of the fact that the bulk of the debt is in foreign currency (about 80% of the public debt

stock during 2012 was in foreign currency), exposure to FX risk is high. The risk materialized in 2012 when

the dinar depreciated by more than 10% in a few months only and resulted in increased public debt/GDP

22

ratio by more than five percentage points only due to the rise of the exchange rate of the euro and US

dollar against the dinar. It is noteworthy that the fall in the value of the dinar against the euro, as well as

the fall of the euro value against that of the dollar in the first eight months of 2012 added about 55% to

the change in the public debt/GDP ratio value against the value of the observed ratio at the close of the

preceding year.

Any change in the exchange rate of the dinar against the euro of 1% in the direction of the dinar

depreciation relative to basic scenario will lead to absolute debt increase from 17 to 19 billion dinars in

the next 2013-2015 period, or by around 0.45% of GDP in relative terms (assuming no major oscillation of

foreign currencies against the euro).

For public debt stock of extreme importance is that the euro/USD ratio does not depart

significantly from the basic scenario. In the case of departure due to the rise in the US dollar value against

the euro by 1%, the public debt stock will go up from 4.5 to 6.5 billion dinars in the next 2013-2015

period, or in relative terms by 0.12%-0.15% of GDP.

In the domain of interest rate risk, the advantage of Serbian public debt is that over 70% of the

central government public debt stock was with fixed interest rate at the end of October 2012. Euribor is

the principal variable interest rate. According to the basic scenario, Euribor is expected to be in the next

three-year period at the level recorded at the close of August of 2012. In the case of change of the

Euribor value by 10 basis points relative to the basic projection, interests would increase by about 0.2

billion dinars.

Apart from the above-mentioned factors, the following is necessary for the Strategy

implementation:

1) the stability of the macroeconomic situation in Serbia (real GDP growth, tax collection,

unemployment level, current account of the balance of payments, interest rates on the

domestic market, inflation, exchange rate of the dinar against the euro, etc.);

2) development of the world economy and Serbia’s principal foreign trade partners;

3) needs for additional borrowing in order to regulate the debts at other government levels,

public sector and the financial system of Serbia;

4) tax and non-tax revenues lower than planned and expenditures larger than planned during

the budget year;

5) significant drop in the value of the dinar relative to the euro (over 10%);

6) degree of borrowing by local authorities higher than planned within the medium-term

macroeconomic (fiscal) framework;

7) activation of provided guarantees.

2.4 Public Debt Stock According to National Methodology and Maastricht

Criteria

It is important to note that according to national methodology, public debt stock includes direct

obligations of the central government, as well as all indirect liabilities or the debt guaranteed in favor of

public enterprises, some local governments, government agencies and other legal entities the founder of

which is the Republic of Serbia. Such stock includes all guarantees irrespective of whether they will be

activated in the next period or not.

23

As one of the principal economic and political objectives of the Republic of Serbia is accession to

the European Union, a prerequisite is making the domestic methodology compliant with European

standards. For that reason, the public debt stock is analyzed regularly on a monthly basis and on the basis

of the criteria established by the Treaty of Maastricht, which represents the systematized guidelines for

the purpose of sustainability of the public debt and fiscal system, or macroeconomic stability. According

to these criteria, public debt stock needs also to include, apart from direct obligations of the central

government, the non-guaranteed debt of local authorities, but exclude the debt based on direct and

indirect liabilities for which payments are not made by the Republic (central government).

Measures for Improving the Market of Dinar Denominated Securities in 2012-2014 Period

The market of government dinar denominated securities is relatively young and still in the stage

of development. During 2009, the Republic of Serbia increased the volume of issues of short-term dinar

denominated securities (three-month and six-month Government bills), starting in 2010 the issues of 18-

month and 24-month bills. In March 2011, the Republic of Serbia issued for the first time a 3-year dinar

denominated coupon bond. In conformance with the medium-term strategy for public debt

management, the Republic of Serbia government issued in 2012 five-year dinar bonds, which in the next

medium-term period would need to open the room for new issues of long-term dinar denominated

securities (seven-year and ten-year dinar denominated bonds). If the activities planned in connection

with the issue of long-term dinar securities materialize, the yield curve on the dinars would be

determined by the end of 2014.

In the period for which this Strategy is adopted, it is also expected that the secondary market for

Government bills improves, which would lead – apart from a transparent yield curve on dinars – to an

improvement of the dinar portion of the financial market and enable the Republic of Serbia Government

to finance its expenses more efficiently with a smaller exposure to the foreign exchange and other risks.

Current price of the dinar denominated debt is conditioned by the rate of inflation, reference interest

rate of the National Bank of Serbia and the exchange rate, and is permanently at two-digit level;

however, it is the price of the specific natural hedging of the public debt/GDP ratio position.

A plan of extending maturity of the dinar denominated securities depends on a series of factors,

and principally on the success of the National Bank of Serbia in the process of “dinarization” and in

maintaining the inflation within the set targets, and on the rise of confidence in the monetary and

economic policies of the National Bank and the Government of the Republic of Serbia.

Development of the domestic market will be supported by the Republic of Serbia with the

following measures:

1. apart from the annual borrowing plan (internal document one part of which is published in the

Budget Law), the borrowing plan will be published each quarter allowing thereby to achieve

consistency, predictability and transparency of issues;

2. the volume of issues is conditioned by the market capacity, while creation of benchmark issues

will be based on the reopening of the already existing issues. The reopening principle will mainly

refer to all securities with maturity equal to or longer than 18 months, as it is evident that these

securities need to account for the bulk of secondary trading and have adequate benchmark

values;

3. there is the so-called trade-off between the creation of the benchmark values of certain

maturities and the existence of a relatively large number of securities of various maturities. In

the next period, once the dinar yield curve is clearly determined for all target maturities of the

24

dinar denominated securities, consolidation of the issues of 18-month and 24-month bills will be

considered so as to reduce the market segmentation;

4. with a view of creating a maximum possible base of investors and of developing the secondary

market of securities issued on the domestic market, at the close of the past year a tax treatment

of domestic and foreign investors was created, and in the next period efforts will be made to

remove all obstacles to a free flow of capital. The present structure of domestic investors is

overly homogenous (mainly the banking sector) and such a structure does not contribute to the

development of the secondary market. Pension funds and insurance companies (life insurance)

have a limited possibility for assets placement because of the low level of development of this

type of savings. The trend of increasing share of foreign investors and of the change in the base

of investors has been noticeable in 2011 and 2012; the present structure of investors is expected

to remain in the next three-year period, which could significantly contribute to the development

of the secondary market;

5. taking into consideration that the Ministry of Finance and Economy of the Republic of Serbia, the

National Bank of Serbia, the Central Securities and Depository Clearing House and the Securities

Commission set up in 2011 a working group for the promotion of trading on the secondary

market of dinar denominated securities, the recommendations of this working group will be

considered by the Ministry of Finance and Economy, and will be accepted if deemed appropriate.

Particularly is expected that the working group estimate the benefits that introduction of primary

dealers would contribute to the development of liquidity of the secondary market of securities.

6. In the next period, the Ministry of Finance and Economy will be modifying the auction platform

on the basis of the investors’ proposals in order to satisfy the interests of both parties in the best

and acceptable manner.

III. Public Debt Management Strategy 2013-20151].pdf · III. Public Debt Management Strategy...

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