IA TR- March 13, 2000 - Page 2 - National Law Center for Inter-American Free Trade®

This issue begins a series of articles on the development of government securities markets in Argentina, Brazil, Chile, Mexico, and Venezuela. These articles will report responses to a questionnaire prepared by the Center and will analyze how these five domestic markets for sovereign debt work, on a day-to-day basis, their progress to date, their size relative to the local private sector and their development relative to US and European markets. As these governments have created more sophisticated markets for raising revenue and managing debt and moved toward increased transparency, investor confidence has been improved. (A review of progress in these five Latin American countries should also be useful to eastern European countries making the transition to market economies.) The Center's Sovereign Debt Project has been coordinated by Dr. Ramiro Rengifo, author, Professor of Law at the University of Antioquia in Colombia, and a longtime Center associate, who has worked previously with the Center's director, Dr. Boris Kozolczyk. For further information on this topic or sovereign debt in general, contact Mariana Silveira (msilveira@natlaw.com) or Francisco A. Laguna (flaguna@natlaw.com).

Basic Characteristics of Domestic Sovereign Debt Markets

A. How long has the government securities market existed?

1. When were government securities first issued?

i) Argentina

Prior to 1989, the Argentine government issued a variety of indexed, austral-denominated securities. In December 1989, however, all government securities were refinanced into Bonex 89 pursuant to the government's stabilization measures. Bonex was a U.S. dollar-denominated bond, traded primarily in the over-the-counter market. Bonex dominated the Argentine bond market until approximately 1995.

The structure of the current government securities market was set in August 1994, when the government announced the establishment of a Treasury bill market, to be supervised and managed by the Treasury Department. Under this new system, short-term issues of three, six or twelve-month maturities are known as Letes and bonds of medium and long-term maturity are designated as Bontes. Letes and Bontes may be denominated either in pesos or in U.S. dollars.

The Central Bank of Argentina does not issue securities.

ii) Brazil

The first Brazilian government securities were issued in the late 60s - early 70s. The open market was created in 1968 and the LTNs (Letras do Tesouro Nacional or National Treasury Bills) were created in 1970.1 In the late 70's public securities operations increased, followed, in the early 80's, by a period of high indebtedness and inflation. In 1986, the government decreed a debt payment moratorium, which reduced the level of trust in government securities and made it difficult to place National Treasury securities. As a result, the Central Bank started to place its own securities for monetary purposes. These securities were readily accepted. Consequently, in 1986/87 there was a division between two different sets of securities.

The government, in turn, adopted measures aiming at restructuring the financial system, which included the creation of the new National Treasury Secretariat (Secretaria do Tesouro Nacional) in March 1986. This process also included the issuance of new types of securities: LFTs (Letras Financeiras do Tesouro or Financial Treasury Bills) (1987); BTNs (Bônus do Tesouro Nacional or National Treasury Bonds) (1989); and NTNs (Notas do Tesouro Nacional or National Treasury Notes) (1991).

The government is confident that, given a favorable macroeconomic environment, the desired course is to increase the share of pre-fixed interest rate bonds (LTNs) in the total stock of the debt, replacing indexed and floating rate bonds (LFTs).

iii) Chile

Market participants described the Chilean market as initially being rather unstable, due to recurrent high inflation. That instability made it impossible to carry out long-term investments and to offer instruments that did not depreciate. As a result of this situation, during the 50's and 60's, the Chilean government started offering non-depreciable instruments and created the first indexed securities, focusing mainly on real-estate activities. The basis for the new system was the implementation of the new units called unidades de fomento or UFs2. These units take into consideration inflation as the reference for adjusting the face value of the relevant securities.

The system, as it operates at present, was instituted during the 80's, following the 1982 financial crisis, at which time the government decided that it would be more convenient for the Central Bank to provide the necessary resources to solve the financial crisis. From that moment onwards, there have been no Treasury issuances in Chile. (Further, the Government has had no budget deficits during the past ten years. It has debt to the Central Bank dating to events in the early 80's and makes payments on that debt. Government debt also includes external debt. Although not used for years, the Treasury still has capacity legally to issue domestic debt.) All domestic debt that currently exists in Chile is issued by the Central Bank.

iv) Mexico

Mexico's first experience with securities issuance was in 1977 with "Petrobonos" (securities indexed to the oil price); a more permanent policy of government securities issuance began in 1978, with the issuance of Treasury Certificates (Cetes). A few years later, new types of securities appeared: Tesobonos, Bondes, Ajustabonos and Undibonos).

v) Venezuela

Government securities market started in Venezuela in 1989 when it first issued securities for the domestic market. Venezuela as a major oil producer has relied on oil revenues to finance its budget; issuance of domestically placed securities has not been a source of income until the last decade.

2. Has issuance ever been interrupted?

i) Argentina

There has not been an interruption in the issuance process, but rather alterations in the structure of the process. Before the convertibility law (ley de convertibilidad)3 was enacted in 1991, the Central Bank was the placement agent for issues of government securities. It was also the entity in charge of recording and servicing the debt. After the enactment of the law, all responsibilities related to the issue and placement of securities were transferred to the Ministry of Finance, through the National Office of Public Credit (Oficina Nacional de Crédito Público).

At present, the Central Bank's role with relation to public debts is limited basically to investing in government securities for monetary and exchange purposes, although it is also the paying agent for Treasury.

The Treasury Department issuance process that is currently in place has not been subject to any interruptions.

ii) Brazil

Issuance of securities was interrupted in 1986, when the government decreed a debt payment moratorium. This significantly reduced the level of trust in government securities and turned investors' attention to securities issued by the Central Bank.

Other than this interruption, issuance of securities has fluctuated according to prevailing macroeconomic conditions. Before the October 1998 crisis, the only securities being issued were LTNs, due to the fact that there was a lot of confidence in the stability of the local currency (real). The maturities were normally of one-two years and constituted 75% of the debt issued by the Treasury Department. At present, this percentage has been drastically reduced. Fixed-rate securities today constitute less than 5% of total Treasury Department debt. Other securities were also issued in the past, but have been discontinued at present due to prevailing market conditions. These include:

BTNs (some continue to be in the market, but are no longer issued);
NTNAs, which were used to change Brady Bonds into domestic debt;
NTNCs, which were indexed to inflation.
NTNDs, which were indexed to the dollar, have not been issued since February 1999.

Additionally, and because of existing deficits, States and Municipalities are currently forbidden to issue public debt securities.

iii) Chile

Issuance by the Treasury has been interrupted. The last issue of domestic public securities made by the Treasury-not by the Central Bank-was during the 70's. The securities used by the government were PRTs (Pagarés Reajustables de Tesorería or Adjustable Treasury Promissory Notes) and PDTs (Pagarés Descontables de Tesorería or Discount Treasury Promissory Notes). At present, as stated, domestic debt papers are issued by the Central Bank. Right now, however, the Chilean Ministry of Finance is in the process of issuing bonds for international markets, for an amount of 500 million dollars.

Typically, the Monetary Operations Division of the Central Bank is the office in charge of establishing the regulations that will govern the placement of Central Bank notes, and the General Manager determines the time, amounts and terms of each issue. Currently, offerings of Central Bank securities are made twice a week and they are announced in advance. However, not all securities have to be offered on a regular basis, and the Central Bank may decide to reduce the amounts being offered.

iv) Mexico

There have not been interruptions in the issuance of government securities, but rather alterations in the types of securities that have been issued. For instance, issuances of Petrobonos were interrupted and new securities began to be issued. These new securities are called CETES or Treasury Certificates.

v) Venezuela

There have been no interruptions of the issuance process per se. In 1998, the government decided to suspend a particular auction because the expected price the government wanted was not offered. It happened apparently due to a wrong "reading" of the market. Later the auction process was restarted.

1 Decree-Law No. 1079/70 (currently revoked by Provisional Measure No. 1.763-65, dated April 8, 1999.)

2 UFs = Unidades de Fomento. The UF is applied to adjust accounting statements and to adjust payment due on debts, real estate, leases, etc. The UF is stated as a fixed quantity of pesos which changes daily to account for the previous month's inflation. On Feb. 25, 2000, the UF stood at 15, 137.61 Chilean pesos or roughly a little over US$ 30.

3 Ley de Convertibilidad, No. 23.928, 1991. This law pegged the peso to the dollar and required the Central Bank to keep all its liabilities basically in foreign currencies. In practice, a small percentage of the Central Bank's liabilities are also represented in public debt securities, deposited at the Central Bank.

4 UF - See above.