Treasury Operations In Turkey and Contemporary Sovereign Treasury Management

By Dr. M Coskun Cangöz and Dr. Emre Balibek

This book has an overall approach to cover treasury operations and aims to provide a comprehensive overview on Turkey's transformation after the 2001 crisis. In the last decade, Turkey showed a strong performance and was shown as the benchmark country in Europe in World Bank’s “Golden Growth: Restoring the luster of European Economic Model” report. This book not only covers the Turkey's treasury management experience, but also asserts that the definition and the scope of the treasury operations have changed. Treasury management now involves treasury guarantees, public private partnership projects, non-guaranteed public liabilities and other contingent liabilities, financial receivables and even risk management. The focus of treasury management should cover all financial assets and liabilities within an integrated balance sheet approach. Each article in this book covers a different aspect of new treasury management and constitutes a sub-title of the headline both in terms of content and its order in the book.

• Language: English
• Publisher: Lulu.com
• Release date: Mar 28, 2013
• ISBN: 9781300881056

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Treasury Operations In Turkey and Contemporary Sovereign Treasury Management

Treasury Operations In Turkey and Contemporary Sovereign Treasury Management

© Dr. M. Coskun Cangoz and Dr. Emre Balibek, 2013

All rights reserved. No part of this book may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic or mechanical, or photocopying, recording, or otherwise without the prior permission of the authors.

ISBN # 978-1-300-88105-6

Foreword

The development of financial markets due to globalization and the increase in the interlinks between these markets, led the authorities in charge of public financial management all over the world to improve efficiency of the political instruments under their possession in such accelerating and complicated conditions. As a matter of fact, the global crisis which started in 2008, have in a way tested the constitution and execution of economic and fiscal policies and it was monitored that many countries which were considered to be successfully managed before the crisis, had not completed structural arrangements and achieved sufficient flexibility of in their policies.

In Turkey, on the other hand, public financial management has gone through a remarkable change following the crisis experienced in 2001. One of the most important steps taken within this scope was in the area of Treasury management. Extensive reform projects were carried out not only for public debt management, but also for each one of the treasury operations. Within this context, it was aimed to change business mentality in order to achieve market friendly policy development and flexibility in decision-making and implementation, along with targeting to strengthen technical and managing capacities. In this regard, this book not only informs the reader pertaining to the capacity improvement achieved in the past decade, but also evaluates contemporary Treasury management.  These issues are discussed comprehensively under several topics to explain where they stand within the general framework. It examines to what extent theory and application covers each other, via the experience of Turkey. 

I hope that this editorial work will make a significant contribution to the public finance literature in our country, where there are only a limited number of academic studies on Treasury operations; and provide a leading role for new studies in this field.

Ibrahim H. Canakci

Undersecretary

Turkish Treasury

Introduction

Treasuries have always been an integral part of the state organization in history. In this regard, it is emphasized at Turkish Treasury’s website that its roots go back to 13th century, to the time of Mehmet II of the Ottoman Empire. Besides, although treasuries are as old as the state institution; their main function of balancing incomes and expenditures both in terms of timing and location did not change significantly until today. Therefore, treasuries preserve public money, transfer where it is required and borrow in order to remove imbalances between inflows and outflows of funds. In short, cash management and debt management operations, that the treasury conducts, form the treasury operations.

In Turkey, General Directorate of Public Finance is responsible for treasury operations in accordance with Law no 4059 on the Organization and Duties of the Undersecretariat of Treasury. However, the definition of treasury operations is not clearly set neither in Law no 4059 and nor in Law no 4749 which was enacted in 2002 to regulate public finance and debt management operations.

In line with the changing structure of the state and international financial system, theoretical framework of treasury operations has shown some changes during the last two decades. Accordingly, the scope of treasury operations widened, more sophisticated financial instruments became a part of debt management practices and risk management techniques were much applied. Especially after the enactment of Law no 4749, Turkey showed one of the strongest performances during this transformation process in the World. As a result Turkey was selected as the benchmark country for reducing public debt in Europe in World Bank’s Golden Growth: Restoring the luster of European Economic Model report. On the other side, the performance achieved in debt management is only a part of a wider transformation effort, which includes cash management, contingent liabilities and financial receivables management. However, public awareness is weak about Turkey’s capacity for building efforts in treasury operations because of the limited number of publications. Consequently, Treasury Operations in Turkey and Contemporary Sovereign Treasury Management is written to contribute in this field. Besides, even it is an editorial book Treasury Operations in Turkey and Contemporary Sovereign Treasury Management has an overall approach to cover every single part of treasury operations and aims to provide a comprehensive overview to the reader to understand how legal and operational structures transformed following the 2001 crisis in Turkey. Therefore, every article in the book constitutes a sub-title of the headline both in terms of content and its order in the book.

First three articles discuss public debt management, its interaction with macroeconomic policies and systemic risk phenomenon in general. The following three studies cover the risk management practices of Turkish Treasury. Seventh and eighth articles argue the general framework of domestic and external debt from the historical perspective and recent risk analysis based debt management approach. Later, as the second pier of treasury operations, cash management practices of Turkey are explored in the ninth article. Management of financial receivables of Treasury, which occurs due to the guarantees and advance loans, is another section of the book. Final two articles are on the operational risk and accounting practices in treasury operations as a whole.

Considering its coverage and focus specifically on the treasury management, I wish that the Treasury Operations and Contemporary Treasury Management would be useful to all academicians and practitioners, as being a frontier study in this area.

I would like to express my sincere gratitude to all of the authors for their faith and effort; Dr. Emre Balibek who is also my deputy, to share the burden of editorial responsibility with me without any hesitation and Mr. İbrahim Canakci, Undersecretary of Turkish Treasury, for supporting us while building capacity and permitting us to share this experience through this book.

Besides, we are grateful to World Bank and personally Ms. Kamer Ozdemir and Ms. Cigdem Aslan for their support to publish this book in English. I believe this is a significant contribution to increase awareness in international arena on Turkey’s practices in treasury management.

Even it is impossible to express how grateful we are, I would like to thank all the staff that worked at the General Directorate of Public Finance at any level and at any time since its establishment. We could not be in a position to write this book without the strong tradition, which they developed and the openness for change in the minds of Public Finance staff.

Finally, it is for sure that the views expressed in this book are authors own and they do not necessarily reflect the opinions of the Undersecretariat of Turkish Treasury.

Dr. M. Coskun Cangoz

October 2012

Table of Contents

Foreword

Introduction

General Framework of Public Debt Management: New Trends and Reflections On Turkey

1. Introduction

2. The Changing Structure of Debt Management and Basic Principles

2.1. Effects of Economic and Financial Conditions On Debt Management

2.2. Organizational Structure of New Debt Management

2.3. Basic Principles of Public Debt Management

3. Public Debt Management In Turkey: Reforms After the 2001 Crisis

3.1. Legal Infrastructure

3.2 Institutional Framework

3.3 Capacity Building In Active Debt Management

4. Conclusion

Interaction of Debt Management With Monetary and Fiscal Policies

1. Introduction

2. Budget Policy and Debt Management

3. Monetary Policy and Debt Management

4. Conclusion

Neutrality of Debt Management Policies In Turkey

1. Overview

2. The Last Paradigm of Economic Decision Making

3. The Endogeneity of Debt Management

4. Empirical Work

5. Conclusion

Sustainability and Sensitivity of Public Debt

1. Introduction

2. Methods

2.1 Methods for Sustainability Analyses

2.2. Methods for Sensitivity Analyses

3. Significance of Debt Sustainability

4. Sustainability and Sensitivity Analyses

4.1. Sustainability Analysis

4.2. Sensitivity Analyses

5. Conclusion

Systemic Risk: What It Means for Public Debt Management?

1. Introduction

2. Systemic Risk: Definition and Factors

3. 2001 Turkish Banking Crisis from the Systemic Risk Perspective

3.1. Problems of the Banking Sector Before the Crisis

3.2 Public Banks

3.3 The Crisis and Its Impacts

4. Supervision of Systemic Risks: Steps In the Aftermath of the Global Financial Crisis

5. Conclusion

Asset Liability Management Approach

1. Conceptual Framework

2. Application of the ALM Approach In Public Sector

3. Turkish Case

4. Conclusion

Market Risk Management: Strategic Benchmarking

1. Introduction

2. Cost-At-Risk Approach

2.1. Country Cases

2.2 Turkish Case

3. Strategic Benchmarks and Performance Measurement Function of Strategic Benchmarks

3.1 Setting the Strategic Benchmarks

3.2 Strategic Benchmark Indicators

3.3 Monitoring Strategic Benchmarks and Performance Measurement

4. The Effects of the Strategic Benchmarking Policy On the Risk Profile of Public Debt Portfolio

5. Conclusion

Credit Risk Management

1. Introduction

2. Credit Risk In Public Debt Management: International Practices

2.1 Sources of Credit Risk

2.2 Management of Credit Risk

3. Credit Risk Management Within the Scope of Debt Management In Turkey

3.1. Legal Basis

3.2. Measures Used In Credit Risk Management

3.3. Credit Risk Valuation Methods

4. Conclusion

Development of Domestic Debt Market Within the Framework of Public Debt Management

1. Introduction

2. Primary Markets

2.1. Borrowing Mechanisms

3. Secondary Markets

3.1. Liquidity

4. The History of Domestic Borrowing In Turkey

4.1. 1980-2000 Period

4.2. 2001 Crisis and the Aftermath

5. Conclusion

External Debt Management

1. Introduction

2. External Debt: Description and Theoretical Framework

3. Development of External Debt In Turkey

3.1 Legal and Institutional Infrastructure

3.2. Borrowing Strategies

4. Conclusion

Moving Towards a Modern Cash Management: The Turkish Experience

1. Introduction

2. Treasury Cash Management

3. Cash Management In Turkey

4. Conclusion

Treasury Receivables In the Context of Asset Management Perspective

1. Introduction

2. Effective Asset Management

3. Financial Assets and Treasury Receivables

3.1. Receivables Arising from Borrowing Operations

3.2. Receivables Originating from Non-Borrowing Operations

4. Receivables In the Treasury Balance Sheet

5. Management of Treasury Receivables

5.1.Treasury Receivables As a Public Claim

5.2. External Debt Repayment Account

5.3. Restructuring Treasury Receivables

6. Collection Types of Treasury Receivables

6.1. Cash Collection

6.2. Non-Cash Collection

6.3. Write-Off

7. Conclusion

Operational Risk Management of Treasury Operations

1. What Is Operational Risk?

2. Operational Risks In Public Debt Management

2.1. Objective

2.2. Method

3. Operational Risk Management In Treasury Operations: Turkish Case

3.1. Operational Risk Management Process

3.2. Technical Infrastructure of Operational Risk Management

4. Conclusion

Accounting and Reporting In Debt Management

1. Introduction

2. Accounting and Reporting In Accordance With International Standards

3. Problems In Accounting and Statistics In Debt Management In Turkey

3.1. Guaranteed Debt

3.2. Quasi-Fiscal Activities and Non-Cash Securities

3.3. Accounting System

4. Developments In the Accounting of Treasury Operations

5. Developments In Statistics and Reporting of Treasury Operations

6. Conclusion

Editors

Authors

General Framework of Public Debt Management: New Trends and Reflections On Turkey

Dr. M. Coskun Cangoz

Dr. Emre Balibek

Abstract

Public debt was accepted as an extraordinary and exceptional financing tool by the classical fiscal theory. However, in recent years, as an integrated part of Treasury operations, it is perceived as a tool to develop financial markets, to regulate capital movements and to determine risk-free rate, in addition to its classical function to finance budget deficits. Since 90s, many developed and developing countries have changed the legal and institutional framework of public debt management. After 2001 crisis Turkey not only reformed debt management but also reviewed and renewed all Treasury operations as a whole.

Key Words: debt management, cash management, risk management, Treasury operations, Treasury guarantees, Treasury receivables

1. Introduction

In the classical fiscal theory, the prevalent views are that budget consists of revenues and expenditures and from the budget equivalence principle point of view, debt is a temporary source of financing in case of the deterioration of the budget balance due to war, economic crisis and similar reasons. While according to Tobin, borrowing is a tool for macroeconomic stability (Wolswijk and Haan, 2005, quoted in Caskurlu 2008:31); Barro (1999) suggests that borrowing should be solely allowed to prevent the formation of the tax rates in a manner that negatively affects the welfare during one period. In order to support their thesis, the proponents of the view that borrowing is done in order to avoid deterioration of welfare state that the main reasons of the increasing debt level of U.S. are the War of 1812, civil war, the First and Second World Wars and the Great Depression of 1929 (Elmendorf and Mankiw, 1998). According to the classical theory, borrowing is nothing different from collecting the tax revenues of the coming years to the year which borrowing contract is made. As a matter of fact, payment of debt principal and interest (debt service) can be possible by increasing existing taxes, levying new taxes or decreasing expenditures. In this context, borrowing is a kind of resource transfer from future generations. Moreover, borrowing which aims to cover the public finance deficit results in relatively inefficient use of resources by public sector, but these resources can be used in more productive investments by private sector. This approach, which has negative view about borrowing, defines it as an extraordinary and exceptional situation (Turk, 2010:261). However, as a result of the reflection of neo-liberal policies introduced after 1980 budget deficits have become permanent. Accordingly, borrowing has appeared as an ordinary financing method and matters regarding the sustainability of public debt have started to come into question.

Today, Treasury operations are re-defined in line with their roles in public resource allocation and in resource creation for sustainable growth rather than solely taking into consideration their role in the provision of funds in terms of time and place. As a result of the re-definition of Treasury operations, borrowing is no longer seen as merely a tool for balancing public revenues and expenses. In this respect, it is not possible to define the Treasury operations solely as a cash rationing process, which is carried out depending on allocation of allowances, and as a borrowing operation, which enables to offset the cash deficit. Therefore, within the scope of public finance transactions, which are an element of Treasury operations, the aim of financing the cash deficits solely by borrowing at the lowest cost and in the possible shortest maturity has lost its validity. For instance, in many countries with developed domestic debt markets, foreign borrowing is used for the purpose of regulating the inflows of foreign exchange denominated funds, and hence for balancing the capital account of balance of payment. On the other hand, even in the countries with structural budget surpluses, domestic borrowing is pursued in order to determine the risk-free borrowing rates and to ensure the efficient asset pricing mechanism in financial markets. According to this new approach, which has arisen along with an increase in securitization and deepening of financial markets, government should not be in a structure that solely gets temporary funds to bridge the financial gap. Instead, government should permanently take place in the financial markets and should take an active role to ensure the efficiency of markets by determining the amount and features of the securities to be issued, by switching existing securities with others when it is needed and by buying-back the securities before their maturities.

Significant differences in the approaches related to borrowing have also affected cash management that is another element of Treasury operations. Along with moving away from the mentality that borrowing is a temporary financing tool, the integration between debt management and cash management has become a necessity. In addition, rather than traditional cash rationing approach, long term cash flow planning and effective management of cash movements have been required.

Today, public borrowing can also support the aim of accessing cheaper capital by public or private institutions. In this context, public debts can be allocated to different users through transfer loans. Furthermore, if resource allocation is not done directly, these institutions can be provided with credit in more appropriate conditions by giving them state guarantee. These tools, which are used in debt management, require the public finance authority to not only observe the obligations but also effectively manage both sides of balance sheet like an investment bank. Thus, the balance sheet approach constitutes the contemporary Treasury management’s main framework. The balance sheet approach consists of managing the government’s assets and liabilities as a whole rather than only debts, taking into consideration the counterparty risks along with market risks and measuring total financing costs by taking account of the aforementioned risks. In this way, beyond a bureaucratic public service Treasury management has turned into a technical financial service.

2. The Changing Structure of Debt Management and Basic Principles

Until the 90s, public debt management was defined solely as operations such as borrowing, regular payment of interest expenses regarding borrowing, buying-back and switching of government bonds with the aim of price stability in the secondary market of government bonds and debt consolidation (Turk, 2010:318-328). However, today public debt management is defined as the process of establishing and executing a strategy for managing the government’s debt towards specified objectives (International Monetary Fund and World Bank 2003:5). Although priorities and scopes may change in each country, elements such as taking into account of cost and risk objectives, improving the efficiency and liquidity of the borrowing markets and ensuring compliance with monetary and fiscal policies are part of these purposes.

In many economies, public debt constitutes the biggest financial portfolio of the country. Therefore, effective management of public debt has importance in terms of the stability of both public finances and the general economic equilibrium. As a matter of fact, in the last two decades a large number of financial crises occurred or exacerbated due to unhealthy structure of public borrowing (Mexico-1994, Turkey-1994, Russia-1998, Argentina-2001, Global Financial Crisis-2008 and beyond).

Experiences from these crises underline that the level of debt, as well as the structure of debt are important in terms of the sustainability of public debt. Debt authorities should effectively manage the portfolio structure, which includes factors such as maturity, foreign exchange and variety of instruments. As a result, the changes in economic and financial frameworks and the increased diversification of financial instruments due to deepening of financial markets have led to structural transformation of debt offices that is compatible with these new conditions.

2.1. Effects of Economic and Financial Conditions On Debt Management

In the 70s together with gradually increasing welfare state practices in numerous countries, public expenditures and budget deficits increased, due to population aging and decline in growth rates. Accordingly, a significant increase was seen in the level of public debt. As a result of widespread neo-liberal policies since the 80s, governments started to transfer functions they directly undertook in the economy to the private sector via privatization and deregulation practices. On the other side, governments endeavored to establish more flexible and efficient financial management structures in order to adapt to the new conditions that arose with globalization. In this context, in the last two decades most countries, especially developed countries, have modernized their public debt management and have taken several steps in the improvement of the legal framework, in the revision of the organizational structure and in the adopting of a strategic aspect.

During this period, first in the 80s, especially in developed countries budget deficits and public debt rose as a result of high interest rates and low growth rates (Dornbusch and Draghi: 1-2). As a matter of fact, in 90s the ratio of public debt to GDP exceeded 100% in Ireland, Belgium and Italy and reached to 80% in Sweden and Denmark. In this period when public deficit could be financed by central bank sources, rising public debt levels brought about concerns on the course of inflation. Then, redefinition of institutional responsibilities was considered so as to cope with this problem. In the process of ensuring the independence of the central bank, certain regulations were enacted, such as the Maastricht Treaty, in order to prevent public debt reduction via seigniorage. Thus, borrowing from the markets became the only option for the public debt authorities. Elimination of concerns regarding the high level of public debt became the main political priority. Therefore, fiscal rules were put into practice. European Monetary Union’s targets of 60% and 3% regarding the levels of government debt and government deficit, respectively, arose in this period. In New Zealand Fiscal Responsibility Act was also adopted in this context (Curie et al., 2003).

The worldwide integration financial markets due to the neo-liberal policies, and an increase in investment alternatives in local currency in different markets due to the increasing capital mobility resulting from developing communication infrastructure, are important factors affecting the transformation of public debt management. At the same time, since capital owners who pursued higher and consistent returns took into consideration the levels of public debt as well as structure of public debt, the structure of debt management was required to be re-considered. In addition, sudden inflows and outflows in the market due to high sensitivity of investors to economic and financial circumstances and some speculative movements, which were seen occasionally, led to the restructuring of the debt management. As a result of these events, which arose on national and international scale, the scope, the objectives, the legal framework and the operational structure of public debt management were re-evaluated in numerous countries. The new structure of the debt management has aimed to reduce the financial risks of public debt systematically via effective management and thus to prevent the potential shocks.

2.2. Organizational Structure of New Debt Management

Pioneers of the transformation of the public debt management have been certain countries including New Zealand, Sweden, Denmark and Ireland. In order to make the debt management more functional, New Zealand Debt Management Office which was established in 1988 and Irish National Treasury Management Agent which was established in 1990 firstly carried out debt-restructuring reforms. This restructuring process initially began with the adaptation of the private sector portfolio management practices to public sector. In order to provide the operational flexibility, countries such as Ireland, Sweden, Denmark, and England established autonomous debt offices outside the central government bodies. Thus, creation of faster decision-making and implementation mechanisms, minimization of political influences, employment of qualified personnel and inclusion of complicated financial instruments like derivatives into the instruments of debt management were targeted. In the countries, which did not adopt the structure of autonomous debt management office, steps were taken to enhance the effectiveness of debt management organizations, albeit within the central government. For instance, in Italy with the legal regulation made in 1998, debt management unit was established within the body of Ministry of Finance. Additionally, in France in 2001 the French Treasury Agency was established under the Ministry of the Economy, Industry and Employment.

The change in the public debt management field has been one of the important agenda items in the developing countries, as well, after the financial crises arising in the second half of the 90s. In this context, Hungary and Brazil brought about improvement by revising their debt management processes.

In late 90s and early 2000s, various countries improved public debt management not only for an active management of liabilities but also as a part of the execution the public policies. In this context, priorities of the overall costs and the risks of the public have been considered within the framework of the asset-liability approach. In addition, public assets and contingent liabilities have started to enter into the area of responsibility of the debt management. The New Zealand Debt Management Office which have undertaken overall financial management of the balance sheet of the public