The primary objective of financial management is to be able to meet the State’s financial obligations in full and at all times. Liquidity and preserving the value of financial reserves are more important than the return on investments. The State Treasury manages two financial reserves: the Liquidity Reserve that is used for day-to-day cash management and the Stabilisation Reserve Fund for funding any crisis situations.
For debt management, the aim is to keep the cost of servicing the debt as low as possible while ensuring that the risks arising from the debt (primarily interest rate and refinancing risk) are kept at an acceptable level in terms of the State’s short-term and long-term risk-bearing capacity.
The State Treasury can use derivatives such as forwards, futures, swaps and options only for hedging purposes, not for speculative or trading purposes. Futures may only be used for interest rate risk management. It is not permitted to sell (‘write’) options or to trade options. In practice, the State Treasury does not use derivatives (e.g. interest rate swaps for debt management) at present, except FX forwards for short-term exchange risk management
The Government has approved consolidated financial risk management principles for both the financial assets and liabilities of the Ministry of Finance (the document in Estonian).
The fundamental principle is to look at the State’s assets and liabilities together – the so-called ALM (asset-liability management) approach - rather than to have one set of rules for debt management and a separate set of rules for asset management. This results in improved management of the overall financial risks of the State, as well as minimising costs (for instance, by avoiding the situation where one set of transactions are carried out for debt management purposes and an opposite set of transactions are carried out for asset management purposes). The Stabilisation Reserve is not included in this ALM approach as it is not available for day-to-day use.
Benchmarks are used for both the Liquidity Reserve and Stabilisation Reserve Fund in order to measure their investment performance. The benchmark for the Liquidity Reserve is a 1-month Eonia swap rate with monthly fixings. The benchmark for the Stabilisation Reserve Fund is derived from the interest rate of AA- to AAA Eurozone government bonds and short-term deposits, so that with 95% probability during the next twelve months the return of the benchmark is at least 0% (i.e., that the assets do not lose nominal value). In the current negative interest rate environment, the benchmark comprises Eurozone government bonds with a maturity less than a year and money market instruments.
The State Treasury continually manages and monitors its financial risks:
Table: The main risk characteristics of the Liquidity Reserve, the Stabilisation Reserve Fund and the outstanding debt
|Debt Portfolio||Liquidity Reserve||Stabilisation Reserve Fund|
|Amount||3 200 million||3 518 million||1 763 million||1 482 million||432 million||432 million|
|Modified duration||4.51 years||4.85 years||0.04 years||0.16 years||0.65 years||1.22 years|
|Average term to maturity||7.44 years||7.83 years|
|Average interest rate re-fixing period||4.60 years||5.01 years|
|Currency||100% EUR||100% EUR||100% EUR||100% EUR||100% EUR||100% EUR|
|Composition||40% long term loans, 13% Treasury bills and 47% Eurobond||46% long term loans, 11% Treasury bill and 43% Eurobond||11% bonds and 89% cash||6% bonds, 3% deposits and 91% cash||99,95% bonds and 0,05% cash||79% bonds, 5% deposits and 16% cash|