According to the Bank of Botswana (BoB), the key two objectives of the government securities issuance programme are to support the development of the capital market and second to contribute to government budget financing needs.
In the advent of budget deficits in recent years, the latter objective is at the forefront but was made possible and effective by focusing on the first objective at the origin of the issuance programme in 2003. Notably, as an aspect of market development, BoB says the government bond yield curve provides a benchmark reference for other issuers in the market, including the private sector. Moreover, such reference is not limited to bonds but extends to a range of other instruments that exist or that develop as a result of market vibrancy.
Transition towards an effective capital market
BoB’s Head of Communications and Information Services, Dr Seamogano Mosanako, says the transition towards an effective capital market requires two elements, among others. One is increasing the issuance of government bonds in order to achieve sufficient scale to interest a desirable range of investors, generate liquidity and enable efficient price discovery.
The second is regularity of issuance through a transparent calendar (monthly auctions) to enable investment and cash flow planning/liquidity management by investors, an therefore desirable market activity. The number of auctions per annum has been increased from four to 12.
In response to questions from The Business Weekly & Review, Mosanako explains that these attributes also help support transmission of monetary policy impulse across a range of money and capital markets instruments and related maturities. “The resultant efficient pricing of finance and capital, aligned to the policy posture and market conditions, support capital raising and investment activity by the private sector,” she says.
Market liquidity is primarily a function of relativities of growth rates for commercial bank funding (primarily deposits) and assets (primarily loans and advances). Mosanako tells this publication that liquidity will fall if there is persistent lower growth in deposits than in loans and advances and increase if there is persistent higher growth in deposits than loans and advances.
From this perspective, she explains, structural and liquidity trends are fundamentally influenced by strategies and decisions of individual banks with respect to, on the one hand, deposit mobilisation/attracting deposits and, on the other hand, issuance of loans and advances. “Occasional influences on liquidity relate to the inflow and withdrawal of deposits by bank customers,” she adds to supports the explanation further.
Currently in Botswana, the occasional deposit flows are mostly influenced by government payments (for example, for salaries and procurement) and the inflows of export earnings. Withdrawals reflect tax payments and purchases of imports (externally sourced goods and services).
Fluctuations due to these factors Notwithstanding, BoB demonstrates that there continues to be structural excess liquidity in the banking system, fluctuating in the range of P3 billion to P5 billion between 2021 and 2023. This is also reflected in the amount of Bank of Botswana Certificates which she says fluctuated in the range of P2 billion to P3 billion in the same period.
“In the circumstances, there is no liquidity constraint to supporting economic activity by the commercial banks,” says Dr Mosanako. “Also significant is that all banks continue to comply with the prudential requirements such as the statutory liquid asset requirements, maintenance of primary reserve requirements and largely unconstrained settlements.”
Accommodating liquidity needs
BoB has a range of instruments and facilities available to accommodate liquidity needs of individual banks and the banking system broadly. In addition to the Primary Reserve Requirement that addresses longer term structural liquidity developments or policy posture, these include the Standing Credit Facility (SCF) to enable commercial banks to access unlimited funding from BoB at their own discretion, and the Credit Facility (CF) to accommodate settlement in the event of unexpected shortage at the end of the day.
Notably, Mosanako observes that the usage of the SCF and CF by commercial banks has been minimal, which is an indication that liquidity is adequate. Conversely, the use of the Standing Deposit Facility (SDF), which enables commercial banks to place excess liquidity overnight with the Bank of Botswana, averaged P1.5 billion daily since its introduction in April 2022, which is also indicative of prevalence of liquidity.
“It is further worth observing that while currently used to address excess liquidity, the Bank of Botswana Certificates, as a monetary operations instrument, can also be used to address structural liquidity shortages (to inject liquidity) alongside the other instruments just mentioned,” Mosanako says.
Moreover, the interbank market also plays a key role in redistributing liquidity among banks, as individual banks that are short of liquidity can borrow from banks that are long. Following the monetary operations reforms in April 2022, Mosanako says there has been increased vibrancy of the interbank market, thus facilitating liquidity management by individual banks and its redistribution across the market and forestalling any constraints.
Developing capital markets
As Dr Mosanako indicated, the primary objective of the government bond issuance is to develop the capital market, including attracting a range of both domestic and foreign participants, as well as inducing issuance of securities by the private sector.
In the circumstances, regional and global market conditions are such that in addition to the recent increase in policy rates, the nominal yields for government securities have increased over the past few years towards the levels of other frontier markets in the region, in the process attracting investors. The government bond yield curve has shifted upwards dramatically over the past five years. For instance, the 2013 bond was c. 5 percent in 2019, but it is currently at 8.55 percent.
What does this imply for the fiscus position?
“The impact of the increase in bond yields on the government fiscus will be inevitably elevated cost,” Dr Mosanako responds. However, she points out that this reflects the overall market cost of funds and should be compared to alternatives such as the cost of direct foreign borrowing and the opportunity cost of withdrawal of savings to fund government operations. “Related thereto, the Government’s Medium Term Debt Management Strategy indicates the need to rebalance the debt portfolio by borrowing more locally than externally to minimise the risk exposure (interest rates and exchange rates),” she says.
Foreign denominated debt
The Pula has been depreciating versus the USD, from c. P4 in 2013 (5.6 percent CAGR) and c. P8 in 2013 (5 percent CAGR) to c. P13 currently. What are the implications of continuing to add on USD-denominated debt when the long term trend suggests that repayment will be expensive for future generations?
Mosanako answers that consistent with the strategy, private bilateral foreign-denominated debt is generally being minimised with preference for borrowing from multilateral international organisations and governments at concessional and lower interest rates. “This is in recognition that there continues to be a need to access foreign currencies import intensity of the Botswana economy,” she says ,adding that the work towards having a single Central Securities Depository (CSD) is progressing well, managed by the Botswana Stock Exchange.
Shallow and muted secondary market
But how much progress has been made in getting government bonds to trade on the BSE alongside private bonds, and why is secondary trading of bonds so shallow? Dr Mosanako explains that the bond market is dominated by institutional investors that tend to invest long term and maintain a “buy and hold” strategy and, therefore, limiting secondary market activity. Consequently, she cautions that in the absence of deliberate interventions and initiatives, the bond market could remain illiquid and underdeveloped and, therefore, less effective in its role.
Measures in place to improve the situation
To help develop the secondary market and improve liquidity, she says, the bank – together with other stakeholders such as the Ministry of Finance (MoF) – is engaging in reforms in the bond market. “These include introduction of bond buybacks and switch auctions to help the government manage cash flow and support liquidity of government securities in the secondary market,” she explains.
For investors, she believes the operation will facilitate continuous access to securities of various maturities that match their needs, thus obviating the need to “buy and hold”. There is also work towards introducing Inflation Linked Bonds (ILBs) to help diversify instruments offered in the market. Overall, BoB expects that these initiatives, including adequacy of infrastructure such as the Central Securities Depository, will help develop the domestic capital market.
With regard to the inflows of pension funds into Botswana, BoB says the transition to ultimate compliance with the new Retirement Funds Act will be phased over five years. Therefore, the position of the central bank is that the gradual inflows that are also expected to be dedicated to specific investments (in the spirit of the new law to support vibrancy of the domestic economy) are unlikely to adversely impact the market and generate asset bubbles, which could occur if the flows were bulky transfers within a short period.
“In addition, the government securities and private issuances offer opportunity for investors to deploy these funds, together with other investment avenues in the market,” says Mosanako, adding that MoF and other stakeholders continue to explore ways to develop the capital markets and introduce reforms where necessary.
“Infrastructure bonds could also be considered to deploy funds from the change in the pension funds rules. In this regard, initiatives to gauge market interest continue to be explored.”