i. public debt management strategy for the period … cir/2015-2017...i. public debt management...

I. Public Debt Management Strategy for the Period 2015 to 2017

According to the Public Debt Law, the legal basis for the borrowing of the Republic of Serbia, the

public debt incorporates1:

o debt of the Republic arising from the contracts concluded by the Republic;

o debt of the Republic based on securities;

o debt of the Republic based on the contract or agreement which rescheduled the liabilities the Republic had assumed pursuant to previously concluded contracts, as well as on securities issued by special laws;

o debt of the Republic based on the guaranty issued by the Republic, or on directly assuming the liabilities in the capacity of a debtor of the debt, based on the issued guaranty, or on a counter-guaranty issued by the Republic;

o debt of local government or legal entities founded by the Republic, and which the Republic guaranteed for.

The law allows borrowing in the country and abroad, i.e. in the domestic and foreign market. The

Republic may borrow in domestic and foreign currency, in order to finance budget deficit and current

liquidity ratio deficit, to refinance an outstanding debt, to finance investment projects, as well as to

assume liabilities based on the issued guaranties. Based on Article 9 of the Law on Deposit Insurance

Agency, the Republic may borrow to cover potential loss with commercial banks.

Article 13 of the Public Debt Law indicates that public debt shall be an unconditional and absolute

obligation of the Republic of Serbia in regard to the repayment of the principal, the interest and the

remaining costs. Public debt repayment shall have permanent appropriation in the budget of the

Republic of Serbia, and priority over other public expenditures determined by the law which

regulates the budget of the Republic of Serbia.

The Law on Budget System defines the general fiscal rules, according to which the general state debt

should not exceed 45% of the gross domestic product, not including the liabilities based on

restitution. This Provision of the Law produced a positive reaction among the international financial

institutions, since Serbia had limited the public debt to a very low GDP share. It is important to

mention that, according to the Maastricht criteria, general government debt shall include the local

government debt, but not the total amount of guaranties issued by the Government. Were we to

apply this methodology, stock of the public debt of the Republic of Serbia would be lower than it is

with the current methodology. The same Law defines that, if the debt exceeds 45% of the GDP, the

Government is obligated to adopt and apply the measures to restore to the framework defined by the

Law.

The Law on Public Debt founded a Public Debt Administration, as an authority within the Ministry of

Finance, and defined its authority and organization in order to record and manage the public debt of

the Republic of Serbia.

1 For the purpose of this strategy, public debt stock of central government was added non-guaranteed liabilities of local government unities, as well as non-guaranteed liabilities of Development Fund of the Republic of Serbia, and of the public enterprise “Putevi Srbije” (a method defined by the Law on Public Debt).

1. Public Debt Balance and Structure from the End of 2011 to October 2014

According to the records of the Ministry of Finance, i.e. the Public Debt Administration, the public

debt of the Republic of Serbia includes all the direct liabilities of the Republic, based on the

borrowings, as well as on the public enterprises’ and local governments’ borrowings for which the

Republic has issued a guaranty. The Republic of Serbia’s public debt is classified into direct and

indirect liabilities, i.e. liabilities of and on behalf of the Republic and the liabilities arising from the

guaranties issued by the Republic for other legal entities. Further categorization of direct and

indirect liabilities is as internal and external debt, depending on whether they arose from borrowing

in the domestic or international market.

At the end of 2000, the total public debt of the Republic of Serbia was 201.2% of GDP. With the rise of

the gross domestic product, regular servicing of the public debt, budget deficit decline, partial write-

off of Paris and London Clubs debt, as well as other factors, the public debt-GDP ratio has decreased

to 28.3% in 2008. Due to the negative effects of the world financial crisis on the domestic economy,

the Republic of Serbia has increased its borrowing in order to finance the budget deficit, in the period

between 2009 and 2014. The following graph shows changes of the public debt of the Republic of

Serbia as a share of GDP in percentage, in the period between the end of 2011 and October 31, 2014:

Graph 16. Public debt as a share of GDP in percentage

Budget deficit growth, low real GDP growth rate, and depreciation of Dinar against other foreign

currencies in which Serbian debt is denominated, have caused public debt level increase in the last

four years, which exceeds the limit established by the Budget System Law. At the end of 2013 the

38,9%

48,0% 51,2%

60,3%

6,5%

8,2% 8,4%

7,8%

2,0%

1,8%

1,5%

1,5%

0%

10%

20%

30%

40%

50%

60%

70%

80%

2011 2012 2013 2014/X

Non-Guaranteed debt of Local Government Units, Development Fund and PE "Putevi Srbije"

Indirect Liabilities

Direct Liabilities

total amount of Serbia’s public debt was RSD 2,369.0 billion, which represents a growth in respect to

the end of 2012, when it was RSD 2,081.3 billion. The public debt at the end of 2013 was 61.1% GDP.2

Compared to 2012, internal public debt has significantly increased in 2013, from RSD 863.0

billion to RSD 948.4 billion. External debt has risen from RSD 1,218.3 billion to RSD 1,420.7 billion in

2013. Direct liabilities of the Republic of Serbia in 2012 amounted RSD 1,719.1 billion, and have

increased to RSD 1,983.2 in the following year. Furthermore, indirect liabilities have risen as well,

from RSD 295.7 billion in 2012 to RSD 325.8 billion in 2013.

At the end of October 2014 the total debt stock was RSD 2,700.4 billion, i.e. 69.5% GDP.3 That

includes RSD 2,341.9 billion of direct liabilities and RSD 303.0 of indirect liabilities, RSD 53.2 billion

of non-guaranteed local government units’ debt, and RSD 2.3 billion of non-guaranteed debt of the

Serbian Development Fund (hereinafter referred to as Development Fund) and of the public

enterprise “Putevi Srbije”. Domestic direct liabilities were RSD 961.2 billion, and external direct

liabilities RSD 1,380.7 billion. Indirect liabilities included internal debt of RSD 82.1 billion, and

external of RSD 220.9 billion. Categorizing the total debt as internal and external public debt, the

amounts were RSD 1,084.1 billion and RSD 1,616.3 billion, respectively.

The following table represents the internal and external debt stock (absolute and relative) at the

end of the year, in the period between the end of 2011 and October 2014. Apart from that, the data

about the internal and external debts’ share in the GDP are shown. Furthermore, it shows the

absolute stock and relative share in the GDP of direct and indirect liabilities of the Republic of Serbia,

as well as of non-guaranteed liabilities of local government units, Development Fund and the PE

“Putevi Srbije”:

Table 15. Internal and external debt in the period between the end of 2011 and October 31,

2014

2011 2012 2013 2014/X

In RSD million

Public Debt 1,614.2 2,081.3 2,369.0 2,700.4

Internal Public Debt 662.9 863.0 948.4 1,084.1

External Public Debt 951.3 1,218.3 1,420.7 1,616.3

Out of which Central Government: 1,547.5 2,014.8 2,309.0 2,644.9


External Public Debt 922.1 1,193.9 1,402.0 1,601.6

As % of GDP

Public Debt 47.4 58.1 61.1 69.5

Internal Public Debt 19.5 24.1 24.5 27.9

Out of which Central Government: 27.9 34.0 36.6 41.6


External Public Debt 18.3 22.9 23.4 26.9

Out of which Central Government: 27.1 33.3 36.2 41.2

2 Including the non-guaranteed debt of the local government units, as well of the Development Fund and the PE "Putevi Srbije". 3 GDP estimated using ESA 2010 methodology – GDP estimated to be RSD 3,884.0 billion in 2014.

Table 16. Direct and Indirect liabilities in the period 2011 – October 31, 2014

2011 2012 2013 2014/X

In RSD billion

Public Debt 1,614.2 2.081.3 2,369.0 2,700.4

Direct Liabilities, out of which: 1,326.8 1.719.1 1,983.2 2,341.9


External Public Debt 757.4 980.4 1,174.5 1,380.7

Indirect Liabilities, out of which: 220.7 295.7 325.8 303.0



Liabilities of the Local Government Units 53.4 54.2 54.4 53.2

(not guaranteed by the Government)



Liabilities of the Development Fund and PE “Putevi Srbije”

(non-guaranteed) 1.3 12.3 5.6 2.3



As % of GDP

Public Debt 47.4 58.1 61.1 69.5

Direct Liabilities, out of which: 38.9 48.0 51.2 60.3



Indirect Liabilities, out of which: 6.5 8.2 8.4 7.8





Спољни јавни дуг 0.6 0.5 0.4 0.4

Liabilities of the Development Fund and the PE “Putevi Srbije”

(non-guaranteed) 0.4 0.3 0.1 0.1



Internal Public Debt

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

the Republic of Serbia to the domestic investors and loaners. On October 31, 2014 the internal public

debt was RSD 961.2 billion of direct liabilities and RSD 82.1 billion of indirect liabilities. Total

amount of internal public debt of the Republic of Serbia, including the non-guaranteed liabilities of

the local government (RSD 38.5 billion) and non-guaranteed debt of the Development Fund and PE

“Putevi Srbije” (RSD 2.3 billion) was RSD 1,804.1 billion. The following table represents the internal

public debt of Serbia’s structure on December 31, 2011 through 2013 and on October 31, 2014:

Table 17. Structure of the internal debt in the period 2011 – October 31, 2014.

2011 2012 2013 2014/X

In RSD billion


Government Securities, out of which: 526.2 691.3 771.7 932.8

Government Records and Bonds 302.0 478.1 589.0 778.3

Old Foreign Currency Savings Bonds 223.4 212.3 181.8 153.6

Economic Recovery Loan 0.8 0.9 0.9 0.9

The Rest 99.2 129.6 135.3 110.5

Non-guaranteed Local Government Units Liabilities 31.0 37.2 38.6 38.5

Non-guaranteed Development Fund and PE “Putevi Srbije”

liabilities

6.5 4.9 2.8 2.3

In 2003 the Government issued the first securities, of three and six months of maturity. Due to a large

inflow based on the privatization revenue, and relatively balanced primary fiscal result in the period

2005-2008, the Government did not issue securities in this period; therefore the amount of state

securities was relatively low towards the end of 2008. During the last five years, securities of different

maturities were issued, and RSD yield curve for securities of maturity ranging from three months to

ten years was created. Table18. shows the stock of state securities at the end of 2011, 2012, and

2013, and on October 31, 2014:

Table 18. Debt Stock by Government securities in the period 2011-October 31, 2014

2011 2012 2013 2014/X

Instrument Type % In RSD

billion %

In RSD

billion %

In RSD

billion %

In RSD

billion

Government Bills 3M 1.3 4.0 1.4 6.9 1.0 6.1 0.8 6.2

Government Bills 6М 9.0 27.1 4.5 21.8 1.5 9.0 0.8 6.4

Government Bills 6М

Euro Indexed

Government Bills 12М 3.3 10.0

Government Bills 53W 28.1 84.8 20.1 96.1 17.7 104.5 12.2 94.9

Government Bills 53W EUR 6.9 20.9 4.9 23.3 4.2 24.6 4.7 36.7

Government Bills 18М 21.2 64.1 15.4 73.5 4.5 26.5 - -

Government Bills 18М EUR 5.2 15.7 10.1 48.2 1.5 8.6 - -

Government Bills 24М 13.2 39.9 13.6 65.0 5.1 30.1 0.5 4.2

Government Bonds 2Y

1.4 6.7 5.7 33.8 9.2 71.2

Amortized

Government Bonds 2Y

- 11.9 69.8 14.7 114.2

Government Bonds 2Y ЕUR

2.7 12.7 9.2 54.0 10.3 79.7

Government Bonds 3Y 4.7 14.2 16.0 76.5 23.9 140.5 23.7 184.3

Government Bonds 3Y

2.3 10.9 1.1 6.7 0.5 4.2

Inflation-Indexed

Government Bonds 3Y ЕUR 2.1 6.2 1.4 6.7 3.1 18.4 4.6 35.9

Government Bonds 5Y

1.7 8.2 3.4 19.8 4.6 36.0

Government Bonds 5Y EUR

2.2 12.9 3.7 28.9

Government Bonds 7Y

1.2 7.1 4.8 37.2

Government Bonds 10Y

1.2 9.3


1.1 5.2

Inflation-Indexed

Government Bonds 10Y EUR

1.5 11.8

Government Bonds 15Y EUR 5.0 15.1 3.4 16.4 2.8 16.6 2.2 17.2

In total 100.0 302.0 100.0 478.1 100.0 589.0 100.0 778.3

Throughout 2011, the debt based on Government securities has increased and reached RSD 178.3

billion at the year-end. In order to develop the domestic capital market, in March 2010 Public Debt

Administration of the Ministry of Finance issued the first 18-month and 24-month Government bills.

In February 2011 Public Debt Administration of the Ministry of Finance issued 15-year, euro-

denominated coupon rate bond, as well as 53-week EUR Government bill, and the first 3-year dinar-

denominated coupon rate bond. In June 2011 the first 3-year euro-denominated bond was issued in

domestic market, and in July 2011 an 18-month euro-denominated T-bill.

At the end of 2011, the debt based on dinar-denominated Government securities was RSD

244.1 billion, and based on euro-denominated securities issued in the domestic market RSD 57.9

billion.

In 2012 the Government continued issuing new, long-term dinar-denominated instruments,

in order to expand the maturity of the securities and increase the share of the dinar-denominated

public debt. Five-year dinar-denominated bond with a 10% coupon was first issued on January 24,

2012. On August 1, 2012, two-year amortized bond with a coupon tied to the reference interest rate

of the National Bank of Serbia (NBS) was issued to diversify the debt. In 2013, the maturity extension

strategy and the development of instruments to finance through securities issuance in the domestic

market strategy continued. In March, Public Debt Administration of the Ministry of Finance has

issued seven-year dinar-based Government bonds for the first time, and towards the end of the year,

the total amount of seven-year bonds sold was RSD 7.1 billion, with average value-weighted income

rate of 12.49%. As far as the development of the euro-denominated Government securities market

development is concerned, Serbia issued the first five-year euro-denominated bonds in April, and

towards the year-end, with a series of new issues and reopening of the old ones, the total amount of

euro-denominated bonds reached € 131.7 million, with average value-weighted income rate of

5.22%.

At the end of 2013 the debt based on dinar-denominated Government securities was RSD

453.9 billion, and based on the euro-denominated Government bonds issued in the domestic market

RSD 135.1 billion.

At the end of October 2014, the debt based on dinar-denominated Government securities was RSD

568.1 billion, and based on euro-denominated Government securities issued in the Serbian market

RSD 210.2 billion. The maturity extension and larger dinar-based Government securities share in the

total portfolio of Government securities issued in the domestic market trends continue in 2014 as

well. On April 9, 2014, the Republic of Serbia issued first ten-year euro-denominated bonds of €

125.0 million, by reopening the primary sessions on June 4, 2014 and November 19, 2014, Serbia

sold the entire issue of ten-year euro-denominated bonds. Also, on October 21, 2014 was the first

time ten-year dinar-denominated bonds were issued. The issue amount was RSD 10.0 billion, and

what was sold was 93 % of the issue with the effective yield rate of 12.99%, and the 10% coupon,

whereas the overall demand was RSD 12.7 billion. The issue of ten-year bonds reached a strategic

goal of the Government securities yield curve maturity development. A significant step forward in the

benchmark issue development was made on March 28, 2014, when a total of RSD 20.2 billion worth

of three-year Government bonds was issued, and on July 8, 2014, with the total of RSD 20.2 billion.

From the beginning of the year until October 31, 2014, the Republic of Serbia has fulfilled 68.8% of

the finance plan defined by the Law on Amendments and Supplements to the Budget Law of the

Republic of Serbia for 2014, which includes RSD 413.7 billion of revenue based on Government

securities issued in the domestic financial market, which relatively represents 92.0% of the defined

financing plan for the domestic financial market.

External Public Debt

Pursuant to the External Debt Law, external debt includes direct and indirect liabilities to the foreign

investors and loaners. The following table represents the structure of the external debt of the

Republic of Serbia at the end of 2011, 2012, 2013, and on October 31, 2014.

Table 19. External debt in the period 2011-October 31, 2014 structure

2011 2012 2013 2014/X

In RSD billion

Multilateral Creditors, out of which: 543.2 588.9 551.2 575.4

Paris Club 165.5 167.8 157.1 161

IBRD 150.4 165.2 164.7 170.7

EIB 42.3 63.2 80.4 84.1

London Club 75.4 74.2 33.8 35.0

IDA 55.4 59.3 55.2 56.5

IMF 48.1 51.4 49.7 54.5

EBRD 1.3 2.6 3.5 4.4

CEB 4.8 5.2 6.8 9.2

Others - - - -

Bilateral Creditors, out of which: 85.1 107.3 134.6 256.6

Italy 4.8 4.9 4.6 4.4

The EU 15.6 17.0 17.1 17.0

The Export-Import Bank of China 13.6 25.2 27.0 40.7

Russia 16.2 15.5 38.2 42.6

France 0.4 0.9 1.2 1.2

Azerbaijan - 7.0 10.8 15.4

United Arab Emirates - - - 94.8

Libya 4.1 4.4 4.5 4.9

Others 30.4 32.4 31.2 35.6

Other borrowings 129.1 284.2 488.7 548.7

Out of which Eurobonds 2021 80.9 172.4 166.3 189.5

Out of which Eurobonds 2017 - 64.6 62.3 71.1

Out of which Eurobonds 2020 - - 124.7 142.1

Out of which Eurobonds 2018 - - 83.1 94.8

Guaranteed External Debt 164.7 213.5 227.5 220.9


Liabilities of the Development Fund and PE “Putevi

Srbije” 6.8 7.4 2.9 -

Total External Debt 951.3 1,218.3 1,420.7 1,616.3

At the end of 2013 debt to multilateral creditors was EUR 4.8 billion (RSD 551.2 billion), which is

23.3% of the total public debt, in contrast to the EUR 5.2 billion (RSD 588.9 billion), which is 28.5% of

the total public debt in 2012. Debt to the Paris Club contractors at the end of 2013 was EUR 1.4

billion (RSD 157.1 billion), which is 6.6% of the total public debt, as opposed to the EUR 1.5 billion

(RSD 167.8 billion), i.e. 8.1% of the total public debt in 2012. Debt to the London Club creditors was

€ 294.8 million (RSD 33.8 billion) in 2013, which was the 1.4% of the total public debt. In April 2013,

Ministry of Finance has prematurely repaid the debt to the London Club creditors, in the amount of

USD 400 million, in order to decrease the debt costs based on previously concluded loan debts

and/or issued securities.

On October 31, 2014, debt to the Paris Club creditors was EUR 1.35 billion (RSD 161.0

billion). Loans from IBRD amounted to EUR 1.43 billion (RSD 170.7 billion), debt to London Club

creditors was EUR 293.8 million (RSD 35.0 billion), bilateral loans were EUR 2.2 billion (RSD 256.6

billion). IDA loans amounted to EUR 474.5 million (RSD 56.5 billion), IMF loan was EUR 457.6 million

(RSD 54.5 billion), and the European Investment Bank loans were EUR 706.1 million (RSD 84.1

billion).

In September 2011 the Republic of Serbia issued the first Eurobond of nominal value USD 1 billion, in

the international financial market. The conditions under which it was issued were the 7.24% coupon

and 7.50% yield to maturity. In September 2012, Ministry of Finance reopened the issue of

Eurobonds 2021 from the year 2011, in the amount of USD 1.0 billion, and achieved the deviation

from the required yield rate of the primary issue of 87.5 base points by cutting the yield rate at

6.25%, which enabled Eurobonds of Serbia to be sold at a premium.

Having successfully reopened Eurobonds 2021, the Republic of Serbia entered international market

of debt instruments with an issue of five-year Eurobonds in the amount of USD 750 million on

November 14, 2012. Initially announced amount of transaction was USD 500 million, with indirect

income of 5.625%. However, great interest, especially of the United States of America and the United

Kingdom investors, increased the total demand to the level of USD 3.7 billion, which enabled the issue

to rise to USD 750 million, and to be realized with the yield rate of 5.45%.

On February 14, 2013 the Republic of Serbia has achieved the most successful issue of Eurobonds.

Selling Serbian Eurobonds had 148 financial investors from the entire world as participants. The

demand was three times the amount the country offered. The majority of investors were form USA,

Great Britain, and United Arab Emirates. The amount of Eurobonds sold was USD 1.5 billion, with the

coupon rate of 4.875% and seven-year maturity rate. The yield investors achieved at the auction was

5.15%. This sale of Eurobonds was performed according to the Government’s plan to ensure financial

stability in 2013. Part of the money was used to prematurely repay the “expensive” loans, received

throughout the previous year. Compared to the first sale of Serbian Eurobonds in 2011, when the

yield rate was 7.50%, the seven-year Eurobonds issue had much more favorable price, with the yield

rate lower for 2.35%.

In the moment of the seven-year Eurobonds issue the spread was 378.4 base points compared to the

American benchmark bond, which is 107 base points lower in comparison to the Eurobonds of

shorter maturity of 2017 series, from November 2012.

On November 21, 2013, the fifth issue of Eurobonds of the Republic of Serbia was in the international

financial market. Over 140 global investors were interested in the new Eurobond of Serbia. The

demand was five times higher than the initial plan for the amount of issue, offered by the Government

for sale, and over two and a half times higher than the realized amount of the issue. The majority of

investors were from the USA, Great Britain, Denmark, and other European countries.

Eurobond Serbia 2018 issued in the amount of USD 1 billion, with 5.875% coupon rate, and five-year

maturity rate. The investors achieved 6.125% yield on the auction.

Graph 17. The Republic of Serbia’s Eurobond 2021 price and share trends from the issue date

to October 31, 2014


to October 31, 2014

4,00

4,50

5,00

5,50

6,00

6,50

7,00

7,50

8,00

8,50

9,00

9,50

90 $

93 $

96 $

99 $

102 $

105 $

108 $

111 $

114 $

117 $

120 $

123 $

IN P

ER

CE

NT

AG

E

LAST_PRICE YLD_YTM_MID

3,00

3,50

4,00

4,50

5,00

5,50

6,00

6,50

7,00

95 $

96 $

97 $

98 $

99 $

100 $

101 $

102 $

103 $

104 $

105 $

106 $

107 $

108 $

IN P

ER

CE

NT

AG

E



to October 31, 2014


to October 31, 2014

Currency Structure of the Republic of Serbia’s public debt in the period 2011- October 31, 2014

In order to finance the budget deficit, the Government intensified the dinar-denominated

securities issue in 2011, which increased the share of dinar-denominated debt from the 20.5% at the

3,50

4,00

4,50

5,00

5,50

6,00

6,50

7,00

7,50

88 $

91 $

94 $

97 $

100 $

103 $

106 $

109 $

IN P

ER

CE

NT

AG

E


3,50

4,00

4,50

5,00

5,50

6,00

100 $

101 $

102 $

103 $

104 $

105 $

106 $

107 $

108 $

109 $

110 $

IN P

ER

CE

NT

AG

E


end of 2011 to 19.5% at the end of 2012. The Republic of Serbia ended 2013 with dinar-denominated

debt of 20.5% of the public debt. The tendency to drop the currency risk effects, to expand maturity

and develop new debt instruments in the domestic financial market, and the trend of national

currency share increase in the public debt portfolio continues in 2014, and on October 31, 2014, that

share was 22.2% of the total public debt portfolio.

Table 20. Currency structure of public debt of the state in the period 2011- October 31, 2014

2011 2012 2013 2014/X

(RSD

billion) %

(RSD

billion) %

(RSD

billion) %

(RSD

billion) %

Special Drawing Rights 104.7 6.5 112.5 5.4 106.6 4.5 112.9 4.2

EUR 924.0 57.2 1.067.9 51.3 1,099.5 46.4 1,141.1 42.3

USD 285.4 17.7 458.2 22.0 641.9 27.1 813.9 30.1

CHF 21.3 1.3 24.3 1.2 21.4 0.9 19.9 0.7

RSD 265.6 16.5 405.7 19.5 486.5 20.5 599.0 22.2

Others 13.2 0.8 12.7 0.6 13.1 0.6 13.6 0.5

In total 1,614.2 100.0 2,081.3 100.0 2,369.0 100.0 2,700.4 100.0

Graph 21. Currency structure of public debt of the state in the period 2011- October 31, 2014

According to the October 31, 2014 data, the majority of Serbia’s public debt, 42.3% of it, was still

euro-denominated. The next that follow are USD (30.1%), and RSD (22.2%). The rest of the debt is

denominated in special drawing rights (4.2%), and other currencies (1.2%).

Interest rate structure of the Republic of Serbia’s public debt in the period 2011- October 31,

2014

Public debt structure, including the non-guaranteed liabilities of local government units of the

Republic of Serbia, is favorable in terms of interest rate, since the majority of the debt is tied to fixed

interest rates. Serbia’s public debt interest rates structure is shown in Graphs 22 and 23:

Graph 22. Interest rates structure of public debt of the Government in the period 2011-

October 31, 2014

57,2 51,3

46,4 42,3

17,7 22,0

27,1 30,1

16,5 19,5 20,5 22,2

6,5 5,4 4,5 4,2

2,1 1,8 1,5 1,2

0

10

20

30

40

50

60

70

80

90

100

2011 2012 2013 2014/X

In p

erce

nta

ge

EUR USD RSD SDR Other

The largest proportion of Serbia’s public debt (76.3%) has fixed interest rate, whereas 23.7% of the

total debt has floating interest rate. Among the floating interest rates, the highest share hold

EURIBOR and LIBOR interest rates in EUR, which is 64.1% of the total public debt tied to floating

interest rates, whereas 12.9% refers to the liabilities tied to the reference interest rate of the NBS

10.3% to the LIBOR interest rates in USD, and the rest of the liabilities tied to other types of floating

interest rates have the share of 12.7% (mainly the floating interest rate for the special drawing

rights).

31,8% 71,0% 73,1% 76,3%

68,2% 29,0% 26,9% 23,7%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2011 2012 2013 2014/X

Fixed Interest Rate Variable Interest Rate

Graph 23. Variable interest rates structure of public debt of the state in the period 2011-

October 31, 2014

Government Securities Structure and Duration (Average Maturity) in the period 2011-

October 31, 2014

The Republic of Serbia began issuing Government securities in 2003. Originally, only short-

term Government bills were issued in the period 2003-2006, and after a stagnation period of the

dinar-denominated Government securities market, Serbia began re-issuing Government securities in

February 2009. In five years the debt reached the amount of RSD 778.3 billion, i.e. out of the EUR

12.4 billion of absolute debt growth since the end of 2009, half was generated in the domestic

market, through the issue of euro and dinar-denominated Government securities. In 2012 Serbia

introduced new dinar-denominated instruments, such as inflation-indexed bonds and two-year

amortized bond with variable coupon and five-year dinar-denominated bond.

The previous year, 2013, witnessed significant changes in the field of Government securities

market development – both primary and secondary – as well as the development of the domestic

financial market financing instruments. Previously issued 18-month and 24-month T-bills were

replaced by two-year T-bonds. In addition to the instrument structure changes, in March the

Republic of Serbia issued seven-year dinar-denominated T-bonds for the first time. When it comes to

the euro-denominated Government securities market development, in April Serbia issued five-year

euro-denominated bonds for the first time. In 2013 the coupon rate period was changed, switching

from six-month to one-year coupon payment period. Apart from the realization of the financing plan,

borrowing based primarily on dinar-denominated and euro-denominated securities also brought a

significant drop in debt costs. In 2013, Serbia decreased debt costs based on dinar-denominated

securities, which can actually be noticed on the example of 53-week bills which reached the average

yield rate reduction for 3.0%, as well as of three-year bonds with a reduction of 3.77%.

73,1% 72,9% 70,3% 64,1%

11,4% 11,0% 9,7%

10,3%

2,1% 1,9% 1,7%

1,7%

13,5% 14,2% 18,3%

23,9%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2011 2012 2013 2014/X

EURIBOR and LIBOR on EUR LIBOR on USD LIBOR on CHF Other

Maturity extension trend and the share of dinar-denominated Government securities in the

total Government securities portfolio issued in the domestic market increase trend continued in

2014 as well. On April 9, 2014, the Republic of Serbia issued the first ten-year euro-denominated

bonds with the total amount of EUR 125 million. By reopening the primary issue on June 4, 2014,

Serbia sold the total of EUR 99.0 million of ten-year euro-denominated bonds. The total of the issue

was RSD 10 billion, and 93% of the issue was sold at the yield rate of 12.99% and with the coupon of

10%. The issue of ten-year bonds achieved one of the strategic goals of the dinar-denominated

Government bonds yield maturity curve development. Regarding the debt cost ratio and refinancing

risks analysis, we can conclude that high level of demand and constant drop in debt costs was

present from the beginning of the year. This trend was enabled due to the stability of certain

macroeconomic indicators, stable base of investors, as well as to the transparent Government

securities market management policy.

In 2013 the total amount of dinar-denominated securities offer in the domestic market was

RSD 403.4 billion, and the demand for dinar-based securities was RSD 589.7 billion. The total

nominal value of the dinar-denominated securities sold in 2013 was RSD 324.1 billion, with the

average value-weighted yield rate of 10.70%. Regarding the maturity, the total amount of short-term

dinar-denominated securities was RSD 159.6 billion (including the 53-week bills), with the total

demand of RSD 314.2 billion. The overall nominal value of the short-term dinar-denominated

securities sold, including the 53-week bills, was RSD 143.7 billion, with the average weighted yield

rate of 9.90%. Long-term dinar-denominated securities were issued in the total amount of RSD 243.8

billion, and the demand was RSD 275.5 billion, out of which RSD 180.4 billion and 11.3% average

weighted yield rate were realized.

Up to and including October 31, 2014, the total offer of dinar-denominated securities in the

domestic financial market was RSD 391.5 billion, and the demand of dinar-denominated securities

was RSD 463.5 billion. The total nominal value of the dinar-denominated securities sold, including

the last auction in October 2014, was RSD 315.8 billion, with the average weighted yield rate of

9.74%. Regarding the maturity, the total offer of the short-term dinar-denominated securities

(including the 53-week bills) was RSD 127.0 billion, and the total demand was RSD 156.2 billion. The

total nominal value of the short-term dinar-denominated securities sold, including the 53-week bills,

was RSD 103.9 billion, with 8.19% average weighted yield rate. The total offer of long-term dinar-

denominated securities was RSD 264.5 billion, and the demand was RSD 307.3 billion. The total

nominal value of the long-term dinar-denominated securities was RSD 211.9 billion, with average

weighted yield rate of 10.50%.

Graph 24. Structure of the dinar-denominated Government securities by original maturity, at

the end of the observed period 2011- October 31, 2014

In 2013, the total amount of euro-denominated securities offer in the domestic market was EUR

981.9 million, whereas the demand of euro-denominated securities was EUR 1,222.5 million. The

total nominal value of the euro-denominated securities sold in 2013 was EUR 807.3 million, with the

average weighted yield rate of 4.44%. Regarding maturity, the total amount of the offer, of 53-week

euro-denominated bills, was EUR 269.9 million, and the demand was EUR 430.0 million. The total

nominal value of the euro-denominated bills sold was EUR 214.8 million, with the average weighted

yield rate of 3.59%. Long-term euro-denominated securities issued amounted to EUR 712.0 million,

the demand was EUR 792.5 million, and EUR 573.3 million with 4.75% average weighted yield rate

was realized.

1,6 1,9 1,3 1,1

11,1 5,9

2,0 1,1

4,1

34,7

25,9

23,0

16,7

26,3

19,8

5,8

16,3

17,5

6,6

0,7

1,8

7,4

12,5

15,4

20,1

5,8

20,6

31,0

32,4

2,9 1,5

2,2

2,2 4,4

6,3

1,6

6,5

1,6 1,4

0

10

20

30

40

50

60

70

80

90

100

2011 2012 2013 2014/X

Government Bills 3M

Government Bills 6M

Government Bills 12M

Government Bills 53W



Government Amortizing Bonds 2Y

Government Bonds 2Y

Government Bonds 3Y

Inflation Indexed Government Bonds3Y

Government Bonds 5Y

Government Bonds 7Y


Inflation Indexed Government Bonds10Y

Graph 25. Structure of the euro-denominated Government securities stock by maturity at the

moment of issue, end of October 2014

Graph 26. Overview of the accepted rates of dinar-denominated Government securities

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2011 2012 2013 2014/X

36,1

21,7 18,2 17,5

27,1 44,9

6,4

11,8

40,0

37,9

10,7

6,2

13,6

17,1

9,5 13,7

5,6 26,1 15,3 12,3 8,2

Euro denominated GovernmentBonds 15Y





Euro denominated GovernmentBills 18M

Euro denominated GovernmentBills 53W

Inflation Indexed GovernmentBonds 10Y

6,0%

7,0%

8,0%

9,0%

10,0%

11,0%

12,0%

13,0%

14,0%

Oct

ob

er

No

vem

ber

Dec

emb

er

Jan

uar

y

Feb

ruar

y

Mar

ch

Ap

ril

May

Jun

e

July

Au

gust

Sep

tem

ber

Oct

ob

er

2013 2014

Acc

ep

ted

ra

tes

on

pri

ma

ry a

uct

ion

s o

f R

SD

d

en

om

ina

tee

d s

ecu

riti

es

G-Bills 3M G-Bills 6M G-Bills 53W G-Bonds 2Y

G-Bonds 3Y G-Bonds 5Y G-Bonds 7Y G-Bonds 210Y

Graph 27. Overview of accepted rates of euro-denominated securities

Considering the fact that mainly Government records were issued until 2010, the duration, i.e. the

average number of days until maturity, was low. Introducing new instruments with longer maturity

time and reducing the share of short-term instruments in the total amount of dinar-denominated

securities have significantly prolonged the duration. On October 31, 2014, dinar-denominated

Government securities duration was 654 days, and the average duration of the total amount of

Government securities was 769 days. The following Graph shows the Government securities duration

trends over the last couple of years:

Graph 28. Duration of Government securities issued in the domestic market in the period

2011 – October 31, 2014

3,0%

3,5%

4,0%

4,5%

5,0%

5,5%

6,0%

Oct

ob

er

No

vem

ber

Dec

emb

er

Jan

uar

y

Feb

ruar

y

Mar

ch

Ap

ril

May

Jun

e

July

Au

gust

Sep

tem

ber

Oct

ob

er

2013 2014

Acc

ep

ted

ra

tes

on

pri

ma

ry a

ctio

ns

of

EU

R d

en

om

ina

ted

se

curi

tie

s

G-Bills 53W G-Bonds 2Y G-Bonds 3Y G-Bonds 5Y G-Bonds 10Y

272

394

469

654

599 558

607

769

0

100

200

300

400

500

600

700

800

900

2011 2012 2013 2014/X

Duration of RSD Securities Duration of Government Securities issued on Domestic Market

Servicing the Public Debt of the Republic of Serbia (Central Government4) in the period

2014-2017

The following table shows the previous repayment of interests and principals, as well as the

next period projections data.

Table 21. Interests and principals repayment in the period 2011-2013

2011 2012 2013

In RSD billion

Principal repayment 290.5 308.5 410.4

Interest Repayment 40.4 63.1 89.2

In Total 330.9 371.6 499.6

Table 22. Interests and principals repayment projections by 2017

2014p 2015p 2016p 2017p

In RSD billion

Principal 428.6 537.1 533.1 681.0

Interest 112.5 131.1 150.5 168.5

In Total 541.1 668.2 683.6 849.5

Share in the Public Debt, as on October 31, 2014 20.4% 25.3% 25.8% 32.1%

Table 23. Interests and principals repayment projections by 2017 (As a % of GDP

2014p 2015p 2016p 2017p

In RSD billion

GDP 3,884.0 3,970.0 4,195.0 4,455.0

Principal 11.0% 13.5% 12.7% 15.3%

Interest 2.9% 3.3% 3.6% 3.8%

In total 13.9% 16.8% 16.3% 19.1%

4 Central Government includes budget of the Republic of Serbia, mandatory social security funds, and PE “Putevi Srbije”.

2. Projection of General Government Public Debt Balance in the Period 2014-2017

Considering the projected primary budget deficit of Serbia in the period 2014-2017, and including

the withdrawal of loan instruments for project financing of budget beneficiaries, and the effects of

foreign currency exchange rate of RSD against EUR and USD in the basic macroeconomic scenario,

the Central Government debt balance at the end of 2017 should amount to 76.9% of GDP.

Table 24. Basic projection of General Government public debt balance by 2017

2014p 2015p 2016p 2017p

In RSD billion

GDP 3,884.0 3,970.0 4,195.0 4,455.0

Primary Deficit (Central Government) 194.5 89.3 31.9 -10.9

Interests (Central Government) 112.5 131.1 150.5 168.5

Public Debt (Central Government) 2,660.2 3,022.0 3,250.9 3,423.8

Central Government Debt, as % of GDP 68.5% 76.1% 77.5% 76.9%

Non-guaranteed Local Government Debt-GDP 1.4% 1.6% 1.7% 1.8%

General Government Debt, as % of GDP 69.9% 77.7% 79.2% 78.7%

In the following period the debt of the local government is projected to remain at a relative level of

around 2.5% of GDP. Debt based on liabilities, not included in the public debt stock according to the

Maastricht criteria, is expected to amount the level of 7.0% of GDP at the end of 2017, whereas the

general government public debt, according to this criteria, should be at the level of 71.7% of GDP at

the end of 2017. Share growth of the debt which is not part of the public debt, according to

Maastricht criteria, from 4.1% of GDP at the end of 2014 to 7.0 of GDP at the end of 2017 is caused by

increased borrowings of solvent entities, such as PE “Elektroprivreda Srbije”, Deposit Insurance

Agency and the use of new line of Apex loans from the European Investment Bank by the domestic

business banks.

Public revenues and expenditures trends are stochastic and extremely sensitive to the changes in

macroeconomic environment and politics. As public debt is a consequence of imbalance in public

finances, the threat of debt crisis remains until the fiscal consolidation is implemented, which is the

prerequisite to maintain and improve the economy competitiveness. Considering that, EU member

states are gradually implementing the fiscal consolidation process, which can cause slower economic

growth and negative effects on economy of the Republic of Serbia, whose main foreign trade partner

is the EU, which would exacerbate the public debt stock.

Analyses used to create the Public Debt Management Strategy

Public Debt Administration used the quantitative approach to formulate the Public Debt Management

Strategy, identifying the possible restrictions through the macroeconomic indicators, and the

analysis of costs, risks and market conditions which affect the public debt management. During the

analysis of costs and risks, all the feasible financing alternatives are considered. Share of each

instrument in the overall financing needs in the given year is decided according to the objectives of

the Strategy.

For the purpose of analysis, the following instruments described below, available in the

domestic and international financial market, were used

Financing Sources Denominated in Foreign Currency

o Foreign governments and international financial institutions loans are shown as instruments

denominated in EUR and USD, with fixed and floating interest rate;

o Internal, euro-denominated debt is presented through three instruments: domestic business banks loans with floating interest rate, Government bills, and Government bonds issued in the domestic financial market;

o Eurobond denominated in EUR and USD issued in the international financial market.

Financing Sources Denominated in Domestic Currency

All of the dinar-denominated Government securities are categorized into several groups:

short-term Government bills (with maturity dates up to 53 weeks), two-year, three year and long-

term (five-year, seven-year and ten-year) Government bonds.

Future Market Interest Rates and Analysis Scenario

In the process of creating the medium-term public debt management strategy for the period 2015-

2017, quantitative costs and risks analyses based on various scenarios and projections were used.

The first step is the basic scenario based on the most likely market conditions. Then three groups of

market variables are identified: foreign currency exchange rates, reference interest rates on the

international market and RSD reference interest rated. Future market rates can be deducted through

the analysis of the available predictions of the purchasing power parities or through the prediction of

the interest rate parities. An average RSD depreciation against EUR and USD is assumed, according to

the macroeconomic framework in the period observed. Another possibility is to use the EUR and USD

forward exchange rate, but the external influences (“shocks”) are limited in this case, and the

constant relation between EUR and USD remains in order to provide a clear picture of the effect of

the shock applied. Similarly, the market forward rates are currently a wrong basis to predict interest

rates. Constant rates have been used in this case as well. The shocks test the effects of the market

interest rates changes.

Approach to the dinar-denominated interest rates is based on current real rates, and on the inflation

projection for the following medium-term period.

Having defined the basic scenario, three more scenarios – shocks were chosen to conduct the stress

test. Macroeconomic shocks or primary budget shocks are observed separately throughout the debt

sustainability analysis.

Dinar depreciation against US dollar by 25%. In this type of shock all the other foreign currency

exchange rates remain unchanged. This global scenario has little to do with Serbian economy, but it

has large influence on the Serbian debt, due to the US dollar-denominated debt share (which was

30.8% of the Serbian Central Government public debt at the end of October 2014). This is a scenario

that might easily be realized when the USA economy is recovered, and starts making a significant

economic growth, whereas European economy is to simultaneously still suffer the effects of current

debt crisis and recession. The foreign currency international financial market trends in the period

June-October 2014 show precisely that - we are in the period of this scenario realization.

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

entire world would remain stable, whereas dinar would be depreciated against them.

Macroeconomic conditions for such scenario would refer to the increased current deficit of balance

of payments and to the low direct and portfolio foreign investments inflow.

International market interest rates increase. The current interest rates in the world are historically

low. Central banks maintain the low rates, enabling the governments to solve their public debt

problems, as well as banks to profit from the positive yield curves and recapitalization, until inflation

becomes a potential threat. If the world economy recovers, the interest rates will probably increase

for about 2-3 percentage points by the medium-term period.

Domestic market interest rates increase by up to 5 percentage points. This scenario would be possible

if the inflation were to rise again (over 10%) and if the RSD:EUR exchange rates were highly volatile

due to the country’s risk premium increase.

Each of the above mentioned stress tests or risk scenarios were used to outline the effects of the

costs of the strategies examined.

Alternative Borrowing Strategies for the Period 2015-2017

In cooperation with the World Bank experts, Public Debt Administration of the Ministry of Finance

has implemented the World Bank model Medium Term Debt Strategy Model (MTDS) as a costs and

alternative borrowing strategies risks analysis, and in order to optimize the portfolio and to manage

the public debt more efficiently.

The optimal choice between costs and risks has defined the basic borrowing strategy choice for the

next medium-term period. The alternative borrowing strategies are the following:

Basic Strategy (S1): it is the strategy that covers the need to finance Government securities issue in

domestic and foreign currency in the domestic financial market, and the euro-denominated five-year

and ten-year Eurobonds issue.

Secured Concessionary Loan Strategy (S2): as opposed to S1 strategy, two euro-denominated five-year

and ten-year Eurobonds are issued, more favorable long-term loans with 10-year repayment period

and fixed interest rate of 2% in US dollars, whereas the additional domestic market financing is

primarily based on dinar-denominated securities in a structure similar to S1.

Eurobonds Issue-Based Strategy (S3): S3 strategy, as compared to S1 strategy predicts that issue of US

dollar-denominated Eurobonds with five and ten-year maturity, whereas the structure and amount

of dinar-denominated securities remain as in the strategy S1.

Additional Dinarization Strategy (S4): this is a strategy in which the total financing is based on dinar-

denominated securities issues.

Financing Serbia’s budget expenditures following these strategies will be executed mainly through

the issue of Government securities in the international and domestic capital market, except in the

strategy S2, when a greater share of concessionary loans is predicted. The analyzed debt refers to the

Central Government debt, including the debt arising from indirect liabilities serviced by the Republic

of Serbia, and excluding the non-guaranteed local government debt, no new drawings based on

project and program loans, and no new debts and guarantees. The balance of thus calculated public

debt is estimated to be 62.5% of GDP, at the end of 2014.

Cost and Risk Analysis of the Alternative Borrowing Strategies

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

strategies. The vertical axis represents the debt share in GDP in the basic macroeconomic framework

defined by the Fiscal strategy, and it is the basic value of the certain borrowing strategy

implementation; on the other hand, the horizontal axis represents the potential cost of a certain

borrowing strategy (stress test result). Two cost ratios are implemented: public debt to GDP and

nominal interest to GDP. The former is the balance indicator, and the latter the course indicator. For

the sake of comparison, the attention is focused on the results of the strategies examined, at the end

of 2017.

Comparing the Alternative Strategies

Graph 29. Debt-to-GDP ratio at the end of 2017.

Graph 30. Interest-to-GDP ratio at the end of 2017

The Graphs clearly show the costs brought by each of the considered strategies – strategies S2 and S3

have relatively higher foreign currency exchange rate risk exposure. As it combines securities

denominated in RSD and EUR, strategy S1 is currently highly exposed to the possible dinar-

denominated Government securities volatility, and the risk is higher in the strategy S4, where the

complete additional financing plan is based on the issue of dinar-denominated securities. On the

other hand, strategy S4 in the basic macroeconomic framework has relatively higher share of dinar,

and therefore has more stable ratio of share in GDP. Strategy S2, which is partially based on a long-

S1

S2

S3

S4

69,00

69,20

69,40

69,60

69,80

70,00

70,20

10,00 10,50 11,00 11,50 12,00 12,50 13,00 13,50

Co

st (

%)

Risk

S1

S2

S3 S4

3,00

3,10

3,20

3,30

3,40

3,50

3,60

3,70

3,80

3,90

4,00

0,90 0,91 0,92 0,93 0,94 0,95 0,96 0,97 0,98

Co

st (

%)

Risk

term loan with 10-year repayment period and fixed interest rate of 2% in US dollars, has the lowest

risk in terms of interest rates, out of the four strategies examined, due to low fixed costs of the

concessionary loan. Strategy S3 appears to be of relatively high risk regarding the debt-to-GDP ratio,

since additional financing is based on the issue of US dollar-denominated bonds, whereas strategy S4

appears to be relatively expensive, considering the high share of dinar-denominated securities in this

strategy.

The analysis of public debt-to-GDP ratio graded strategy S2 as the one of the highest risk. The basic

strategy S1 has relatively higher expenditures of interest, due to the significant share of dinar-

denominated securities. In the basic macroeconomic framework strategy S2 has lower interest costs,

since a part is financed out of the concessionary loan. Based on the analyses, it is evident that in the

following medium-term period basic borrowing operations will be based on strategies S1 and S2, and

with clearly indicated preference to, if there is a possibility of borrowing in greater amount according

to the concessionary conditions, base the borrowing operations on strategy S2.

The results obtained by the implementation of the World Bank public debt-to-GDP ratio model at the

end of 2017 exclude the possible income from selling the state property and the guaranteed liabilities

serviced by the Republic of Serbia.

Table 25. Public Debt-To-GDP ratio at the end of 2017

Scenarios S1 S2 S3 S4

Basic Scenario 69.3 69.1 70.0 69.2 Foreign Currency Exchange Rate Shock (25% of all the currencies)

81.9 82.2 82.7 79.9

Interest Shock (Scenario 1) 70.0 69.8 70.7 70.0 Interest Shock (Scenario 2) 70.3 70.1 71.0 70.2 Combined Shock (25% of USD and Interest Shock1) 75.3 75.6 77.2 75.2 Maximum Risk 12.6 13.1 12.7 10.6

Table 26. Payments Ratio based on interest and GDP at the end of 2017

Scenarios S1 S2 S3 S4

Basic Scenario 3.6 3.3 3.7 3.7 Foreign Currency Exchange Rate Shock(25% of all the currencies)

4.2 3.8 4.3 4.1

Interest Shock (Scenario 1) 4.3 3.9 4.4 4.4 Interest Shock (Scenario 2) 4.6 4.2 4.7 4.6 Combined Shock (25% of USD and Interest Shock1) 4.6 4.2 4.7 4.6 Maximum Risk 1.0 0.9 1.0 0.9

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

strategies considered, which outlines the above mentioned characteristics of each strategy:

Table 27. Alternative Strategies Risk Indicators

Risk Indicators At the end of 2017

S1 S2 S3 S4 Nominal Debt (% of GDP) 69.3 69.1 70.0 69.2 Net Present Value (% of GDP) 61.4 59.6 67.6 66.8 Applied Interest Rate (%) 5.6 5.0 5.7 5.6

Refinancing Risk ATM5 external portfolio (in years) 6.7 7.2 6.8 7.2 ATM domestic portfolio (in years) 3.4 3.3 3.4 4.8 ATM total portfolio (in years) 5.4 6.1 5.5 5.6

Interest Rate Risk АТR6 (in years) 5.1 5.8 5.2 5.2 Refixing (% of total debt) 25.9 23.3 25.7 26.9 Fixed rates debt (% of total debt) 88.1 89.0 88.2 86.2

Foreign Currency Exchange Rate Risk Foreign-currency debt (% of total debt) 67.6 75.3 67.8 44.0

Public Debt Share in the Gross Domestic Product in the Period 2014-2017

Fiscal rule, defined by the Law on Budget System, imposes that the General Government public debt

must not exceed 45% of GDP. Should the debt exceed that level, the Government’s duty is to

implement a program to reduce the debt share in GDP, i.e. to have the debt within the legal

framework again.

At the end of 2013 central government debt reached 59.6% of GDP, and general government debt

reached 61.1% of GDP. The public debt-GDP ratio of Central Government was 68.1% of GDP at the

end of October 2014. Rising trend is expected to continue until the end of 2014, and to reach a share

of about 68.5% of GDP at central government level, and 69.9% of GDP at general government level.

Due to high share of foreign currency-denominated debt (about 78%), it is clear that the foreign

currency risk will determine the behavior of public debt-GDP ratio in the following period, and it will

significantly influence the success of the fiscal policy measures designed to consolidate public

finances and reduce the debt share in GDP.

Based on the planned macroeconomic framework, providing that there is no possible risk influence

(foreign currency risk primarily), public debt, excluding the non-guaranteed debt of local

government, would be at the level of 76.9% of GDP, until 2017.

The key factors that influence the stabilization of public debt-GDP ratio include GDP growth, primary

deficit, dinar exchange rate against foreign currency rates, and interest level. The planned measures

of fiscal policy define the reduction of primary deficit, which reduces the key factor of debt growth.

Table 28. Basic macroeconomic variables’ contributions to the changes in the central

government debt-to-GDP ratio

2012 2013 2014P 2015P 2016P 2017P

In percentage

5 Average Time to Maturity

6 Average Time to Refixing

Central Government Debt/GDP 56.2 59.6 68.5 76.1 77.5 76.9

Changes compared to the last year 10.8 3.4 8.9 7.6 1.4 -0.6

Primary Deficit Influence 3.6 2.5 5.0 2.2 0.8 -0.2

Interest 1.8 2.4 2.9 3.3 3.6 3.8

Nominal GDP Growth -2.2 -4.2 -0.1 -1.5 -4.1 -4.5

Other Factors Affecting the Ratio 7.7 2.8 1.1 3.5 1.1 0.4

Graph 31. Impact of changes in the RSD exchange rate against the basket of currencies from

the public debt portfolio on the change in public debt-to-GDP ratio

Graph 31 represents the public debt-to-GDP ratio trends depending on the dinar exchange rate

against a certain currency basket. It shows the basic projection with alternative scenarios depending

on the appreciation or depreciation of dinar exchange rate, in the range of 10% appreciation to 20%

depreciation of dinar against a currency basket. Implementation of the scenarios in question shows

that in 2017 the ratio would range from 70.9% to 88.8%, whereas in the basic scenario it would be at

76.9%.

The major risks to the Strategy implementation, apart from the above mentioned quantified factors,

include the following:

o Stability of macroeconomic situation in the Republic of Serbia (real growth of GDP, tax collection, unemployment level, balance of payments current account, domestic market interest rates, inflation, etc.);

o The development of world economy and Serbia’s major foreign trade partners;

o The need for additional borrowing in order to regulate the debt of other government levels, the public sector, and the financial system of the Republic of Serbia;

o Lower tax and non-tax revenue than planned, and larger expenditures than planned during a fiscal year;

o Significant drop of the dinar value against the euro;

45,4

56,2

59,6

68,5

76,1 77,5 76,9

79,2

88,0 89,6 88,8

63,1

70,2 71,4 70,9

40,0

50,0

60,0

70,0

80,0

90,0

100,0

2011 2012 2013 2014 2015 2016 2017

o Greater debt level of local government than planned within a medium-term macroeconomic (fiscal) framework;

o Activation of provided guarantees.

It is important to mention that the reduction of the public debt in relation to GDP will be enhanced by

the more adequate control of guarantees issuance and the improvement of the process of

investments projects prioritization, financed from the loan lines of multilateral and bilateral

creditors. As part of the Ministry of Finance’s efforts to improve the efficiency of project investments

financed form the project loans from multilateral and bilateral institutions, the Government adopted

a Conclusion in June 2013. The Conclusion accepts the report on the realization of the project loans

granted to the Republic of Serbia from international financial organizations and other foreign

creditors, which obliges the Minister of Finance to limit the grant of new project loans and

guarantees issuance of the Republic of Serbia to the beneficiaries whose rate of funds withdrawal of

the approved project loan is less than 70%, based on the estimated effect of the approved project

loans, by sectors and beneficiaries, and according to the percentage of the funds withdrawn and

success indicators. Starting from 2015, the guarantees will be issued only for the project loans, i.e. no

more guarantees for current liquidity loans to public enterprises. In order to provide adequate

statistical report on the country’s debt, the basic definitions of debt in the Budget System Law and

Public Debt Law shall be redefined and balanced..

Public Debt Management Principles

According to the Public Debt Law, the primary goal of Serbia’s borrowing and public debt

management is to ensure the funds necessary to finance budget expenditures, with medium-term

and long-term minimal financing costs and acceptable risk level. Reduction of long-term public debt

servicing costs to a minimum is restricted by the debt structure and costs reduction will be

influenced by a number of factors and risks. With that in mind, the Public Debt Management Strategy

of the Republic of Serbia defines the following general objectives and principles:

1) It is necessary to insure financing of the fiscal deficit of Serbia, both short-term deficit (liquidity)

and long-term deficit, considering it a part of a policy aimed at sustainability of the public finance

system stability;

2) It is necessary to identify an acceptable risk level that should be defined in terms of a targeted

debt portfolio structure, including debt currency structure, interest rate structure, maturity structure

and debt structure by types of instruments;

3) It is necessary to uphold the development of a market for Government securities issued in the

domestic and international market, so as to have a developed market which would reduce the

medium-term and long-term borrowing costs, according to the high-quality diversification of the

debt portfolio;

4) The borrowing process should be transparent and predictable.

Public Debt Management Strategy should be supported by, and consistent with, the Government’s

general medium-term macroeconomic and fiscal framework.

The Republic of Serbia should take into account the numerous restrictions when considering the

financing strategy. As a middle-income country, Serbia is faced with limited financing sources in

domestic and international market, especially at a time when developed EU member states have

difficulties financing their own fiscal deficits and refinancing their mature debt. Also, there are strict

conditions under which a country can borrow through bilateral and multilateral loan arrangements.

Although the above mentioned limits and potential risks were taken into account, it was decided that

the Public Debt Management Strategy focus in the following medium-term period should be financing

the budget costs of Serbia, mainly through the issue of Government securities in the international and

domestic capital market. The current debt structure is quite heterogeneous, considering the

inherited debt from the former Yugoslavia, limited market instruments in the previous period, and

the specific status in the domain of project financing from the developed international financial

institutions. The Government securities market is still developing and one of the principles of public

debt management is the necessary flexibility, in order to secure the financing of Serbia’s budget

expenditures. Flexibility shall be reflected in the choice of the market for the borrowings, the

borrowing currency, as well as the financing instruments. The choice of the financing structure will

be made considering the domestic and international financial market current balance and

development trend (interest rates level, risk premiums, yield curve, reference foreign currency

exchange rates) and an acceptable level of financial risks exposure.

The objective is financing through the issue of mainly dinar-denominated securities in the domestic

market in the following long-term period, although the current situation indicates that, despite the

firm decision to develop domestic marker of securities, in the following medium-term period part of

the financing must be carried out in the international financial market. Guidelines for financing in the

international market in foreign currency will be: to secure access for a great number of investors in

different parts of international financial market, if possible, to define the borrowings in foreign

currency according to the repayment of foreign currency-denominated debt, including the interests

of these debts, and to be able to borrow in this market when financial conditions are more favorable

than the ones in the domestic market, in order to stabilize the finances while realizing the fiscal risks.

Borrowing in a foreign currency includes the foreign currency risk, due to the changes of the

exchange rates RSD-EUR and EUR-USD, indicating that the public debt management is faced with the

task of actively considering and using the possibility of hedging, if borrowing is not in RSD or EUR.

The public debt management policy must take into account the long-term perspective, and still make

a decision about financing budget expenditures once a year. Decision on annual borrowing is made

within the Budget Law for a certain fiscal year, and depending on the basic fiscal aggregate changes

correction of the borrowing plan is possible during a fiscal year.

3. Financial Risks and Public Debt

Financial and fiscal risks can cause a greater public debt growth than predicted by the basic scenario.

The risks that are present and potential cause of debt and public debt servicing costs increase are:

1. Refinancing risks;

2. Foreign currency exchange risks;

3. Market risk (interest rates risk, inflation risk);

4. Liquidity risk;

5. Credit and operative risks;

6. Risks tied to the servicing costs distribution (debt structure, liabilities concentration).

In order to reduce the exposure to financial risks, the following measures should be taken:

1. Refinancing risks:

o Greater share of medium-term and long-term dinar-denominated financial instruments in the domestic financial market;

o Equal liabilities distribution based on public debt on an annual level and during the fiscal year in the following long-term period;

o Extension of average debt maturity issued in the securities;

2. Foreing currency risk:

o Tendency to reduce the foreign currency-denominated debt share regarding the new debt costs (costs of debt dinarization);

o Utilization of financial derivates to limit the effects of the reference currencies exchange rates changes;

o Tendency to have external debt in EUR mainly and to use the US dollar-denominated debt only if financing in dollars in the international market is less expensive, with the additional use of limiting the financial derivatives risk;

3. Market risk (interest rate risk, inflation risk)

o Tendency to extend the duration of internal dinar-denominated debt;

o Issue of indexed bonds (interest rates indexation);

o Risk based on external debt interest rate does not jeopardize the long-term objective of minimizing the public debt costs;

4. Liquidity risk:

o Permanent sustainability of cash on Serbia’s accounts at a level that enables smooth liabilities financing for at least four years and that enables amortization of possible minor inflows based on borrowing according to the plan;

o Adequate management of free cash assets available on the accounts of the Republic of Serbia, according to the asset-liability management principles;

o Redefining contract terms with the NBS regarding the placement of dinar and foreign currency assets, and possible changes of the Law on Foreign Exchange Operations. Providing the Government with an opportunity to repurchase a relatively more expensive debt using the liquidity surplus;

o Automatic execution of orders in the Republic Treasury System, so as to avoid arrears (short-term liabilities – debts) in the system and to follow the Rulebook on Budget Execution System;

o Consolidation of foreign currency assets, apart from dinar assets, in the consolidated Treasury system at the NBS, and the use of foreign currency assets to actively manage liquidity of the dinar account of the budget execution;

5. Credit and operative risks:

o Financial derivatives transactions can only be carried out with the financial institution of high credit rating;

o The use of financial instruments that limit the credit risk;

o Granting guarantees and new loans to local government only if there has been an adequate analysis of a relatively low possibility of realizing the guaranty in the medium-term period, which should be regulated by legal provisions;

o Introduction of adequate control in all the business activities in the Public Debt Administration and expanding the employees’ knowledge, which requires expanding limit of the number of employees and approving adequate budget funds;

o Upgrade and improve the existing information system that monitors the public debt and the operations related to it;

6. Risks tied to the servicing costs distribtuion:

o Adequately planned annual borrowing and equal distribution for the following years and

during the fiscal year, to avoid the risk of high concentration of refinancing obligations;

o Avoiding the obligations concentration based on the public debt on a monthly level, which

could not be amortized by free cash assets on the accounts of the Republic of Serbia.

Risk Quantification Based on the Cost-at-Risk (CaR) Model

Public Debt Administration implements the risk quantification based on Cost-at-Risk (CaR) model,

which was developed in cooperation with a team of experts from the EU project Support to the

Ministry of Finance - Treasury Administration Capacity Building, IPA 2010. The methodological tool

Cost-at-Risk is based on the concept Value-at-Risk, and it is used to estimate the level of exposure to

the market risk. The utility value of this tool is reflected in the possibility for the financial institutions

to decide on the level of financial resources (reserves) which will allow them to successfully absorb

shocks caused by extremely unfavorable trends of these risk factors.

Cost-at-risk value represents maximum loss, i.e. greater expenses than expected, in the selected time

period with specific probability – usually ranging from 90% to 99%. This model includes the two

most important risk factors that influence the amount of resources necessary to service public debt

in the following period – interest and currency risk. The model estimates total and individual share of

both risks in the overall risk, denominated in dinars.

Using the Monte Carlo simulation, with a selected number of simulated trajectories (projections), the

common distribution of these two risk factors, as well as the percentile of distribution that

corresponds to the selected confidence level, can be determined. In other words, based on large

number of different currency and interest rates trends scenarios, the model will determine the level

of change, i.e. of the increase of the resources necessary to service the public debt, based on projected

amounts, which is not to be exceeded by the percentage of probability that will match the selected

confidence level.

Graph 32. Cost-at-Risk (CaR)

The simulations are based on portfolio structure of the public debt securities in the period observed,

i.e. on the combination of the securities portfolio structure in the present moment, its changes

through time due to the related principal and interest (coupon) repayment, and of the characteristics

of the new borrowings which comply with the basic principles and objectives set by this strategy.

Absolute CaR

Expected Cost

Relative CaR

The model indicates that in the period between October 31, 2014 and the end of 2015, under the

most rigorous conditions, with confidence level of 99%, the amount necessary to service the public

debt which belongs to the securities portfolio will not exceed the amount of RSD 30.6 billion over the

amount necessary to service this part of portfolio, under the same exchange and interest rates

conditions. Securities in the public debt portfolio are dinar-denominated securities (Government bills

and bonds), and fixed coupon securities (Eurobonds and euro-denominated bonds issued in the

domestic market), so the interest risk equals zero in all the results of the model. Currency risk is

represented compared to the dinar exchange course against the two currencies dominating the

portfolio – euro and dollar. The RSD-EUR exchange course has a share of RSD 20.5 billion in the total

value of CaR model, whereas the risk of unfavorable RSD-USD exchange course trend is estimated to

be at RSD 10.1 billion. The model indicates that with the probability of 95% or 90% we can count on

increased servicing costs which will be under RSD 22.9 or RSD 18.8 billion until the end of 2015. The

exchange rate contribution shall be RSD 15.7 and RSD 7.2 billion for the confidence level of 95%, and

RSD 12.9 and RSD 5.9 billion for the confidence level of 90%. Finally, CaR value of RSD 4.2 billion for

2015, at the bottom of the table, shows the degree of public debt costs increase compared to the

amount determined by the current risk factors values (in this case dinar exchange course against

euro and dollar) with 50% probability.

Table 29. CaR Model Results

Period***

CaR Value*/** 2015 2016 2017

Absolute CaR (99. percentile) 30,605,249 97,635,151 486,174,563

Out of

which

currency RSD:EUR 20,458,878 55,096,457 83,942,780

RSD:USD 10,146,371 42,538,694 402,231,783

interest 0 0 0

Absolute CaR (95. percentile) 283,422,437

Out of

which

currency RSD:EUR 15,748,179 40,002,151 61,836,856

RSD:USD 7,214,794 30,337,785 221,585,581

interest 0 0 0

Absolute CaR (90. percentile) 220,246,006

Out of

which

currency RSD:EUR 12,904,611 32,062,756 50,653,058

RSD:USD 5,904,610 22,849,866 169,592,948

interest 0 0 0

Average CaR (50. percentile) 57,029,144

Out of

which

currency RSD:EUR 2,940,837 7,693,127 12,521,797

RSD:USD 1,269,566 5,110,889 44,507,347

interest 0 0 0 * Number of simulations: 10,000, on a daily basis.

** In RSD thousand.

*** The time period is between October 31, 2014 until December 31, of each given year.

Risk factors have a more significant role in the long-term period. Partly due to immanent insecurity,

and partly because the public debt structure tends to change in favor of securities and currency

structure of US dollar-denominated Eurobonds.

Bearing in mind that the largest part of the debt is in foreign currency (at the end of October 2014

about 78% of the debt was in foreign currency), exposure to foreign currency risk is high. This risk

was realized in 2012, when dinar was depreciated for over 10% in only a couple of months, and as a

result the public debt-to-GDP ratio rose for over 5 percentage points, solely because exchange rate of

EUR and USD rose against RSD.

Each change of dinar exchange rate against euro or US dollar of 1% towards depreciation of dinar, as

part of the basic scenario, will lead towards the absolute debt growth of RSD 21.9 to 24.8 billion in

the following period, 2015-2017, i.e. relatively about 0.56% of GDP (assuming that the other foreign

currencies do not fluctuate significantly against euro).

For the public debt stock it is crucial that the EUR-USD relation does not have significant deviation

from the basic scenario. In the case of deviation towards the growth of US dollar against euro for 1%,

the public debt balance will increase from RSD 9.3 to RSD 10.5 billion in the following period – 2015-

2017, i.e. relatively about 0.24% of GDP.

In the domain of interest risk, Serbian public debt has the benefit that about 76.3% of the central

government public debt at the end of October 2014 had fixed interest rate. The major variable

interest rate is Euribor. If Euribor were to change for 10 base points compared to the basic

projection, the interest would rise for about RSD 0.4 billion.

Long-Term Strategic Framework of Public Debt Management

The basic strategic objectives which are to be acquired in the following long-term period, in

order to minimize the risk of increased debt and public debt servicing costs are the following:

o The share of dinar-denominated debt should be about 20-25% of the overall public debt in

the medium-term period;

o The share of euro-denominated debt in the public debt should be at least 60% of the foreign currency debt, including the future borrowings and transactions;

o The share of floating interest rate should drop to below 20% in the mid-term period;

o Average time to refixing (ATR) should remain at a level of at least 4.5 years, in accordance with the above mentioned measure of gradual decrease of floating interest rate debt share;

o Weighted average interest rate (WAIR) for internal public debt shall not exceed 10% in short-term and mid-term debts;

o The share of the short-term debt (whose maturity is up to a year) shall be up to 15% of the overall public debt;

o The average maturity time (ATM) of internal debt shall be at a level of at least 4 years in mid-term;

o The average maturity time (ATM) of external debt shall remain at a level of from 6 ± 0.5 years in the same time framework

Public Debt Stock According to the National Methodology and Maastricht Criteria

It is important to mention that, according to the national methodology, public debt stock includes

direct liabilities of central government, as well as all indirect liabilities, i.e. guaranteed debt for the

public enterprises, local government, and other legal entities, founded by the Republic of Serbia. This

stock encompasses all the guarantees, regardless of whether they will be activated in the following

period or not.

Considering the fact that one of the major economic and political objectives of the Republic of Serbia

is EU accession, compliance of domestic methodology and the European standards arises as a

prerequisite. For that reason, the public debt stock is regularly analyzed based on the criteria of the

Maastricht Treaty, which are the systematic guidelines with the goal to maintain the public debt and

the fiscal system, i.e. the macroeconomic stability. According to these criteria, apart from the direct

liabilities of central government, the public debt stock should also include non-guaranteed debt of

local government, and exclude the debt based on direct and indirect liabilities that the Republic

(central government) does not pay for.

Maastricht criteria defines public debt in the official EU document called Protocol on the Excessive

Deficit Procedure – EDP, which is part of the Treaty of Maastricht and Article 1 (5) of the Regulation

(EC) No. 479/2009, as the total gross debt of general government at nominal value.

This debt is measured at nominal value equal to the agreed amount of debt the Government must

repay the creditors at maturity. That means that public debt is not influenced by the market yield

changes and it excludes the unpaid accrued interest.

Table 30. Public Debt Structure and Projection until 2017 According to the Maastricht

Criterion

2013 October 31, 2014 2014p 2015p 2016p 2017p

In RSD billion

Total direct liabilities 1,912.4 2,266.8 2,307.6 2,511.0 2,712.0 2,893.5

Guaranteed debt 209.0 189.6 198.6 233.8 226.5 192.4

Remaining debt of the Government

sector

5.6 2.3 2.2 1.3 0.7 0.4

Local government debt 81.3 82.4 84.3 95.3 102.4 109.7

Social insurance institutions debt 0 0 0 0 0 0

Public debt of the Republic of Serbia 2,208.3 2,541.1 2,592.7 2,841.4 3,041.6 3,196.0

Public debt of the Republic of Serbia

/ GDP

57.0% 64.6% 66.8% 71.6% 72.5% 71.7%

Improvement Measures for Dinar-Denominated Securities Market in the period 2014-2017

In the period of 2011 – October 2014, the Government securities market has achieved the set

objectives, primarily regarding the financing instrument, but also when it comes to maintaining

stability of diversified investor base. The development policy of the domestic market of securities has

enabled the continuity of Serbia’s budget financing, as well as broadening the amount that will be

financed from the issue of Government securities in the domestic financial market. Transferring from

short term financing resources, which were used in the period up to 2010, to the mid-term and long-

term financing instruments, and the constant drop in borrowing costs, have influenced the reduction

of refinancing risk, as one of the primary risks in the public debt management process. Transparent

work and reports, as well as presence on the international capital market, helps the non-residents to

be informed and therefore interested to invest their capital into borrowing instruments, primarily

into long-term Government securities, which enhances the development of a stable investor base.

This year’s issue of ten-year bonds has concluded the maturity development on the yield curve, of

both dinar and euro denominated Government securities, which is the prerequisite to the future

steps of domestic capital market development, primarily regarding the development of the strategy

to establish benchmark issue in the domestic financial market, as well as to develop secondary

market of Government securities.

The period to which this strategy applies is expected to improve the efficiency of the primary market

through the concept of primary dealers, as a mechanism of selling Government securities which can,

in the long run, directly contribute to the reduction of borrowing costs and refinancing risk.

Introduction of the selling system for the Government securities in the domestic financial market

through primary dealers is a solid base for the improvement of the market efficiency of the

secondary market of Government securities. In time, the development of the secondary market will

establish the concept of market efficiency in the process of Government securities evaluation. Year-

long development of yield curve maturity of Government securities created the conditions necessary

to design the strategy for the issue of benchmark bonds of the Republic of Serbia. Introduction of the

benchmark issue of bonds will have a positive effect on the amount and continuity of secondary

trade, as well as on the improvement of market efficiency in the process of selling Government

securities in the primary market.

We should highlight the fiscal result, expected inflation rate and foreign currency exchange rate as

the key factors that influence the yield curve of the Government securities. A special group of factors

are the macroeconomic trends and expectations, as well as changes in the international financial

market, which reflects the premium risk of the country.

Graph 33. Structure of holders of Government securities issued in the domestic financial

market by the entity type on October 31, 2014

59,9%

5,2%

32,2%

2,6% 0,1%

Domestic legal entities

Custody

Foreign legal entities

Funds

Foreign and domestic individuals

Graph 34. Structure of entities - holders of Government securities issued in the domestic

financial market - by their occupation, on October 31, 2014

The plan to extend the average maturity of the dinar-denominated securities depends on a series of

factors, primarily on the success of Government and the NBS in the process of dinarization and

maintenance of the set inflation framework, along with the growth of confidence in the monetary and

economic policy of the Government and the NBS, as well as the stability of the dinar exchange rate.

At the end of 2011 the average maturity of dinar-denominated securities was 272 days (0.75 years),

at the end of 2012 it was 394 days (1.1 year), at the end of 2013 it was 469 days (1.3 years), and on

October 31, 2014 it was 645 days (1.8 years). The maturity has grown over the years and during

2014 there was the most significant improvement, due to successful issue of bonds of three, five,

seven and ten years. Public Debt Management Strategy for the period 2014-2016 predicted the

increase of average maturity of dinar-denominated securities to 2 years in the period. Bearing in

mind that during 2014 the average maturity planned was already near the goal, the new objective is

to have average maturity of dinar-denominated securities ranging from 2 to 2.5 years until 2017.

The Republic of Serbia will implement the following measures to develop the domestic market for

Government securities:

o The volume of issues is conditioned by market capacity and creating benchmark issue will be

based on reopening the existing issued. The reopening principle will mainly regard all the

securities with the maturity of three years or longer, as it is clear that these securities should

have the largest share in the secondary trade and have the adequate benchmark values;

o In order to create a base of investors as large as possible and to develop the secondary

market for securities issued in domestic market, the Government created an equal tax

treatment for the domestic and foreign investors at the end of 2011, and in the following

period, efforts will be made to remove all the obstacles to a free capital flow. The current

structure of domestic investors is exceedingly homogenous (mainly the banking sector) and

such structure does not contribute to the development of secondary market. Pension funds

and insurance companies (life insurance) have limited possibilities of placing the funds, since

this type of savings is not highly developed. During the last two years there has been a

noticeable trend of increased share of foreign investors, and a change in the investor

structure. The current investors structure is expected to remain in the following three-year

period, which could contribute to the development of secondary market;

62,0%

29,8%

7,8%

0,1% 0,3%

Banks

Investment funds

Insurance companies

Individuals

Pension Funds, Broker companies andothers

o The possibility of clearing and settling the domestic securities transactions through the

international clearing system is to be considered in the following period;

o The possibility of introducing the primary dealers will be considered in the following period;

o In order to increase the investments of domestic natural persons, there will be additional

efforts in the domain of educating the citizens of Serbia, and enabling trade on Belgrade stock

exchange with long-term Government securities, after the amendments of the Public Debt

Law;

o In the following period, the Ministry of Finance will modify the auction platform, based on

the suggestions from the investors, in order to satisfy the interests of both parties in the best

and the most acceptable manner.

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