State-sanctioned Treasury Bills Spoils Gov't, the Market Offers Salvation

Jul 31 , 2021
By Abdulmenan Mohammed

State-sanctioned treasury bill buying by agencies has encouraged loose behaviour in public expenditure, as this way of deficit financing is cheap. The market-driven auction system is visibly changing this and, complemented with other policies, it could be the way to address inflation, writes Abdulmenan Mohemmed (, a financial analyst.

The move towards a market-based treasury bills' auction is one of the significant steps taken in financial sector reforms. It is part of a broader reform package including, the fast depreciation of the Birr against a basket of currencies and lifting the burden off private banks to pour a big chunk of their deposit into five-year bills.

Budget deficits over the past decade and a half have been primarily financed by direct advances from the National Bank of Ethiopia (NBE). The sale of treasury bills has played some part in funding budget deficits. The issuance of treasury bills has been made to a captive domestic market at meagre interest rates, and the participants have mainly been a few state-owned agencies. As the interest rates were far below the savings rates, the private sector was barely participating.

The introduction of a market-based treasury bills auction has several implications. It reduces the heavy reliance on borrowing from the central bank to fund budget deficits, increases the treasury bills interest rates, improves the participation of the private sector, helps financially discipline the government, properly rewards those state agencies which invest in treasury bills and corrects the market distortions caused by state-sanctioned auctions.

The number of private sector players has increased significantly following the introduction of the market-based auction. In the first quarter of the past fiscal year, the auction attracted as high as 133 private bidders out of 159. This number was zero just a couple of years ago. The growing participation of the private sector in treasury bills has enabled the government to raise a considerable amount of money to finance budget deficits. It has encouraged the administration to scale down borrowing from the central bank.

The net proceeds from the sale of treasury bills reached 21.81 billion Br between the fourth quarter of 2019/20 and the second quarter this year. That the borrowing from the central bank appears to have decreased is promising. Direct advances to the government, which grew by 18pc last year, only increased by seven percent in the period that treasury bills sales surpassed 20 billion Br.

The role the market-based treasury bills auction played in correcting market distortion is notable. Greater budget deficit entails raising a significant amount of money from the market through the sale of treasury bills, increasing their supply. As long as the supply of treasury bills exceeds the demand for them, the interest rates payable on these bills will surely increase. This will drive saving and lending interest rates up as the treasury bills rates serve as a benchmark. Real saving rates, which are negative due to inflation, will eventually go up as a result. So do the lending rates.

Recent trends in the treasury bills rates and saving interest rates corroborate this. Except for two auctions since December last year, treasury bills supply has outstripped demand. This has driven interest rates for all maturing date bills upwards. In between, the simple average rate went up to 10.69pc from 6.55pc. This seems to have pushed time deposit rates to as high as 13.5pc.

Increased saving rates, particularly real positive rates, encourage more savings, reduce consumption, and encourage investments. Higher saving rates pushes the real average lending rates up, which have been negative for more than a decade. This corrects speculative investments such as real estate, and borrowers pay the true price of bank loans.

The state-sanctioned treasury bills auction encourages loose behaviour in public expenditures as this way of deficit financing is cheap. With a market-driven system, a widening budget deficit entails a significant interest cost due to the increased sale of treasury bills at high interest rates. As this cannot be sustainable, the government should discipline itself to be austere on its expenditures and balance its books.

The introduction of a market-based treasury bills auction keeps inflation at bay by encouraging the government to reduce borrowing money from the central bank. Unfortunately, the gains that could be accrued from this measure in fighting inflation are undermined by the depreciation of the Birr, severe foreign exchange shortage, political instability, the war in the Tigray Regional State and poor productivity in the agriculture and logistics sectors.

The step taken to treasury bills auction helps reduce inflation if other policies complement it. This entails gradual phasing out the government borrowing from the central bank and putting legal limitations, slowing down the fast depreciation of the Birr, and tackling the bottlenecks that cripple manufacturing exports, agricultural productivity and logistics.

PUBLISHED ON Jul 31,2021 [ VOL 22 , NO 1109]

Abdulmenan Mohemmed (, a financial statement analyst with two decades of experience.

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