Treasury Management and Investment Strategy

6. The borrowing requirement comprises the expected movement in the Capital Financing Requirement and any maturing debt which will need to be re-financed.  The table below shows this effect on the treasury position over the next three years.  The expected maximum debt position during each year represents the Operational Boundary prudential indicator, and so may be different from the year end position.  The table also highlights the expected change in investment balances.

7.  The potential impact of the above movements on the revenue budget are:

Limits to Borrowing Activity

8. Within the prudential indicators there are a number of key indicators to ensure the Council operates its activities within well defined limits.

9. For the first of these the Council needs to ensure that its total borrowing net of any investments, does not, except in the short term, exceed the total of the CFR in the preceding year plus the estimates of any additional CFR for 2010/11 and the following two financial years (the relevant comparative figures are highlighted).  This allows some flexibility for limited early borrowing for future years, but ensures that borrowing is not undertaken for revenue purposes.      

* - Under the Prudential Code revision any falls in the CFR are ignored.

10. The Director of Finance and Corporate Services reports that the Council complied with this prudential indicator in the current year and does not envisage difficulties for the future.  This view takes into account current commitments, existing plans, and the proposals in this budget report. 

11. The Authorised Limit for External Debt – A further key prudential indicator represents a control on the overall level of borrowing.  This represents a limit beyond which external debt is prohibited, and this limit needs to be set or revised by full Council.  It reflects the level of external debt which, while not desired, could be afforded in the short term, but is not sustainable in the longer term. 

12. The Authorised Limit is the statutory limit determined under section 3 (1) of the Local Government Act 2003. The Government retains an option to control either the total of all councils’ plans, or those of a specific council, although no control has yet been exercised.

13. The Council is asked to approve the following Authorised Limit:

14. Borrowing in advance of need – The Council has some flexibility to borrow funds this year for use in future years.  The Director of Finance and Corporate Services may do this under delegated power where, for instance, a sharp rise in interest rates is expected, and so borrowing early at fixed interest rates will be economically beneficial.  Whilst the Director of Finance and Corporate Services will adopt a cautious approach to any such borrowing, where there is a clear business case for doing so borrowing may be undertaken to fund the approved capital programme or to fund future debt maturities.  Borrowing in advance will be made within the constraints that:

• It would not look to borrow more than 18 months in advance of need.

15. Risks associated with any advance borrowing activity will be subject to appraisal in advance and subsequent reporting through the mid-year or annual reporting mechanism.

Expected Movement in Interest Rates

Medium-Term Rate Estimates (averages)

* Borrowing Rates

16. Short-term rates are expected to remain on hold for a considerable time. The recovery in the economy has commenced but it will remain insipid and there is a danger that early reversal of monetary ease, (rate cuts and Quantitative Easing), could trigger a dip back to negative growth and a W-shaped GDP path.

17. Credit extension to the corporate and personal sectors has improved modestly but banks remain nervous about the viability of counterparties. This is likely to remain a drag upon activity prospects, as will the lacklustre growth of broad money supply.

18. The main drag upon the economy is expected to be weak consumers’ expenditure growth. The combination of the desire to reduce the level of personal debt and job uncertainty is likely to weigh heavily upon spending. This will be amplified by the prospective increases in taxation already scheduled for VAT and National Insurance. Without a rebound in this key element of UK GDP growth, any recovery in the economy is set to be weak and protracted.

19. The Monetary Policy Committee (MPC) will continue to promote easy credit conditions via quantitative monetary measures. Quantitative Easing has been extended to a total of £200bn and there is still an outside chance that it could be expanded further in February. Whether this has much impact in the near term remains a moot point given the personal sector’s reluctance to take on more debt and add to its already unhealthy balance sheet.

20. With inflation set to remain subdued in the next few years (though a sharp blip is forecast for the next few months), the pressure upon the MPC to hike rates will remain moderate. But some increase will be seen as necessary in 2010 to counter the effects of external cost pressures (as commodity price strength filters through) and to avoid damage that sterling could endure if the UK is seen to defy an international move to commence policy exit strategies.

21. The outlook for long-term fixed interest rates is a lot less favourable. While the UK’s fiscal burden should ease in the future, this will be a lengthy process and deficits over the next two to three financial years will require a very heavy programme of gilt issuance. The market will no longer be able to rely upon Quantitative Easing to alleviate this enormous burden.

22. The programme might well end in February, especially if the economy has returned to a recovery path as seems very likely. With growth back on the agenda and inflation challenging the upper limit of the Government’s target range, the majority of MPC members may feel enough assistance has been given to ensure lack of credit is no longer a fundamental threat to the welfare of the economy.

23. The absence of the Bank of England as the largest buyer of gilts will shift the balance between supply and demand in the gilt-edged market. Other investors will almost certainly require some incentive to continue buying government paper.

24. This incentive will take the form of higher interest rates. The longer fixed interest rates will suffer from the lack of support from the major savings institutions – pension funds and insurance companies who will continue to favour other investment instruments as a source of value and performance. The shorter fixed interest rates will be pressured higher by the impact of rising money market rates. While bank purchases in this part of the market will continue to feature as these institutions meet regulatory obligations, this process will be insufficiently strong to resist the upward trend in yields.

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Back: Treasury Management Strategy

• Treasury Management and Investment Strategy
• Debt and Investment Projections
• Borrowing Strategy
• Investment Strategy
• Prudential Indicators and Limits on Activity

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