According to the Public Debt Act (Zakon o javnom dugu) of the Republic of Serbia, the Minister of Finance manages the country's public debt by (i) entering into transactions that would reduce or eliminate currency risk, interest rate risk and other risks, (ii) deciding on the sale and purchase of foreign currencies, and (iii) managing cash balances on the Republic of Serbia's treasury accounts. The aim of public debt management is to provide the means for regular servicing of budgetary needs at the most favourable conditions and cost of financing, with an acceptable level of risk.
The Public Debt Act entrusts the Government of the Republic of Serbia to regulate the conditions for the performance of financial transactions by the country for public debt management purposes. The Government did this on 26 December 2019 by adopting the Regulation on the Performance of Financial Derivatives Transactions for the Purpose of Managing the Republic of Serbia's Public Debt (Uredba o obavljanju poslova sa finansijskim derivatima u cilju upravljanja javnim dugom Republike Srbije) ("Derivatives Regulation").
The Derivatives Regulation entered into force on 4 January 2020 and has the following key features:
The Derivatives Regulation lays down the general conditions for the performance of financial derivatives transactions by the Republic of Serbia as a sovereign counterparty. Such derivatives transactions may solely be entered into for the purpose of hedging against risks affecting the amount and structure of public debt and costs of financing of public debt liabilities.
The Derivatives Regulation defines hedging (zaštita od finansijskog rizika (hedžing)) as a combination of derivatives transactions seeking to manage, reduce or eliminate risk (exchange rate risk, currency volatility risk and other types of risk) relating to the debt instruments issued by the Republic of Serbia.
Within the meaning of this Derivatives Regulation, the following are regarded as financial derivatives: interest rate swaps, cross currency swaps, basis swaps, FX swaps, options, futures and forwards.
The Derivatives Regulation envisions these counterparties: (i) the Ministry of Finance on behalf and for the account of the Republic of Serbia; and (ii) a counterparty.
The Minister of Finance is authorised to negotiate and enter into ISDA Master / CSA agreements on behalf of the Government and for the account of the Republic of Serbia. The Minister of Finance or a designated Ministry of Finance employee authorised by the Minister may enter into derivatives transactions on behalf and for the account of the Republic of Serbia.
To be eligible to enter into derivatives transactions with the Republic of Serbia, a counterparty must fulfil the following conditions:
- it must be a financial institution licensed to enter into banking transactions, supervised by the regulatory body in its country of origin;
- it must enter into an ISDA Master Agreement; and
- it must have a credit rating which is not below BBB-/Baa3 and must originate from a country having a long-term credit rating not below BBB-/Baa3 according to well-known rating agencies.
The credit rating is further regulated as follows:
If a counterparty (of the Republic of Serbia) obtained a different credit rating from different rating agencies, the Ministry of Finance shall take into account that counterparty's second-highest credit rating.
If a counterparty is a subsidiary, a guarantee shall be required from the parent company, and the credit rating applied shall be that of the parent company, unless otherwise specified in the agreement. The minimum credit rating for the parent company must be BBB-/Baa3.
If a counterparty's credit rating should fall below the minimum threshold, entry into a transaction with that counterparty will only be permitted for the Republic of Serbia where it is necessary to reduce the risk arising out of the transactions already entered into with that counterparty, subject to approval by the Minister of Finance or a designated Ministry of Finance employee authorised by the Minister for that purpose.
If a counterparty's credit rating should fall below the minimum threshold, the existing derivatives transactions may be held to maturity on account of the costs of termination of all transactions with such counterparty, subject to prior approval by the Minister of Finance or a designated Ministry of Finance employee authorised by the Minister for that purpose.
The Public Debt Administration (Uprava za javni dug), which is established as a sub-organisational unit of the Ministry of Finance to support the administrative activities of public debt management, is authored to define the Republic of Serbia's requirements for the implementation of derivatives transactions and to implement the derivatives transactions.
The Public Debt Administration shall collect bids for entry into transactions from at least three potential counterparties and shall confirm which parties are eligible. The Minister of Finance will enter into the derivatives transaction with the counterparty having bid the most favourable price defined in the request for quotation. If several interested parties provide the same quotation, the bid accepted shall be the one provided by the party with the highest credit rating. If several interested parties with equal credit rating provide the same quotation, the Minister of Finance may enter into a transaction with an interested party taking into account the quality, overall bid and cooperation with that interested party. The Minister of Finance may enter into the transaction with several counterparties at the same price.
The transaction may be entered into via a Bloomberg terminal or by email, or in another manner agreed in the ISDA Master Agreement.
Derivatives transactions may be entered into with or without collateral. Where a CSA has not been signed and the transactions have been performed without collateral, restrictions for the credit limit per transaction and per party shall be set for the counterparty to limit the maximum risk exposure.
Financial collateral will be provided and the right to satisfy claims from the collateral (including credit claims) will be exercised according to the provisions of the Financial Collateral Act (Zakon o finansijskom obezbeđenju), unless otherwise agreed in the ISDA Master Agreement and the CSA.
By Petar Kojdic, Partner, Schoenherr