WP/12/158

Government Bonds and Their Investors:
What Are the Facts and Do They Matter?
Jochen R. Andritzky© 2012 International Monetary Fund

WP/12/158

IMF Working Paper
Fiscal Affairs Department
Government Bonds and Their Investors: What Are the Facts and Do They Matter?1
Prepared by Jochen R. Andritzky
Authorized for distribution by Martine Guerguil
June 2012

This Working Paper should not be reported as representing the views of the IMF.
The views expressed in this Working Paper are those of the author(s) and do not necessarily
represent those of the IMF or IMF policy. Working Papers describe research in progress by theauthor(s) and are published to elicit comments and to further debate.
Abstract
This paper introduces a new dataset on the composition of the investor base forgovernment securities in the G20 advanced economies and the euro area. During the last
decades, investors from abroad have increased their presence in government bondmarkets. The financial crisis broke this trend. Domestic financial institutions allocated alarger share of government securities in their portfolios, as Japan has done since its crisisin the 1990s. Increases in the share held by institutional investors or non-residents by 10
percentage points are associated with a reduction in yields by about 25 or 40 basis points,
respectively. The data show a varied lead-lag relationship between bond yields andinvestor holdings. Portfolio balance estimates suggest that a change in statutory or
regulatory holdings of government securities to the tune of 10 percent of the outstanding
stock causes expected returns to decline by 7 to 25 basis points.
JEL Classification Numbers: G11, H63
Keywords: Public debt, government bonds, investor base, advanced market economies
Author’s E-Mail Address: jandritzky@imf.org
1

Comments and helpful thoughts are gratefully acknowledged from Serkan Arslanalp, Max Fandl, Martine
Guerguil, Manmohan Kumar, Andre Meier, Christian Schmieder, Tobias Wickens, and participants at the IMF
seminar. I would also like to thank Petra Dacheva and Carsten Jung for outstanding research assistance.

2

Contents

I. Introduction ................................................................................................................................ 3
II. The Dataset ................................................................................................................................ 6
III. What are the Facts? .................................................................................................................. 8
IV. Does the Investor Base Matter? ............................................................................................. 16
A. Background ......................................................................................................................... 16
B. How Is the Investor Base Related to Yields? ...................................................................... 19
C. Do Portfolio Shifts Affect Expected Bond Returns? .......................................................... 23
V. Conclusions ............................................................................................................................. 25
References .................................................................................................................................... 27

3

I. INTRODUCTION
The recent crisis has led to a change in investors’ demand for government bonds amid
increased issuance volumes. Prior to the crisis, a narrowing supply of new government
securities was increasingly taken up by non-resident investors, often undercutting bids fromdomestic accounts. Since the onset of the crisis, the investor base of government securities
has shifted back towards domestic holders. Central banks have become important players in
the government bond market as a result of quantitative easing programs. Also, commercial
banks started to hold more government bonds, partly to obtain collateral, despite a reductionin their overall balance sheet. With financial globalization stagnating and global imbalanceson the back foot, the underlying drivers of higher non-resident holdings have weakened forsome time.
The widely observed shift in the investor base has prompted policy makers andinvestors to inquire about the implications of changes in bond ownership. Policymakers
have recognized the importance of knowing their investors and the role of financial
interlinkages between sectors of the economy. Investors and their intermediaries havebecome wary of the behavior of competing types of investors. This paper attempts to address
two of the myriad of questions that have arisen from the newly gained attention to theinvestor base:Which investor groups hold what exposure to government securities?
The question has been of interest, for instance, with regard to contagion risk fromeuro-area government bonds. More broadly, the question is of relevance in evaluating
options on issuance strategies, prudential regulation, collateral policy, and mitigatingbond market pressures through what has been labeled “financial repression” (Reinhart
and Sbranica, 2011).

Is there a link between the investor base and bond pricing?
Anecdotal and empirical evidence has motivated the hypothesis that non-resident
demand reduces yields while inducing volatility in response to changes infundamentals and market sentiment (Beltran et al., 2012; Peiris, 2010). In contrast,
the presence of a stable domestic investor base that includes institutional investors isthought to contain yields and foster stability in bond prices and yields. Institutional
investors could be induced to increase their holdings by tightening prudential
regulations. These mandated purchases, comparable to statutory purchases by central
banks as part of quantitative easing programs, could have a similar effect on yields(Neely, 2010; Joyce et al., 2010).

This paper addresses these questions based on a cross-country dataset of the advanced
G20 countries and the euro area.2 Its objective is to test the above hypotheses in the2

Besides the aggregate euro area, the following member countries are included: France, Germany, Greece,
Ireland, Italy, Portugal, and Spain.

4
context of a wider country sample. The country heterogeneity in the sample differentiates thispaper from other contributions that are essentially case studies of one or a few comparable
countries.3
Existing studies provide country-specific evidence for the relationship between theinvestor base and yields. In Japan, a large domestic investor base has been associated withthe low and stable yields despite very high debt (Tukuoka, 2010; Fidora et al., 2006). Thislarge domestic investor base is mostly a result of the accumulation of pension savings
through deposits and investment funds, coupled with a strong home bias. In the euro area,
equal regulatory treatment and the perception of homogenous credit risk has fosteredinvestors’ desire to diversify, thereby increasing the share of cross-holdings by non-residents(De Santis and Gerard, 2006). While increased cross-holdings may have contributed to thedramatic convergence of euro area yields when the euro was introduced, cross-holdings
continued to increase even after and reversed only recently. In the United Kingdom, longterm yields declined following the increase in pension funds’ holdings of gilts (Greenwood
and Vayanos, 2009). This portfolio shift, in particular into ultra-long gilts, has been attributed
to amendments of U.K. pension fund regulations with the aim of reducing the maturity
mismatch between assets and pension liabilities. Mainly for the United States and the United
Kingdom, large-scale asset purchases by central banks have had small yet notable effects onyields.4
While case studies can plausibly explain country idiosyncrasies, a broader study design
helps to establish generally applicable relationships. Although the above case studies
suggest a forceful connection between bond yields and the investor base, a broader analysis
could help determine whether any change in the investor base goes along with a yield changeof significant dimension. Theoretical considerations suggest that changes in the compositionof the investor base are associated with changes in the level or slope of the yield curve only
to the degree that investor groups hold different perceptions or risk preferences.5 This
argument has been made in relation to the re-investment of accumulated reserves, which inlarge parts were invested into government bonds of reserve currency issuers without regard
to risk considerations, causing a secular decline in yields (Warnock and Warnock, 2006).
More recently, however, reserve managers started to spread their investments more broadly
and apply risk management techniques similar to other investors (Borio et al., 2008;
3

See, for instance, Krishnamurthy and Vissing-Jorgensen (2010) on the demand for U.S. Treasury bonds;
Gagnon et al. (2010) on the supply of government bonds and quantitative easing in the U.S.; Beltran et al.
(2012) on foreign demand for U.S. Treasury bonds; or Greenwood and Vayanos (2009) on U. K. pension fundregulations. Also, the paper complements the literature that focuses on external debt, which largely corresponds
to non-resident debt holdings. See Peters (2002) for an overview of the empirical literature using external debt
as determinant of emerging market debt crises.
4

Empirical investigations indicate that statutory purchases of up to 15 percent of the outstanding debt stock
have a rather moderate impact of 20 to 100 basis points in the short run while long-run effects are usually lower.
See D’Amico and King (2010), Gagnon et al. (2010), Krishnamurthy and Vissing-Jorgensen (2011), Neely(2010), or Joyce et al. (2010), among others.

5

See Section IV.A for a discussion of the theory.

5
Papaioannou et al., 2006). It is therefore not very evident that certain investor types holdstarkly different preferences. This paper steps away from investigating specific trends (suchas reserve accumulation) or policy actions (such as quantitative easing or regulatory reforms)
and poses the question of the relevance of the investor base in broader terms. On the one
hand, the consequence of such an approach is that the empirical results are likely to be lessstrong compared to investigating specific trends or policy actions. On the other hand, anyrobust empirical result arising from this study design does carry important signals, which
may prompt a new interpretation of existing evidence and caution against premature policy
conclusions.
The econometric results from this paper confirm that an increasing share of nonresident investors is associated with lower yields. Regression analysis shows that the shareof securities held by non-residents is negatively correlated with bond yields. An increase(decrease) in non-resident investors by 10 percentage points is associated with a reduction(increase) in yields of between 32 to 43 basis points, whereby the effect is stronger for euroarea countries. The data also provide evidence that volatility increases in the presence of nonresident investors. However, the relationship between non-resident holdings and yields does
not yet establish whether causality exists between the two. While the arrival of non-resident
buyers, for whom foreign bonds may offer a diversification benefit, is often associated with adrop in yields (“push effect”), it could also be low stable yields based on soundmacroeconomic fundamentals that attract foreign buyers (“pull effect”).6 Granger causality
tests show a multifaceted lead-lag relationship between changes in holdings and yields.
Using a VAR analysis, this paper finds no significant evidence for the push effect, while thestatistical relation between non-resident investors and yields appears to originate from a pull
effect in the joint sample.
The paper also finds that domestic institutional investors are associated with lower
yields, but public sector holdings are not. Regressions show that lower yields areassociated with domestic institutional investors, who—in contrast to banks—are notleveraged buyers and are better positioned to hold investments through a trough (IMF 2012).
No significant effect is identified for holdings by the public sector (which includes central
banks).
Mandated bond purchases are not found to trigger a sizable decrease in yields in a
portfolio balance model. A portfolio balance approach is used to estimate the possible effectif the share of government securities in mean-variance optimized portfolios were to change.
The portfolio balance model translates a change in the weight of government securities in
portfolios into the change in expected returns so that ceteris paribus investors maintain an
optimized portfolio. The approach is suitable to estimate the possible impact of a nonvoluntary change in portfolio weights, for instance in response to regulatory reforms, shifts insupply, or statutory purchases from accounts that do not apply portfolio optimization. Results
point to a fairly muted response. A 10 percentage point decrease in the portfolio weight of6

Previous studies on foreign investment flows into emerging markets have found a strong relationship withmacroeconomic and institutional factors. See Bekaert and Harvey (2003) for an overview of the literature.

6
government securities in optimized portfolios results in a decrease of expected annual returns
by 0.07 to 0.25 percent.
The remainder of this paper is structured as follows. Section II introduces the dataset.
Section III illustrates the data, providing insights on sectoral exposures to government
securities in the sample of 13 countries. Section IV conducts some econometric analysis togauge whether the composition of the investor base is related to bond yields. Section V
summarizes.

II. THE DATASET
The dataset attempts to break down individual country data according to a common
typology of investors. All data were collected from publicly available sources, with the
exception of Canada where Statistics Canada composed data for the purpose of this study. Inline with other statistics on marketable securities, data are presented on an unconsolidated
basis where available. The classification of holders follows the ESA95 sectoral breakdown
but uses the broader concept of the “public sector” instead of “general government”.7 The
domestic private non-financial sector is broken down into non-financial corporations anddirect household holdings, both of which hold very small portions of marketable government
securities directly and are therefore often omitted from the analysis. The domestic financial
sector is broken down into banks (excluding the central bank where possible), insurance andpension funds, and other financial institutions. Except for a few countries, no further
breakdown is available for non-resident investors.
The coverage of debt instruments and their valuation differ across national sources. The
database gathers information on marketable government debt traded widely among thedifferent investor classes. Therefore, it excludes debt marketed to certain investors (such asretail products), municipal debt, or non-marketable securities, where possible. Close
substitutes to government securities, such as bonds of state-owned enterprises, are also
excluded. Data availability, however, sometimes requires compromises. As Table 1 shows,many countries do not provide a breakdown by holders for marketable central government
debt but instead for consolidated general government debt. Outstanding amounts may bereported at nominal or market value, although the difference between the two is small in mostcases. Because of differences in the consolidation level, coverage, and valuation, theaggregate debt covered in this database does often not match official statistics on
consolidated general government debt. Differences are largest for countries with large
amounts of debt issued by entities other than the central government or significant amounts
7

Holdings of the public sector include holdings of the all levels of the government, social security funds, andstate-owned entities, such as the domestic central bank and public pension funds which are classified as
financial sector in ESA95. Data on central bank holdings are available for all countries except for Korea,
Greece, Ireland, and Spain. While other intragovernmental holdings are often available for other countries,
social security and public pension fund holdings are readily available only for Canada and Japan. For the UnitedStates, the data are sourced from the United States Social Security Administration (www.ssa.gov).

7
of non-marketable debt. Notwithstanding these differences, in the remainder of this paper
the term “government securities” will be used when referring to the debt covered in thisdatabase.
Table 1. Data
Country

Coverage

Instruments

Valuation

Australia
CanadaFranceGermany
GreeceIreland
Italy
Japan
Korea
Portugal
Spain
United Kingdom
United States

General government
General government
General government
General government
General government
Central government
General government
Central government
Central government
General government
Central government
Central government
Central government

Securities
Securities
Liabilities
Liabilities
Liabilities
Bonds
Securities
Bonds
Bonds
Liabilities
Securities
Bonds
Securities

Nominal valueMarket value
Nominal value
Nominal valueMarket value
Nominal valueMarket value
Nominal value
Nominal value
Nominal value
Nominal valueMarket value
Nominal value

Latest data
2011Q4
2011Q4
2010Q4
2011Q3
2011Q3
2011Q3
2011Q3
2011Q1
2011Q3
2010Q4
2011Q3
2011Q3
2011Q3

SourceReserve Bank of Australia
Statistics Canada
ECB
Bundesbank
Bank of Greece
Central Bank of Ireland
Banca d'Italia
Bank of Japan
Bank of Korea
Banco de Portugal
Banco de Espana
ONS, DMOUS Treasury

Source: IMF staff.

This new dataset complements other existing data sources that are related to theinvestor base. Except for the Merler and Pisani-Ferry (2012) data compilation on euro area
countries, there is no publicly available cross-country database on government bondholdings. However, other sources are in part related to the dataset introduced in this paper.
For instance, data on non-resident holdings largely coincide with external government debt
as captured by the BIS-IMF-OECD-Worldbank Joint External Debt Hub (JEDH). A
breakdown of non-resident holders into bank and non-bank investors could be derived fromBIS consolidated banking statistics. The IMF’s Global Financial Stability Report has laid out
a comprehensive methodology for combining above sources to compile government bondholdings by residency.8 Other sources do not allow inferences on the composition of theinvestor base. For instance, financial account statistics record assets and liabilities by
instrument, but not by holder.
The underlying national data are likely to be revised in the context of efforts tostrengthen and standardize data collection and classification across countries. While
there has been progress in closing data gaps related to financial exposures, existing data on
government bond holdings should be used with care as data collection and processing
methods are rapidly evolving. The Task Force on Finance Statistics has developed a global
guide on public sector debt statistics that is hoped to set standards for data collection going
forward.9 A key difficulty for data compilers consists in sourcing the primary data. Holding
data are usually sourced from financial balance sheets, business surveys, and security
8

9

See Annex 1.2, “Compilation of Investor Base Data for General Government Debt” in IMF (2011c).

A draft “Public Sector Debt Statistics: Guide for Compilers and Users,” has been made available in May 2011,
http://www.tffs.org/PSDStoc.htm. See IMF (2011d).

8depositories. Recognizing the difficulty in reconciling these sources, different countries arein the process of setting up a centralized database for security holdings. One example is the
ECB’s Centralised Securities Database (CSDB). Yet, the heightened interest in government
bond markets during this crisis demands a dataset that, even if less accurate, is immediately
available. The data collection underlying this paper attempts to fill this void.

III. WHAT ARE THE FACTS?
A first look at the data reveals large differences with regard to the composition ofcountries’ investor base for government securities. Figure 1 shows the composition of theinvestor base of government securities for 2011 or latest period available. Overall, it suggeststhat the investor base reflects region- or country-specific patterns. Canada, the United
Kingdom, and the United States—countries with very deep financial markets and highly
developed financial systems—exhibit a diversified investor base with significant holdings by
all investor types. European countries (and Australia) show deep ties with non-resident
investors. Further analysis would require a breakdown of non-resident investors by theirrespective sector and home country. In contrast, Japan and Korea have a very low share of
non-resident holdings. Besides domestic financial institutions, government and state-owned
enterprises are significant holders.10 These country differences are present over the entire
sample period, notwithstanding common parallel changes in the composition of investors
across regions.
In many countries, non-resident holders make up the largest share of the investor base.
This is particularly the case for euro area countries, where the share of government securities
held by investors outside the issuer country is among the highest in the sample. Aggregating
the data for individual countries across the euro area (as shown in Figure 1), about one
quarter of the outstanding debt is held by euro-area residents other than the issuing country,
while another quarter is held by residents outside the euro area. Despite the apparently very
high share of non-resident holdings in the euro area, on aggregate the euro area depends lesson foreign buyers than the United Kingdom or the United States. The share of non-resident
holdings has markedly increased during the last decade in all countries with the exception of
Canada and Japan (Figure 2). After 2007, the trend has slowed, and even reversed in the caseof some euro area countries (Greece, Ireland, Portugal, Spain).

10

As data in this paper are presented on an unconsolidated basis where available, intragovernmental holdings
are included, in contrast with the common practice. The difference is particularly noteworthy in the UnitedStates, where the Social Security Trust Fund holds about 20 percent of outstanding U.S. Treasuries.
Intragovernmental holdings in Korea are likely to present only part of holdings by state-owned enterprises.

Figure 1. Holders of government securities in G20 advanced countries and the euro area
Australia 1/

France 7/

Canada 4/

3.0

Germany 9/

Italy 11/

2.6

1.7

12.6

15.1

15.9

22.5

23.6

23.5
13.5

11.1
2.1

5.1

51.4
58.0
17.5

74.7

16.7

59.7

16.7

18.2

27.6
4.3

1.5
Intragovernmental holdings 2/
Domestic banks
Insurance companies and pension funds 3/
Other
Reserve Bank of Australia
Non-residents
Notes:
1/ Source: RBA. Data refer only to Commonwealth Government
Securities, including Treasury Notes.
2/ Includes government financial institutions, such as pension
and provident funds
3/ Life assurance companies and other private financial institutions.

Intragovernmental holdings 5/
Domestic banks 6/
Insurance companies and pension funds
Other
Bank of Canada
Non-residents
Notes:
4/ Source: Statistics Canada. Data refer to Government of Canada
bonds and short term paper, provincial and municipal paper,
including a small portion of non-marketable bonds.
5/ Includes holdings by financial government business enterprises.
6/ Chartered banks and quasi-banks.

Japan 13/

Domestic banks
Other financial institutions
Other 8/Banque de France
Non-residents

1.3

Notes:
7/ Source: ECB. Data refer to consolidated general government
debt.
8/ Excluding intragovernmental holdings.

Korea 17/

Domestic banks
Insurance companies and pension funds
Other
Bank of Italy 12/
Non-residents

Domestic banks
Other 10/
Non-residents
Notes:
9/ Source: Bundesbank. Data refer to central, state, and local
government debt.
10/ No breakdown into insurance companies and pension funds
available. Category includes minor intragovernmental and
Bundesbank holdings.

Notes:
11/ Source: Bank of Italy. Data refer to government securities atmarket prices net of intragovernmental holdings.
12/ Estimated.

Euro area 24/

United States 21/

United Kingdom 19/
0.1

10.5
10.8

14.9
23.9

29.0

30.4
24.6

31.6

26.5

34.4

12.5
29.0
52.1

5.0

11.9

24.6

8.3
7.3

15.2

Intragovernmental holdings 14/
Domestic banks 15/
Insurance companies and pension funds 16/
Other
Bank of Japan
Non-residents
Japan Post Group
Notes:
13/ Source: Ministry of Finance of Japan, Japan Post Group, author's
estimate.
14/ Includes public pensions.
15/ Includes depository institutions, securities investment trusts andsecurities companies, and excludes Japan Post Bank.
16/ Excludes Japan Post Insurance and public pensions.

24.1

11.5

19.7
10.0

Intragovernmental holdings 18/
Domestic banks
Insurance companies and pension funds
Other
Non-residents
Notes:
17/ Sources: Bank of Korea, Ministry of Strategy and Finance.
Shares approximated from different sources.
18/ Includes state-owned financial institutions.

Source: Country authorities, IMF staff calculations.

Intragovernmental holdings
Domestic banks 20/
Insurance companies and pension funds
Other
Bank of England
Non-residents
Notes:
19/ Source: DMO.
20/ Refers to monetary financial institutions excluding thecentral bank.

8.2

12.4

2.0

Intragovernmental holdings 22/
Domestic banks 23/
Insurance, pension, and mutual funds
Other
U.S. Federal Reserve
Non-residents
Notes:
21/ Source: US Treasury.
22/ Includes Government Account Series securities held bygovernment trust funds, revolving funds, and special funds; andFederal Financing Bank securities.
23/ Refers to domestic depository institutions.

7.8
1.7
Domestic banks 25/
Insurance companies and pension funds 26/
Other
NCBs
Non-residents 27/
Notes:
24/ Source: ECB. Data refer to sum of gross consolidated debt forthe 17 euro area countries.
25/ Refers to other monetary institutions.
26/ Refers to debt held by other financial institutions.
27/ Sum of NCB's holdings of the respective country's government
debt.
28/ Sum of individual member countries non-resident holdings, i.e.
includes intra-euro area non-resident holdings.

The existence of international financial centers could bias non-resident holdings
upwards. Statistics on non-resident holdings often do not distinguish between intermediate
holders and ultimate beneficiaries. For instance, the international financial service center in
Ireland may record holdings where the ultimate beneficiary is a resident of the issuer country,
thereby leading to an exaggeration of the ultimate risk held by foreigners. The Bank of Italy
estimates that about 10 percent of non-resident holdings of Italian government securities canbe attributed to Italian savers.11(percent of total)

Figure 2. Non-resident holdings of government securities
100
90
80
70
60
50
40
30
20
10
0

2000

2007

2011

Sources: Country authorities, IMF staff calculations.
1/ Last observation refers to 2010. 2/ First observation refers to 2002.

For reserve currencies, global imbalances and associated reserve flows of foreign
central banks or sovereign wealth funds were a factor behind the increase in nonresident holdings. Current account imbalances are mirrored by the accumulation of crossborder financial claims which are often channeled into deficit countries’ government bondmarkets (Table 2).12 A simple regression associates a 1 percentage point increase in thecurrent account deficit of reserve currency countries with an increase in non-resident
holdings by 0.3 percentage points. Figure 3 provides a closer look at the United States forwhich very comprehensive data exist. More than two-thirds of the foreign-owned U.S.
Treasury securities are classified as reserve holdings. Reserve accumulation has thus
contributed most to the rise in non-resident holdings in U.S. Treasury securities until 2009,
after which foreign official purchases slowed and their share in total non-resident holdings
stagnated (see Figure 3, left panel). The U.S. Treasury (2011) points out that the acceleration
11

12

See Banca D’Italia (2011), pp. 57f.

Note that not all reserve assets may be invested in government bonds. Also, COFER data on the currencycomposition of international reserves cover only about half of total reserves. U.S. TIC data may also understate
actual foreign reserve holdings (Bertraut et al., 2006).

11
of foreign ownership of Treasury debt coincided with the devaluation of the Chinese Yuan inearly 1994, a hypothesis supported by Treasury International Capital (TIC) data on the
country composition of non-resident holdings (Figure 3, right panel).
Table 2. Reserve holdings (2010)
COFER database: Holdings by country group 1/
Advanced

Emerging

Total

Total

(US$ billion)
Euro areaJapan
United Kingdom
United States

665.2
127.0
68.9
1,736.0

682.7
68.0
133.8
1,408.2

National sources 2/(percent of nonresident holdings)(US$ billion)(percent of nonresident holdings)

24.7
43.5
43.0
67.4

…
…
95.7
3,175.7

…
…
20.3
68.0

1,347.9
195.0
202.7
3,144.3

Sources: COFER, country authorities, IMF staff calculations.
1/ Note that COFER data on the currency composition of international reserves cover only half of total reserves.
2/ Latest available (2011). Sources: UK Debt Management Office, TIC database.

Figure 3. Non-resident holdings of U.S. Treasury securities
5.0

By type of non-resident holder:

5.0

4.5

Total non-resident holding
Foreign official holdings

4.5

2.5

2011 1/

2010

2009

2008

2007

2006

2005

2004

2011 1/

2010

2009

2008

2007

0.0

2006

0.0

2005

0.5

2004

1.0

0.5

2003

1.5

1.0

2002

1.5

2003

2.0

2002

2.0

3.0

2001

2.5

3.5

2000

(trillions US$)

3.0

2001

OthersJapan
Other EM 2/
Oil exporters 3/
China 4/

4.0

3.5

2000

(trillions US$)

4.0

By country of non-resident holder:

Source: U.S. Treasury TIC, IMF staff calculations.
1/ August.
2/ Includes Brazil (from 2002), Caribbean banking centers, Chile (from 2008), Colombia (from 2008), India, Korea, Mexico,
Russia (from 2007), Singapore, Taiwan, Thailand, and Turkey (from 2002).
3/ Includes Ecuador, Venezuela, Indonesia, Bahrain, Iran, Iraq, Kuwait, Oman, Qatar, Saudi Arabia, the United Arab Emirates,
Algeria, Gabon, Libya, and Nigeria.

The increase in non-resident holdings was also fueled by financial integration andregulatory changes. The period leading up to the global financial crisis was marked by abroad-based trend toward international financial integration, which in turn encouraged theinternational diversification of portfolios and larger cross-border holdings. This appears tobe the main driver in many non-reserve countries. In addition, supporting regulatory changes
catalyzed larger non-resident holdings. For example, government bonds of all euro area
issuers received a zero risk weighting for the calculation of capital adequacy ratios.

12With the advent of the crisis, the trend towards larger non-resident holdings has stalled
and, in some countries, started to reverse. Owing to the recent decline of current accountimbalances (and changes to the management of international reserves), reserve accumulation
has ceased to act as main driver of non-resident government bond holdings for reserve
currency issuers. In other, riskier markets, the crisis triggered a marked pullback of foreign
investors, repeating a typical pattern of increased home bias in the aftermath of crises.13 The
recent tightening of prudential rules may have cemented this development.

(percent of domestic financial assets)

Figure 4. Domestic portfolio share of government securities 1/
16
14
12
10

2000
2007
2011

8
6
4
2
0

Sources: Country authorities, OECD.
1/ First observation refers to 2002 for Korea and 2001 for Ireland (estimated).

As flipside to the increasing share held by non-residents in the pre-crisis period,
domestic investors held a lower share of government securities. With regard to the total
outstanding, the share of government securities held in domestic accounts decreased prior tothe crisis. Furthermore, the growth of other financial instruments dwarfed the issuance ofgovernment debt. As a result, the portion of domestically held government securities inpercent of total domestic financial assets shrunk significantly in the run-up to the crisis(Figure 4). The decline was particularly pronounced in countries where financial systems
deepened significantly or credit booms took place, such as Greece. These developments
during the last decade did not apply to Japan. In Japan, high levels of new bond issuancewere coupled with the deleveraging of balance sheets, causing the share of government
securities in domestic portfolios to increase during the entire period. As the credit boom
came to an end, the same development set in in other countries. Investors started todeleverage, while also seeking the safety of government bond investments (IMF 2011b). In

13

See for instance Giannetti and Laeven (2012).

13
many countries, the new supply of government securities caused by high deficits was overproportionally picked up by local investors.
Among domestic holders, financial institutions are the most important investors ingovernment securities. Figure 5 shows government securities holdings as percent of total
financial assets of financial institutions, derived from national accounts balance sheet data.
Traditionally, bank holdings were low in market-based financial systems such as the United
Kingdom and the United States. In the more bank-based financial systems of the euro area
(and Canada), banks traditionally hold a larger share of their assets in government securities.
(However, in countries where significant financial deepening took place, banks reduced theirlarge holdings of government bonds.) Financial institutions hold a relatively high share ingovernment securities in highly indebted countries, in particular Japan.14 In recent years,
marked by the deleveraging and increased government deficits, financial sector holdings rosein many countries. The future outcome could possibly resemble the development in Japanover the last decade where increasing government debt and financial sector restructuring has
lead to a sizable concentration of sovereign exposure in the financial sector. As a result,financial stability in Japan became closely intertwined with the stability of the government
bond market.

Table 3. Public sector holdings (2011)

Government 1/
Australia
CanadaFrance 2/
Germany
GreeceIreland
Italy
Japan
Korea
Portugal 2/
Spain
United Kingdom
United States

0.3
13.0
…
…
10.6
1.0
…
0.0
…
…
10.0
0.0
8.3

Holdings of the public sector in percent of total
PublicCentral bankSocial Security
corporations
4.8
5.1
1.3
0.3
…
…
5.2
7.9
…
0.8
…
16.3
9.3

…
1.7
…
…
…
…
…
9.9
…
…
…
…
19.6

…
…
…
…
…
…
…
0.7
…
…
…
0.1
…

Total
5.1
19.8
…
0.3
10.6
1.0
5.2
18.5
23.9
0.8
10.0
16.4
37.2

Sources: Country authorities, IMF staff calculations.
1/ Central, state and local levels. 2/ Refers to 2010.

14

In Italy, domestic banks hold a significant amount of other Italian government debt (6 percent of total assets)in addition to Italian government securities (7 percent of total assets).

14
Figure 5. Share of domestic government security holdings in financial institutions
50

250

Japan: Share of JGB
holdings as percent of total assets

50

150

30

150 30

150

100

20

100

20

100 20

100

50

10

50

10

50

10

50

0

0

0

0

0

0

150

20

10

2005

2000

2010

2005

2010

2000

2005

Non-bank financial intermediaries

2010

0
2000

2005

2010

Private insurance corp. and pension funds

Banks

General government debt in percent of GDP (rhs)250

250 5050
Canada: Share ofgovernment
paper holdings
as percent of total assets

40

200

30

30

2000

200 40

UK: Share of Gilt
holdings as percent of
total assets

40

40

0

US: Share of Treasury
holdings as percent of
total assets

200

200

40

250

250 5050

250
Korea: Share of government bond holdings
as percent of total assets

France: Share of general
government debt aspercent of total assets

200 40

50

200

40

250
Germany: Share of general
government debt aspercent of total assets

2

50

200

40

Italy: Share of Treasury
bonds as percent of
total assets

2

30

150 30

150

30

150

30

1

20

100 20

100

20

100

20

1

10

50

10

50

10

50

10

5

0

0

0

0

0

0

0
2000

2005

2010

5050

2000

2005

250
Greece:Share
Shareofof governIreland:
ment security
government
bondholdings
as percent
of totalas percent
of assets
200
4040 holdings
total assets

250

200

40

3030

150

150

2020

100

1010

0 0
2000
2000

2005 20052010

2010

2000

2005

250

50
Portugal: Share of general
government debt aspercent of total assets

0
2000

2010

2005

2010

250

50
Spain: Share of government bond holdings
as percent of total assets

200

40

30

150

30

150

100

20

100

20

100

50

50

10

50

10

50

0
2010

0

0

0

0

Other financial institutions

2000

2005

Banks

2010

200

0
2000

2005

2010

General government debt in percent of GDP (rhs)

Sources: Country authorities, ECB, OECD, IMF staff calculations.
Notes: The category “other financial institutions” is used for countries where a breakdown between non-bank financial
intermediaries and private insurance and pension funds is unavailable. The central bank is included in “banks” for Spain, and in“other financial institutions” in Greece. No data other than for banks are available for Germany. Total unconsolidated assets arefrom annual OECD data. Latest data is for 2010 except for Germany and France (2009 ).

15
In some countries, public sector holdings of financial assets, and in particulargovernment securities, are large (Table 3). Holdings of government securities by the
public sector are mostly related to central banks or social security funds. Central banks may
maintain an active portfolio of government paper as part of their monetary operations, orhold government bonds from quantitative easing programs, among other smaller holdings.
Social security services can operate within the central government (e.g., given the oversightof the ministry of health for health-related social security), or as a separate unit within theumbrella of the general government. While in the former set-up the social security
administration does typically not hold a large investment portfolio, a separate fund may
manage a sizable portfolio that includes government bonds. These holdings offset
government liabilities in consolidated debt statistics. For instance, Table 3 shows large
Treasury bond holdings of the U.S. Social Security Trust Fund which could be seen as mereaccounting mechanism and cancel out in consolidated debt statistics for the U.S. general
government. Also, an autonomous pension fund for public employees can form a separate
institutional unit which is classified as public or private sector.15 In some cases, the statisticaltreatment has motivated the shift of pension fund savings from public corporations under theumbrella of the general government.16
The comparative study of the composition of the investor base in advanced countries
has provided several insights. First, the run-up to the crisis was marked by increasing
portions of securities held by non-resident investors. This trend was fuelled by reserve
accumulation, financial integration, and a supportive regulatory environment. It has now
ended and is unlikely to return in a comparable dimension. Second, domestic investors
emerged as primary buyers of domestic issuance during the crisis while non-resident
investors tended to withdraw. This pattern is reminiscent of previous crises, after whichhome bias increased. Third, large government securities holdings by financial institutions inJapan create a close link between risks in the bank and government bond market. Thisdevelopment could be indicative for other countries after the crisis where investors continue
to deleverage and government debt expands. Fourth, public sector holdings of government
securities are significant in many countries. While those holdings can be the result of central
banks’ large-scale asset purchases, there are often large holdings by public pension or social
security funds. Institutional features determine their statistical treatment whereby holdings ininstitutions classified as general government are usually consolidated and therefore do notshow up in statistics.

15

16

See IMF (2011d), pp. 12ff, for the characteristics that determine the classification.

For instance, in 1997 France assumed pension liabilities from France Telecom, which in turn transferred
EUR5.7 billion to the government, accounted for as revenues. In 2010, Portugal undertook a similar transaction
from Portugal Telecom for EUR2.6 billion. Other countries undertook related transactions.

16
IV. DOES THE INVESTOR BASE MATTER?
This section presents empirical evidence on the relationship between the investor baseand government bond yields. Recently, high fiscal deficits resulted in a stepped-up supply
of government securities while demand for financial investments underwent significant
changes. In some cases, this has triggered notable shifts and heightened volatility of
government bond yields. Demand for government bonds developed in a way that affected theinvestor base: Financial institutions were trying to reduce their balance sheets, and foreign
buyers reduced their foreign exposure to all except the safest investments. Central banks
initiated large-scale asset purchases, in part offsetting increased supply and the diminisheddemand by other buyers. Other domestic investors also sought the safety of domestic
government bonds to invest excess liquidity or acquire premium collateral. An analysis of theeconometric relationship between changes in the investor base and yields in a cross-country
sample could be useful to insulate the implication of some of these developments from other,
partly temporary issues that have affected bond markets recently.
The goal is to test three prominent hypotheses regarding the connection between
investor base and bond yields. The first hypothesis is whether non-resident investment
inflows have lifted government bond prices or have induced volatility. Domestic holdings areusually assumed to be more “sticky” than foreign investors’. Inflows of foreign portfolio debt
investments have been identified as lifting asset prices in target markets, but those flows havetraditionally been subject to sharp reversals (Levchenko and Mauro, 2006).17 The second
hypothesis investigated is whether a stable domestic investor base, including large pension
and mutual funds, leads to lower yields and contains volatility. In contrast to non-resident
investors, some domestic investors, such as insurance companies and pension and mutual
funds, are associated with a more stable appetite for investments. These non-leveraged
investors can better sustain temporary price volatility and are less prone to procyclicalinvestment behavior compared with investors with shorter investment horizons and mark-tomarket reporting (IMF 2009). Finally, the third hypothesis researched is whether portfolio
shifts, such as those arising from mandated or statutory purchases of government bonds, havea significant impact on expected returns in a mean-variance optimal portfolio framework.
This puts the literature on central banks’ large-scale asset purchases and foreign reserve
accumulation in a broader context by extending the empirical analysis to portfolio
composition shifts in general.
A. Background
The literature on bond pricing provides an important backdrop for the empiricalinvestigation of demand effects. The reason is that the theoretical grounds for shifts in theinvestor base to cause changes in yields are narrow. Empirical results that associate changes
in demand with changes in price should therefore be regarded circumspectly as to thedirection of causality.
17

A large body of literature exists for the closely related topic of sudden stops of capital flows to emerging
markets. See, among others, Calvo (1998).

17
Abstracting from credit and other risk premia, the theoretical literature identifies two
fundamental pricing factors for bonds: (i) investor’s substitution function of current
against future consumption; and (ii) the universe of available instruments. While different
investor groups may exhibit different substitution preferences, only a change in the aggregate
preference or in the universe of available investible assets influence yields.
Market expectation theory suggests that yields depend only on investors’ aggregate
preference of future over current consumption. In frictionless markets, arbitrageurs levelout differences in investor preferences for duration, resulting in flat demand curves of shortversus long-term bonds of otherwise similar characteristics. Shifts in demand preferences(such as from pension funds looking for longer duration bonds) or supply (such as issuers
substituting shorter for longer tenure bonds) would not change the steepness of the yield
curve. In empirical applications, the assumptions underlying this theory are often found to beviolated.18 To the degree that changes in the investor base are associated with changes inintertemporal preferences, we would expect to see an impact on yields. An example is theintroduction of pension regulations in the United Kingdom, inducing pension funds to holdassets of longer duration. Greenwood and Vayanos (2009) find that long-term yields declined
significantly in the aftermath of these reforms.
An analogous argument can be made with regard to risk preferences. If the universe of
substitutable assets differs with regard to credit risk, spreads between assets of different
credit risk should change in response to a change in the investor base that brings along a
different risk preference. Non-resident investors often exhibit different risk preferences andview foreign risk as an uncorrelated diversification opportunity.19 Also, prudential regulation
may raise banks’ risk aversion, widening the yield between corporate and government
bonds.20 Differences in risk preferences therefore motivate the first two hypotheses
mentioned above about the influence of non-resident and domestic institutional investors onyields. It should be kept in mind, however, that investment-grade bonds are financial
instruments where future income streams are known and carry minimal default risk. The
effect of varying risk preferences will therefore translate only in fairly small yield
differences.
Apart from risk preferences, asset prices also depend on their correlation in a portfolio
context. In portfolio theory, investor holdings are determined by risk-return preferences
within a given universe of assets (Tobin, 1958). Demand and supply of savings need tobalance, hence the theory postulates that the total return on all savings matches the aggregate
18See, among others, Campbell and Shiller (1991).

19

Diversification through foreign investments is the preposition of a large literature on international
applications of portfolio models such as the CAPM. Transaction costs, differences in taxation and hedging, as
well as asymmetric information are factors inhibiting full international diversification. See, among others,
Burger and Warnock (2006) or Lane (2006).
20

Also, Krishnamurthy and Vissing-Jorgensen (2008) show that a lower relative supply of Treasuries is
associated with wider credit risk spreads.

18
investor preference for risk. Given the risk-return profile of the aggregate market portfolio,each investor group would choose its individual portfolio composition according to its
individual risk preference. Because idiosyncratic risks can be diversified, only an asset’s
systematic risk matters for the expected return demanded by investors in accordance with
their risk preference. In a portfolio of traded securities, systematic risk is proxied by anasset’s covariance with the aggregate investment portfolio (Markowitz, 1952). Given thatgovernment bonds usually have a positive correlation with the aggregate market portfolio, an
increase in the supply of government bonds causes ceteris paribus its share in the market
portfolio to increase, thus increasing its contribution to systematic risk and requiring an
increase in returns. Additional demand, such as from the entry of a new investor, leads tolower yields. This approach has been used to estimate the impact of portfolio shifts from
central banks’ quantitative easing programs (Joyce et al., 2010; Neely, 2010) or foreign
reserve management. Section IV.C uses the same approach.
Figure 6. Debt ratio and domestic financial sector portfolio holdings

Domestic financial sector holdings(percent of total financial assets)

35
30

Japan

25
20
Italy

15
Germany
10
Spain

5
0
0

50

GreeceCanadaUS
FrancePortugalUK
Ireland
100

150

200

250

Government debt ratio (in percent of GDP)

Source: Country authorities, OECD, IMF staff calculations.
Holding data refer to 2011 or latest available. Financial asset data refer to 2010 or latest available. The regression line has aslope of 0.13 and a R-squared measure of 69 percent. Excluding Japan results in a flatter regression line with slope coefficientof 0.07.

This paper does not find merit in exploring the possibility of an empirical “saturation
point” for government debt. Figure 6 plots outstanding government debt in percent of GDP
against the share of government bond holdings on domestic financial sector balance sheets,suggesting a strong correlation. The correlation has motivated the argument that investors
may reach a “saturation point” beyond which financial institutions are unwilling or unable toabsorb more government debt on their balance sheet. Tokuoka (2010) and Hoshi and Ito(2011) extrapolate Japanese household savings and government deficits and calculate thatgross public debt will exceed the stock of available financial assets in 10 to 15 years.
However, the stock of domestic assets and thus the “absorption capacity” for more19
government debt are likely to be endogenous if higher government debts are balanced byhigher savings. For that reason, the saturation argument is not further pursued here.21

B. How Is the Investor Base Related to Yields?
This section estimates regressions of bond yields with macro variables and holding data.
Two different samples are used under different specifications (Table 4). The first sample
contains an unbalanced quarterly time series of G20 advanced countries starting as far backas 1969. The second sample focuses on euro area countries and includes France, Germany,
Greece, Ireland, Italy, Portugal, and Spain, starting in 2000. In both pooled regressions, thedependent variable is the quarter-end yield of 10-year government bonds retrieved throughHaver and Bloomberg. An additional regression of the volatility of bond yields uses the fourquarter rolling standard deviation as dependent variable. Data on the share of non-resident
holdings is available for more countries and a longer time series, but information on holdings
by other investors is available only for a shorter and less complete sample. To mitigate thisshortcoming and use as many data points as possible, the G20 advanced and euro areasamples are combined for regressions that include the share of public sector holdings andholdings of private non-bank financial institutions.22 Control variables include the short-term
interbank rate, real GDP growth, the government debt ratio and budget deficit, respectively.
Other control variables, such as total debt outstanding, inflation, exchange rates, or the VIX(as proxy for risk aversion), were not found significant. This set of macro control variables
yields results comparable to other studies, such as Baldacci and Kumar (2010). Given the
non-stationarity of some variables, the reported results in this study are derived from
regressions of quarterly changes of all variables.
Regressions suggest a strong and robust association of lower yields with a larger shareof non-resident holdings. Columns (1)-(7) in Table 4 show the resulting coefficients andtheir t-statistics. Coefficients for macro controls, in particular the short rate, are significant
but the sign of the real growth rate is ambiguous. The coefficient of the share of non-resident
investors is consistently significant and negative. The result suggests that a 10 percentage
point increase in the share of holdings by non-resident investors is associated with 32 to 43
basis points lower yields (up to 66 basis points for the euro area). The coefficient is smaller
than previous empirical findings: With regard to foreign reserve accumulation in U.S.
Treasury bonds, Warnock and Warnock (2006) and Beltran et al. (2012) find coefficients thatwould correspond to a reduction of 150 and 50 to 140 basis points, respectively.23 Beltran et21

Including the portfolio weight as proxy for the saturation does not result in a coefficient significantly different
from zero in the regressions presented in the remainder of this paper. Yet, the possible endogeneity ofinvestment savings motivate the complementary use of a VAR analysis in the following section.
22

Public sector holdings include central banks. Private non-bank financial institutions refer to other financial
intermediaries and financial auxiliaries, and insurance corporations and pension funds unless these institutions
belong to the public sector, if data are available.
23

For an overview of empirical studies, see also ECB (2006).

20
al. (2012) also find that the coefficients for foreign private investors are similar to those offoreign official ones. Evidence from emerging market countries by Peiris (2010) attests that a
1 percentage point increase in the share of foreign investors results in a reduction of yields by
about 6 basis points.
Yields are weakly and negatively associated with institutional investor holdings, but notwith public sector holdings. Results for domestic private non-bank financial institutions andthe public sector, reported in columns (4)-(7), are less clear cut. The share of non-bankprivate institutional investors shows a negative correlation with yields, suggesting that a 10
percentage point increase in their holding is associated with 26 basis points lower yields.
This effect is not found in the euro area sample. Public sector holdings show an insignificant
coefficient. As discussed in Section III, public sector holdings are not necessarily related tocentral banks’ quantitative easing programs. Other empirical studies have found larger effects
in direct response to central banks’ large-scale asset purchases, ranging between 20 to 100
basis points in response to increases in central bank holdings between 2 to 4 (United States)and 15 percentage points (United Kingdom), respectively.24 Given that the remaining holding
share is dominated by banks (as direct holdings of non-financial corporates and households
are small), the results also suggest that bank holdings are associated with higher yields thanholdings of the other investor groups.
Higher non-resident holdings are associated with an increase in the volatility of yields.
The significantly positive coefficient for non-resident holdings in column (8) suggests that ahigher share of non-resident holdings is associated with a small but significant increase in thevolatility of bond yields. The finding is in line with the large literature on volatility effects
for other asset classes and for emerging markets with regard to foreign investors.25 The effecton bond yields may be larger when using specific crisis periods, analogous to the larger
response to central bank large-scale asset purchases compared to public sector holdings in
general. For instance, Borio and McCauley (1996) find strong and asymmetric effects during
the bond market turbulence in Europe in 1994 when cumulative sales of non-resident
investors reached between 1.8 (Italy) and 5.6 percent (France) of general government debt
within a few months. Their estimates indicate an increase of the annualized volatility of daily
yields between 2.1 and 5.3 percentage points in response to a change of 1 percent of nonresident holdings for their sample countries (Germany, France, and Italy).

24

See, among others, Gagnon et al., 2010; D’Amico and King, 2010; Krishnamurthy and Vissing-Jorgensen,
2011; and Joyce et al., 2010. For a more complete discussion to contrast the results from these studies on central
banks’ large-scale asset purchases to other changes in bond holdership, see Beltran et al. (2012), pp. 14ff.
25

See Bekaert and Harvey (2003), pp. 12ff.

21
Table 4. Regression results

Number of countries
Period[t-statistics in parentheses]
Constant
Short-term interest rate
Real GDP growth 1/
Budget balance 1/
Holding shares
Non-resident investors

10-year benchmark yields
Yield StdDev
G20 adv.
G20 adv.
G20 adv.
Euro area G20 adv.
Euro area Combined
G20 adv.
excl. EA
excl. EA
9
6
7
9
6
7
11
9
1969-2011 1969-2011 2000-2011 1969-2011 1969-2011 2000-2011 2000-2011 1969-2011
(1)

(2)

(3)

(4)

(5)

(6)

(7)

(8)

-0.0508[-2.22]0.2231[10.10]0.0416[2.25]-0.0018[-0.31]-0.0531[ -1.85]0.2222[9.03]
0.0465[2.01]-0.0007[-0.11]-0.0279[-0.87]0.3444[6.48]-0.0249[-1.37]-0.0265[-4.39]-0.0705[-3.12]0.1728[6.18]
0.0546[2.82]-0.0031[-0.56]-0.0790[-2.70]0.1722[5.24]
0.0628[2.51]-0.0024[-0.37]-0.0610[-1.59]0.2040[3.36]
0.0287[1.25]-0.0240[-2.91]-0.0511[-2.43]0.1588[4.56]
0.0309[1.95]-0.0128[-2.75]-0.0232[-2.22]-0.0317[-3.50]-0.0338[-3.24]-0.0662[-4.99]-0.0325[-3.59]-0.0260[-2.33]0.0006[0.05]-0.0346[-3.30]-0.0254[-1.97]-0.0003[-0.02]-0.0559[-3.04]-0.0330[-0.87]0.0588[0.43]-0.0434[-5.31]-0.0256[-1.99]-0.0088[-0.69]0.0089[2.42]
0.0057[1.27]-0.0045[-1.00]

644
0.18

470
0.19

269
0.22

565
0.12

391
0.12

194
0.16

439
0.13

565
0.03

Private non-bank financial institutions
Public sector

N
R-squared

1.4278[1.35]
0.0185[2.42]

Sources: Country authorities, Bloomberg, Haver, IMF staff estimates.
1/ Absolute values used in regression (8).

While these results establish an empirical relationship between yields and non-resident
and institutional investor holdings, the causality can go either way. The regressions showthat falling yields are associated with an increase in the holding shares of non-residents or
non-bank private institutional investors but do not establish a direction of causality. Nonresident holdings have often been seen as a driver of yields, in particular with regard to thedramatic convergence (and divergence) of yields in the euro area (see Figure 7). At the onsetof the European currency union, short-term interest rates converged rapidly alongside longterm government bond yields. However, non-resident holdings increased during a longer
period and stabilized or reversed only in 2008 for some countries. The relationship between
non-resident holdings and yields may thus be more ambiguous than widely portrayed.
The results of country-level causality tests suggest that the direction is very muchcountry- and investor-specific. Country-level granger causality tests provide separate test
statistics on whether changes in the investor base precede yield changes (“push effect”) or
vice versa (“pull effect”). Results point to country- and investor-specific relationships. With
regard to non-resident holdings, results point to pull effects in a consistent way in Australia,
Canada, and Greece. France and Germany show evidence of push effects.26 For domestic
26

The hypothesis that the yield changes do not induce changes in non-resident holdings (no pull effect) is
rejected for Australia, Greece, Ireland, and Spain at a 5 percent confidence level and for Canada at a 10 percent
confidence level. In turn, the hypothesis that changes in non-resident holdings do not induce yield changes (nopush effect) is rejected for France, Germany, and Spain at a 5 percent confidence level and Ireland at a 10
percent confidence level.

22
institutional investors, a pull effect is evident for France, Japan, Ireland, and Portugal, whilea push effect appears at work in Italy.27
Figure 7. Non-resident holdings and euro area yields
90

Share of non-resident holdings (lhs)80

Yields (rhs)18

GreecePortugal

70

14

60
50

IrelandSpain

12

Germany

10408Greece30

Portugal0

Ireland 6
Spain

20
10

16

Germany420Sources: ECB, IFS, IMF staff calculations.

A panel VAR suggests the existence of a pull effect in form of lower yields attracting
non-resident investors. A panel VAR of the sample countries including macroeconomic
controls (assumed to be exogenous) is used to assess which directional effect dominates in
the joint sample.28 While the coefficients for other investor groups remain insignificant, theresults for non-resident holdings show an interesting pattern (Figure 8). In the full country
sample, the significant short-term response can be interpreted as a pull effect (left panel),while there is no clear sign of a push effect (right panel). The results do not change
noticeably when all euro area countries are excluded or when the period following theestablishment of the euro area is cut off. For Greece, Ireland, Portugal and Spain, theimpulse-response has a similar shape but a stronger coefficient for the pull effect.
Decomposing yields into a portion explained by macro controls and a residual shows that thepull effect is mostly associated with the unexplained part of yields. This could be interpreted
as foreign investors entering foreign markets despite yields falling below levels warranted byfundamentals, and vice versa. The continuous increase in foreign holdings within the euroarea—in view of an implicit guarantee and the “search for yield”—and strong foreign reserve
27

The tests reject the null hypothesis that institutional sector holdings are not induced by yields (no pull effect)
for Italy (at a 5 percent confidence level) and Germany (at a 10 percent confidence level). The hypothesis of nopush effect is rejected for France, Germany, and Spain (at a 5 percent confidence level) and Ireland (at a 10
percent confidence level).
28

The relative short time series prohibits the use of a crisis-subsample that could be compared to the pre-crisis
period.

23
accumulation during the pre-crisis period are consistent with the empirical results. An
important caveat applies to these results as they are derived from a sample dominated byfalling yields and increasing non-resident holdings. The recent reversal of this trend is still
too short-lived to carry out a meaningful separate econometric analysis.
Figure 8. Impulse-response function
Response of non-resident holdings
to a shock to yields

0.4
0.3

Response of yields to a shock
on non-resident holdings

0.06
0.04

0.2
0.02

0.1
0.0
-0.1

0.00
0

1

2

3

4

5

6

0

1

2

3

4

5

6

-0.02

-0.2
-0.3
-0.4

-0.04
-0.06

Source: IMF staff estimates.
Notes: PVAR with 3 lags. Shocks correspond to one standard deviation. 90 percent confidence band generated byMonte Carlo with 200 repetitions.

In summary, the regression results support the hypothesis that there is a significant
relationship between non-resident holdings and the level and volatility of yields. Higher
foreign participation is associated with higher asset prices throughout the regressions, a resultthat is consistent with other empirical studies. In contrast to the prevailing (albeit notuncontested) presumption, the evidence suggests that declines (increases) in yields arefollowed by inflows (outflows) of foreign investments in government securities. The impactof domestic institutional investors is somewhat weaker and fails to come out significantly inthe VAR setting. No significant effect is found for public sector holdings. The regression also
shows a significant yet small association between non-resident holdings and yield volatility.

C. Do Portfolio Shifts Affect Expected Bond Returns?
The portfolio balance approach allows estimating the change in expected returns
following a shift in the relative weight of government bonds in investor’s portfolios.
According to the portfolio balance theory, investors’ required return depends on the bonds’
contribution to systematic risk. In a mean-variance portfolio optimization, agents choose
portfolio weights in order to maximize a quadratic utility function representing a trade-off
between expected portfolio return and its variance under a certain risk aversion parameter .
The resulting portfolio weights are determined by
Σ

,

24
where is the vector of expected excess returns from the available instruments and Σ its
covariance matrix (Roley, 1979). Assuming that Σ is exogenous and homoscedastic, thechange in returns from a change in portfolio weights ∆ can be calculated as
∆

Σ∆

.

The change in weights can be thought of as supply shock initiated either by changes tosupply (such as an increase or decrease in the outstanding issuance of government bonds) or
demand (such as investors purchasing bonds for purposes other than mean-varianceoptimization, effectively removing them from the pool of assets). This framework has beenused to model the impact of central bank purchases for quantitative easing (Joyce et al.,2010; Neely, 2010) and foreign reserve holdings, assuming that these investors buy and holdthe securities regardless of the mean-variance optimality for their portfolio.29 For the purposeof this paper, the shock can also be thought of as purchases of government bonds by banks,pension funds, and insurance companies motivated by changes in prudential rules, orpurchases by foreign investors subject to a different efficiency frontier.
The model is calibrated for Germany, Japan, the United Kingdom and the UnitedStates with data covering two decades. Financial asset holdings are derived from sectoral
balance sheets in national accounts data, approximating the composition of market portfoliosof government and corporate bonds, equities, deposits, and foreign portfolio investments.
Expected excess returns and their covariance are proxied by monthly real returns starting in
1990 (where available). Foreign portfolios reflect the respective portfolio of all othercountries in the respective domestic currency. Assuming no market frictions, the entire
universe of financial assets is assumed to be allocated consistent with the mean-varianceoptimum.
A 10 percent decrease in the mean-variance optimized holdings of government
securities would cause expected bond returns to drop by 7 to 25 basis points (Table 5).
This shock can be interpreted as purchases equal to 10 percent of outstanding government
securities for purposes other than portfolio optimization, resulting in a change in expected
returns for those investors pursuing mean-variance optimal portfolios. The impact is linear tothe shock. The 10 percent magnitude is within the range of portfolio reallocations in responseto the Fed’s or BoE’s quantitative easing operations, or the estimated additional purchases of
U.S. Treasury bonds following reforms of prudential norms.30 The resulting effect is lower
than found in Neely (2010) whereby the Fed’s US$1.7 trillion quantitative easing initiative(equal to 22 percent of outstanding agency and Treasury debt) is estimated to have reduced
expected returns by 88 basis points.
29

As mentioned previously, this assumption looses appeal as reserve management is increasingly executed in
the same way as private investment management. See Papaioannou et al. (2006) and Borio et al. (2008).
30

The U.S. Treasury Office of Debt Management estimated in 2011 that regulatory reforms could add US$675
billion of demand for treasury bonds owing to Basel III liquidity regulation for banks, and US$425 billion
owing to Dodd-Frank and FASB reforms for pension and insurance funds. This total corresponds to 7 percent ofoutstanding treasury bonds and 0.8 percent of the total market portfolio in 2011. See U.S. Treasury (2011).

25
Table 5. Change in expected real return after 10-percent supply shock(in percent)GermanyJapan
United Kingdom
United States

Portfolio
shift
0.7
1.9
0.3
0.9

Change in return on
Equities
Bonds
Government Corporate
-0.08
-0.25
-0.07
-0.16

-0.03
-0.10
-0.01
-0.07

0.29
1.64
0.02
0.37

Foreign
portfolio
0.02
0.28
0.03
0.01

Sources: Bloomberg, OECD, IMF staff calculations.

The portfolio approach may underestimate the impact on yields. First, the asset class ofgovernment securities in this sample has a fairly high correlation with the market portfolio,
resulting in betas of between 0.7 (Germany) and 1.1 (United Kingdom). Also, basing the
calculation on historic returns and variance may have little predictive power given thatgovernment bonds of the sample countries generated exceptional excess returns during thelast two decades. Second, if the shock is also thought of as affecting other parts of theportfolio, such as from bank deleveraging or government issuance crowding out private
borrowing and reducing the size of the portfolio, the effect would be larger. Finally, theeffect shown here also rests on the expectation that the change in the outstanding bonds ispermanent, which may not be the case even for large quantitative easing programs which inpart offset higher supply from cyclical fiscal deficits.

V. CONCLUSIONS
A new dataset on sectoral holdings of government securities shows sizable differences in
the investor base between countries. The database introduced in this paper contains data on
government securities for the advanced G20 countries and the euro area during 2000-2010,
with data for a few categories reaching further back. The largest investor groups are found to
be non-residents, banks and other institutional investors, as well as the public sector. Except
for Japan where the investor base is predominantly domestic, non-residents increased theirholdings in the period prior to the crisis. Besides financial integration, in particular among
euro area countries, current account imbalances and corresponding reserve accumulation arelikely the main drivers of larger cross border holdings. During the crisis, the share of
securities held by non-residents has been stagnant or falling in most countries while
government debt expanded. Domestic government bond holdings mirror this trend, anddomestic institutions have often picked up the incremental supply in government debt. The
increased holdings of the financial sector mark the end of a prolonged period during whichgovernment securities made up a small and shrinking share of investors’ balance sheets. An
exception to this observation is Japan, where ongoing deleveraging and large public deficits
continually increased the portfolio weight of government securities during the last decade. In
some countries there are also large public sector holdings which, depending on theclassification of the holding unit, may be consolidated into the general government and thus
escape most debt statistics.

26
Econometric evidence suggests a link between the investor base and bond yields.
Regressions show a significant negative correlation between changes in the bond yield andthe share of securities held by non-residents and domestic institutional investors. An increasein the share of securities held by non-residents by 10 percentage points is associated with adecline in yields of 32 to 43 basis points, and up to 66 basis points in the euro area. For
domestic institutional investors, the effect is somewhat smaller at about 26 basis points andless robust. The data thus lend support to the notion that larger non-resident and also
institutional investor holdings are associated with lower yields. There is also some evidence
that the volatility of yields is associated with the share of non-resident holdings, which areperceived to be less “sticky”.
Granger causality tests and a panel vector autoregression point to lower yields
attracting non-resident investors. The causality between changes in holding shares andyields could go either way. Increases in holding shares, mostly related to investment flows
into government securities, could be interpreted as “push effect” of increasing (decreasing)demand for government securities leading to lower (higher) yields. The reverse causality
could be interpreted as a “pull effect” whereby a change in yields, such as from changes tomacroeconomic fundamentals, induces a change in the investor base. For non-resident
investment flows there appears to be a pull effect that dominates in the full sample, andparticularly for the euro area periphery. The result becomes more pronounced when using a
two-stage regression in which residuals unexplained by macroeconomic controls are
deployed in a panel VAR. These results suggest that non-resident holdings seem to follow on
the heels of changes in yields, partly beyond what can be explained through credit
fundamentals.
A compositional shift of 10 percent of government bonds out of mean-varianceoptimized portfolios into statutory or regulatory holdings would lower expected returns
by up to 25 basis points. A portfolio balance approach is used to analyze the effect of areduction in the free float of government bonds by 10 percent of the outstanding stock inGermany, Japan, the United Kingdom, and the United States. Such shock could arise fromasset purchase programs by central banks or increases in regulatory holdings by banks andinvestment funds. These purchases would reduce the weight of government securities inother investors’ portfolios, resulting in a reduction of expected returns. The calculatedchanges in expected returns range between 7 and 25 basis points. This result is at the lower
end of previous estimates, possibly given that the underlying data originate from a decadelong bull market for government bonds.
Future research will add further insight on the questions discussed in this paper. The
paper at hand is part of the nascent literature linking balance sheets to financial flows,
providing a starting point for future research. To the knowledge of the author, this dataset isthe first of its kind to provide cross-country data on holdings of a certain asset class. Further
expansion and completion of the data could be used to put more sophisticated econometricapproaches, such as the one by Beltran et al. (2012), to the test in a multi-country setting.
Also, complementing these data with sectoral balance sheets and from-whom-to-whom
accounts will allow the exploration of the links between financial exposures, transactions,and price changes.

27
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