REPORT TO THE SECRETARY OF THE TREASURY 


FROM THE TREASURY BORROWING ADVISORY COMMITTEE 


OF THE PUBLIC SECURITIES ASSOCIATION 


May 2, 1990 


Dear Mr. Secretary: 


Yields on U.S. Treasury securities have continued to rise 


over the period since our meeting last February, as market 


participants have recently become more concerned about the 


possibility of some pickup in the underlying inflation rate against 


a background of somewhat firmer economic data. Compounding this 


pressure on market yields has been speculation that foreign 


investment in U.S. Government issues, particularly by Japanese 


institutions, would be curtailed due to the dollar exchange rate's 


relatively high level and the more attractive yields being offered 


in non-dollar markets. Among coupon issues, over the past few 


months three-year note yields have increased from 8.56 percent to 


9.10 percent, and 30-year bond yields have gone from 8.40 percent 


to 9.10 percent, and 30-year bond yields have gone from 8.60 


percent to 9.50 percent. In addition, heavy new cash financing 


demands from the Resolution Trust Corporation's working capital 


program have put Treasury bill rates under upward pressure. Since 


early February, discount yields on six-month bills have risen from 


7.75 percent to 8.05 percent. 


Looking ahead, both domestic and international factors 


present a risk that U.S. interest rates will be forced even higher. 


In view of the recently more disturbing inflation evidence, 


particularly the apparent acceleration of non-energy service price 


increases over the last half-year, there is now little room for 


Federal Reserve officials to consider any easing of monetary policy 


in the near term. Indeed, additional signs of heightened price 


pressures combined with further news suggesting a pickup in 


economic activity over coming weeks could even lead the Fed to 


undertake some tightening of its credit stances for the first time 


in over a year. Meanwhile, increased demands for capital to 


rebuild Eastern European economies may tend to divert foreign 


investment from U.S. markets. These potentially negative factors 


for the U.S. financial markets underscore the desirability of an 


early, credible agreement between Congress and the Administration 


to substantially reduce the stubbornly large Federal budget 


deficit. Because such a plan would provide for greater fiscal 


policy restraint to reduce inflationary dangers while also reducing 


government financing needs, it would help to counter some of the 


forces that are currently pressuring U.S. interest rates. It is 


against this background that we have produced our recommendations 


for the May refunding. 

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The Committee recommends that the following securities be 


sold at yield auctions to refund $18.1 billion of maturing 


securities and raise $12.4 billion of new cash: 


$10.5 billion 3-year notes due 5/15/93; 

$10.0 billion 10-year notes due 5/15/2000; 

$10.0 billion 30-year bonds due 5/15/2020. 

For the remainder of the quarter, the Committee recommends: 


-- Sell $10.5 billion 2-year notes 

raising $1.6 billion new cash; 


-- Sell $8.25 billion 5-year notes 

raising all new cash; 


-- Sell $10.25 billion 52-week bills at 

two remaining auctions, raising $2.85 


billion new cash; 


-- Keep weekly 3- and 6-month bill 

auction sizes at $16.8 billion 


through the balance of the quarter 


raising a total of $7.35 billion. 


Summary of New Cash for Quarter 


Refunding $12.4 billion 


3- and 6-month bill 7.35 


52-week bills 2.85 


2-year notes 1.60 


5-year notes 8.25 


Total additional 


market borrowing $32.45 


Already raised (11.25) 


Estimated Foreign Add-ons 1.30 


Net Market Borrowing $22.50 

With regard to the June 30 cash balance, the Committee 


unanimously recommends a total of $40 billion. In a period of 


substantial uncertainty concerning the RTC1s cash needs and an 


authorized RTC funding plan for this quarter of up to $45.3 billion 


from the Federal Financing bank, the Committee believes it is 


prudent for Treasury to raise cash in a regularized pattern and 


early rather than reacting to drawdown demands from RTC. In 


addition, many on the Committee also believe that, in light of 


recent receipt and expenditure patterns, the budget deficit ex-RTC 


is well above current projections. With these possibilities in 


mind, the Treasury should bias its market borrowing higher and 


therefore err toward a larger cash balance than might otherwise be 


recommended. 


For the July/September quarter, the Committee again 


recognizes the uncertainty associated with assuming RTC cash 


requirements and the pattern of its need. However, for purposes of 


making an indicative recommendation, the Committee is assuming net 


RTC cash requirements of at least $15 billion, giving a total cash 


requirement of $45-50 billion using Treasury's estimates ex-RTC for 


the period. Using that assumption, the Committee unanimously 


recommends a $40 billion end-of-quarter cash balance. The 


reasoning for the high balance is again primarily the uncertainties 


noted for the April/June quarter. The Committee continues to 


debate the merits of emphasizing only short maturity bills and 


notes (i.e., out to five years) as it relates to the RTC's working 


capital needs. By an 8 to 6 vote, the Committee recommends 


continued emphasis on bill financing and additions to short coupons 


as the basic approach to funding @Iworking capitall1 needs. The 


minority believes that Treasury funding is basically fungible and 


that the maturity distinction is not economically relevant. 


Several members believe that concentrated financing in shorter 


dated maturities could be detrimental to markets generally and the 


overall level of rates as financing rates spill over into longer- 


term rates. 


The majority recommendation, however, would imply an 


increase in the five-year and shorter notes in the July/September 


quarter by $250-500 per auction while the weekly bills would be 


increased to $17.2 billion. The year bill should be increased from 


$10.5 billion to $11.0 billion and long-dated cash management bills 


should make up the residual requirement depending on evolving 


needs. 

With regard to the Committeefs views on permitting syndicate 


bidding and removing the 35 percent ceiling on awards, the 


Committee unanimously thinks it would not be a positive enhancement 


to REFCORP bond auctions. The Committee believes that anything 


that makes REFCORP look less Treasury-like is a negative for its 


acceptance. Further, permitting more than 35 percent to be bought 


by one bidder would potentially exacerbates the uncertainty for all 


potential participants in an auction and would marginally diminish 


when-issued trading. Moreover, potential bidders would be more 


fearful of establishing short positions when one bidder (or a 


syndicate) in the auction could buy all available securities. 


The Committee feels strongly that REFCORP financing and the 


40-year concept specifically have been much better received than 


the press reports would lead participants to believe. Stripping 


and final distribution post-auction have been extensive. Marginal 


savings have occurred as a result of the 40-year maturity relative 


to 30 years. This is particularly true since the Committee 


believes the recent four to five months have been a difficult 


market in which to effectively establish a new credit, as well as a 


new financing technique. 


The Committee believes the primary issue concerning the 


REFCORP auctions is the breadth of participatipn. In this regard, 


the Committee believes the primary dealers should be officially 


reminded of their responsibility to underwrite and support the 


market for Treasury and related debt. More importantly, the 


Committee believes the marketplace is uninformed and confused about 


issues surrounding the size of the REFCORP financing need and its 


credit structure. Further marketing and educati~n efforts should 


be undertaken by Treasury to promote this credit both domestically 


and offshore. These efforts must be done somewhat repetitively . Finally, the Committee would like to strongly endorse the 


initiative sponsored by PSA and the primary dealers to automate the 


auctions of Treasury debt. Intuitively, we believe that such a 


change would offer significant savings for the Treasury. The 


Committee is prepared to work with Treasury to investigate and 


develop a fair and secure system which achieves the perceived 


benefits. 


Thank you Mr. Secretary, that concludes our report and we 


welcome questions and discussion. 


Respe A 
 tfully submitted,