RBNZ will purchase local government bonds

The Reserve Bank will buy up local government bonds in a major move to support the smooth functioning of the market in the wake of the Covid-19 pandemic

The Reserve Bank has heeded the call of economists and the country's largest council to expand its multi-billion dollar asset-purchasing programme to include bonds issued by local councils.

Councils have come under increasing pressure to defer rates increases and borrow for operational expenditure amid Covid-19 lockdowns which have hit their ratepayers hard. 

Last week, Auckland Council and several economists highlighted the market for these bonds was experiencing difficulties just as councils were seeking to draw on it. Councils have $10.6 billion in debt on issue, with Auckland the biggest borrower on $2.7b.

Mark Butcher, chief executive at NZ Local Government Funding Agency (LGFA), released a statement on Monday morning saying the Reserve Bank had offered to purchase LGFA bonds on a "small scale for liquidity management purposes and to support market functioning".       

"This compliments the activities of the Reserve Bank to provide liquidity and support the functioning of the New Zealand government bond market, through the repurchase programmes of the NZ government bonds maturing on 15 April 2020 and 15 May 2021," the statement said.

Purchases would be held on RBNZ's balance sheet and governed by the bank's asset and liability committee. 

The offer of LGFA bonds opened at midday on April 6 and would remain open until further notice, Butcher said.

RBNZ's Large Scale Asset Purchase Programme (LSAP) already had a plan in place to buy $30 billion of Government bonds on the secondary market over a year.

Newsroom reported last week that council bonds were facing liquidity issues and a case was being made for that to be extended to local government debt too.

Although council bonds were highly rated and relatively low-risk, market turmoil had caused a wide spread between the "bid" and the "ask" price for them. 

Those issues were hinted at by Butcher during an investor call where he said RBNZ could have three reasons for intervening:

The first was the way market confidence had caused a wide gap in the bid-offer spreads on a relatively low-risk bond.

Bid-offer spreads are the gap between the highest price an investor is willing to pay for an asset and the lowest price a seller is willing to sell it for.

Where an asset is "liquid" and can be easily sold, the bid-ask spread will be tighter. When it is illiquid, it'll be wider. Typically local government bonds through LGFA would be easily converted to cash because they are relatively low-risk.

"There is supposedly more liquidity in LGFA bonds, but obviously we’ve seen less liquidity recently. We’ve seen wider bid-offer spreads," Butcher said.

“The big capital markets have got a short-term issue with confidence in settlement," he said.

Butcher said there had also been a "general crowding out of the capital markets by the New Zealand Government due to its issuance intentions". 

“The final thing to consider would be the LGFA and its role on behalf of the local government sector."

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