Memorandum by Brighton & Hove City
Council (LAI 16)
SUMMARY
— Current arrangements provide for local
discretion in making investments. A tightening of these arrangements
will adversely affect investment returns.
— Local authorities should maintain a balanced
investment portfolio in low risk instruments. Limiting investment
to Central Government instruments only will adversely affect investment
returns.
— Local government bodies should take a
greater role in offering investment guidance to local authorities.
The Bank of England and regulatory bodies should also take greater
role.
— Protection of local authority investments
is likely to result in greater control by Central Government.
What are the present arrangements for local authorities'
Treasury Management—and in particular the requirement to
produce Annual Investment Strategies—and how have these
affected the performance of local authorities, both as service
providers and employers, given recent potential losses experienced
by many local authorities?
1. The present arrangements are set out
in guidance issued by the Secretary of State under powers provided
by the Local Government Act 2003. These arrangements provide for
local discretion in terms of investments. Local discretion is
achieved through the production and approval of an annual investment
strategy.
2. The guidance requires the council to
use credit rating agencies to define "high credit rating".
This places a high degree of reliance on these agencies. Recent
experience would suggest that these agencies have under-estimated
the problems within the financial markets and are only now responding
by down grading a number of institutions.
3. Rating agencies play a significant role
in the selection of investment counterparties but confidence in
their ability to assign the correct rating has been severely dented
in recent months. Reclaiming this confidence is essential, otherwise
investment portfolios will be skewed towards greater safety in
terms of shorter period and counterparty. If this happens investment
returns are very likely to suffer.
In the light of recent events, are any changes
needed to the framework for the scale, spread and risk of local
government reserves?
4. No. The issue is not about the scale,
spread or risk of local government reserves but the decision taken
on whether to invest funds or reduce borrowing requirements.
Should local authority money be invested in Government
stock, with lower risk, but with a low return? What effect would
this have on UK banks and on council taxes?
5. Yes but only as part of a structured
and balanced investment portfolio. A substantial proportion of
council investments are held for less than 12 months, with the
minimum being overnight. Investment in Government stock is better
suited to a longer term view (say three to five years) due to
price fluctuations, custodian arrangements and trading requirements.
6. Limiting investments in Government stock
would impact on the council's investment performance through lower
yields and with the possibility of a capital loss.
7. An alternative to investment in Government
stock is the repayment of PWLB debt. However the decision by the
PWLB to reduce the discount rate on premature repayments has effectively
increased the cost of choosing the repayment option. The discount
rate is below the cost of Government borrowing—effectively
there is a net cost in repaying debt prematurely as opposed to
investing in Government stock.
What is the role of central government in providing
financial advice and guidance to local authorities? Should any
other bodies have a role?
8. Consultation is the key to any financial
advice and guidance, whether issued by Central Government or other
bodies. In general:
— central Government should focus on the
impact of investment guidance on local government finances.
— regulatory bodies such as the Bank of
England, FSA, BBA and BSA should take a greater role in monitoring
the activities of its membership, particularly the extent of any
involvement in high risk areas. In addition the regulatory bodies
should consider the role played by the rating agencies in assessing
credit worth of counterparties; and
— bodies such as the LGA and CIPFA should
take a greater role in advising local authorities on investment
decisions. At present local authorities rely on treasury management
advisors for this advice. Advice from the LGA/CIPFA would promote
consistency of investment decisions across the whole of the local
authority sector.
Should the Government protect local authorities'
investments in the same way that it is protecting personal assets?
What consequence does this have for the relationship between local
and central government?
9. This option would allow local authorities
to invest in financial institutions that offer the highest returns
without any consideration of capital risk. The council recognises
this scenario is clearly unacceptable to the Government. Government
protection is very likely to be accompanied by a tightening on
investment powers, most probably restricting only in government
backed securities.
1 December 2008
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