Memorandum
from Leeds City Council (LAI 20)
Summary
The
main points are:
Question
1:
· The operation of
Treasury management works well within the provisions set out under the local government act 2003 with regard to CIPFA prudential code
for capital finance.
· The framework ensures that treasury management policy and investment is
considered and approved by Council.
· The Council ensures that there are sound monitoring and frequent
reporting of progress against treasury management strategy.
· Whilst the Council did not have any exposure to the Icelandic banks it
has revised its investment criteria as the crisis in the money markets has
unfolded.
· Treasury management activity has enabled savings to be delivered that
have been used to assist in the delivery of front line services and to limit
council tax increases.
· Local Authorities can reduce their investment risk by repaying debt but
this has not been economically viable since the DMO changed the rules over
premature repayment of debts on 1st November 2007.
Question 2:
· Under the 2003 Local Government Act, the
Council's Statutory Financial Officer is required to make a statement to
Council on the adequacy of reserves. In addition, the Comprehensive Performance
Assessment framework requires the authority to have a policy on the level and
nature of its reserves and ensure these are monitored and maintained within the
range determined by its agreed policy.
· The Council has set its
level of reserves in accordance with current guidance. If it were to raise this level to reflect
heightened concern in the money markets there will be an impact upon the level
of council tax or front line services.
Question 3
· If Councils collectively deposited greater sums
with the Government the market would be further drained of essential liquidity,
making it more likely that the interbank cost of borrowing would increase and
in turn the banks would become more reliant on Government help.
· The
repayment of debt without incurring a premium, has become more difficult since
the PWLB introduced differential rates on 1st November 2007. This is an issue that if resolved could allow
local authorities to repay debt and thereby reduce the level of investments.
Question 4
· The framework for treasury management has been set
for a number of years and is generally clearly understood by local
authorities. It is Leeds' view that the
framework does provide adequate scope within which to undertake effective
treasury management.
· Leeds is also able to consider issues affecting
investment and treasury management by engaging and debating issues in various
forums including West Yorkshire Treasury Managers meetings, Core Cities
treasury management meetings, SIGOMA meetings and quarterly strategy meetings
held with the Councils own treasury advisors.
Issues are also regularly discussed with the broking community and
various banks.
Question 5
· The criteria for investments including the amount,
length and selection of the counterparty to invest in is determined by each
local authority and detailed in its treasury management investment strategy
that is approved by full council. This
strategy incorporates the financial and capital aims of the individual local
authorities. Leeds believes that this
process has worked well for a number of years, but the current systemic unique
problems facing the money markets at present may be aided by some temporary
Government protection.
Main Details
1 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?
1.1 The operation of the Treasury Management function is governed by
provisions set out under part 1 of the Local Government Act 2003 whereby the
Council is required to have regard to the Chartered Institute of Public Finance
and Accountancy (CIPFA) Prudential Code for Capital Finance in Local
Authorities.
1.2 The Prudential Code requires that full Council set certain
limits on the level and type of borrowing before the start of the financial
year together with a number of Prudential indicators. Any in year revision of these limits must
similarly be set by Council.
1.3 The Code of Practice requires that policy statements are
prepared for approval by the Council at least twice a year. Strategy statements are produced in February
for the year ahead, reviewed half yearly and at the end of the year. The strategy formally outlines the borrowing
and investment strategy and progress to date.
These strategies are reviewed further in quarterly strategy meetings
with the Director of Resources and the Council's treasury advisors. Monitoring reports are also produced on a
monthly basis for consideration the finance management team. The day to day implementation of strategy is
delegated to the Treasury Management Section.
1.4 Leeds regularly invests surplus cash reserves in other local
authorities, banks and building societies as part of its normal cashflow
management. These investments can range
from overnight deposits to investments of over twelve months. By investing
funds in this way the Council is able to earn interest which it can use to
offset the cost of its services. The
Prudential Code also allows local authorities to borrow in advance of need and
invest surplus funds until they are required.
The Council has borrowed funds in advance of need when borrowing rates
have been low and have invested these funds until required earning interest for
the Council which again supports the Council's revenue budget (see 1.10).
1.5 The criteria used by the Council in relation to the
creditworthiness of financial institutions is provided by the Council's
treasury advisers, Sector Treasury Services.
The financial institutions with excellent credit ratings are coded "red"
whilst those with good credit ratings are coded "green". Each of these classifications attracts limits
in terms of how much the Council will invest with them and for how long as
shown below:
|
|
LIMIT
£m
|
PERIOD
LIMIT
|
|
RED
|
15
|
Up to 365
days or more
|
|
GREEN
|
5
|
Up to 3
months
|
There is
also a group party limit of £30m
1.6 The counterparty list is prepared from the credit ratings. These credit rating are updated as and when changes
occur The Council does not just rely
upon the credit rating provided but also seeks additional information by closely
following the financial press, Reuters, credit default swaps, share-market
price volatility, seeking advice from the Councils advisors, talking to the
money brokers, discussion of the issues within the Council, engagement with
other local authorities, attending seminars and also considering the rate of
return on an investment in relation to the market average. It is through this analysis that the decision
was taken in February of this year to not deal with the Icelandic banks. A similar approach was adopted when Leeds
withdrew from investing in the Northern Rock, Alliance
and Leicester, Bradford and Bingley and the
Japanese banks last year. This was also
extended to the Irish banks but has been subsequently relaxed due to the Irish
Government guarantee on commercial deposits.
1.7 As the liquidity crisis has expanded Leeds
has also taken additional measures to limit exposure by ensuring that
investments are spread amongst different countries. Currently where it is necessary to deposit
funds for cash flow purposes, these are being placed for periods of up to one
month, but no longer. It is also the
case that as the Council's expenditure accelerates in the second half of the
year (largely due to capital programme) the levels of investments will reduce
as they are timed to mature to fund this expenditure.
1.8 Whilst it is the case that Leeds
did not have any investments with Icelandic banks it is appropriate to
illustrate the effect of investment strategy on the overall impact of the
Council's budget. Since the introduction
of the prudential code in 01/04/04 that gave the Council powers to borrow in
advance of need and invest monies until required, treasury management have reported
overall savings as shown in the table below.
These savings have occurred as a result of being able to borrow in
advance of need and invest monies until required, carry out rescheduling of
long term debt and the effect of lower borrowing rates. The benefit of reducing the average external
borrowing rate has been passed onto the Government through reduced housing
subsidy.
|
Year
|
Savings
|
Impact on Council Tax
£ per Band D property
|
|
2007/08
|
£13.5m
|
£58.67
|
|
2006/07
|
£22.2m
|
£97.23
|
|
2005/06
|
£1.75m
|
£7.73
|
|
2004/05
|
£5.5m
|
£24.78
|
1.9 One way of reducing the risk of investing
surplus funds is to repay debt. However,
whilst this has helped the revenue budget as illustrated above, this has become
increasingly difficult since the DMO changed the rates on premature repayment
of debt.
1.10 The majority of the Council's long term debt
is funded by borrowing from the Public Works Loans Board (PWLB). On 1st November 2007 the DMO implemented new
changes to the way local authorities can borrow and prematurely repay
loans. These changes restrict the
effective management of the Council's long term-debt portfolio and reduce the
opportunities to fairly take advantage of movements in the markets and generate
discounts and interest savings for the Council and, through Housing subsidy,
the Government. It also limits the
ability to come out of high rate loans.
1.11 The management of the Council's long term
debt portfolio has to strike a balance between volatility and the interest rate
paid for a particular loan. Whilst market
loans in the form of LOBOs have always provided a cheaper alternative funding
source they have not always been chosen, as their rate can vary and result in
increased uncertainty. It is good
treasury practice to have the right balance of fixed and variable loans in a
portfolio. If the Council no longer has
the practical option of rescheduling fixed PWLB loans, as a result of the
differential repayment rates, the Council sees itself taking on more market
debt. In the short term this may provide
a cheaper option, but at the expense of future volatility and more expensive
loans perhaps in the future.
1.12 The Council has a low council tax (more than
£100 lower than the average Core
City in 2007/08, and 5th
lowest of all 36 metropolitan districts) and as such its scope to manoeuvre is
perhaps less than for other authorities.
The Council has responded well to the Gershon agenda and has exceeded
its three year targets. The Council's Use of Resources assessment continues to
demonstrate strong financial performance and value for money.
1.13 It is against this context that the Council has
in the past looked to making savings from treasury operations. However, the introduction of new repayment
rates has hindered the ability to prematurely repay debt without incurring a
premium.
2 In the light of recent events, are any changes needed to the
framework for the scale, spread and risk of local government reserves?
2.1 Under the 2003 Local Government Act, the Council's Statutory
Financial Officer is required to make a statement to Council on the adequacy of
reserves. In addition, the Comprehensive Performance Assessment framework
requires the authority to have a policy on the level and nature of its reserves
and ensure these are monitored and maintained within the range determined by
its agreed policy. The purpose of a reserves policy is:
· to maintain reserves at a level appropriate
to help ensure longer term financial stability and
· to identify any future events or developments
which may cause financial difficulty, allowing time to mitigate for these.
2.2 The established policy encompasses an assessment of financial
risks included in the budget based on directorate budget risk registers. The
risk registers identify areas of the budget which may be uncertain and the at
risk element of each budget area has been quantified. This represents the scale
of any likely overspend/shortfall in income and does not necessarily represent
the whole of a particular budget heading. Each risk area has been scored in
terms of the probability and impact on the budget.
2.3 The results of this exercise for 2008/09 indicate a minimum
level of reserves of around £12m is required. This assessment has not in the
past considered the risk of default on investments. However, if the level of reserves was raised
to say Leeds' Counterparty limit of £15m there
will be an impact upon the level of council tax or front line services.
3 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?
3.1 When placing funds in the market the Council has to have due
regard from security of capital, liquidity and finally the return offered. The current alternative for the Council to
placing surplus funds in the markets is to keep the funds with the councils own
bank that is currently paying a margin above the bank rate. There is a further alternative that includes
investing the money with the Government's Debt Management Account Deposit
Facility. The best rate that this
account currently offers sub 2% and it is perhaps more appropriate to repay
debt rather than invest at the rate offered.
However, the repayment of debt without incurring a premium, has become
more difficult since the PWLB introduced differential rates on 1st
November 2007. This is an issue that if
resolved could allow local authorities to repay debt and thereby reduce the
level of investments.
3.2 It is also the case that if Councils collectively deposited
greater sums with the Government the market would be further drained of
essential liquidity, making it more likely that the interbank cost of borrowing
would increase and in turn the banks would become more reliant on Government
help.
3.3 The council has also recently noted that where it has required
funds these have been supplied by other local authorities to a greater extent.
3.4 The Council has investments which are expected to diminish
towards the end of the financial year, as the Council's expenditure accelerates
in the second half of the year (largely due to capital programme) these investments
are timed to mature to fund this expenditure.
As such it is unlikely that any of these returned long term investments
will be re-invested.
3.5 It is important to recognise that whatever risk measures are put
in place to protect the Council's investments, there is no 100% guarantee that
an investment will be risk free. (Please see the points raised in section 5.) Leeds's
current strategy on investments is to consider:
· The rate
that can be secured on the borrowing given interest rate forecasts
· Security of
counter parties to ensure that we get the money back, to include,
o Evidence so far that the UK Government appears to
be keen to support the UK
banking sector - through recent acquisitions and shareholdings
o Evidence that some non-UK Governments are also
backing their banks, for example, Ireland.
o Whether there is scope within the lending list to
lend further funds to "red" rated institutions both within the UK and outside the UK.
· Review of
the Investment guidelines for Councils by CIPFA and this review of the local
government treasury management code.
4 What is the role of central government in providing financial
advice and guidance to local authorities? Should any other bodies have a
role?
4.1 The operation of the Treasury Management function is governed by
provisions set out under part 1 of the Local Government Act 2003 whereby the
Council is required to have regard to the Chartered Institute of Public Finance
and Accountancy (CIPFA) Prudential Code for Capital Finance in Local
Authorities.
4.2 The framework for treasury management has been set for a number
of years and is generally clearly understood by local authorities. It is Leeds'
view that the framework does provide adequate scope within which to undertake
effective treasury management.
4.3 Throughout the year there are seminars held by CIPFA, the local
government association, banks and treasury advisors which allow for detailed
discussion around the current issues faced in treasury management. It is also the case that some of the topics
are delivered by Government advisors/Civil servants.
4.4 Leeds is also able to consider issues affecting investment and
treasury management by engaging and debating issues in various forums including
West Yorkshire Treasury Managers meetings, Core Cities treasury management
meetings, SIGOMA meetings and quarterly strategy meetings held with the
Councils own treasury advisors. Issues
are also regularly discussed with the broking community and various banks. These various forums provide the Council with
an up to date view of the issues affecting treasury management.
5 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?
5.1 Treasury management relies on engaging in the money markets and
it is the responsibility of the local authority to investment monies with
regard to the provisions set out under part 1 of the local Government Act
2003. Local authorities themselves are classified
as professional investors under MIFID.
5.2 The criteria for the amount, length and selection of the
counterparty to invest in is determined by each local authority and detailed in
its treasury management investment strategy that is approved by full
council. This strategy incorporates the
financial and capital aims of the individual local authorities. Leeds
believes that this process has worked well for a number of years, but the
current systemic unique problems facing the monies markets at present may be
aided by some temporary Government protection.
5.3 If the Government were to guarantee all local authority deposits
there are a number of questions that would need to be debated including:
· What
would be the impact on local authorities setting their own prudential
indicators and their investment strategies?
· Would
the Government want to cap the exposure in any one counter-party to limit their
own exposure?
· Would
local authorities become more liberal in their lending attitudes through the
pursuit of greater returns safe in the knowledge that the deposit would be
guaranteed by the Government.
· Would
the Government insist that investments are limited to UK banks?
· How
would other nations react to this, given we are facing an international
problem?
· What
will be the cost of protection and where will it fall?
· How
would a blanket guarantee on local authority investments affect the overall
standing of the Government? Would guilt
issuance have to rise and the rate at which investment in gilts lower the price,
thereby raising the yield and making it more expensive for local authorities to
borrow debt?
5.4 If an authority loses monies through a failed investment the
cost of this will inevitably fall upon the council tax payer through increased
council tax or reduced services. If the
Government protected these investments the immediate burden would fall upon
central government. However in the
longer term would this mean that local government settlements would be tighter?
December 2008
