Learning Objectives
• Visualize the structure of the government bond market
• Explain the interaction of Eurodollars, CDs, and
Repurchase agreements and their connection to shortterm government debt
• Understand the market structure of the corporate and municipal debt markets
• Describe the structure of equity markets and they fundamentals that help determine their price
The Government Bond Market
• When U.S. government runs a deficit, the
Treasury Department borrows money by selling government bonds
• Sell to anyone willing to lend money to U.S. government • Treasury issues a wide variety of maturities and types of government securities
Federal Debt as Percentage of GDP
Actual and CBO Projections
The Government Bond Market
(Cont.)
• U.S. securities are basically two types
– Marketable [50%]--bought/sold in financial markets
– Nonmarketable [50%]--sell back to Treasury
• Types of Securities and Investors
– Treasury Bills (T-bills)
• Short-term—maturity of 3, 6 months or 1 year
• Zero-coupon—sold at discount below face value
The Government Bond Market
(Cont.)
• Types of Securities and Investors (Cont.)
– Treasury Notes
• Maturity between one and ten years
• Coupon instruments—interest usually paid semiannually
The Government Bond Market
(Cont.)
• Types of Securities and Investors (Cont.)
– Treasury Inflation Protected Securities (TIPS)
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Most complicated security issued by the Treasury
Issued in three maturities—5, 10, and 20 years
Interest is paid semi-annually
The principal of the TIPS grows at the same rate as inflation
Interest payments increase with the increased principal
Upon maturity, bearer receives higher of the original principal or principal grown at the rate of inflation
The Government Bond Market
(Cont.)
• Owners of marketable government securities
– Federal Reserve
• Purchases Open Market Operations—mostly T-bills
• Provides Fed with most of its income
The Government Bond Market
(Cont.)
• Owners of marketable government securities
(Cont.)
– Foreigners
• Now own about 50% of U.S. national debt
• Without foreign purchases, U.S. interest rates would be much higher
• Foreigners are attracted to U.S. securities:
– Political stability
– Financial freedom—Dollar is easily traded
– Relative high interest rates
