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Introduction

Background

  1. These Guidelines have been drawn up in terms of the decision reached by the Cabinet State Agencies Committee on 24 January 1990 (SAS (90) M 1/3). This decision required each Ministry and Department to produce a ‘Foreign-Exchange Policy Document’ for the management of their department’s transaction exposure, in terms of guidelines approved by the Minister of Finance (Treasury Circular 1990/4 of 16 March 1990).

  2. Guidelines for the Management of Departmental Foreign-Exchange Exposure were first issued in March 1990. During 2003, Treasury undertook a review of the guidelines, which highlighted a number of ways in which these could be improved. As a result, the guidelines have been updated and reissued, pursuant to section 80 of the Public Finance Act 1989.

Objectives of the Guidelines

  1. These guidelines are intended to assist departments in the preparation of their Foreign-Exchange Policy Document. They set the parameters within which departments are required to manage their Crown and departmental foreign-exchange exposure.

Underlying Principles

  1. The guidelines are based on the underlying principles that government should:

    • be risk averse; and

    • minimise foreign-exchange exposure.

  2. The Crown has an overall policy of adopting a conservative approach to risk. These guidelines have been developed with the intention of ensuring that the risk faced by the Crown due to transaction and counterparty exposure is minimised.

Application of Guidelines

  1. These guidelines apply to the management of transaction exposure only, both Crown and departmental.

  2. The guidelines are mandatory for all departments to follow unless changes to these guidelines have been agreed by joint ministers (refer to paragraph 12).

Transaction Exposure

  1. Transaction exposure is the principal type of foreign-exchange exposure which departments face. It refers to the effect a change in foreign-exchange rates would have on the size of the cash flow in one currency necessary to settle a given cash flow in another currency. The cash flows may be direct or indirect. Direct exposures are identifiable cash flows which require a foreign-exchange transaction to be undertaken e.g. a purchase of goods from overseas. Indirect exposures reveal no explicit requirement but incorporate a hidden foreign-exchange component which may affect pricing and costs e.g. transportation costs associated with the purchase of goods from overseas.

Translation Exposure

  1. Translation exposure refers to the effect on period-end financial statements for reports of fluctuations in exchange rates. This exposure arises from translating:

    1. transactions undertaken in a foreign currency into a base currency (New Zealand dollars); and

    2. the financial statements of foreign sub-entity operation into the base currency of its parent.

  2. The recording of transactions and changes in asset and liability values does not usually produce an economic impact on the parent entity, in that no direct cash effect arises. However, financial statements are used for a number of purposes, including performance measurement. In this context, the balance sheets of departments subject to translation exposure will require careful interpretation.

  3. Translation exposure is not included within the scope of these guidelines. It is being addressed in the context of implementing the International Financial Reporting Standards in New Zealand.

Approval of Policy Documents

  1. The policies designed by each department and any changes to approved policies will require the approval of:

    1. the Secretary to the Treasury and the relevant department’s own Chief Executive where they conform with the guidelines; or

    2. the Minister of Finance and the Responsible Minister where they do not.

  2. In both cases the department should seek approval via their Treasury Vote Team. Once a department’s policy document has been approved, adherence to it by that department will be mandatory.

Amendments to the Guidelines and Policy Documents

  1. The guidelines may be amended from time to time. Any changes will be communicated to all departments. This may necessitate revision of individual policy documents. Equally, departments may wish to alter their policies. The process for obtaining approval to amendments to the policy documents is the same as for new documents.

Contents of the Guidelines

  1. The guidelines set out the issues that need to be considered in preparing a Foreign-Exchange Policy Document. They focus on specific policy areas with the intention of ensuring that the risk faced by the Crown due to transaction and counterparty exposure is minimised. In each case, the guideline appears first followed by the policy rationale. There are eight sections:

    1. Foreign-Exchange Policy Objectives;

    2. Foreign-Exchange Exposure Faced by the Department;

    3. Accountabilities and Responsibilities;

    4. Identification and Timing of Cover;

    5. Covering Transaction Exposure: Transaction Exposure Limit, Approved Instruments and Historic-Rate Rollovers;

    6. Counterparties: Approved Counterparties, Counterparty Exposure Limit and Monitoring Credit and Transaction Exposure Limits;

    7. Bank Accounts: Legislative Requirements; and

    8. Reporting: Internal and External Requirements.

  2. Supporting these guidelines are four schedules:

    • Schedule I: Instruments for the Management of Foreign-Exchange Exposure.

    • Schedule II: The role of the New Zealand Debt Management Office (the NZDMO).

    • Schedule III: Procedure for opening a Foreign-Currency Bank Account.

    • Schedule IV: Outline for a Foreign-Exchange Policy Document.

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