GAO-21-606: Federal Debt Management: Treasury Quickly Financed Historic Government Response to the Pandemic and is assessing Risks to Market Functioning
Summary
GAO report GAO-21-606, "Federal Debt Management: Treasury Quickly Financed Historic Government Response to the Pandemic and Is Assessing Risks to Market Functioning," a report to congressional committees dated August 2021. It states that in March 2020 many investors rapidly sold Treasury securities for cash, causing a severe liquidity disruption, and that the Federal Reserve supported market functioning by purchasing trillions of dollars of Treasury securities. GAO reports that Treasury quickly raised trillions of dollars, adding regular weekly auctions of cash management bills, and in April 2021 initiated an interagency effort on options to mitigate future disruptions. It notes Treasury maintained an operating cash balance of around $1.6 trillion and recommends that Treasury clarify its policy for managing that balance.
Summary drafted by a model from the document's text below and checked by script against that text before publication. It is a navigation aid, not a reading of what the document proves. Where AI is used
Cite this document
“GAO-21-606: Federal Debt Management: Treasury Quickly Financed Historic Government Response to the Pandemic and is assessing Risks to Market Functioning.”
Original at www.gao.gov. Archived at Pandemic Darlings, https://pandemicdarlings.com/source-documents/gao-21-606-federal-debt-management-treasury-quickly-financed-historic-8bcc5ccf5a/
, SHA-256 ecd693fb3abef5f50824badb111b9e37fc90e8d9d2ab53cdd48a3313a9762245.Full text
United States Government Accountability Office
Report to Congressional Committees
FEDERAL DEBT
August 2021
MANAGEMENT
Treasury Quickly
Financed Historic
Government
Response to the
Pandemic and Is
Assessing Risks to
Market Functioning
GAO-21-606
August 2021
FEDERAL DEBT MANAGEMENT
Treasury Quickly Financed Historic Government
Response to the Pandemic and Is Assessing Risks to
Highlights of GAO-21-606, a report to Market Functioning
congressional committees
Why GAO Did This Study What GAO Found
The federal government’s fiscal In response to COVID-19, in March 2020 many investors rapidly sold their
response to the COVID-19 pandemic Treasury securities for cash. This led to a severe liquidity disruption when prices
dramatically increased the fell and transaction costs rose for Treasury notes and bonds in the secondary
government’s borrowing needs. market. The Federal Reserve acted quickly to support market functioning,
Treasury borrows money needed by including purchasing trillions of dollars of Treasury securities.
issuing Treasury securities. The ability
to borrow large amounts of money This market disruption highlighted risks to the Treasury market. For example,
quickly and cheaply is especially growth in federal debt and regulatory changes may reduce broker-dealers’
important during a crisis, when willingness and ability to intermediate trades (facilitate purchases and sales) of
government spending tends to Treasury securities for investors. In April 2021 Treasury initiated an interagency
increase and revenues tend to effort to examine options that could help mitigate future disruptions in the market.
decrease. Any disruptions in investor
demand for Treasury securities or the Following the market disruption, Treasury quickly raised trillions of dollars to fund
functioning of the Treasury market can the federal response to COVID-19. It dramatically increased its issuance of
have costly implications for the federal bills—including adding regular, weekly auctions of cash management bills, which
government and taxpayers. have historically been issued irregularly to cover near-term financing gaps. The
bills were met with strong investor demand. For example, GAO found almost no
The CARES Act includes a provision difference between cash management bill and other bill yields during this time.
for GAO to report on its monitoring and
oversight efforts related to the COVID- Monthly Gross Issuance of U.S. Treasury Bills, Notes, and Bonds
19 pandemic. This report examines (1)
how the cost and liquidity of Treasury
securities changed during COVID-19;
(2) actions Treasury is taking to
mitigate future disruptions; and (3) the
actions Treasury took to finance the
federal government's response to the
pandemic.
GAO analyzed data on Treasury
securities; reviewed agency and
market research; and interviewed
market participants across key
financial sectors (e.g., broker-dealers,
banks, mutual and money market
funds), market experts, and Treasury
and Federal Reserve officials.
What GAO Recommends Note: Notes and bonds includes Treasury Floating Rate Notes and Inflation Protected Securities.
GAO recommends that Treasury clarify Due to the uncertainty created by COVID-19, Treasury maintained a historically
the department’s policy for managing high operating cash balance of around $1.6 trillion. Its stated policy is to hold a
its operating cash balance to include level of cash generally sufficient to cover one week of outflows. However, other
all relevant factors it considers when factors not explicitly reflected in its policy informed how it managed the cash
determining the appropriate cash
balance during COVID-19. Market participants told GAO that they were unclear
balance and communicate this policy
about all of these factors. They said that understanding the level and trajectory of
to the public. Treasury agreed with the
recommendation. the cash balance is important because it affects market expectations for the size
of Treasury issuance, supply of bank reserves, and short-term lending rates—all
View GAO-21-606. For more information, of which inform their business strategies and support market functioning.
contact Yvonne Jones at (202) 512-6806 or
jonesy@gao.gov. Additionally, uncertainty about the size of the cash balance can lead to volatility
in financial markets. This, in turn, can affect Treasury’s borrowing costs.
United States Government Accountability Office
Contents
Letter 1
Background 4
Investors’ Initial Reactions to COVID-19 Led to Disruptions in the
Treasury Market, Prompting Action by the Federal Reserve 6
Treasury Plans to Assess Structural Challenges to the Treasury
Market 18
Treasury Quickly Raised Trillions in 2020 to Finance Pandemic
Response but Did Not Clearly Communicate Factors Affecting
Its Cash Balance 25
Conclusions 35
Recommendation for Executive Action 36
Agency Comment 36
Appendix I: Econometric Model of the Treasury-Overnight
Indexed Swap Spread 40
Appendix II: Analysis of Cash Management Bill Yields 45
Appendix III: Comments from the Department of the Treasury 49
Appendix IV: GAO Contacts and Staff Acknowledgments 50
Tables
Table 1: Regression Output from Model of the 5-Year Treasury-
Overnight Indexed Swap Spread 42
Table 2: Cash Management Bill (CMB) Yield Differential and
Premium 48
Figures
Figure 1: Liquidity, Depth, and Safety Are Key Characteristics of
the Treasury Market 5
Figure 2: Yields for Selected Treasury Securities, Jan. to June
2020 7
Page i GAO-21-606 Federal Debt Management
Figure 3: Quarterly Value of Investor Net Transactions (Purchases
and Sales) of Treasury Securities, Oct. 2019 to Mar.
2020 8
Figure 4: A Daily Indicator of Volatility in the Treasury Market,
2006 to 2020 9
Figure 5: Average Daily Trading Volumes by Week between
Broker-Dealers and Customers, Apr. 2019 to Apr. 2020 11
Figure 6: Bid-Ask Spreads for 10-Year Treasury Notes, Feb. to
June 2020 13
Figure 7: Share of Trading Volume on Electronic Interdealer
Broker Platforms by Market Participant Type, Jan. to
June 2020 14
Figure 8: Federal Reserve Holdings of Treasury Securities, Jan.
2006 to Dec. 2020 16
Figure 9: Total Marketable Treasury Securities Outstanding and
Total Financial Assets of Security Broker-Dealers, 2007
to 2020 19
Figure 10: Growth in 5-Year Treasury-Overnight Indexed Swap
Spread and Privately Held Marketable Treasury
Securities, 2002 to 2020 22
Figure 11: Monthly Gross Marketable Debt Issuance, Jan. 2007 to
Mar. 2021 26
Figure 12: U.S. Government Money Market Funds’ Holdings of
Treasury Securities, Jan. 2019 to Feb. 2021 27
Figure 13: Monthly Gross Issuance of Treasury Securities, by
Security Type and Weighted Average Maturity of
Outstanding Debt Portfolio, Jan. 2020 to May 2021 29
Figure 14: Treasury’s Daily Cash Balance and 5-Day Average
Outflows, Jan. 2019 to Apr. 2021 32
Page ii GAO-21-606 Federal Debt Management
Abbreviations
CMB cash management bill
COVID-19 Coronavirus Disease 2019
Federal Reserve the Federal Reserve System
FINRA Financial Industry Regulatory Authority
GDP gross domestic product
OIS Overnight Indexed Swap
PTF principal trading firms
Repo repurchase agreement
SLR Supplementary Leverage Ratio
TGA Treasury General Account
TIPS Treasury Inflation-Protected Securities
TRACE Trade Reporting and Compliance Engine
WAM weighted average maturity
This is a work of the U.S. government and is not subject to copyright protection in the
United States. The published product may be reproduced and distributed in its entirety
without further permission from GAO. However, because this work may contain
copyrighted images or other material, permission from the copyright holder may be
necessary if you wish to reproduce this material separately.
Page iii GAO-21-606 Federal Debt Management
Letter
441 G St. N.W.
Washington, DC 20548
August 17, 2021
Congressional Committees
The Coronavirus Disease 2019 (COVID-19) pandemic substantially
damaged the global economy and affected the stability of credit markets.
In response to the unprecedented global crisis caused by COVID-19,
Congress passed and the President signed legislation to fund recovery
efforts. 1 Together, this legislation appropriated about $4.5 trillion across
the government to fund COVID-19 response and recovery efforts.
This fiscal response to the pandemic dramatically increased the size of
the government’s borrowing needs. From April through December 2020,
the Department of the Treasury raised a historic $3.8 trillion. In contrast,
during the global financial crisis, Treasury borrowed $3.1 trillion over a 2-
year period. 2
In times of crisis, such as the COVID-19 pandemic, the importance of a
strong U.S. Treasury market is essential to fund federal response and
recovery efforts. Treasury securities play a vital role in U.S. and global
financial markets because of their deep and liquid market and because
investors are confident that debt backed by the full faith and credit of the
U.S. government will be honored. These features help Treasury issue
debt at low cost to finance government operations. The ability to borrow
large amounts of money quickly and cheaply is especially important
during a crisis, when government spending tends to increase and
revenues decrease. Any disruption in demand or market functioning can
have costly implications for the government, taxpayers, and the economy.
1See, Coronavirus Preparedness and Response Supplemental Appropriations Act, 2020,
Pub. L. No. 116-123, 134 Stat. 146 (2020); Families First Coronavirus Response Act, Pub.
L. No. 116-127, 134 Stat. 178 (2020); Coronavirus Aid, Relief, and Economic Security Act,
Pub. L. No. 116-136, 134 Stat. 281 (2020); Paycheck Protection Program and Health Care
Enhancement Act, Pub. L. No. 116-139, 134 Stat. 620 (2020); Consolidated
Appropriations Act, 2021, Pub. L. No. 116-260, 134 Stat. 1182 (2020); American Rescue
Plan Act of 2021, 117-2, 135 Stat. 4 (2021).
2This represents net borrowing between December 2007 and December 2009. See GAO,
Debt Management: Treasury Was Able to Fund Economic Stabilization and Recovery
Expenditures in a Short Period of Time, but Debt Management Challenges Remain,
GAO-10-498 (Washington, D.C.: May 18, 2010).
Page 1 GAO-21-606 Federal Debt Management
The CARES Act includes a provision for us to report on our monitoring
and oversight efforts of the federal government’s response to the COVID-
19 pandemic. 3 This report examines: (1) how the cost and liquidity of
Treasury securities changed during the pandemic; (2) actions Treasury is
taking to mitigate future disruptions in the Treasury market; and (3)
actions Treasury has taken to finance the federal government’s response
to the COVID-19 pandemic.
To examine how the cost and liquidity of Treasury securities changed
during the pandemic, we analyzed market data from Bloomberg, the
Federal Reserve System (Federal Reserve), and Treasury, as well as
data from the Financial Industry Regulatory Authority’s (FINRA) Trade
Reporting and Compliance Engine (TRACE) provided by Treasury. We
also reviewed analyses, reports, and other documentation on the March
2020 Treasury market disruption by market participants, academics, and
Treasury and the Federal Reserve.
To describe actions Treasury is taking to mitigate future market
disruptions, we first identified structural challenges to Treasury market
functioning by reviewing assessments from Treasury and the Federal
Reserve, the International Monetary Fund, academics, and market
participants. We conducted further analysis of these challenges using
market data from Bloomberg, the Federal Reserve, and Treasury. As part
of this, we conducted a multivariate regression analysis to examine how
certain structural factors, such as regulatory constraints, were associated
with the interest rate that Treasury paid on Treasury securities relative to
similar risk-free assets (see appendix I for more details). We interviewed
Treasury officials to discuss these and other structural challenges and
any actions that they were taking to address them.
To evaluate Treasury’s actions to finance the federal response to COVID-
19, we analyzed Treasury’s debt issuance and cash management activity
from January 2020 through May 2021. We also analyzed auction metrics
and the scale, timing, term to maturity, and composition of Treasury
borrowing during this time. To measure any premium associated with
3Pub. L. No. 116-136, § 19010, 134 Stat. at 579–581. We regularly issue government-
wide reports on the federal response to COVID-19. For the latest report, see GAO,
COVID-19: Continued Attention Needed to Enhance Federal Preparedness, Response,
Service Delivery, and Program Integrity, GAO-21-551 (Washington, D.C.: July 19, 2021).
Our next government-wide report will be issued in October 2021 and will be available on
GAO’s website at https://www.gao.gov/coronavirus.
Page 2 GAO-21-606 Federal Debt Management
Treasury’s issuance of cash management bills (CMB) during COVID-19,
we compared CMB yields to yields on benchmark bills with similar
maturities (see appendix II for more details). We assessed Treasury’s
approach against International Monetary Fund and World Bank guidance
for public debt management. 4
For all of our objectives, we interviewed 18 market participants, including
officials from 10 primary dealers and banks, six money market and mutual
funds, and two hedge funds. We selected market participants to ensure a
diversity of viewpoints, taking into consideration market sector, share of
the Treasury market, and recommendations by market experts. We also
interviewed 10 subject matter experts in Treasury markets and monetary
policy from academia, think tanks, and private research and advisory
firms. The views expressed in these interviews are not generalizable to all
market participants. We also interviewed officials from Treasury’s Office
of Debt Management and the Federal Reserve Board of Governors. We
reviewed reports, quarterly refunding materials, and other agency
documents. 5
To assess the reliability of data used in this study, we reviewed related
documentation and traced data from source documents, where possible
and appropriate. We also corroborated the results of our data analyses
with interviews and other sources, when possible. We used data sets that
are commonly used by Treasury, researchers, and other market analysts
to examine Treasury markets and auction performance. On the basis of
our assessment, we determined the data are sufficiently reliable for the
purpose of this review.
We conducted this performance audit from July 2020 to August 2021 in
accordance with generally accepted government auditing standards.
Those standards require that we plan and perform the audit to obtain
sufficient, appropriate evidence to provide a reasonable basis for our
findings and conclusions based on our audit objectives. We believe that
the evidence obtained provides a reasonable basis for our findings and
conclusions based on our audit objectives.
4The World Bank and International Monetary Fund, Revised Guidelines for Public Debt
Management (Apr. 2014).
5Each quarter, Treasury releases a variety of documents and data relating to Treasury
borrowing and debt management policy. See
https://home.treasury.gov/policy-issues/financing-the-government/quarterly-refunding.
Page 3 GAO-21-606 Federal Debt Management
Treasury borrows money to finance the federal deficit—which includes
Background paying interest on outstanding debt—and to refinance maturing debt. It
borrows from the public by issuing Treasury securities—specifically
Nominal Treasury Securities
Treasury bills, notes, and bonds (see sidebar). 6
Bills are short-term securities maturing in 1
year or less. Treasury regularly issues bills in
4-, 8-, 13-, 26-, and 52-week maturities. Treasury’s primary debt management goal is to finance the government’s
Notes are interest-bearing securities that borrowing needs at the lowest cost over time (see sidebar). Treasury
have a fixed maturity of not less than 1 year
and not more than 10 years from their date of reports that it achieves this goal by
issue. Treasury currently issues notes in 2-, 3-
5-, 7-, and 10-year maturities.
• issuing marketable debt within a regular and predictable framework—
Bonds are interest-bearing securities with
maturities over 10 years. Treasury currently meaning Treasury debt managers provide the market clear and
issues 20- and 30-year bonds. transparent information about planned issuance, and set a standard
Source: GAO. | GAO 21-606 calendar of auctions for each security type; 7
• managing its debt portfolio to mitigate rollover risk—the risk that it
may have to refinance maturing debt at higher interest rates;
Treasury’s Borrowing Cost
The government’s cost of borrowing is
• fostering an efficient and liquid secondary market—the marketplace in
determined by the interest rate—or the yield which Treasury securities are traded; and
demanded by investors—that Treasury pays
on the range of marketable securities that it • promoting a broad and diverse investor base.
issues. The interest cost associated with any
issuance strategy depends on a variety of To this end, Treasury issues securities in a wide range of maturities to
factors, including investor demand, the federal appeal to a broad range of investors, and in sufficient amounts to promote
government’s fiscal policy, and monetary
policy. liquid markets so investors can easily buy and sell Treasury securities.
Source: GAO. | G AO 21-606 Treasury’s regular and predictable auction framework also provides
investors greater certainty and better information to plan their
investments. The Treasury securities market is considered the most
liquid, deepest, and safest fixed-income market in the world (see fig. 1).
6Treasury also issues Treasury inflation-protected securities (TIPS) with 5-, 10-, and 30-
year maturities and 2-year floating rate notes. An inflation-indexed security repays the
principal adjusted for inflation at maturity. Treasury’s 2-year floating rate note pays interest
quarterly at a rate that varies with changes in the indexed rate—the discount rate on the
13-week Treasury bill. Treasury reporting, such as the Daily Treasury Statement,
combines the 5- and 10-year TIPS and the 2-year floating rate note with nominal notes
and the 30-year TIPS with nominal bonds.
7Marketable securities constitute most debt held by the public and can be resold by
whoever owns them. Treasury also issues a smaller amount of nonmarketable securities,
such as savings securities and State and Local Government Series securities.
Page 4 GAO-21-606 Federal Debt Management
Figure 1: Liquidity, Depth, and Safety Are Key Characteristics of the Treasury Market
Treasury securities are held by a wide range of private and public
investors to support a variety of business practices and needs. For
example, Treasury securities serve as a close substitute to cash for
financial institutions and corporate treasurers. They are one of the most
widely used forms of collateral for financial transactions. Treasury
securities are used as a benchmark for pricing many other financial
products, such as corporate bonds, derivatives, and mortgages. The
Federal Reserve, the U.S. central bank, also buys and sells Treasury
securities as one of its tools to influence interest rates and achieve its
monetary policy goals. 8
8The Federal Reserve System consists of the Board of Governors of the Federal Reserve
System, 12 regional Reserve Banks, and the Federal Open Market Committee. The
Federal Open Market Committee directs open market operations—the purchase and sale
of securities in the secondary market by a central bank—to influence the total amount of
money and credit available in the economy. The Federal Reserve remits any profits it
earns, including any profits associated with interest received on Treasury securities, back
to Treasury.
Page 5 GAO-21-606 Federal Debt Management
Investors’ Initial
Reactions to COVID-
19 Led to Disruptions
in the Treasury
Market, Prompting
Action by the Federal
Reserve
Investors Rapidly Sold In March 2020, as fears about the economic effects of COVID-19
Treasury Securities to intensified across financial markets, many investors sold their longer-term
Treasury securities to raise cash to manage the extraordinary uncertainty
Raise Cash, Which
associated with the pandemic. This significant and widespread selling put
Increased Volatility and pressure on Treasury market intermediaries and led to a severe
Reduced Liquidity for deterioration in liquidity conditions over a short period.
Treasury Notes and Bonds
Many investors value Treasury securities because they can be quickly
and easily converted into cash in a variety of market conditions. However,
this large and widespread rush by investors to sell their Treasury
securities was unusual. Demand for Treasury securities normally
increases during times of crisis as many investors move toward safer and
more liquid financial assets—often referred to as a flight to quality. This
was the case in early March as indicated by declining yields on Treasury
securities (see fig. 2). 9 Yields move lower as increasing demand drives up
prices.
By mid-March 2020, however, some market participants’ preferred to
obtain cash rather than continue to hold certain longer-term Treasury
securities. Investors began selling Treasury notes and bonds to raise
cash, causing yields to temporarily spike for these securities. At the same
time, many investors bought unprecedented amounts of Treasury bills, as
discussed later in this report, contributing to declines in bill yields (see fig.
2).
9The Federal Open Market Committee also decided on March 3, 2020, to lower the target
range for the federal funds rate, which generally also lowers yields on Treasury securities
as investors adjust their expectations for lower interest rates.
Page 6 GAO-21-606 Federal Debt Management
Figure 2: Yields for Selected Treasury Securities, Jan. to June 2020
Investors sold more than $500 billion in Treasury securities in the first
quarter of 2020 (see fig. 3). International investors, mutual funds, and the
households and nonprofit sector—which includes other private investors,
such as U.S.-based hedge funds—were the largest net sellers of
Treasury securities during this period. 10
10U.S.-based hedge fund activity appears in the households and nonprofit sector in the
Federal Reserve data, which is a residual category. Foreign hedge fund activity is
captured in the international investors sector. Some hedge funds classified as
international may be domiciled abroad but operate primarily in U.S. financial markets.
Page 7 GAO-21-606 Federal Debt Management
Figure 3: Quarterly Value of Investor Net Transactions (Purchases and Sales) of
Treasury Securities, Oct. 2019 to Mar. 2020
Notes: The dollar value of purchases and sales shown in this figure are estimated by the Federal
Reserve based on changes in holdings of Treasury securities and interest rates from quarter to
quarter.
Households and nonprofits is a residual data series that displays the value of transactions by all other
investor types not captured elsewhere in the data. Transactions by households, nonprofit
organizations, and other private investors, such as U.S.-based hedge funds, fall into this sector.
According to Federal Reserve and Treasury reports and market
participants we interviewed, investors faced different pressures that led to
sales:
• International investors—including foreign official investors, such as
foreign central banks, and foreign private investors—sold large
amounts of Treasury securities. Foreign central banks, for example,
sold Treasury securities to support the dollar needs of their domestic
economies and to manage their exchange rates.
• Mutual funds sold their holdings of Treasury securities to prepare for
or meet withdrawals or to rebalance their portfolios after large losses
in equities.
Page 8 GAO-21-606 Federal Debt Management
• Hedge funds sold their holdings of Treasury securities as higher
market volatility led to a need to reduce their exposure to certain
trades involving Treasury securities.
The intense and widespread investor selling contributed to higher volatility
in the Treasury market, reflecting increased uncertainty and less
agreement on prices. Periods of moderate Treasury market volatility are
common as investor expectations shift. However, the onset of the COVID-
19 pandemic was an extraordinary shock to financial markets that
resulted in exceptional volatility. For example, the Merrill Lynch Option
Volatility Estimate index, which tracks overall volatility in the Treasury
market, shows that conditions in March 2020 were the most volatile since
June 2009 during the global financial crisis (see fig. 4).
Figure 4: A Daily Indicator of Volatility in the Treasury Market, 2006 to 2020
Note: The ICE Bank of America MOVE index tracks movements in the yield volatility of Treasury
securities as implied by Treasury options. It is a weighted average of implied volatilities for 1-month
options on the 2-, 5-, and 10-year note and 30-year bond.
Heavy sales and exceptional volatility put pressure on Treasury market
intermediaries—which include both broker-dealers and principal trading
firms—and affected their ability to support market liquidity (see text box).
Page 9 GAO-21-606 Federal Debt Management
Treasury Market Intermediaries
Broker-Dealers
Broker-dealers typically intermediate trading in Treasury securities by making markets
for customers such as mutual funds, insurance companies, foreign central banks, and
other investors. Intermediation generally involves broker-dealers buying and selling
Treasury securities in large amounts to meet customer needs—holding some trading
positions for multiple days—and maintaining a large inventory of Treasury securities.
Principal Trading Firms (PTF)
PTFs also make markets in Treasury securities, largely by facilitating trading among
broker-dealers on electronic trading platforms. Broker-dealers use these platforms to
internally manage their inventories of Treasury securities. PTFs largely use high-speed
technology to quickly adapt their trading strategies to changes in market conditions.
Unlike broker-dealers, PTFs trade using their own capital and not on behalf of clients.
PTFs generally do not hold large positions for multiple days. Rather, they bid on and
offer Treasury securities at competitive prices and use technology to complete
transactions quickly.
Source: GAO. | GAO 21-606
Although broker-dealers facilitated record volumes of both client
purchases and sales, overall, clients sold more Treasury securities to
broker-dealers than they bought from them. This resulted in increased
broker-dealers holdings of Treasury notes and bonds during March.
Average daily trading volumes between broker-dealers and customers
also reached their highest level since July 2017 (the earliest data
available). They also were well above normal levels for multiple weeks as
broker-dealers responded to the surge of customer selling (see fig. 5). 11
11In July 2017, Treasury and other agencies gained access to data on secondary market
transactions as reported to FINRA by its broker-dealer members to the TRACE database.
We received aggregate TRACE data from Treasury to analyze for this report.
Page 10 GAO-21-606 Federal Debt Management
Figure 5: Average Daily Trading Volumes by Week between Broker-Dealers and Customers, Apr. 2019 to Apr. 2020
Increased market volatility made intermediation riskier because it meant
the prices of Treasury securities could move significantly between their
purchase and sale, potentially resulting in large trading losses. Market
participants we interviewed and Treasury and Federal Reserve
documents indicate that as a result, some broker-dealers were
constrained by internal risk limits on their trading activity. This, in turn,
reduced their ability to conduct further transactions with clients. Several
market participants and experts we spoke to also said that the transition
by many financial firms to full-time telework arrangements during this time
strained normal business procedures and communication channels,
further complicating trading operations.
Furthermore, large flows of customer sales onto broker-dealer balance
sheets likely moved some firms closer to a regulatory threshold called the
supplementary leverage ratio (SLR). SLR is a 2018 balance sheet
regulation on large bank holding companies that limits the amount of
assets, regardless of their riskiness, that these firms can hold in
Page 11 GAO-21-606 Federal Debt Management
proportion to their capital. 12 Broker-dealers whose holding companies
were approaching their SLR thresholds may have become less willing to
accept customer sales of Treasury securities to slow asset growth and
conserve balance sheet space. 13
These pressures—increased trading risk and declining balance sheet
space—severely strained broker-dealers’ capacity or willingness to serve
as intermediaries in the Treasury market. 14 Some asset managers told us
that they could not find a broker-dealer to bid on certain Treasury
securities that they wanted to sell. In addition, some broker-dealers said
that they were hesitant to add more Treasury securities onto their balance
sheets during this time.
Broker-dealers were either unable to expand their inventories of Treasury
securities to fully meet the intermediation needs of their customers—the
majority of whom wished to sell—or were only willing to do so at higher
costs to their customers. For example, the bid-ask spread on Treasury
notes and bonds—an indicator of transaction costs that measures the
difference between the offered buying and selling price for a security—
widened substantially during mid-March. This implies reduced liquidity for
market participants.
As shown in figure 6, the bid-ask spreads on the 10-year Treasury note
rose well above previous levels in March 2020 and reached their widest
levels since the global financial crisis. This effect was larger for off-the-run
Treasury securities, which are older securities that generally are less
liquid. Many investors—such as bond mutual funds, pension funds, and
foreign central banks—sell off-the-run securities to raise cash when
needed and did so in March 2020.
12The SLR is a risk-insensitive capital requirement that applies to large holding companies
and requires such holding companies to hold capital for all on-balance sheet assets and
certain off-balance sheet exposures. 12 C.F.R. § 217.10(c).
13Firms nearing their SLR threshold may also elect to raise additional capital, slow asset
growth in other areas, or sell assets to avoid breaching regulatory minimum requirements
or enhanced regulatory standards, as applicable.
14See Financial Stability Oversight Council, 2020 Annual Report (Washington, D.C.: Dec.
3, 2020).
Page 12 GAO-21-606 Federal Debt Management
Figure 6: Bid-Ask Spreads for 10-Year Treasury Notes, Feb. to June 2020
Notes: On-the-run Treasury securities are those most recently auctioned by Treasury. Off-the-run
securities refer to any securities that were auctioned prior to the most recent offering.
A basis point is equal to 1/100th of a percent, or 0.01 percent.
Principal trading firms initially increased their trading activity but later
reacted to the volatile trading conditions and reduced their market-making
activity. From March 16 to April 17, 2020, principal trading firms’ share of
trading volumes on certain electronic trading platforms averaged just 45
percent, compared to an average of 57 percent from January to March
13, 2020—the date COVID-19 was declared a national emergency (see
fig. 7).
Page 13 GAO-21-606 Federal Debt Management
Figure 7: Share of Trading Volume on Electronic Interdealer Broker Platforms by Market Participant Type, Jan. to June 2020
Note: Other market participants is a residual category that includes trading volumes of all other firms
that are not FINRA members. This includes hedge funds, asset managers, and foreign subsidiaries or
affiliates of some broker-dealers.
Broker-dealers’ inability or unwillingness to fully intermediate large client
sales combined with a sharp reduction of principal trading firms’ market-
making contributed to the severe deterioration in overall liquidity
conditions in the Treasury market. Many market participants we
interviewed told us that Treasury market conditions in March 2020 were
among the most dysfunctional that they had ever experienced.
Page 14 GAO-21-606 Federal Debt Management
The Federal Reserve Starting March 9, 2020, the Federal Reserve took several actions to
Acted Quickly to Support support market functioning—or liquidity and efficient pricing—in Treasury
securities. 15
Market Functioning,
Including Purchasing • Expanding short-term lending facilities and operations. From
Trillions of Dollars of March 9 to March 17, 2020, the Federal Reserve expanded its
Treasury Securities repurchase agreement (repo) operations to offer large amounts of
short-term financing to primary dealers (see sidebar) in exchange for
Primary Dealers collateral such as Treasury securities and agency mortgage-backed
Certain broker-dealers who are trading securities. 16 Also on March 17, it established a primary dealer credit
counterparties of the Federal Reserve Bank facility that likewise offered short-term financing to primary dealers,
of New York in its implementation of
monetary policy, including repo operations
but accepted a broader range of collateral than its repo facility. 17
and purchases of Treasury securities. Lastly, on March 31, 2020 the Federal Reserve also established a
Primary dealers are expected, among other repo facility for foreign and international monetary authorities that
things, to bid in all Treasury securities
auctions at reasonably competitive prices. provided these investors an alternative option to access U.S. dollar
There are currently 24 primary dealers. funding rather than selling their Treasury securities outright in the
Source: GAO. | GAO-21-606
secondary market. 18
15In addition to taking action across a range of financial markets, including in Treasury
securities, the Federal Reserve established several emergency lending facilities to support
the flow of credit to employers, consumers, businesses, state and local governments, and
nonprofit organizations. See Federal Reserve Lending Programs: Use of CARES Act-
Supported Programs Has Been Limited and Flow of Credit Has Generally Improved,
GAO-21-180 (Washington, D.C.: Dec. 10, 2020).
16In July 2021, the Federal Reserve announced the establishment of a domestic standing
repo facility. According to the Federal Reserve, the facility will serve as a backstop in
money markets to support the effective implementation of monetary policy and smooth
market functioning. The standing repo facility will offer overnight lending of U.S. dollars in
exchange for Treasury securities, among other types of securities. The facility will initially
be available to primary dealers and will be expanded over time to including additional
depository institutions. See The Federal Reserve Board of Governors, Statement
Regarding Repurchase Agreement Arrangements (July 28, 2021).
17The primary dealer credit facility offers credit to primary dealers for term funding with
maturities up to 90 days. Whereas Federal Reserve repo facilities only accept Treasury
securities, agency debt, and agency mortgage-backed securities as collateral, eligible
collateral for the primary dealer credit facility included a broad range of investment grade
debt securities, including commercial paper and municipal bonds, and a broad range of
equity securities. The primary dealer credit facility expired on March 31, 2021.
18This repo facility allowed foreign central banks and foreign monetary authorities with
accounts at the Federal Reserve Bank of New York to temporarily exchange their
Treasury securities for U.S. dollars. In July 2021, the Federal Reserve announced the
establishment of a standing repo facility for foreign and international monetary authorities
to help address pressures in global dollar funding markets that could otherwise affect
financial market conditions in the United States.
Page 15 GAO-21-606 Federal Debt Management
• Buying Treasury securities in the secondary market. From March
16 to April 8, 2020, the Federal Reserve purchased $1.1 trillion of
Treasury securities and purchased a further $1 trillion from April 9 to
December 31, 2020, for a total of $2.1 trillion. 19 The Federal
Reserve’s purchases of Treasury securities from primary dealers
helped these dealers resume intermediation activities because they
could accept large customer sales and quickly sell them to the
Federal Reserve, limiting the dealers’ balance sheet exposure. Most
Federal Reserve purchases were of Treasury notes and bonds,
including off-the-run securities, which was the segment of the
Treasury market with the most severe disruption in liquidity. The scale
of these purchases was unprecedented and resulted in a larger
increase in the Federal Reserve’s holdings of Treasury securities than
the combined effects of three previous large-scale asset purchase
programs, commonly referred to as quantitative easing, or QE (see
fig. 8).
Figure 8: Federal Reserve Holdings of Treasury Securities, Jan. 2006 to Dec. 2020
Note: Figure shows nominal holdings of U.S. Treasury securities. It excludes inflation compensation.
19These purchases are called open market operations, which is one of the Federal
Reserve’s instruments for implementing monetary policy. Open market operations involve
the buying and selling of government securities. Open market operations are carried out
by the Trading Desk of the Federal Reserve Bank of New York under direction from the
Federal Open Market Committee. The transactions are conducted with primary dealers.
Page 16 GAO-21-606 Federal Debt Management
Nearly all market participants and experts we interviewed said that the
Federal Reserve’s purchases of Treasury securities were an effective
and important action that helped restore market functioning. The
Federal Reserve implemented earlier asset purchase programs
primarily to reduce long-term interest rates but initiated the COVID-19
purchases mainly to support Treasury market functioning. The
Federal Reserve conducted these purchases to ensure that its other
monetary policy actions would be effective and help support the
broader economy, given the critical role of the Treasury market for
other financial markets.
• Temporarily changing the Supplementary Leverage Ratio (SLR).
On April 1, 2020, the Federal Reserve Board announced a change to
the SLR for large bank holding companies to temporarily exempt
Treasury securities and deposits held at Federal Reserve Banks from
the ratio calculation. This change reduced the costs to these entities
of holding Treasury securities and central bank reserves on their
balance sheets. 20 The exemption expired on March 31, 2021.
Federal Reserve officials told us that they made this decision to
address: (1) a decline in market-making activities by the broker-
dealers that reside within these holding companies; and (2) a rise in
these firms’ cash reserves held at the Federal Reserve, due in part to
its large-scale asset purchases. 21
Our analysis of market data indicates that liquidity and volatility measures
for Treasury notes and bonds quickly improved following the Federal
Reserve’s actions. Market participants we interviewed told us that the
Federal Reserve’s interventions helped restore market functioning to pre-
pandemic conditions by summer 2020.
Despite this, several market participants and experts we interviewed
expressed concerns about the extent to which the private market can
mitigate future disruptions without continued support from the Federal
Reserve. As we have previously reported, disruptions that significantly
20The Federal Reserve temporarily exempted Treasury securities and deposits held at
Federal Reserve Banks from the denominator of the SLR calculation. This means that
affected bank holding companies were not required to hold capital in proportion to the
value of these assets for the duration of the exemption. See 12 C.F.R. § 217.303.
21When the Federal Reserve purchases Treasury securities from primary dealers in the
secondary market, it pays for them by making a deposit in the primary dealers’ accounts
maintained at the Federal Reserve. This, in turn, increases the overall supply of reserves
in the financial system.
Page 17 GAO-21-606 Federal Debt Management
affect the combination of liquidity, depth, and safety of Treasury securities
could lessen the unique advantages of the Treasury market and
negatively affect the demand for Treasury securities. 22
Treasury Plans to
Assess Structural
Challenges to the
Treasury Market
Intermediation Challenges The March 2020 disruption highlighted risks to the Treasury securities
Pose Risks to the market. An efficient and liquid secondary market for Treasury securities
that is resilient to financial stress is important to Treasury’s ability to
Treasury Market
finance government borrowing and helps support a stable financial
system. Our analysis of market data, documents from federal agencies
that monitor the Treasury market, and research by academics, private
organizations, and market participants identified two key structural
challenges that pose risks to Treasury market functioning: (1) pressures
on broker-dealer intermediation, and (2) challenges introduced by
principal trading firms during episodes of stress. In April 2021, Treasury
announced it will be coordinating an interagency analysis of the March
2020 disruption and evaluating options to enhance Treasury market
resilience, as discussed later in this report. 23 This is an important initial
step in addressing these structural challenges.
Pressures on broker-dealer intermediation—including those associated
with the growth in outstanding marketable Treasury securities and
compliance with the SLR—could continue to pose challenges for
Treasury market liquidity. For example, since 2007, the size of the
Treasury market has grown rapidly while the total financial assets that
broker-dealers hold on their balance sheets, which is one measure of
their intermediation capacity, has declined slightly. As of December 31,
22GAO, Federal Debt Management: Treasury Should Strengthen Policies for Market
Outreach and Analysis to Maintain Broad-Based Demand for Securities, GAO-20-131,
(Washington, D.C.: Dec. 5, 2019).
23Deputy Assistant Secretary for Federal Finance Brian Smith, Remarks at the Federal
Reserve Bank of New York’s Annual Primary Dealer Meeting (Apr. 8, 2021). The
interagency working group for Treasury Market Surveillance was formed in 1992 to
strengthen monitoring, surveillance, and interagency coordination with respect to the
Treasury market. It consists today of Treasury, the Federal Reserve Board of Governors,
the Securities and Exchange Commission, the Commodity Futures Trading Commission,
and the Federal Reserve Bank of New York.
Page 18 GAO-21-606 Federal Debt Management
2020, total outstanding marketable Treasury securities were $20.9 trillion,
compared to total broker-dealer financial assets of $3.7 trillion (see fig. 9).
Figure 9: Total Marketable Treasury Securities Outstanding and Total Financial Assets of Security Broker-Dealers, 2007 to
2020
The Congressional Budget Office projects that the annual budget deficit
will average $1.2 trillion over the next 10 fiscal years, requiring continued
increases in debt issuance. 24 Without an increase in broker-dealers’
capacity or willingness to intermediate Treasury securities, or additional
intermediation provided by other market participants, disruptions could
become more frequent. For example, future episodes of investor selling
that are relatively modest in proportion to the overall size of the Treasury
market could result in net sales that are at least as large as those seen in
March 2020.
Fiscal policy and the strength of the economy determine the size of the
deficit and the amount of Treasury securities outstanding. However, it is
important for Treasury officials to understand how the growing supply of
Treasury securities affects investor behavior, market functioning, and the
24The Congressional Budget Office, The Budget and Economic Outlook: 2021 to 2031
(Feb. 2021).
Page 19 GAO-21-606 Federal Debt Management
resilience of the Treasury market. These factors have a meaningful effect
on interest rates on Treasury securities and, ultimately, the government’s
cost of borrowing. Treasury officials told us that they view the large
borrowing needs associated with the federal response to COVID-19 as a
significant challenge to meeting the agency’s primary debt management
goal. 25
In addition, the SLR may limit intermediation in Treasury securities by
increasing the cost of holding Treasury securities for certain broker-
dealers. The SLR was implemented as part of a set of post-financial crisis
regulatory reforms to promote resilience in the financial system by
strengthening bank capital and liquidity standards. 26 However, because
the SLR requires large bank holding companies to hold a certain amount
of capital in proportion to their total assets, including low-risk assets like
Treasury securities, broker-dealers that reside within these holding
companies may prefer to limit their inventories of Treasury securities that
they use for making markets. Instead, they may concentrate on other
business lines that generate higher returns. 27
As demonstrated by the March 2020 disruption, constrained
intermediation in Treasury securities by broker-dealers negatively
affected liquidity during a period of exceptionally large sales. Many
market participants we interviewed, representing diverse investor sectors,
told us that the SLR will continue to pose challenges to Treasury market
liquidity against a backdrop of continued debt issuance, and increases in
the amount of Treasury securities outstanding.
Our analysis and our assessment of related research provide additional
evidence that the growth in Treasury securities outstanding and, to a
lesser extent, compliance with the SLR, may have increased the yields
investors required to hold Treasury securities relative to alternatives and
25In March 2021, we reported that once the economy substantially recovers from the
pandemic, Congress and the administration need to develop an approach to place the
government on a sustainable long-term fiscal path. See GAO, The Nation’s Fiscal Health:
After Pandemic Recovery, Focus Needed on Achieving Long-Term Fiscal Sustainability,
GAO-21-275SP (Washington, D.C.: Mar. 23, 2021).
26See GAO, Bank Capital Reforms: Initial Effects of Basel III on Capital, Credit, and
International Competitiveness, GAO-15-67 (Washington, D.C.: Nov. 20, 2014)
27See for example Dong Beom Choi, Michael R. Holcomb, and Donald P. Morgan, “Bank
Leverage Limits and Regulatory Arbitrage: Old Question, New Evidence,” Federal
Reserve Bank of New York Staff Reports, no. 856, Dec. 2019.
Page 20 GAO-21-606 Federal Debt Management
could contribute to structural challenges in the Treasury market. 28 We
analyzed the difference between the yield on a Treasury security and the
yield on a fixed interest rate overnight indexed swap (OIS) contract—
contracts which share certain key features with Treasury securities (see
text box).
Overnight Indexed Swap (OIS)
OIS is an overnight indexed swap contract, a type of derivative used to acquire fixed
interest payments that can be on the same payment schedule as Treasury securities,
and with little risk of default. Because both OIS rates and Treasury rates are influenced
by investor expectations of future short-term interest rates, changes in the spread
between the two rates can reflect changes in the demand for Treasury securities
relative to other options. As such, OIS interest rates make an informative comparison
for interest rates on Treasury securities.
Source: GAO. | GAO 21-606
Since 2008, the difference between these yields—or the Treasury-OIS
spread—has grown considerably. In early 2008, for example, the 5-year
Treasury yield was generally almost 0.5 percent lower than a comparable
OIS yield. However, in early 2019 the 5-year Treasury yield was about 0.2
percent higher than a comparable OIS yield—meaning that investors
required higher returns to hold 5-year Treasury securities than to enter
into a 5-year OIS contract.
We developed a regression model of the 5-year Treasury-OIS spread.
Our results suggest that the growth of Treasury securities outstanding
has been associated with a large share of the increase in the spread. In
addition, our analysis indicates the spread increased more than one
28See Zhiguo He, Stefan Nagel, and Zhaogang Song, “Treasury Inconvenience Yields
during the COVID-19 Crisis,” NBER Working Paper, No. 27416 (Nov. 2020), Edward
Gamber and John Seliski, “The Effect of Government Debt on Interest Rates,”
Congressional Budget Office Working Paper Series, Working Paper 2019-01 (Mar. 2019),
Nina Boyarchenko, Pooja Gupta, Nick Steele, and Jacqueline Yen, “Negative Swap
Spreads,” Federal Reserve Bank of New York Economic Policy Review 24, no. 2 (Oct.
2018), and Arvind Krishnamurthy and Annette Vissing-Jorgensen, “The Aggregate
Demand for Treasury Debt,” Journal of Political Economy (2012).
Page 21 GAO-21-606 Federal Debt Management
would expect based on the growth of Treasury debt alone as federal
banking agencies implemented the SLR. 29
As shown in figure 10, the widening of the 5-year Treasury-OIS spread
between 2008 and 2019 largely coincided with the growth of privately
held Treasury debt. In 2010, investors began requiring higher returns to
hold a 5-year Treasury note than to enter into a comparable OIS contract.
In 2020, the Federal Reserve temporarily exempted Treasury securities
from the SLR from April onward and the Treasury-OIS spread fell in the
second half of the year despite a significant rise in privately held Treasury
debt over most of 2020.
Figure 10: Growth in 5-Year Treasury-Overnight Indexed Swap Spread and Privately Held Marketable Treasury Securities,
2002 to 2020
Notes: Treasury-OIS spread and privately held debt to GDP are displayed as end of quarter values.
Privately held Treasury debt excludes marketable debt held by the Federal Reserve.
29We use a number of regression models to assess the extent to which maturity-matched
Treasury-OIS spreads might be explained by the market value of Treasury debt
outstanding scaled by gross domestic product and SLR implementation phases. This
approach is designed to control for maturity, default risk, and underlying demand for safe
assets. A number of other factors could also influence the Treasury-OIS spread, including
factors that may not be captured by our analyses such as changes in the demand for
swaps. As such, our analysis results do not, on their own, provide definitive evidence on
the factors behind changes in the Treasury-OIS spread.
Page 22 GAO-21-606 Federal Debt Management
Principal trading firms—or firms that primarily use high-speed
automated trading strategies and trade using their own capital rather than
on behalf of clients—are active Treasury market participants that help
support liquidity. However, during two notable episodes of elevated
volatility, principal trading firms (PTF) made notable adjustments to their
trading activity, which added to liquidity strains during these periods of
stress. Certain aspects of PTFs, such as the trading strategies they use
and the constraints under which they operate, are less well understood
than those of regulated financial institutions. 30
Analyses of Treasury market trading volumes highlight the important role
of PTFs in supporting liquidity. For example, we estimate that from July
2017 to February 2020, PTFs accounted for about 21 percent of all
trading volume in the Treasury market and about 58 percent of the trading
volume on electronic interdealer broker platforms (venues that facilitate
trading among broker-dealers). 31 In addition, Treasury and the Federal
Reserve have suggested that the high-speed trading technology used by
these firms helps keep bid-ask spreads narrow. This could, in principle,
benefit market liquidity in both normal and stressed conditions.
However, according to the Financial Stability Oversight Council, the
factors that drive PTF behavior during disruptions are not fully
understood. 32 During recent market disruptions, PTFs have made certain
adjustments to their participation in the Treasury market that contributed
to challenging liquidity conditions. For example, in March 2020, PTFs
reduced their market-making activity and accounted for less total trading
volume, despite remaining in the market throughout the disruption. In an
earlier event on October 15, 2014 (also called the Flash Rally), PTFs
trimmed the amount of Treasury securities that they made available for
purchase or sale at any given time on electronic trading platforms—an
30This is in part because these firms are not subject to regulatory reporting requirements
or detailed disclosures that other financial institutions, such as broker-dealers and
investment companies, are required to report. Certain hedge funds and principal trading
firms qualify for exemptions from certain securities laws and regulations, including the
requirement to register as a broker-dealer or an investment company, as applicable. See
15 U.S.C. §§ 77d, 78l(g), 80b-3(b).
31July 2017 is the earliest data available through FINRA’s TRACE database.
32See Financial Stability Oversight Council, 2020 Annual Report, (Washington, D.C.: Dec.
3, 2020).
Page 23 GAO-21-606 Federal Debt Management
important measure of liquidity known as market depth—but at the same
time significantly increased their overall share of trading volumes. 33
After both events, federal agencies that monitor the Treasury market have
recommended further study on these shifts in PTF activity. While the data
available to Treasury and to other agencies on PTF activity have
improved in recent years, the effect of PTF behavior on liquidity in periods
of market stress raises concerns about the ongoing resilience of the
Treasury market. 34
Treasury Is Coordinating The federal government is examining and evaluating these and other
with Interagency Partners structural challenges to the Treasury market. In December 2020, the
Financial Stability Oversight Council recommended an interagency review
to Assess Challenges to
of market structure issues that could contribute to volatility in the Treasury
the Treasury Market market and other key financial markets. 35
In April 2021, Treasury officials announced that the Interagency Working
Group for Treasury Market Surveillance will analyze the causes of the
March 2020 disruption and consider ways to enhance Treasury market
resilience. 36 Treasury officials identified several areas for further study—
including the challenges we identified above. For example, Treasury
plans on examining why broker-dealers could not fully intermediate
customer sales during the disruption. It also will assess topics related to
principal trading firms’ activity, like the deterioration of liquidity on
electronic trading platforms during the disruption and the transparency
and oversight of electronic trading venues in general. In addition, the
Federal Reserve announced it will be seeking public comment on
33A Joint Staff Report published by Treasury and its interagency working group partners
after the Flash Rally found that PTFs tend to manage their exposure to volatility by
reducing the volume of standing orders that they supply to the market, but replenish these
orders quickly to sustain high trading volumes. See Joint Staff Report: The U.S. Treasury
Market on October 15, 2014 (Washington, D.C.: July 13, 2015).
34Treasury and other agencies have access to FINRA TRACE data on Treasury securities
trading volumes. These data include statistics on how much, in what security types, and in
what segments of the market Treasury securities are traded. In April 2019, FINRA began
requiring more detailed transaction reporting to better identify the types of firms that are
trading with each other.
35Financial Stability Oversight Council, 2020 Annual Report (Washington, D.C.: Dec. 3,
2020).
36Deputy Assistant Secretary for Federal Finance Brian Smith, Remarks at the Federal
Reserve Bank of New York’s Annual Primary Dealer Meeting (Apr. 8, 2021).
Page 24 GAO-21-606 Federal Debt Management
measures to adjust the SLR regulation, which will contribute to ongoing
discussions with Treasury on the resilience of the Treasury market. 37
These are important initial steps to inform efforts to address ongoing
structural challenges to Treasury market functioning. An efficient and
liquid Treasury secondary market supports Treasury’s ability to fund
government borrowing at a low cost—its primary debt management goal.
We will monitor the progress of the working group and Treasury’s actions
to address the structural challenges outlined in this report.
Treasury Quickly
Raised Trillions in
2020 to Finance
Pandemic Response
but Did Not Clearly
Communicate Factors
Affecting Its Cash
Balance
Treasury Raised Trillions Treasury raised trillions of dollars quickly to meet the unexpected and
in 2020 Primarily through unprecedented increases in financing needs—including issuing $2.5
trillion in April alone. 38 Treasury exceeded $2 trillion in gross issuance in
Bills
April, May, and June 2020 and more than $1.4 trillion each month through
March 2021 (see fig. 11).
37The Federal Reserve Board of Governors, Federal Reserve Board Announces That The
Temporary Change To Its Supplementary Leverage Ratio (SLR) For Bank Holding
Companies Will Expire As Scheduled On March 31 (Mar. 19, 2021).
38This reflects gross issuance as reported in the Daily Treasury Statement.
Page 25 GAO-21-606 Federal Debt Management
Figure 11: Monthly Gross Marketable Debt Issuance, Jan. 2007 to Mar. 2021
Treasury initially financed this historic borrowing largely through bills.
Bid-to-Cover ratio
The total amount of securities bid for in an
Treasury officials told us that bills are often used to meet unexpected
auction divided by the total amount of borrowing needs. This is because bills are the most efficient and least
securities awarded. A higher bid-to-cover ratio costly security type to raise large amounts quickly due to their shorter
indicates stronger demand.
Source: GAO. | 21-606
maturities.
Bills are usually in high demand during times of stress. A key indicator of
investor demand—the bid-to-cover ratio—was 3.1 for bills from April to
December 2020. This means that investors placed more than $3 in bids
for every dollar offered at auction (see sidebar). 39
Our analysis of Treasury holdings and interviews with market participants
indicate that Treasury’s increased bill issuance was met by exceptionally
strong investor demand, especially by money market funds. As investors
sold Treasury notes and bonds and other financial assets for cash early in
the pandemic, they looked to government money market funds for safe
and liquid investments of the cash. Government money market funds in
39This is the average bid-to-cover ratio for all Treasury bill and cash management bill
auctions from April to December 2020, weighted by the offering amount for each auction.
For comparison, in calendar year 2019, the average weighted bid-to-cover ratio for all
Treasury bills was 2.9.
Page 26 GAO-21-606 Federal Debt Management
turn invested those funds in Treasury bills. 40 Figure 12 shows that from
February to June 2020, U.S. government money market funds increased
their already substantial holdings of Treasury securities by 135 percent,
from $943 billion to more than $2.2 trillion. These funds have sustained
that level of holdings into 2021.
Figure 12: U.S. Government Money Market Funds’ Holdings of Treasury Securities, Jan. 2019 to Feb. 2021
While the strategy of issuing shorter maturity securities in the onset of the
Refinancing and Rollover Risk
crisis helped meet demand for short-term liquid assets, it also introduced
The risk associated with having to issue new
securities—at a potentially higher interest refinancing and rollover risk (see sidebar).
rate—to pay off the principal that comes due
when a Treasury security matures.
In May 2020, Treasury officials announced plans to increase the size of
Source: GAO. | GAO-21-606
auctions for notes and bonds to manage the maturity profile and limit
potential future issuance volatility. 41 These longer-term securities offer
more certainty for budget planning and help mitigate refinancing risk
because they do not mature as frequently as bills, and the interest rates
40Government money market funds are the largest type of money market fund and invest
only in cash and U.S. government securities.
41Department of the Treasury, Quarterly Refunding Statement of Deputy Assistant
Secretary for Federal Finance Brian Smith (Washington, D.C.: May 6, 2020).
Page 27 GAO-21-606 Federal Debt Management
are set for the duration of the security. 42 However, they tend to have
higher interest rates than short-term bills. 43
As shown in figure 13, the increase in bill issuance starting in April 2020
caused the weighted average maturity (WAM) of the outstanding debt
portfolio to drop to 62 months from its pre-pandemic average of 70
months. 44 The WAM—the average of the maturity of all debt outstanding
weighted by the current face value of that debt—can be a helpful indicator
for Treasury’s rollover risk. The shorter the WAM of debt outstanding, the
sooner Treasury will need to refinance or roll over the debt at potentially
higher interest rates. With the increase in notes and bonds issued, the
WAM of the outstanding debt portfolio reached 67 months, or about 5.5
years, in March 2021, closer to the pre-pandemic average.
42The exception is Treasury’s floating rate note, which is a 2-year note but with interest
payments that rise and fall based on the discount rates in auctions of 13-week Treasury
bills.
43Generally, Treasury must pay a higher interest rate for longer-term securities to
compensate buyers for waiting longer for principal to be repaid and accepting increased
risk due to uncertainty about future market conditions.
44The 2020 low of about 62 months was still higher than during the global financial crisis
when the WAM dropped to as low as 49 months (around 4 years) in late 2008 and early
2009.
Page 28 GAO-21-606 Federal Debt Management
Figure 13: Monthly Gross Issuance of Treasury Securities, by Security Type and Weighted Average Maturity of Outstanding
Debt Portfolio, Jan. 2020 to May 2021
Notes: Bills include cash management bills. Treasury Floating Rate Notes and Inflation Protected
Securities are included in the notes and bonds category. This is consistent with Treasury’s reporting
convention in its Daily Treasury Statement. The Weighted Average Maturity is the average of maturity
of all debt outstanding weighted by the current face value of that debt.
Treasury Established Many of the bills Treasury issued to finance COVID-19 borrowing were
Routine Cash cash management bills (CMB). Typically, CMBs are not auctioned on a
regular schedule and are issued in variable maturities—usually a matter
Management Bill Auctions
of days—to cover intra-month financing gaps. Our prior work found that
to Raise $6.4 Trillion and CMBs have historically had higher yields compared to regularly issued
Improve Predictability for bills, meaning that they carry a higher interest cost. 45
Investors
45In 2006 and 2010 we reported that Treasury paid a premium for its use of CMBs. See
GAO-10-498 and Debt Management: Treasury Has Refined Its Use of Cash Management
Bills but Should Explore Options That May Reduce Cost Further, GAO-06-269
(Washington, D.C.: Mar. 30, 2006).
Page 29 GAO-21-606 Federal Debt Management
However, as the scope of the pandemic and the government’s response
began to take shape, Treasury’s issuance strategy was to establish a
regular and predictable CMB schedule to raise more than $6 trillion,
improve predictability for investors, and keep borrowing costs low. From
March 13, 2020 to February 16, 2021, Treasury issued $6.4 trillion from
197 CMB auctions, most of which was raised through regular weekly
auctions of these four CMBs at set maturity points: 46
• Issuance of 15- and 22-week CMBs on Tuesdays
• Issuance of 6- and 17-week CMBs on Thursdays. 47
The regular and predictable approach was successful, according to
Treasury officials and market participants we interviewed. Key metrics
indicate that demand was strong for Treasury’s CMBs. Also, yields
remained low and similar to other benchmark bills. Our analysis of CMB
and bill yields during the COVID-19 response found almost no difference
between the yields paid on CMBs and the yields paid on comparable
benchmark bills. 48
According to Treasury debt management officials, its debt management
strategy during the pandemic was guided by several considerations:
• Maintaining a regular and predictable auction schedule. Typically,
CMBs are not auctioned on a regular schedule and are announced
one to four days prior to the auction. However, Treasury officials know
that market participants value a regular auction schedule as it allows
investors to plan their purchases and broker-dealers to plan their
distribution of securities to their clients.
• Providing reinvestment opportunities. Treasury structured
issuance of the CMBs so that they matured on the same days each
46In contrast, during the global financial crisis, Treasury issued almost $1.1 trillion in
irregular CMBs over a three-year period (Jan. 1, 2008 to Dec. 31, 2010).
47Department of the Treasury, Quarterly Refunding Statement of Deputy Assistant
Secretary for Federal Finance Brian Smith (Washington, D.C.: May 6, 2020). March 13,
2020 is the date that the federal government declared COVID-19 a national emergency,
and February 16, 2021 was the last settlement date for two of the four regular CMBs that
Treasury issued during the pandemic.
48See appendix II for more information. Our analysis does not allow us to identify the
causes of changes in yield differentials over time. For example, we do not control for
factors that could affect the size of the CMB bill yield differential between the two periods,
such as changes in the interest rate environment, the amount of marketable Treasury
securities outstanding, and post-financial crisis reforms that may have structurally shifted
demand for certain Treasury securities by different investor types.
Page 30 GAO-21-606 Federal Debt Management
week as regularly scheduled—or benchmark—Treasury bills. This
provides investors with more reinvestment options and adds to the
liquidity of existing securities. For example, on the auction settlement
date, the maturing Treasury securities can be exchanged for the
newly issued Treasury securities.
• Keeping benchmark bill auctions at manageable sizes. Large
swings in auction sizes can result in higher yields or disruptions in
liquidity. Adding auctions to the schedule is one way Treasury can
increase financing without disrupting the size of planned auctions.
Several market participants we interviewed told us that the additional
CMB auctions helped to spread out Treasury’s large bill issuance
across more weekly auctions with a variety of maturity terms, which
benefited market liquidity.
Treasury officials told us that their experience issuing CMBs outside of
the regular auction framework during the global financial crisis informed
its different strategy for using CMBs during COVID-19. Our analysis found
that between 2008 and 2010, CMB yields were slightly higher on average
than bills sold at the next auction or bills being traded on the secondary
market. 49 As a result, we estimate that Treasury paid $152 to $288 million
in extra interest costs for the $1.1 trillion in CMBs it issued from 2008 to
2010—a 0.01 to 0.03 percent premium. See appendix II for more details.
If, during the government’s COVID-19 response, investors had required a
premium for CMBs similar to what we found between 2008 and 2010,
Treasury would have paid about $913 million to $1.7 billion in additional
borrowing costs for its issuance of $6.4 trillion in CMBs.
Treasury Added More than Between March and June 2020, Treasury added more than $1 trillion to
$1 Trillion to Its Cash its operating cash balance—held in the Treasury General Account (TGA)
at the Federal Reserve—and maintained a historic level of around $1.6
Balance to Manage
trillion from June 2020 through January 2021. This is more than three
Uncertainty but Market times larger than its pre-pandemic record-high of $470 billion (see fig.
Participants Were Unclear 14). The TGA functions as Treasury’s checking account and is used to
What Factors Informed
Decisions
49The CMB yields were 12 to 16 basis points higher than benchmark bills. The range is
based on two methodologies analyzing CMBs and benchmark bill yields at auction and
yields for bills trading in the secondary market.
Page 31 GAO-21-606 Federal Debt Management
deposit government receipts—such as tax payments and proceeds from
auctions of Treasury securities—and to pay government obligations. 50
Figure 14: Treasury’s Daily Cash Balance and 5-Day Average Outflows, Jan. 2019 to Apr. 2021
Note: Treasury’s daily operating cash balance is the amount of cash remaining in the Treasury
General Account after receipts and disbursements are accounted. Outflows includes outlays and
redemptions of maturing debt and is a 5-day moving average.
The cash balance can serve as a risk management tool that Treasury can
draw on to meet the government’s financial obligations in the short term
without having to raise additional money through debt auctions.
Treasury’s cash balance does interact with the financial system in
important ways (see textbox).
50Treasury manages the funds that flow through the federal government’s accounts.
These accounts are maintained across the 12 Federal Reserve Banks and rolled into one
account, the TGA, at the end of each day.
Page 32 GAO-21-606 Federal Debt Management
Treasury’s Cash Balance Interacts with the Financial System
The supply of bank reserves: Increases in Treasury’s cash balance, all else equal,
leads to a decline in the supply of reserves in the banking system. This is because
money that flows into the Treasury General Account (TGA) is no longer circulating in
the banking system and is, therefore, unavailable to banks to lend to consumers and
businesses. Conversely, decreases in the TGA, all else equal, increase the supply of
reserves in the banking system, as payments made to meet government obligations
flow into the banking system. Decreases in the TGA also increase the overall funds
available for banks to lend to consumers and businesses. The Federal Reserve
manages the supply of banking reserves as part of its implementation of monetary
policy.
The size of Treasury issuance: Treasury can increase the size of its cash balance by
issuing more securities beyond what is needed to finance immediate government
spending—for example, by increasing auction sizes—and keeping some of the extra
money it raises in the TGA. This adds to the overall supply of Treasury securities.
Similarly, Treasury can reduce its cash balance by issuing fewer securities, such as by
lowering auction sizes and paying more obligations with cash from the TGA. Large or
sudden changes to auction sizes may affect liquidity and market functioning.
Source: GAO. | GAO-21-606
Since 2015, Treasury’s policy has been to hold a level of cash generally
sufficient to cover one week of outflows in the TGA, subject to a minimum
balance of roughly $150 billion. 51 The policy was designed to ensure that
Treasury would be able to make government payments (including
redemptions of maturing securities) in case of a temporary interruption to
market access. Such an interruption would disrupt or delay Treasury’s
ability to raise new money through its debt auctions. 52
Treasury officials told us that the record-high cash balances during
COVID-19 were consistent with this policy given the uncertainty of the
pace and size of COVID-19 related outflows. However, we found that the
policy does not reflect other factors that Treasury considers when
managing its cash balance. In addition, these factors were not clearly
communicated publicly to market participants during COVID-19.
For example, in May 2020, Treasury announced that its cash balance
would likely remain elevated over the next quarter as Treasury sought to
51See Department of the Treasury, Quarterly Refunding Statement of Acting Assistant
Secretary for Financial Markets, Seth B. Carpenter (Washington, D.C.: May 5, 2015).
Outflows include payments for maturing securities.
52For example, Treasury lost market access for 3 days following the September 11, 2001,
attacks and for 1.5 days following Superstorm Sandy in October 2012.
Page 33 GAO-21-606 Federal Debt Management
maintain prudent liquidity in light of the size and relative uncertainty of
COVID-19 outflows. 53 Treasury officials explained to us that, in practice,
this meant pursuing a precautionary approach to the cash balance in
which Treasury may hold more than a week’s worth of outflows. It may
build up the cash balance gradually in the near term in anticipation of
potentially large outflows in future weeks or months. Therefore, when
faced with a large outflow—like those related to the Paycheck Protection
Program or the economic impact payments—Treasury would not have to
increase auction sizes rapidly for that week. 54 Instead, it could draw on
the cash balance to augment the money raised from auctions and meet
the government’s financing obligations.
Similarly, in August 2020, Treasury stated that part of its management of
the cash balance included seeking to change auction sizes gradually to
minimize any potential market disruption and anticipated enactment of
legislation authorizing additional government spending. 55 However,
market participants told us that even after Treasury’s statements about
the cash balance, they were still unclear about how Treasury makes
decisions about the size and trajectory of the cash balance.
Treasury says that it uses a transparent decision-making process to meet
its objectives of being regular and predictable, and fostering a liquid
secondary market so it can finance government borrowing needs at the
lowest cost over time. 56 World Bank-IMF guidelines for public debt
management highlight the importance of transparent objectives for debt
53Department of the Treasury, Quarterly Refunding Statement of Deputy Assistant
Secretary for Federal Finance Brian Smith (Washington, D.C.: May 6, 2020).
54In response to COVID-19, Congress and the President enacted number of programs to
help individuals, industries, and businesses. The economic impact payments and the
Paycheck Protection Program were among the largest of these programs. Sizable
outflows occurred in the months immediately after the authorization of each round of
economic impact payments and the authorization and expansion of the Paycheck
Protection Program. Pub. L. No. 116-136, §§ 1102(b), 1107(a)(1), 1112, 2201, 134 Stat. at
286–294, 301, 309–310, 335–340; Pub. L. No. 116-139, § 101(a), 134 Stat. at 620;
Paycheck Protection Program Flexibility Act of 2020, Pub. L. No. 116-142, §§ 2–3, 134
Stat. 641, 641–643 (2020); Pub. L. No. 116-260, div. N, §§ 272, 323, 134 Stat. at 1965–
1976, 2018–2022; Pub. L. No. 117-2, § 9601, 135 Stat. at 138–144; PPP Extension Act of
2021, Pub. L. No. 117-6, § 2, 235 Stat. 250, 250 (2021).
55Department of the Treasury, Quarterly Refunding Statement of Deputy Assistant
Secretary for Federal Finance Brian Smith (Washington, D.C.: Aug. 5, 2020).
56Department of the Treasury, Overview of Treasury’s Office of Debt Management.
Page 34 GAO-21-606 Federal Debt Management
management as well as enhanced communication with investors,
especially during periods of crisis. 57
Market participants told us they recognized the difficulty of forecasting
government outflows in such uncertain times; however, they said they
would have benefited from additional clarity and communication on how
Treasury implements its cash balance policy. Understanding the factors
that guide Treasury’s decisions about the level and trajectory of the cash
balance in future months is important because, according to market
participants, it affects market expectations for the size of Treasury
issuance, supply of bank reserves, and short-term lending rates—all of
which inform their business strategies and support market functioning.
Significant deviations from market expectations can lead to volatility in the
Treasury and other financial markets. This, in turn, could affect demand
for Treasury securities and Treasury’s borrowing costs.
The shock of COVID-19 to financial markets led to a severe disruption in
Conclusions the Treasury market in March 2020, prompting a swift response by the
Federal Reserve. The disruption exposed structural challenges in the
market, such as pressures on broker-dealer intermediation and principal
trading firms’ activity during periods of stress. These challenges pose
risks to the liquidity and efficiency of the U.S. Treasury market at a time
when debt issuance—and the amount of Treasury securities
outstanding—is expected to grow.
Disruptions in market functioning could reduce investor demand for
Treasury securities and negatively affect Treasury’s ability to borrow
money at the lowest cost over time. Treasury’s recent announcement of
an interagency effort to analyze the March 2020 disruption and consider
options to address structural challenges is an important initial step in
helping to mitigate future disruptions and support the long-term health of
the Treasury market.
To help finance the federal response to the COVID-19 pandemic,
Treasury successfully raised trillions of dollars in a very short time.
Treasury dramatically increased its issuance of Treasury bills in April and
May 2020 and established routine auctions of cash management bills
(CMB). Treasury bills were met with strong demand by investors looking
for liquid and safe assets. Our analysis of CMBs and benchmark bill
57See Section 2.1 in the World Bank-International Monetary Fund, Revised Guidelines for
Public Debt Management (Apr. 2014).
Page 35 GAO-21-606 Federal Debt Management
yields during COVID-19 found that Treasury did not pay a premium—as it
has in the past—for its use of CMBs to raise additional cash to help
finance the government’s response to the pandemic.
However, Treasury could be more transparent about how it implements
its cash management policy. Market participants that we spoke with from
across multiple sectors said they were uncertain about the factors
affecting the trajectory of the cash balance, which reached historically
high levels as Treasury managed the uncertain fiscal outlook caused by
COVID-19. Investors monitor the size of the cash balance to anticipate
changes in the size of Treasury issuance, the supply of bank reserves,
and short-term lending rates. Clear and transparent communication about
how it manages its operating cash balance would help Treasury’s broader
efforts to support liquidity and market functioning, which are fundamental
to Treasury meeting its primary debt management goal to borrow at the
lowest cost over time.
The Secretary of the Treasury should clarify the department’s policy for
Recommendation for managing the operating cash balance to include all relevant factors it
Executive Action considers when determining the appropriate cash balance and
communicate the policy to the public. (Recommendation 1)
We provided a draft of this report to Treasury and the Federal Reserve for
Agency Comment review and comment. In its comments, reproduced in appendix III,
Treasury agreed with our recommendation and said it would work to
improve transparency and implement the recommendation. Treasury and
the Federal Reserve also provided technical comments, which we
incorporated as appropriate.
Page 36 GAO-21-606 Federal Debt Management
We are sending copies of this report to the appropriate congressional
committees, the Secretary of the Treasury, Board of Governors of the
Federal Reserve, and other interested parties. In addition, the report will
be available at no charge on the GAO website at http://www.gao.gov.
For questions about this report, please contact Yvonne D. Jones at (202)
512-6806 or jonesy@gao.gov. Contact points for our Offices of
Congressional Relations and Public Affairs may be found on the last page
of this report. GAO staff who made key contributions to this report are
listed in appendix IV.
Yvonne D. Jones,
Director, Strategic Issues
Page 37 GAO-21-606 Federal Debt Management
List of Committees
The Honorable Patrick Leahy
Chairman
The Honorable Richard Shelby
Vice Chairman
Committee on Appropriations
United States Senate
The Honorable Ron Wyden
Chairman
The Honorable Mike Crapo
Ranking Member
Committee on Finance
United States Senate
The Honorable Patty Murray
Chair
The Honorable Richard Burr
Ranking Member
Committee on Health, Education, Labor, and Pensions
United States Senate
The Honorable Gary C. Peters
Chairman
The Honorable Rob Portman
Ranking Member
Committee on Homeland Security and Governmental Affairs
United States Senate
The Honorable Rosa L. DeLauro
Chair
The Honorable Kay Granger
Ranking Member
Committee on Appropriations
House of Representatives
The Honorable Frank Pallone, Jr.
Chairman
The Honorable Cathy McMorris Rodgers
Republican Leader
Committee on Energy and Commerce
House of Representatives
Page 38 GAO-21-606 Federal Debt Management
List of Committees Continued
The Honorable Bennie G. Thompson
Chairman
The Honorable John Katko
Ranking Member
Committee on Homeland Security
House of Representatives
The Honorable Carolyn B. Maloney
Chair
The Honorable James Comer
Ranking Member
Committee on Oversight and Reform
House of Representatives
The Honorable Richard E. Neal
Chairman
The Honorable Kevin Brady
Republican Leader
Committee on Ways and Means
House of Representatives
Page 39 GAO-21-606 Federal Debt Management
Appendix I: Econometric Model of the Appendix I: Econometric Model of the
Treasury-Overnight Indexed Swap Spread
Treasury-Overnight Indexed Swap Spread
Model Background To better understand potential drivers of changes in the Treasury
convenience yield (see sidebar) since the global financial crisis of 2007 to
Treasury Convenience Yield
2009, we developed and estimated a model of the Treasury-Overnight
Measured as the difference between the
Indexed Swap (OIS) spread. We use this measure of the convenience
yield on a Treasury security and another yield following a recent academic paper on the March 2020 Treasury
financial asset, for example a corporate market disruption. 1 In this paper, the researchers note that in recent years
bond. The difference between the yields
corresponds to the premium investors are investors have required higher yields on Treasury securities. They
willing to pay in exchange for the hypothesize that this change compensates for the inconvenience of
conveniences they enjoy from holding a
particular asset, for example the safety and holding Treasury securities in the current environment. Researchers have
liquidity of Treasury securities. identified a number of potential explanations for the relative increase in
Source: GAO. | GAO-21-606 Treasury yields. For example:
• The growth in Treasury securities outstanding could induce investors
to demand higher yields to hold a growing portfolio of Treasury
securities (i.e., there is a downward sloping demand curve for
Treasury securities). 2
• The Supplementary Leverage Ratio (SLR), a regulation which can
increase the cost of holding Treasury securities for financial
intermediaries that are part of certain large bank holding companies,
could lead them to demand higher yields to compensate for increased
costs. 3
Model Specification and We used a series of regression models to econometrically evaluate these
Results potential explanations for the evolution of the convenience yield. Our
analysis of the 5-year Treasury-OIS spread suggests that the growth of
Treasury securities outstanding has been associated with a large share of
the relative increase in yields at this maturity, while the implementation of
the SLR has been associated with a smaller increase. Although we
control for economic and regulatory conditions that are likely to affect the
Treasury-OIS spread, a number of other factors could also influence the
spread, including factors that may not be captured by our analysis, such
1See Zhiguo He, Stefan Nagel, and Zhaogang Song, “Treasury Inconvenience Yields
during the COVID-19 Crisis,” NBER Working Paper, No. 27416 (Nov. 2020).
2See Arvind Krishnamurthy and Annette Vissing-Jorgensen, “The Aggregate Demand for
Treasury Debt,” Journal of Political Economy (2012), and Treasury Borrowing Advisory
Committee, TBAC Charge (Feb. 2021).
3See Zhiguo He, Stefan Nagel, and Zhaogang Song, “Treasury Inconvenience Yields
during the COVID-19 Crisis,” NBER Working Paper, No. 27416 (Nov. 2020), and Dong
Beom Choi, Michael R. Holcomb, and Donald P. Morgan, “Bank Leverage Limits and
Regulatory Arbitrage: Old Question, New Evidence,” Federal Reserve Bank of New York
Staff Reports, no. 856 (Dec. 2019).
Page 40 GAO-21-606 Federal Debt Management
Appendix I: Econometric Model of the
Treasury-Overnight Indexed Swap Spread
as changes in demand for swaps. Therefore, on their own, our analysis
results do not provide definitive evidence on the factors behind changes
in the Treasury-OIS spread.
We model maturity-matched Treasury-OIS spreads, primarily at the 5-
year maturity, as a function of Treasury debt outstanding scaled by gross
domestic product (GDP) to control for changes in the supply of Treasury
securities relative to the underlying demand for safe assets associated
with changes in national income, and the timing of SLR implementation. 4
The use of the spreads, rather than Treasury yields directly, controls for
maturity and default risk (OIS contracts are considered essentially risk
free). Importantly, the balance sheet cost of OIS contracts under the SLR
is considerably smaller than for Treasury securities. As a result, the
spread can be interpreted as the relative value investors place on the
convenience of directly holding Treasuries versus the expense of holding
them on their balance sheet. The use of the Treasury-OIS spread as the
dependent variable and inclusion of SLR implementation periods as
explanatory variables is consistent with He et al. (2020), while the
inclusion of the market value of Treasury debt scaled by GDP is
consistent with Krishnamurthy and Vissing-Jorgensen (2012). 5
To construct the required variables, the model integrates data from
Bloomberg (OIS interest rates), the Board of Governors of the Federal
Reserve System (Treasury constant maturity interest rates), the Federal
Reserve Bank of Dallas (measures of the market value of Treasury debt),
the Bureau of Economic Analysis (GDP), and the Chicago Board Options
Exchange (VIX). The model is estimated with quarterly data.
Our principle conclusions are reflected in the results of a version of the
model in which the 5-year Treasury-OIS spread is a function of the
4The 5-year OIS contract involves swapping fixed interest payments for 5 years in
exchange for the federal funds rate. We use the 5-year maturity because Treasury market
stress during March 2020 was primarily in longer maturities and the 5-year OIS rates had
a longer data history available in Bloomberg than 10-year OIS rates. Treasury officials told
us that the 5-year OIS contract is not liquid or deeply traded. We reviewed the
methodology underlying Bloomberg’s OIS rates, which are informed by executable quotes
from dealers that are provided to Bloomberg at high frequency, and determined that these
data are sufficiently reliable for the purposes of our analysis of the Treasury-OIS spread.
5See Zhiguo He, Stefan Nagel, and Zhaogang Song, “Treasury Inconvenience Yields
during the COVID-19 Crisis,” NBER Working Paper, No. 27416 (Nov. 2020), and Arvind
Krishnamurthy and Annette Vissing-Jorgensen, “The Aggregate Demand for Treasury
Debt,” Journal of Political Economy (2012).
Page 41 GAO-21-606 Federal Debt Management
Appendix I: Econometric Model of the
Treasury-Overnight Indexed Swap Spread
market value of privately held Treasury debt as a share of GDP. Our
model also includes indicator variables that divide the implementation of
the SLR into two periods: (1) from SLR proposed rule in 2012 to rule
finalization in 2014, and (2) from the beginning of SLR disclosure
requirements in 2015 until Treasury securities were exempted from the
SLR calculation in 2020. 6
Model coefficient magnitudes and their statistical significance suggest
that both the market value of privately held Treasury debt and SLR
implementation timing have been associated with changes in the
Treasury-OIS spread at this maturity (see table 1). 7
Table 1: Regression Output from Model of the 5-Year Treasury-Overnight Indexed Swap Spread
Coefficient
Variable (standard error) p-value
Supplementary Leverage Ratio (SLR) phase 1: SLR rule proposed 0.115 0.001
through rule finalization (2012-2014) (0.033)
SLR phase 2: Disclosure required under the SLR through Treasury 0.185 < 0.001
security exemption (2015-first quarter 2020) (0.037)
Market value of privately held Treasury debt to gross domestic 0.011 < 0.001
product (GDP) (0.001)
Number of observations: 76 ─ ─
R-squared: 0.842 ─ ─
Source: GAO analysis of data from Bloomberg, the Board of Governors of the Federal Reserve System, Federal Reserve Bank of Dallas, and Bureau of Economic Analysis. | GAO-21-606
Note: Results are reported based on robust standard errors. To interpret regression coefficients
based on their units, every 1 percentage point increase in Treasury debt relative to GDP is associated
with a 1.1 basis point (a basis point is 1/100 of a percentage point) increase in the 5-year Treasury-
OIS spread, while the SLR phase 2 time period, for example, is associated with an 18.5-basis-point
increase in the spread relative to a baseline prior to the implementation of the SLR or when Treasury
securities were exempted from the SLR.
Table 1 shows that the coefficient from the SLR disclosure and
compliance time period is meaningfully higher and statistically larger than
the earlier rulemaking time period. In addition, both are higher than during
periods prior to SLR introduction and after Treasury securities were
6These phases are not intended to serve as a complete accounting of SLR rulemaking
and implementation but rather to illustrate some key aspects of the SLR implementation
timeline.
7Note that this model has a stronger conceptual logic and improved fit relative to a model
of the 5-year Treasury-OIS spread that is based on total marketable debt outstanding,
which would include debt held by the Federal Reserve not subject to private
intermediation or ownership.
Page 42 GAO-21-606 Federal Debt Management
Appendix I: Econometric Model of the
Treasury-Overnight Indexed Swap Spread
exempted. However, because we model SLR implementation through
indicator variables covering several quarters, we cannot be certain that
the coefficients are measuring the effect of the SLR or some omitted,
exogenous conditions that evolved contemporaneously with SLR
implementation.
Sensitivity Analysis We estimated a number of additional versions of the model to assess the
sensitivity of results to alternative assumptions and to quantitatively
assess the role of debt versus the SLR. For example, we estimated a
model with the VIX volatility index to allow for market uncertainty to
influence investors’ relative preferences for Treasury securities versus
fixed rate OIS contracts. The coefficient on the VIX is not statistically
significant in this model. It is possible that market uncertainty generally
increases demand for low-risk, fixed interest payment vehicles of all
kinds, and thus does not bias investors toward Treasury over OIS or vice
versa.
We also estimated a model in which the SLR implementation phases are
combined into a single indicator variable to easily compare the magnitude
of the association of the SLR and the role of debt with the growth of the
Treasury-OIS spread. The point estimate from this model suggests that
for every 1 percentage point increase in privately held debt relative to
GDP, the Treasury-OIS spread increased 1.1 basis points, comparable to
the coefficient estimate in table 1 above. Taking into account the
uncertainty around coefficient estimates from this model and the growth in
the market value of privately held debt from 2008 to 2020, the SLR was
associated with an increase of 9 to 23 basis points in the 5-year Treasury-
OIS spread, while the growth in privately-held Treasury debt relative to
GDP was associated with a 43 to 66 basis points increase (based on a 95
percent confidence interval).
In addition, we estimated a model with the 2-year Treasury-OIS spread as
the dependent variable—in this model, the estimated association with
Treasury debt is similar in magnitude to the model with the 5-year spread
but the coefficients on the SLR implementation periods are generally not
statistically significant.
Our principal diagnostics are related to assessing whether the residuals in
our model might exhibit a unit root, which would invalidate statistical
inference (i.e., the regression would be spurious). Absent evidence of a
unit root in the residuals, we estimate the degree of serial correlation in
our residuals and then estimate a model with Newey-West standard
Page 43 GAO-21-606 Federal Debt Management
Appendix I: Econometric Model of the
Treasury-Overnight Indexed Swap Spread
errors which indicates that our principal results are robust to allowing for
serial correlation.
Limitations Our models may not capture other factors that influence the Treasury-OIS
spread. In addition, variables included in the model may measure the
underlying factors of interest with some error—for example, the SLR time
period indicator variables discussed above which may capture other
contemporaneous events. Also, model results may not extend to other
maturities. As a result, some caution should be taken in interpreting the
results, especially given the lack of strong quasi-experimental variation
that might drive more confident identification of causal effects.
Page 44 GAO-21-606 Federal Debt Management
Appendix II: Analysis of Cash Management
Appendix II: Analysis of Cash Management Bill
Yields
Bill Yields
Cash management bills (CMB)—bills that are issued on an ad hoc basis
with variable maturities—have historically had higher yields compared to
regularly issued bills. 1 In recent years, the Department of the Treasury
has significantly reduced its issuance of CMBs, in part as it added new
bills to the regular auction schedule. 2
However, in times of unexpected financing needs, Treasury has used
CMBs to raise funds outside of the announced auction schedule. This
was true during the global financial crisis and during the COVID-19
pandemic. To estimate any additional cost or premium associated with
CMBs during these periods, we calculated the difference between the
yields for CMBs and the yields of benchmark bills with similar maturities—
or the yield differential. We apply the yield differential to the dollar amount
of the CMBs issued during the time period to obtain an estimate of the
cost of issuing a CMB instead of a regular Treasury bill—the CMB
premium.
Methodology and Analysis To estimate what premium, if any, Treasury paid for CMB issued during
the pandemic, we calculated the differential between the yields on the
CMBs that Treasury issued between March 13, 2020, and February 16,
2021, and the yields of benchmark bills with similar maturities. 3
For comparison, we also calculated yield differentials and the premium for
CMBs auctioned from January 1, 2008, to December 31, 2010, during the
global financial crisis. 4
1In 2006 and 2010 we reported that Treasury paid a premium for its use of CMBs. See
GAO-10-498 and Debt Management: Treasury Has Refined Its Use of Cash Management
Bills but Should Explore Options That May Reduce Cost Further, GAO-06-269
(Washington, D.C.: Mar. 30, 2006).
2Between January 1, 2017, and February 29, 2020, Treasury held only 23 CMB auctions.
In 2018, Treasury added the 8-week bill to the regular auction schedule.
3March 13, 2020, is the date that the federal government declared COVID-19 a national
emergency. After February 16, 2021, Treasury discontinued regular issuance of the 15-
and 22-week CMBs and modified the issuance schedule for the 6- and 17-week CMBs.
See Department of the Treasury, Quarterly Refunding Statement of Deputy Assistant
Secretary for Federal Finance, Brian Smith (Washington, D.C.: Feb. 3, 2021).
4We identified and omitted CMBs issued from 2008 to 2010 under the supplementary
financing program, a temporary program created in September 2008 to provide cash for
use in Federal Reserve initiatives to address heightened liquidity pressures in the financial
markets. The supplementary financing program CMB auctions were accompanied by a
special announcement.
Page 45 GAO-21-606 Federal Debt Management
Appendix II: Analysis of Cash Management Bill
Yields
Calculating the Yield We used two different methodologies to calculate the yield differential:
Differential
• Secondary market bill yields. We compared CMB auction yields to
the constant-maturity yields of similar-maturity bills derived from
secondary market trading on that same day. This provides an
estimate of the yields investors likely would have demanded if
Treasury had held a comparable benchmark auction on the same day
of the actual CMB auction. Constant maturity bill yields are calculated
each day by Treasury. 5 We use Treasury constant maturity yields at
the 1-month, 2-month, 3-month, 6-month, and 1-year maturities to
measure secondary market rates on benchmark bills. 6
• Closest following bill auction. Using Treasury’s Auction Query
database, we compared yields on CMB auctions to the yields of bills
with similar maturities that were auctioned most recently after the
CMB auction. This allows us to estimate what Treasury would have
likely paid if it had delayed raising funds until the closest following
benchmark bill auction of similar maturity to the actual CMB auction.
For both time periods, we compared the maturity length in days of
each CMB to the yield of the benchmark bill with the closest maturity
profile. If a CMB maturity was equidistant between two benchmark bill
maturities, we compared the CMB yield to a simple average of the two
benchmark bill yields. For the 2020-21 time frame, this methodology
resulted in comparisons that included the following:
• Six-week CMB yields were compared to a simple average of
yields of the 4- and 8-week benchmark bill yields.
• Fifteen-week CMB yields were compared to 13-week benchmark
bill yields.
• Seventeen-week CMB yields were compared to 13-week
benchmark bill yields.
5The Treasury yield curve rates are commonly referred to as Constant Maturity Treasury
rates, or CMTs. Yields are interpolated by Treasury from the daily yield curve. This curve,
which relates the yield on a security to its time to maturity is based on the closing market
bid yields on actively traded Treasury securities in the over-the counter market. These
market yields are calculated from composites of quotations obtained by the Federal
Reserve Bank of New York. The CMT yield values are read from the yield curve at fixed
maturities.
6We accessed the data at https://www.treasury.gov/resource-center/data-chart-
center/interest-rates/pages/textview.aspx?data=yield.
Page 46 GAO-21-606 Federal Debt Management
Appendix II: Analysis of Cash Management Bill
Yields
• Twenty-two-week CMB yields were compared to 26-week
benchmark bill yields.
In analyzing CMB and benchmark bills auctions, we neither account nor
adjust for other factors that may affect the yield determined at auction,
such as the size of the offering amount or the bill’s specific settlement or
maturity date (for example, if these occur near month-end, quarter-end,
etc.). 7
Estimating the CMB Premium The CMB premium is an estimate of the additional cost of issuing CMBs,
and is calculated by applying the yield differentials to the specific maturity
of the CMB for the total CMB offering amount. For both methodologies, to
obtain an estimate of the cost of issuing a CMB instead of a regular
Treasury bill (the CMB premium), we took the following steps:
• We calculated the CMB yield differential for each auction by
subtracting the comparison benchmark bill investment rate or coupon
equivalent from the CMB investment rate.
• To calculate the cost (or savings) to Treasury for the duration of the
CMB, we divided the annualized yield differential by 365 to obtain a
daily yield differential. We multiplied the daily yield differential by the
CMB term and the offering amount of the auction.
• We summed the costs (or savings) for all CMB auctions in the time
period and divided by the sum of the offered amount for all CMB
auctions in the time period.
This expresses, in percentage terms, the total CMB premium (or
discount) to Treasury for the issuance time period compared to yields of
benchmark bills of similar maturities (either at auction or in the secondary
market).
Results For CMBs issued during COVID-19, our analysis showed that there was
virtually no yield differential with bill yields at auction and traded on the
secondary market (see table 2). We found that between 2008 and 2010,
CMB yields were on average 0.12 to 0.16 percent (12 to 16 basis points)
higher than bills sold at the next auction or bills being traded on the
secondary market.
Table 2 also shows the premium that Treasury paid for CMB issuance
using the two methods described above. Both methods show that
Treasury paid a premium for its use of CMBs during the global financial
7Offering amount is the value of securities Treasury offers to the public for purchase in an
auction.
Page 47 GAO-21-606 Federal Debt Management
Appendix II: Analysis of Cash Management Bill
Yields
crisis, ranging from 0.01 to 0.03 percent. In contrast, for the COVID-19
response, the premium was almost zero.
Table 2: Cash Management Bill (CMB) Yield Differential and Premium
Total CMBs offered Yield Differential Premium
(dollars in billions) (percentage) (percentage)
COVID-19 responsea 6,415 0.00 0.00
Global financial crisisb 1,071 0.12 to 0.16 0.01 to 0.03
Source: GAO analysis of Department of the Treasury data. | GAO-21-606
Notes: Figures are rounded. The yield differential is an average (weighted by the auction size) of the
difference between CMB and benchmark bill yields over the time period analyzed. The premium is a
function of the yield differential, the size of the auction, and the duration of the CMB. The range
reflects the two methods used to calculate the yield differential.
a
We analyzed CMBs and bills issued between Mar. 13, 2020 to Feb. 16, 2021. The federal
government declared COVID-19 a national emergency on Mar. 13, 2020 and Treasury stopped
issuing two of its regular CMBs in Feb. 2021.
b
We analyzed CMBs and bills issued between Jan. 1, 2008 to Dec. 31, 2010.
To estimate the additional interest costs associated with CMB issuance,
we multiplied the premium percentage for the 2008 to 2010 period by the
total offering amount of CMBs during that time. The resulting dollar
amount is an estimate of the added interest cost that Treasury paid for
CMBs. Therefore, Treasury’s issuance of $1.1 trillion in CMBs during
2008 to 2010 resulted in Treasury paying $152 to $288 million more
interest relative to comparable bill costs (a 0.01 to 0.03 percent premium).
If, during the government’s COVID-19 response, investors had required a
premium for CMBs similar to what we found between 2008 and 2010,
Treasury would have paid about $913 million to $1.7 billion in additional
borrowing costs for its issuance of $6.4 trillion in CMBs.
Our analysis does not allow us to identify the causes of changes in yield
differentials over time. For example, we do not control for factors that
could affect the size of the CMB yield differential between the two
periods, such as changes in the interest rate environment, the amount of
marketable Treasury securities outstanding, and post-financial crisis
reforms that may have structurally shifted demand for certain Treasury
securities by different investor types.
Page 48 GAO-21-606 Federal Debt Management
Appendix III: Comments from the
Appendix III: Comments from the Department
of the Treasury
Department of the Treasury
Page 49 GAO-21-606 Federal Debt Management
Appendix IV: GAO Contacts and Staff
Appendix IV: GAO Contacts and Staff
Acknowledgments
Acknowledgments
Yvonne D. Jones at (202) 512-6806 jonesy@gao.gov.
GAO Contact
In addition to the contact named above, Thomas J. McCabe (Assistant
Staff Director), Margaret M. Adams (Analyst-in-Charge), Abigail Brown,
Acknowledgments Michael Hoffman, Meredith Moles, and Bryan Sakakeeny made
significant contributions to this report. Carole Cimitile, Jeff DeMarco,
Robert Gebhart, Andrew J. Stephens, Risto Laboski, Melanie Magnotto,
Susan Sato, Farrah Stone, Deirdre Sutula, and Alicia White also
contributed to this report.
(104423)
Page 50 GAO-21-606 Federal Debt Management
The Government Accountability Office, the audit, evaluation, and investigative
GAO’s Mission arm of Congress, exists to support Congress in meeting its constitutional
responsibilities and to help improve the performance and accountability of the
federal government for the American people. GAO examines the use of public
funds; evaluates federal programs and policies; and provides analyses,
recommendations, and other assistance to help Congress make informed
oversight, policy, and funding decisions. GAO’s commitment to good government
is reflected in its core values of accountability, integrity, and reliability.
The fastest and easiest way to obtain copies of GAO documents at no cost is
Obtaining Copies of through our website. Each weekday afternoon, GAO posts on its website newly
GAO Reports and released reports, testimony, and correspondence. You can also subscribe to
GAO’s email updates to receive notification of newly posted products.
Testimony
Order by Phone The price of each GAO publication reflects GAO’s actual cost of production and
distribution and depends on the number of pages in the publication and whether
the publication is printed in color or black and white. Pricing and ordering
information is posted on GAO’s website, https://www.gao.gov/ordering.htm.
Place orders by calling (202) 512-6000, toll free (866) 801-7077, or
TDD (202) 512-2537.
Orders may be paid for using American Express, Discover Card, MasterCard,
Visa, check, or money order. Call for additional information.
Connect with GAO on Facebook, Flickr, Twitter, and YouTube.
Connect with GAO Subscribe to our RSS Feeds or Email Updates. Listen to our Podcasts.
Visit GAO on the web at https://www.gao.gov.
Contact FraudNet:
To Report Fraud,
Website: https://www.gao.gov/about/what-gao-does/fraudnet
Waste, and Abuse in
Automated answering system: (800) 424-5454 or (202) 512-7700
Federal Programs
A. Nicole Clowers, Managing Director, ClowersA@gao.gov, (202) 512-4400, U.S.
Congressional Government Accountability Office, 441 G Street NW, Room 7125, Washington,
Relations DC 20548
Chuck Young, Managing Director, youngc1@gao.gov, (202) 512-4800
Public Affairs U.S. Government Accountability Office, 441 G Street NW, Room 7149
Washington, DC 20548
Stephen J. Sanford, Managing Director, spel@gao.gov, (202) 512-4707
Strategic Planning and U.S. Government Accountability Office, 441 G Street NW, Room 7814,
External Liaison Washington, DC 20548
Please Print on Recycled Paper.
File and source
- File
- gao-21-606.pdf
- Size
- 1,695,429 bytes
- SHA-256
- ecd693fb3abef5f50824badb111b9e37fc90e8d9d2ab53cdd48a3313a9762245
- Our copy
- gao-21-606.pdf
- Original
- www.gao.gov