NO.007

MCMULLAN: MORE MISREPRESENTATION

Mr McMullan’s long heralded attack on the Government over currency swaps fell

flat today. That is why he has issued a post Question Time press release making

fresh misrepresentations.

With respect to external reviews, as I said in the House: “Those reviews

all recommended the continuation of the programme.”

Mr McMullan provides a selective quote from the Auditor General that refers

to “Treasury’s most recent (August 1998) review of the foreign currency

benchmark target”. As reported by the Auditor-General, this internal Treasury

review acknowledged some risks, but concluded that the benchmark remained valid.

Mr McMullan alleges that the Auditor-General’s report says that UBS had recommended

in 1998 fundamental changes to the debt management strategy. The Auditor-General

says no such thing. If he took the time and effort to read the Auditor-General’s

report he would have found the following passages:

3.37 Treasury recognises that the degree of United States dollar exposure

in the benchmark is sensitive to assumptions regarding the future volatility

of the exchange rate. In December 1996, November 1997 and August

1998, Treasury reviewed the key assumptions underpinning the benchmark recommendation

on foreign currency exposure to assess whether they continue to remain valid.

3.38 The May 1996 portfolio benchmark assumed that future exchange

rate volatility would be twice that measured between 1978 and 1996, which

reduced the target United States dollar exposure than would otherwise have

been the case. Treasury’s most recent (August 1998) review noted that exchange

rate volatility had increased to 11.7 per cent per annum compared to the 1978

to 1996 historical average of 7.5 per cent per annum. However, this

remained within the assumption of 12.5 per cent exchange rate volatility underlying

the benchmark recommendation. (emphasis added)

3.39 The most recent review noted that the volatility of the exchange

rate and the risk premium on the Australian dollar (exchange rate bias) were

the key structural assumptions. Treasury concluded that there was no evidence

of a structural break in the risk premium on the Australian dollar and, although

the exchange rate had depreciated significantly and become more volatile,

the volatility remained within the range assumed in the construction of the

benchmark. Accordingly, Treasury considered there was, as of August 1998,

no reason to question the recommendation to target foreign currency exposure

of between 10 per cent and 15 per cent of the portfolio.

The ANAO finding was that:

3.41 Finding: Treasury’s target of holding 10 to 15 per cent of the

debt portfolio with a United States dollar exposure is based on analysis of

the cost and risk of that exposure. This analysis is not based on short-term

views about the future path of interest or exchange rates. Inputs to this

analysis include assumptions about structural factors such as Australian dollar

risk premiums and volatility based on historical data, robustness testing

and judgement. The research recognised that the expected long-term cost reductions

could only be achieved by taking on risk associated with interest and exchange

rate movements.

And further, in para 3.43:

In the light of market developments, Treasury has reviewed the assumptions

underlying the benchmark recommendation for United States dollar exposure

on three occasions in recent years with the most recent (August 1998) review

concluding that the recommendation remained valid.

All independent reports to the Treasury supported the continuation of US$ debt

holdings with a benchmark of 10 to 15 per cent.

With respect to the UBS recommendation to split the debt portfolio, the benchmark

applies to the AOFM’s net debt, ie that part of debt that remains after surpluses

and proceeds from asset sales have been applied to it. The recommendation, in

effect, was thus followed.

Mr McMullan is hopelessly muddled on this issue. He flopped today. He knows

it.

11 March 2002

Contact: Dave Alexander

02 6277 7340