August 3, 2021

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Government Bonds Meaning and Key Explanations

Government Bond Meaning and Key Explanations
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Government bonds are issued by the federal government of a country. This bond is made available to the public for subscription. Investors with a low-risk mindset are more likely to invest here. However, low risks come with a low return on investment. Here, let’s explain this debenture.

Definition of Government Bonds

1. Government bonds are a type of debt financing issued by the federal government (FG) of a country to interested investors which are used to achieve its fiscal and monetary policy.
2. A form of long-term and low-risk finance, borrowed from the public to meet government long-term projects and control money in circulation.

Key Explanations

Issued by the federal government (FG). The FG issue the bond through the central bank of the country. Or in the case of Nigeria, through the Debt Management Office (DMO). It is usually a public offer. Local, institutional, and foreign investors are allowed to subscribe to the fund. Pension fund administrators are the number of institutional investors that pursue FG funds. This is due to the low risk involved.

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Low risk. This source of funds is low risk when compared to corporate bonds. Since it is from the government, investors believe that their investment is safe and rightly so. There is no fear by subscribers of losing their money. As a result of the low risk, the interest rate or coupon attached to it is usually very low.

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In Nigeria, the rate is lower than inflation. Making it less attractive to investors seeking a higher required rate of return. The recent FG saving bond for 2 years has a coupon of 8.889%. While the 3 years type has a coupon of 9.889%.

Long tenure. The funding is usually more than one year. Some may take seven years like the Sovereign Sukuk (Islamic) bond. The aforementioned debenture is expected to be for 2 years and 3 years. These debts were issued on June 7, 2021.

Purpose of Government Bonds

There are two main purposes for the FG to issue debt finance.

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To meet its Fiscal Policy. The FG issued debt financing as part of its quest to meet its fiscal policy. Fiscal policy involves meeting capital and revenue expenditures in the federal budget. Most times the fund is to meet long-term projects like building roads, bridges, building basic education schools, health care, among others.

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As a measure of controlling Monetary Policy. It can be used to control money in circulation either knowingly or otherwise. When bonds are issued individuals pull their excess money into it. Thereby, reducing the money in circulation.

However, when the government redeemed the bond, the money went back to the investors. Increasing the money in circulation. But, there is a but! Issuing government bonds reduce money in circulation and removes money from investors. However, the money still goes back to the economy when the government uses the fund to finance its capital project. In this situation, money will be back to the economy, through payment of wages and salaries, buying materials for the projects, etc

Conclusion

Government bonds are issued to investors as a way of debt financing. The fund is used to meet capital expenditures and control money in circulation. The fund is long-term financing and is usually low risk resulting in a low coupon rate or return on investment.

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