The Cost Efficiency of UK Debt Management: A Recursive Modelling Approach

This paper presents an empirical analysis of the efficiency of the UK debt management authorities' (DMA) behaviour from a cost minimisation perspective over the period January 1985 to March 1995. During this period, the maturity structure of the government's bond portfolio was subject to frequent fine-tuning, aimed principally at lowering interest costs. The authors examine the efficiency of the DMA's behaviour from a cost minimisation perspective. Using a bi-variate version of the recursive modelling procedure applied to forecasting stock returns by Pesaran and Timmermann (1995, 2000), it is shown that bond returns are forecastable but that the predictive power of macroeconomic variables is time-dependent. The impact of adjusting the bond portfolio in response to these forecasts is simulated. The simulated average interest costs are lower than those resulting from the DMA's actual real-time behaviour. However, a substantial reduction in interest costs requires large monthly changes in the portfolio's maturity structure.