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Investors are foolhardy to buy government-backed bonds, even if they post better yields than other investments, Philipp Weckherlin writes in an essay for finews.first.

finews.first is a forum for renowned authors specialized on economic and financial topics. The texts are published in both German and English. The publishers of finews.com are responsible for the selection.

At $50 trillion, the government bond market makes for about half of the entire bond market, and about 40 percent less than the global stock market volume. Government bonds enjoy an excellent reputation among institutional and private investors as a secure investment with small risks. Regulators also are big fans of government bonds.

Compared with other investment categories and debtors, banks and insurers don’t have to collateralize government bonds with equity, or only at the bare minimum. And yet, it is careless in every respect to have government bonds in a quality portfolio.

One reason is because it is wrong to say that countries per se are secure. Over the past 200 years, a good one-third of all countries in several hundred cases didn’t pay back or restructure debt, to the detriment of investors. Government bonds also don’t live up to a whole series of criteria that a careful investor needs to take into account.

«A key buffer for creditors is missing»

In general, they aren't collateralized. This means that in case of a restructuring, investors can’t resort to securities defined earlier. Furthermore, there is no legal procedure in accordance with bankruptcy laws that would protect the investor in case of a restructuring.

The lack of an owner perspective in the modern discussion about democracy means that equity is no variable in the management of public finance controlling. And hence an important buffer for the outside creditor is missing.

There is only one country on earth that compiles a trustworthy and, more importantly, complete annual report that allows the interested investor to make a qualified commercial judgement on the quality of the debtor: New Zealand (which will be assumed as excluded from all statements made from here on out). As assets aren’t being disclosed, you can’t conclude whether a country is insolvent or not.

«Incomplete, irregular, and tardy financial reporting»

If at all, financial reports are incomplete, annual at best and even then published only with a great time lag. Countries don’t keep their books following the principle of what is true and fair nor in accordance with internationally binding and accepted book keeping rules, despite such rules existing for many years. The standard that ought to be employed is IPSAS, or International Public Sector Accounting Standards, which is closely in line with IFRS, the standard for private organizations. The interested investor also won’t be able to find an investor relation contact.

Furthermore, countries can’t guarantee the qualitatively prudent investor that the money being made available will be used in a responsible and sustainable way. Even the most primitive management information systems for the purpose are absent – an appropriate organization, adequate governance and, in particular, an independent and effective supervision. In private business, management information, reporting and planning systems are aligned in a consistent and logical fashion. This isn’t the case with sovereigns.

«The state's naïve accounting is lightyears off the public sector»

The state’s control and planning is mainly based on a naïve accounting system with no balance sheet or periodic reporting that distinguishes between spending and investments, where debt and asset sales are taken as income and capital costs being ignored.

In other words, the way the state manages information is lightyears off that of the worst listed company in the world. The most important guiding principles for good decision-making are missing.