Reserve Bank of Australia Annual Report – 1998 Financial Statements Note 1 – Summary of accounting policies

Notes To and Forming Part of the Financial Statements 30 June 1998
Reserve Bank of Australia

The financial statements have been prepared in accordance with the Reserve Bank Act and are based on the form prescribed by the Reserve Bank Regulations. The Bank is now subject to the Commonwealth Authorities and Companies Act 1997 which came into effect on 1 January 1998. The Bank has prepared its 1997/98 financial statements under the Reserve Bank Act and the Reserve Bank Regulations as they were immediately before 1 January 1998; this is in accordance with the transitional arrangements under Regulation 27 of the Audit (Transitional and Miscellaneous) Regulations 1997.

The statements are a general purpose financial report prepared in accordance with Australian Accounting Standards. Unless otherwise stated, the accounting policies and practices followed in these statements are consistent with those followed in the previous year.

All amounts are expressed in Australian dollars unless another currency is indicated. Current market values are used for the Bank's major assets, including domestic and foreign marketable securities, gold and foreign currency, as well as for premises and shares in international financial institutions. In other cases, an historical cost basis of accounting is used. Revenue and expenses are brought to account on an accrual basis.

The Bank has changed its accounting policy on the recognition of gains on gold and foreign exchange, domestic investments and premises. From 1 July 1997 all gains on foreign exchange and domestic investments are recognised immediately in the profit and loss account; any unrealised gains are transferred to the Unrealised Profits Reserve and are not available for distribution to the Commonwealth of Australia until they are actually realised. Realised profits on gold and premises are no longer recognised in the profit and loss account, but are now treated as transfers from the relevant asset revaluation reserve. Comparatives have been restated to take account of the effect of this change in accounting policy. Further detail on the change in accounting policy and its effect is contained in Note 16.

The Bank does not fall within the definition of a financial institution under AAS 32 Specific Disclosures by Financial Institutions.

(a) Note Printing Australia

The operations of Note Printing Australia (NPA) are conducted as a separate business enterprise. Up to and including 30 June 1998, NPA was not a separate legal entity; its assets, liabilities and profit and loss account are included in the Bank's financial statements, after elimination of transactions internal to NPA and the Bank. On 1 July 1998 Note Printing Australia Limited was formed as a wholly owned subsidiary of the Bank.

(b) Gold and foreign exchange

Gold holdings and gold loans

Gold holdings (including gold on loan to other institutions) are valued at the Australian dollar equivalent of the 3pm fix in the London gold market on the last business day of June. The Bank loans gold to financial institutions participating in the gold market. All gold loans are secured to 110% of their market value by Australian dollar denominated collateral security. Loans are usually for periods between 3 and 12 months, with very few extending beyond 12 months. Interest on gold loans is accounted for on a standard accrual basis.

Foreign exchange

Foreign exchange holdings are invested mainly in securities (issued by the governments of the United States, Japan and Germany) and bank deposits (with major OECD foreign commercial banks and central banks). The Bank engages in foreign currency swaps and interest rate futures.

Assets and liabilities denominated in foreign currency, other than those subject to swap contracts, are converted to Australian dollar equivalents at exchange rates ruling on the last business day of June. Realised and unrealised gains or losses on foreign currency are immediately taken to profit and loss; this is a change in accounting policy – refer to Note 16.

Foreign government securities

Foreign government securities comprise coupon and discount securities and repurchase agreements. Coupon securities have biannual or annual interest payments depending on the currency and type of security. Interest earned on discount securities is the difference between the actual purchase cost and the face value of the security. The face value is received at maturity. Interest earned on securities is accrued over the term of the security.

Marketable securities, other than those contracted for sale under repurchase agreements, are reported at market values on the last business day of June; realised and unrealised gains and losses arising from changes in market valuations during the year are taken to the profit and loss account. Earnings on foreign currency investments are converted to Australian dollars using the exchange rate of the date they are received.

Foreign currency swaps

The Bank uses foreign currency swaps to assist daily domestic liquidity management or to smooth the impact of other foreign currency transactions on Official Reserve Assets. A currency swap is the simultaneous purchase and sale of one currency against another currency for different maturities. The cash flows are the same as when borrowing one currency for a set period, and lending another currency for the same period. The pricing of the swap must therefore reflect the interest rates applicable to these money market transactions. Interest rates are implicit in the swap contract but interest itself is not paid or received.

Foreign exchange holdings contracted for sale beyond 30 June 1998 (including those under swap contracts) have been valued at contract exchange rates.

Interest rate futures

The Bank uses interest rate futures contracts on overseas exchanges to hedge its portfolio of foreign securities. An interest rate futures contract is a contract to buy or sell a specific amount of securities for a specific price on a specific future date.

Both interest rate futures and foreign currency swaps are off balance sheet items. The Bank did not trade in any other derivative instruments during 1997/98.

(c) Domestic government securities

The Bank holds Commonwealth Government Bonds, Treasury Notes, Capital Indexed Bonds, and Treasury Adjustable Bonds. It also holds Australian dollar denominated securities issued by the central borrowing authorities of State and Territory Governments where these are acquired under repurchase agreements. Realised and unrealised gains or losses on domestic government securities are immediately taken to profit and loss; this is a change in accounting policy – refer to Note 16.

Commonwealth Government Bonds are coupon securities; the interest is payable biannually at the coupon rate. Commonwealth Treasury Notes are discount securities; the interest earned is the difference between the purchase price and the face value on redemption. Capital Indexed Bonds are coupon securities with the nominal value of the security indexed in line with movements in the consumer price index each quarter until maturity; interest is paid quarterly. Treasury Adjustable Bonds are securities with a coupon rate periodically reset by reference to movements in the Australian Bank Bill Swap Reference Rate; interest is payable each quarter.

Securities are valued at market prices on the last business day of June except when contracted for sale under repurchase agreements.

(d) Repurchase agreements

In the course of its financial market operations, the Bank engages in repurchase agreements involving foreign and domestic marketable securities.

Securities sold but contracted for purchase under repurchase agreements are reported on the balance sheet within the relevant investment portfolio and are valued at market prices; the counterpart obligation to repurchase is included in “Other liabilities”. The difference between the sale and repurchase price is recognised in the profit and loss account as an offset to interest income over the term of the agreement.

Securities held but contracted for sale under repurchase agreements are reported within the relevant investment portfolio at contract amount. The difference between the purchase and sale price is recognised as interest income over the term of the agreement.

(e) Bank premises and other durable assets

A formal valuation of the Bank's premises is conducted on a triennial basis. The most recent valuation was at 30 June 1998, when Australian premises were valued by officers of the Australian Valuation Office and overseas premises were valued by local independent valuers. The valuations have been incorporated in the accounts.

Valuations are updated annually for developments in the property markets where the Bank's assets are held. Annual depreciation is based on market values and assessments of useful remaining life.

Other durable assets are recorded at cost less depreciation, which is calculated at rates appropriate to the estimated useful life of the relevant assets. Depreciation rates are reviewed annually, and adjusted where necessary to reflect the most recent assessments of the useful life of assets.

In the opinion of the Board, values of durable assets in the financial statements do not exceed recoverable values.

Details of annual net expenditure, revaluation adjustments and depreciation of these assets are included in Note 6.

(f) Reserves

Reserves are maintained to cover the broad range of risks to which the Bank is exposed. The Reserve Bank Reserve Fund is a general reserve which provides for potential losses arising from fraud, support of the financial system and other non-insured losses. The Treasurer determines each year, after consultation with the Board, the amount to be credited to the Reserve Fund.

The Reserve for Contingencies and General Purposes provides cover against risks relating to events which are contingent and non-foreseeable. The major risks in the category arise from movements in market values of the Bank's holding of domestic and foreign securities. Amounts set aside for this Reserve are determined by the Treasurer after consultation with the Board.

Asset revaluation reserves reflect the impact of changes in the market values of a number of the Bank's assets (gold, premises, and shares in international financial institutions).

Due to the change in accounting policy for foreign exchange and domestic government securities, unrealised gains on these assets are now recognised in the profit and loss account – refer Note 16. Until such gains are realised, they are not available for distribution to the Commonwealth of Australia; in the interim the amounts are retained in the new Unrealised Profits Reserve.

(g) Provisions

The Bank maintains provisions for accrued annual leave, calculated on salaries prevailing at balance date and including associated payroll tax. The Bank also maintains provisions for long service leave and post-employment benefits, in the form of health insurance and housing assistance, and associated fringe benefits tax; these provisions are made on a present value basis in accordance with AAS 30. In addition, the Bank makes provision for future workers' compensation claims in respect of incidents which have occurred before balance date, based on an independent actuarial assessment.

(h) Australian notes on issue

The Bank assesses regularly the value of notes still outstanding at least five years after the note issue ceased which are judged to have been destroyed and therefore unavailable for presentation. No amount was written off Australian notes on issue in 1997/98 or 1996/97.