Bulletin – September Quarter 2016 GDP-linked Bonds Abstract

A GDP-linked bond is a debt security with repayments that are linked to the issuing country's GDP. These securities have recently attracted some attention, including within the Group of Twenty (G20), in the context of discussions about possible ways to improve the resilience of the international financial system. In view of this, we discuss the potential benefits and challenges associated with issuing GDP-linked bonds and estimate a range of plausible risk premiums using the capital asset pricing model (CAPM). Our analysis suggests that there is significant uncertainty about how these instruments would be priced and, therefore, the borrowing costs that would be faced by governments. Given that borrowing costs play a crucial role in determining what type of debt governments choose to issue, further work could investigate how private market participants are likely to price GDP-linked bonds in practice.

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