Chapter 1

Introduction

The Nature of the
Government Securities
Market

Public confidence in the integrity of the U.S. government securities market is essential for the federal government to sell its securities at the lowest possible interest cost. To help preserve that confidence, Congress enacted the Government Securities Act of 1986 (P.L. 99-571, signed October 28, 1986). This law (the act) regulated, for the first time, brokers and dealers who did business exclusively in government securities or in government securities and other securities exempt from SEC registration. In 1984 and 1985, some unregulated dealers had failed and created losses for various institutional investors, thereby damaging confidence in the safety of the government securities market.

The act required us to report on whether the act's purposes have been achieved and to recommend any changes needed to protect investors or assure that the market was fair, open, and honest. We also were to recommend whether or not Treasury's rulemaking authority should be extended. This chapter describes the nature of the government securities market, the purpose of the act, and how we pursued our study.

A number of features distinguish the government securities market from other securities markets and contribute to its reputation as one of the

most efficient,' largest, and most liquid securities markets in the world. As background, this section describes these key features of the market: the securities themselves, the volume and importance of secondary market trading, the role played by primary dealers, and the trading systems operated by screen brokers.

U.S. Government
Securities

In the broadest sense, the U.S. government securities market consists of all initial sale (primary market) and subsequent resale (secondary market) transactions of securities issued or guaranteed by either the federal government, individual government agencies, or a governmentsponsored enterprise, as well as contractual obligations, such as repurchase agreements, futures, forwards, and options contracts, which give people the right or obligation to buy or sell these securities in the future. Appendix I describes, in chart form, the various securities and contracts and provides activity information. The three basic categories of these securities are: Treasury, agency, and mortgage-backed.

'Markets are efficient if buyers and sellers can complete their transactions quickly and with low transactions costs, and if information is rapidly reflected in the price of the security.

2Markets are considered liquid when those who want to sell government securities can usually do so at, or close to, the last sale price in the market.