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Government bonds are usually referred to as
risk-free bonds, because the government can raise taxes or simply print more
money to redeem the bond at maturity. Some counter examples do exist where a
government has defaulted on its domestic currency debt, such as Russia in
1998- the "ruble crisis", though this is very rare.
As an example, in the US, Treasury securities are denominated in US dollars
and are the safest US dollar investments. In this instance, the term
risk-free means free of credit risk. However, other risks still exist: such
as currency risk for foreign investors (for example non-US investors of US
Treasuries would have received lower returns in 2004 because the value of
the US dollar declined against most other currencies). Secondly, there is
inflation risk - in that the principal repaid at maturity will have less
purchasing power than anticipated if the inflation outturn is higher than
expected. Many governments issue inflation-indexed bonds, which protect
investors against inflation risk.
An example of somewhat risky bonds issued by a government can be given with
countries that have less than perfect capabilities of conducting financial
policies. Such an example is Bulgaria due to its being dependent on the
world economy and economic institutions much more than, say, the US. Some of
this country's bonds were only given an A-scale rating after 2004. As of
February 2006, Standard & Poor's rates Bulgaria's long-term debt denominated
in domestic currency at BBB+. Moreover, this rating is the result of almost
a decade of constantly decreasing risk (and increasing ratings). We should
also note that this country's short-term debt is in fact currently rated A.
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