Definition: Instruments with grace periods
Some debt instruments may include a grace period during which no interest is paid. This case is not mentioned in ESA95 and SNA. Such arrangements are currently rather infrequent in the case of bonds. General Government may be involved, notably for loans granted to developing countries or for public policy purposes. A first case relates to instruments bearing a zero rate of interest during the grace period. No interest is to be accrued, as the cost of borrowing is really zero. During this time, the debtor has no commitment concerning interest. This statement applies even if the rate of interest applied in a second time period is adjusted so that the final yield is roughly similar to "normal" conditions over the total life of the instrument. In other cases, interest payments are only postponed from the grace period to the remaining lifetime of the instruments. The cost of borrowing is not equal to zero. Interest is really due but is capitalised. The amount of accrued interest during the first period is paid later under various forms (added to the first coupon, spread all over the remaining period, paid with the final repayment, possibly under the form of new securities).
Eurostat, "ESA 95 manual on government deficit and debt, 2002 Edition", Office for Official Publications of the European Communities, Luxembourg, 2002, Eurostat, Chapter II.5