Documenti di Didattica
Documenti di Professioni
Documenti di Cultura
Global Banking
Roy C. Smith, Ingo Walter, and Gayle DeLong
DOI:10.1093/acprof:oso/9780195335934.003.0001
International money market and foreign exchange transactions deal with the issuance and
trading of money market instruments in various currencies outside domestic markets. As
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Origins of Eurocurrencies
The history of international financial markets, since its modern (postwar) rebirth in the
1960s, is a confluence of three parallel and mutually influential events: (1) major changes
in the international monetary system; (2) the evolution of a large international investor
base; and (3) continuing deregulation of domestic capital markets in major countries to
align them with competitive international alternatives to domestic financing vehicles.
The modern period began at the end of World War II, when capital markets outside the
United States were virtually nonexistent. In 1944, the Allied Powers agreed to a postwar
international monetary system at Bretton Woods, New Hampshire, in which the dollar
would be the principal reserve currency (i.e., used (p.4) as reserves by other
countries). The dollar was to be pegged to gold, at the rate of $35 per ounce, and all
other currencies were to be fixed to the dollar. When balance of payments difficulties
arose, it was understood to be the obligation of both the deficit and the surplus countries
to modify their domestic fiscal and monetary policies to reduce the problem.
Governments periodically intervened in foreign exchange markets to help the process
along, and they usually relied on broad economic policy changes to effect adjustment. If
the imbalance could not be redressed after suitable effort, the currencys exchange rate
could be reset to the dollar, after which it would have to be defended at the new rate. To
make the system work required a world in which the principal economies were growing
at about the same rate, and shouldering the worlds military and other burdens equally.
It also required, at the national level, strict economic discipline and controls, and a voting
public that refrained from blaming others for its problems and understood that it was
necessary from time to time to take bitter medicine in the interest of the countrys health
over the long run. These conditions were not commonly found in the 1950s and 1960s,
any more than they are now.
In 1971, the Bretton Woods system collapsed. Several years of large U.S. balance of
payments deficitsresulting from large American purchases of lower cost goods from
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Eurobond Markets
Banks, especially U.S. banks, were eager to build up their Eurodollar deposits as a
source of funding for their growing international activities. The deposits could be used to
fund Eurodollar bank loans or loan participations. They could also be lent to branches in
the United States to support lending activity there, if and when the rates were right. And,
they could serve as a means of diversifying a banks sources of funding for its wholesale
lending business. Investors were other banks (there were more than 400 foreign bank
branches in London in 1980, all looking to buy assets in the interbank market and fund
them by buying Eurodollar deposits in the market), as well as multinational institutions,
and corporations with temporary funds to invest.
The Eurobond market has been a constant source of innovation, with new instruments
being introduced as soon as changing regulatory environment or investor preferences
dictated. The first Eurobond was offered in 1963 and was sold to investors who were
willing to extend their investment horizon to 15 years, at somewhat higher rates.
Eurobonds were in bearer form (identity of purchaser not disclosed) and were free of
withholding taxes on interest. Inevitably, Eurobonds were introduced in other
currencies besides the dollar. The Eurobond market soon took off on a continuous
expansion that has made it into one of the worlds principal sources of finance. Eurobond
innovations include the dual-currency bond, the zero coupon bond, the warrant-bond,
the swapped foreign currency bond, the first ECU (European currency unit) and Eurodenominated bonds, and a variety of other new ideas. We discuss the Eurobond market
extensively in Chapter 4.
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Besides LIBOR, another important rate is the overnight index swap (OIS) rate.2 As with
any swap, an OIS is an exchange of one obligation for another. In this case, one party has
a short-term loan with a fixed interest rate. Another party borrows at the overnight rate,
which is a floating rate. The parties exchange interest payment obligations so that the
party with the loan at a fixed interest rate pays the floating overnight rate, and the party
with the loan that is refinanced every day at the overnight rate pays the fixed rate. Little
credit risk exists, because the parties exchange no principal and swap only interest
payments. At the end of the contract, the parties settle the net difference between the
fixed rate and the geometric average of the overnight floating rates. That is, whichever
party has paid less interest will pay the difference to the other party. The OIS rate itself is
the fixed rate used in the swap. In the United States, for example, the fixed rate is the
effective federal funds rate for the life of the swap contract. This rate reflects the
markets expectations of overnight borrowing costs for the term of the swap. Since these
are very short-term rates, they are influenced more by liquidity risk than by credit risk.
That is, day to day, most parties are able to repay their loans, so credit risk is not a major
issue. However, parties may experience shortages in liquidity. On the other hand, LIBOR
is set for longer periods of time (1 month, 3 months, up to one year) so LIBOR includes
not only liquidity risk but also some degree of credit risk.
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1990
2000
2009
Bank of America
102
207
524
972
Bankers Trust
28
425
30
117
217
Chemical Bank
40
207
Manufacturers Hanover
27
106
Citibank
274
657
Citigroup
1243
24
187
First Chicago
36
103
13
48
Marine Midland
19
74
309
2762
215
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J. P. Morgan Chase
Republic New York Corp.
77
TOTAL
762
2547
1465
4053
3477
7787
Summary
International money and foreign exchange markets have expanded rapidly since the early
1980s, as market liquidity has increased by the removal of capital controls and the
encouragement of cross-border investment flows. Increased interest rate and foreign
exchange volatility has also made these markets more (p.25) active. A full array of
international money market instruments, closely comparable to those in the United
States, now exists. Linkages through swaps and foreign exchange contracts have served
to integrate money markets in the worlds major countries. The success of ECP and
EMTNs has caused many governments to adopt similar instruments in their own
domestic markets.
The story of Euronote programs and Eurocommercial paper is one of rapid change at all
levels. The competitive structure of the market has undergone substantial modification,
with bargaining power tending to shift away from borrowers toward investors. In the
early days, top and lesser-quality names alike benefited from the intense competition
among banks that resulted from deregulation and disintermediation. They profited as well
from a lack of investor sophistication. Today, most corporate and institutional investors
have a full understanding of the workings of the market and what is available to them. And
distributive power has been concentrated in the hands of a few firms, which are more
interested in volume and profitability than in the number of dealerships they hold. Gone
are the days of loss-leading for a place in the market. Attention is on courting the investor
base in search of greater diversification of funding.
Other changes have occurred as well. Distribution methods have been modified to suit
new conditions and demands. The use of ratings has increased in the ECP market, with
the need for investors to react quickly in fast-moving markets. The very nature of the
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