Understanding International Banking: Eurocurrencies, Debt Crises, and Country Risk
This chapter explores international and offshore banking centres, driven by the expansion of global trade and capital flows. It highlights the significance of Eurocurrencies, particularly the Eurocurrency market in London, and the impact of international banking regulations. Additionally, it addresses the concept of country risk, examining the implications of the international debt crisis, including cases of technical insolvency and default. Understanding these dynamics is crucial for navigating the complexities of modern international finance.
Understanding International Banking: Eurocurrencies, Debt Crises, and Country Risk
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Presentation Transcript
Chapter 24:Learning Objectives • International & Offshore Banking Centres • Eurocurrencies & International Regulations • Int’l Debt Crisis • How is Country Risk defined?
International and Offshore Banking Centres • Fostered by the growth of international trade • Facilitated by the growing importance of international capital movements • London and New York are the main centres • Offshore banks are viewed as “havens” largely for tax reasons (e.g., Cayman Islands) • Canadian Chartered banks are participants in international banking and have been for a long time
The Eurocurrency Market • Originated during the Cold War • Served to ease international trade in world dominated financially by the US dollar • Further growth stimulated by domestic US policies during the 1960s • Most important market in London where the benchmark rate is called LIBOR (London Inter-bank offer rate) • Holding of Eurodeposits facilitated by tax and reserve requirement advantages See TABLE 24.2
The Creation of Eurocurrency Canadian Bank Eurobank Liabilities Assets Assets Liabilities -$100C Deposit $100 reserves In $CAN +$100 deposit from Canadian bank +$100 Eurodeposit Can be loaned out
International Banking Regulations • National Treatment concept is dominant creating difficulties for international regulators (BIS, IMF, etc…) • An additional difficulty is the differences in domestic banking structures, namely universal vs. dual banking models
International Debt Crisis • It is possible for countries to become technically insolvent. In some cases, countries default on their loans if they are unable or unwilling to obtain foreign exchange to pay off int’l debts. • Oil price shocks, wars, are prime causes for debt defaults which have existed for decades • The Mexican financial crisis of the 1980s and in 1994 are the latest in a string of such financial crises, often caused by bad lending and domestic economic policies
Implications of a Debt Crisis • For an individual bank loan default can meant insolvency. See Table 24.3 for an example • Solutions include government bail-outs, debt-equity swaps, increased loan-loss reserves • As a result, assessing country risk is important and several agencies release their assessments on a regular basis
How a Debt Crisis can Affect a Bank Before a Debt Crisis A L Deposits $800 Capital $200 Loans $1000 $200 Default: ½ written off A L Loans $900 Deposits $800 Capital $100 $200 Default: Whole amount written off L A Loans $800 Deposits $800 Capital $0
Indicators of Country Risk • Debt-service ratio: interest and principal as a percent of exports • Political factors: democratic institutions, political stability
Summary • International banking is a growing field facilitated by the growth of international trade and increased international capital movements • The Eurocurrency market is one of the driving forces in the growth of international banking • The Balance of Payments is used to examine the pattern of trade and of capital flows for a country • Countries can benefit from trade via improved welfare • The International debt crisis and problems of international banking regulations are important issues
