Eurocurrency Market

LUXMAN SHARMA (Gautam Buddha University) MBA (2011)

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Table of Content
What is Eurocurrency? Features of Eurocurrency Market Factors for the Expansion

Functions of Euro Currency Market:

Participants in Eurocurrency Market Advantages Disadvantages

What is Eurocurrency?

Eurocurrency is the term used to describe deposits residing in banks that are located outside the borders of the country that issues the currency the deposit is denominated in. For example: a deposit denominated in US dollars residing in a Japanese bank is a Eurocurrency deposit, or more specifically a Eurodollar deposit

How it Originated? After the Second World War, the amount of U.S. dollars outside the United States increased enormously

As a result, enormous sums of U.S. dollars were in custody of foreign banks outside the United States
During the Cold War period, especially after the invasion of Hungary in 1956, the Soviet Union feared that its deposits in North American banks would be frozen as a retaliation

Conti.. It decided to move some of its holdings to the Moscow Narodny Bank, a Soviet-owned bank with a British charter

The British bank would then deposit that money in the US banks
There would be no chance of confiscating that money, because it belonged to the British bank and not directly to the Soviets On February 28 1957, the sum of $800,000 was transferred, creating the first eurodollars
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Conti..

Gradually, as a result of the successive commercial deficits of the United States, the eurodollar market expanded worldwide
Thus, the currencies involved in the Eurodollar market are in no way different from currencies deposited with banks in the home country It is only that Eurodollar is not under the orbit or surveillance of the monetary policy, where the currency in their home country is under the regulation of the national monetary policy

Features of Eurocurrency Market

1. It is an international market and it is under no national control: It has come up as the most important channel for mobilizing and deploying funds on an international scale 2. It is a short term money market 3. Eurodollar markets are the time-deposit market. The deposits here have a maturity period ranging one day to several months. Eurodollar is the short-term deposit. It is a wholesale market: It is so because Eurodollar is the currency that is dealt in only large units. Size of individual transaction is usually above $1million
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4. It is highly competitive and sensible market:

High competitive : This market is characterized as highly competitive because the market is growing and accepted internationally. Sensible : The Eurodollar market is said to be sensible because it responds faster to the changes in demand and supply of the funds and also reacts to changes in the interest rates

Factors for the Expansion

1. The Suez Crisis : (1957) It was a crisis whereby the sterling credit facilities were unable to reach Britain provided speed to the growth of Eurodollar Market. The British banks ultimately found a good substitute in dollars. As there was already available pool of USD held by residents outside US

 Growth of Euro-Currency Growth depositors receive better terms than they can receive onshore. Borrowers can borrow more, possibly at power rates, than they can onshore.

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2. Political Factors :
It was cold war led to growth of Eurodollar Market.
As the communist countries had a fear that their dollars deposited in banks in the US, would be seized due to hostilities. It was then the Russian and European banks preferred to transfer their dollars with European banks

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3. Balance of Payment Deficit of US :

It means that the outflow of dollars from US increased to other nations.

It was in 1950 that US started facing the problem of deficit, but it was in 1958 that the problem reached to the saturation point. The outflow of USD contributed as a factor for expanding Eurocurrency market

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4. Regulation Q :

Regulation Q was a United States government regulation which fixed the maximum interest payable by the banks in US and restricted the payment of interest on deposits less than 30 days. Unlike US, Eurodollar market paid interest on the deposits of less than 30 days

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Other Events Britain 1957 prohibited banks from financing non-British trade. U.S. 1960s discouraged banks from lending to non-US residents.

Oil crisis 1970s led to huge amount of dollars amassed by OPEC countries. They did not want them to be in the US because they were afraid that they would be confiscated by the US government.
Gave opportunity to those who wanted to deposit or borrow dollars (later, other currencies, as well)
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Functions of Euro Currency Market: Foreign exchange hedging Domestic intermediation International Intermediation

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Participants in Eurocurrency Market

Government International Organizations Central Banks Commercial Banks Corporations MNC Traders Individuals

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Participants have contributed in the demand and supply of the fund, in the following way: Supply : Central Banks of various countries are the suppliers; they channel the fund through BIS. Increase in the Oil Revenue of the OPEC has added to the fund. MNCs and the traders place their surplus funds for the short-term gains. Demand : Government demand for these funds to meet the deficit arising due to meet the deficit arising due to the deficit in Balance of Payment and the rise in the oil prices. Commercial Banks needs extra fund for lending. Some also borrow for the better window dressing in the year-end
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Advantages 1. It helped the economies to solve the liquidity problems: 2. It provided better investment opportunities. 3. Funds are also by the commercial banks of various countries for domestic credit creation and window dressing. 4. This facilitated the growth and development of various countries like Brazil, South Korea, Taiwan, and Mexico etc 5. Its International acceptance has helped in the international trade to expand and accelerated the process of globalization
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Disadvantages

For many economies it is a new concept. For many economies also considered that the speed of its growth or expansion is TOO fast. For many economies, they feel this market gives a chance to avoid many a regulations that they try to impose on their national money market

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