International Finance

1. International Finance Chapter 6 International Banking and the International Money Markets

2. International Banks • Can be distinguished from domestic banks by the: • Services they offer • The deposits they attract • The loans they make

3. International Banks: Services • Financing cross border trade (exports) • Letters of credit; bankers’ acceptances • Offering foreign exchange services • Buying and selling foreign exchange for clients • Offering hedging contracts • Offering interest rate and currency swap financing. • Consulting services to global firms • Hedging strategies; international cash management. • Underwriting eurobonds, foreign bonds, equity issues for global firms.

4. International Banking: Deposits • May or may not be involved in accepting domestic deposits. • China will currently not allow foreign banks to engage in this activity. • Participate in eurocurrency deposit market. • Accepting “offshore” deposits

5. International Banking: Loans • Lenders of “eurocurrency” deposits • Participation in syndicated loans to large multinational firms and sovereign entities. • Allows for the pooling of resources and the sharing of risk!

6. Who are these International Banks: Ranked by Asset Size, 2002 • 1 Mizuho Holdings (Japan)* • 2 Citigroup (United States) • 3 Deutsche Bank (Germany) • 4 Sumitomo Mitsui Banking Corp (Japan) • 5 UBS (Switzerland) *formed by the 2002 merger of Dai-Ichi Kangyo, Fuji Bank and The Industrial Bank of Japan.

7. Who are these International Banks: Ranked by Asset Size, 2002 • 6 BNP (France) • 7 JP Morgan Chase (United States) • 8 HSBC (United Kingdom) • 9 Bayerische Hypo-und Vereinsbank- (Germany) • 10 Bank of America (United States) • 11 ING (Netherlands) • 12 Credit Suisse (Switzerland) • 13 Bank of Tokyo – Mitsubishi (Japan) • 14 ABN AMRO (Netherlands)

8. Who are these International Banks: Ranked by Asset Size, 2002 • 15 Industrial & Commercial Bank of China (China) • 16 Royal Bank of Scotland (United Kingdom) • 17 Barclays Bank (United Kingdom) • 18 Crédit Agricole (France) • 19 Norinchukin Bank (Japan) • 20 Morgan Stanley Dean Witter (United States) • 21 Société Générale (France)

9. Who are these International Banks: Ranked by Asset Size, 2002 • Of the largest 50 commercial banks: • 9 are American • 6 are Japanese and United Kingdom • 5 are French and German • 4 are Chinese • 3 are Dutch

10. Why do Banks Establish International Operations? • Low Marginal Costs in doing so • Apply home knowledge to foreign market • Knowledge Advantage • Overseas operations can utilize the parent’s knowledge to compete in foreign market • Home Information Source • Providing local (foreign) firms with information about parent’s home market • Prestige • Global banks can attract clients abroad

11. Why do Banks Establish International Operations? • Regulation Advantage • Global banks may not face the same regulations as domestic banks (e.g., reserve requirements on eurocurrency deposits). • Wholesale and Retail Defensive Strategy • Following corporate clients overseas • Providing retail customer overseas services • Circumventing Government Restrictions • Wanting to do business in RMB

12. Why do Banks Establish International Operations? • Growth • Home market may be saturated • Risk Reduction • Greater stability of consolidated earnings.

13. Citigroup • Financial services firm combining banking, insurance, and investments under one global organization. • “Universal or full service bank” • Located in over 100 countries • Go to home page and view countries and product lines • http://www.citigroup.com/citigroup/homepage/

14. Services Offered by International Banks • The services offered by global banks are a function of: • The regulatory environment. • What will governments allow? • Developing countries still somewhat restrictive regarding foreign banks. • The type of banking office established.

15. Types of International Banking Offices • Correspondent Bank • No physical presence overseas • Correspondent relationships with banks in foreign markets • Allows bank to service core clients with little cost. • Reciprocal deposit accounts • Facilities foreign exchange conversion • Facilities trade financing (clearing bankers acceptances)

16. Types of International Banking Offices • Representative Office • Small service facility staffed by parent bank personnel • Cannot make loans or accept deposits • Useful strategy if bank has many important clients in foreign country • There to assist core clients with • Country and economic information • Credit evaluations on local firms

17. Types of International Banking Offices • Foreign Branch Office • Most popular form of U.S. bank expansion abroad. • Legally part of the parent bank • Subject to regulations at home and in foreign market. • Branch lending limits are based on parent capital (not branch office) • Can provide larger loans • Allows for fast clearing of checks within the bank

18. Types of International Banking Offices • Subsidiary Bank • Locally incorporated (in foreign country) bank. • Either wholly owned by parent, or joint venture • Non-controlling subsidiary is referred to as an “affiliate bank.” • Operate under the banking laws of the country in which they are incorporated. • Desirable before the abolition of Glass Steagell Act!

19. Types of International Banking Offices • Offshore Banking Centers • Organized branches or subsidiaries in recognized offshore countries. • A country whose banking system allows for “external” banking activity. • Accepting deposits and making loans in currencies other than the home currency of the offshore country. • IMF recognizes the following as offshore countries: • Bahamas, Bahrain, the Cayman Islands, Hong Kong, the Netherlands Antilles, Panama, and Singapore. • Minimal host country regulations, low taxes, favorable time zone, banking secrecy laws all promoting external banking transactions!

20. The International Money Market • The core of the international money market is the eurocurrency market. • A time deposit in a particular currency with is other than the national currency of the country in which it is deposited. • For Example, a U.S. dollar deposit in banks in Hong Kong or Singapore!!! • Banks accepting deposits can be host (offshore) banks, or foreign banks (including U.S. banks).

21. Euro Prefix • The term “euro” is used to denote an offshore currency deposit, e.g., • Eurodollars, euroyen, europounds, euroeuros! • Does not mean the currencies are being deposited in Europe. • Sub-set in Asia, called the Asian dollar market. • Do not confuse with the single European currency, the “Euro.” • Banks accepting these deposits are commonly referred to as Eurobanks.

22. Eurocurrency Market • The eurocurrency market is a external market than runs alongside a country’s domestic banking market. • The market is two tiered: • Wholesale (interbank) market where global banks trade among themselves. • Interbank Offer Rate: The rate charged by banks with excess currency deposits to lend to other banks. • Interbank Bid Rate: The rate at which a bank will accept deposits from another bank. • Offer rates higher than bid rates by about 1/8% • Major rates come out of London, thus London Interbank Offer and Bid rates are important to the market.

23. Interbank LIBOR Rates • LIBOR Rates, Jun 14 2004  Country Over night • US$ Libor 1.05875% • Euro Libor 2.04625% • £ Libor 4.50000% • Yen Libor 0.03125% • Source: The FT • http://www.marketprices.ft.com/markets/currencies/money

24. Importance of LIBOR Rates • Used to calculate forward rates on currencies. • Used by global banks in “scaling” lending rates to corporate and sovereign entity borrowers: Lending rate = LIBOR + X (basis points) Where X basis points is an estimation of the particular risk associated with the borrower.

25. Libor Loans • Libor loans are generally negotiated on a “roll-over” basis: • Every three to six months the loan is rolled over at the new LIBOR rate • Avoids Eurobanks paying more for their deposits than the returns on their loans. • Maintains a positive margin on euroloans.

26. Roll Over Loan Example Six months periods years Today 1 2 3 4 5 6 etc. etc. etc. Loan is re-rated at LIBOR every six months, with interest payments made on those Roll-over dates