THE PURPOSE of this article is to describe and evaluate developments in foreign markets for dollars, sterling, and the major currencies of Western Europe.
The U.S. dollar is the most important currency dealt with on foreign markets, i.e., markets outside the United States in which deposits denominated in dollars are accepted and placed. The most important foreign markets for dollar deposits are in Montreal, Toronto, London, and a number of cities in continental Western Europe. The Eurodollar market, the London dollar market, and the continental dollar market, to mention a number of terms which have been widely used in describing the gathering together and investing of short-term dollars, are included in the term “foreign markets for dollars.”1
Similarly, the term “foreign markets for sterling” refers to those markets outside the United Kingdom which accept and place deposits denominated in sterling. Practically all of the business of accepting and placing deposits denominated in sterling takes place in Western Europe.
There are, in addition, foreign markets in London and continental Western Europe for practically all other Western European currencies, notably the Swiss franc, the deutsche mark, the lira, and the guilder.
Dealings in U.S. dollars are larger than those in all other currencies combined. The major emphasis in this article is, therefore, on foreign markets for dollars. Nevertheless, in most respects, what is said about dollars is applicable to other currencies.
The dollars which are dealt with on external markets may, for purposes of convenience, be treated as if they were handled in two separate ways, though in practice bankers and exchange dealers shift from one way to the other. An owner of dollars may make them available through a financial intermediary, or through a series of financial intermediaries, to someone who wants to borrow dollars. The dollars that are borrowed are then loaned; in the language of the foreign dollar market, dollar deposits are first accepted and then placed. On the other hand, dollars may be obtained through the exchange market. In this case, they may be obtained by borrowing, or accepting deposits in, some other currency, which is then sold for dollars, with or without forward cover. Such transactions involve at least one other currency besides the dollar, and sometimes two or three currencies. They take place when there are opportunities for profitable arbitrage and exchange dealing; these opportunities also involve the constellation of spot and forward rates in relation to domestic interest rates, as well as speculation.
Mr. Altman, Advisor in the Research and Statistics Department, is a graduate of Cornell University and the University of Chicago. He taught economics at Ohio State University and was on the staff of the National Resources Planning Board and of the French Supply Council. He was Director of Administration of the Fund until 1954. He is the author of Savings, Investment, and National Income and of a number of papers published in technical journals
A comprehensive survey of the Euro-dollar market in 1960, based on interviews and field investigations in six countries, was made by Holmes and Klopstock, who published their findings in a much quoted article, “The Market for Dollar Deposits in Europe,” Monthly Review (Federal Reserve Bank of New York), November 1960. The New York Clearing House Association issued in July 1960 a report entitled A Study of Regulation Q as It Applies to Foreign Time Deposits. There has been a considerable amount of comment in the daily press and in periodicals on the Euro-dollar and Euro-sterling markets. The subject has also been briefly discussed in the Annual Reports of the International Monetary Fund, the Bank for International Settlements, and a number of other official bodies.
This article has made extensive use of published materials, but it is for the most part based upon a three weeks’ visit in Europe by the author in March 1961. Discussions were held in London, Paris, Basle, Zurich, Rome, and Frankfurt with officials in central banks, commercial banks, and private banks. In addition, discussions were held with officials in commercial banks in New York and with staff members of the Federal Reserve System in New York and Washington.
Current operations in foreign markets for dollars (and other currencies) take place as if a deposit denominated in dollars in a foreign country is virtually the same as a dollar deposit in the United States. The depositor in a foreign country may in some circumstances (for example, the insolvency of the bank or the imposition of exchange controls) recover only local money. (See F.A. Mann, The Legal Aspect of Money, 2nd ed., Oxford, England, 1953, Part II, especially Chap. IX.) This distinction, insofar as it affects the competitive position of foreign branches of U.S. banks in the Euro-dollar market, is discussed below (p. 322).
There are a number of serious statistical difficulties in measuring any such change, and the reporting system was modified in the spring of 1961 to cope with some of them (Federal Reserve Bulletin, June 1961, p. 655). Time and demand deposits of foreign governments and banks will be more clearly reported under the new system; those owned by foreign corporations and individuals cannot be determined under either system. Moreover, the data do not include—because they are not defined as deposits—the advances made by Canadian head offices to their New York agencies or the advances made by U.S. branches abroad to their head offices in New York.
Reconciliations of foreign exchange liabilities as reported by the United States, the United Kingdom, and others, with foreign exchange assets as reported by their owners, are regularly published by the International Monetary Fund in International Financial Statistics. The excess of reported assets over liabilities increased in 1959 and then jumped sharply in 1960. Part of this growing excess undoubtedly reflects Euro-dollar operations; another, but much smaller, part reflects transactions in Euro-sterling.
In the spring of 1961, European, especially German, exporters borrowed dollars, both in the Euro-dollar market and in New York, to buy their own domestic currencies spot. Given the forward discount on the dollar, this was cheaper than buying their domestic currencies forward.
See Paul Turot, “Le Marché des Capitaux à Court Terme en Europe et I’Euro-Dollar,” Banque (Paris), April 1961, pp. 215-18.
For example, it was reported that a local council in the United Kingdom had borrowed £230,000 from the Moscow Narodny Bank in London, explaining that money was cheaper at the Moscow Narodny. See The Times (London), March 6, 1961.
The persistence of sizable net differentials for more than a year is puzzling. Two factors may help to explain it. First, the comparison between Treasury bills is imperfect because there are other kinds of investments, including commercial paper and Euro-dollar deposits. Secondly, as the Bank for International Settlements (BIS) has suggested, part of the explanation is that “a substantial part of the funds that came to London in 1960 may not have been covered forward” (BIS, Annual Report, 1960, p. 151).
The representative rates reported to the Bank of England and charted in its Quarterly Bulletin differ somewhat from those shown in Tables 1 and 2, while rates that have been published in various articles on Euro-dollars differ somewhat from one or both of these. See, for example, H. Heymann, “The Euro-Dollar Market,” Swiss Review of World Affairs (publication of the Neue Zürcher Zeitung, Zurich), January 1961, pp. 6-7, and The Economist (London), October 1, 1960, p. 78.
This is an important qualification. A business enterprise may be a prime risk in its own country but not in New York or in other markets outside its own country; moreover, it may be a prime risk when credit conditions are easy, and not when they are tight.
The average rate of interest charged by New York City banks on loans of $200,000 and more was somewhat higher: in March and June 1960, 5.10 per cent; in December 1960, 4.66 per cent; in March 1961, 4.64 per cent.
The Times (London), September 15, 1960.
The Monthly Circular of the Mitsubishi Economic Institute for December 1960 (p. 12) gave the rate of interest on Euro-dollar deposits as 4.75-5.00 per cent. These averages must have included short-dated deposits.
“The Market for Dollar Deposits in Europe,” loc. cit., p. 197. P. Einzig said that Euro-dollars “are estimated to have long passed the billion dollar mark”; see Commercial and Financial Chronicle (New York), April 20, 1961, p. 11.
The Times (London), September 15, 1960. Another estimate, placing Eurodollar deposits in London at $500 million, was given in “The Trend Against Sterling,” Bankers’ Magazine (London), January 1961, pp. 40-41.
The Bank of Italy calculated the Italian Euro-dollar position as the difference between short-term dollar assets held by Italian authorities and banks as reported directly to the Exchange Office and as reported by U.S. banks to the Federal Reserve. According to this, the Euro-dollars (net) placed in the market by Italy as at the end of 1960 totaled $274 million. (See Bank of Italy, Annual Report, 1960, p. 135.) On the basis of revised U.S. figures, this total would be $368 million.
It may be helpful to summarize briefly the data concerning claims of, and liabilities to, nonresidents which are available for countries whose commercial banks are known to participate in the Euro-dollar market. (1) Only Italy has published data on commercial banks’ foreign assets and liabilities for the account of nonresidents denominated separately in dollars and in various other currencies. (2) Some countries (e.g., Canada, Greece, Iceland, and Italy) publish data, covering all of their commercial banks, showing foreign assets, liabilities, and net position in all foreign currencies combined. (3) Some countries publish data, covering all of their banks, showing foreign assets, liabilities, and net position denominated in foreign currencies plus their own currency. This group includes Austria, Denmark, Germany, and Norway. The United Kingdom would also fall in this group, except that it publishes these data only for overseas banks in London and does not publish such data for the clearing banks. (4) Some countries do not publish any data on foreign assets and liabilities of commercial banks, but publish data only on the net foreign position in all currencies plus domestic currency. (5) Finally, some countries (e.g., France, Belgium, and the Netherlands) do not publish any data on the foreign position of their banks.
Time deposits carry lower reserve requirements than demand deposits. Reserve requirements against demand deposits of New York City banks were reduced from 21 per cent in mid-1954 to 19½ per cent at the beginning of 1958 and to 16½ per cent as at December 1960. Those against time deposits have remained at 5 per cent since mid-1954.
This additional “return” on time deposits is naturally influenced by the difference between the rate of interest on time deposits and market rates of interest. When the latter are markedly higher, part of the differential may sooner or later be passed on to the customer as additional “return.”
New York City banks have complained that the growth of foreign markets for dollars is the result of Regulation Q. Though the Euro-dollar activities of their overseas branches have, in effect, partially emancipated U.S. banks from Regulation Q, they continue to press for the abolition of the Regulation, so that they can compete more effectively. It has been suggested that this view should be given serious consideration by the U.S. authorities; see, for example, the recommendation by the Bank for International Settlements in its Annual Report, 1960, p. 138.
The growth of Euro-dollar operations, the large capital outflow in 1960, and the balance of payments deficit of the United States, have focused attention upon levels of interest rates required to keep funds in the country. It should be recognized in this connection that U.S. markets are not without their operating rigidities. Thus, for many years, New York City banks did not pay interest on the time deposits of domestic corporations. This encouraged the investment of these domestic corporate funds in short-term securities, first domestic, and more recently foreign. New York City banks are now trying to obtain some of these corporate funds by selling certificates of deposit with stated redemption periods. As at June 1961, approximately $700 million had been issued in New York and $600 million in other major cities; see Wall Street Journal, February 27 and June 27, 1961.
There have been suggestions that special securities be offered to foreign official holders of dollar balances at attractive rates of interest. On the other hand, questions have been raised on whether it is possible to distinguish between foreign private and foreign official holders of dollars, and between foreign investors as a group and domestic investors—for example, by Roy L. Reierson of the Bankers Trust Company in A New Money Market Instrument (mimeographed, March 24, 1961). There have also been objections that such proposals would be discriminatory, raise the domestic level of interest rates, and result in higher interest outpayments to foreigners (see New York Times, April 12, 1961, and Wall Street Journal, May 8, 1961).
Paying these competitive rates implied that the Federal Reserve Board would not view this with disfavor. There is no published record on this point.
Calculated from the Bank of England, Quarterly Bulletin, June 1961, Table 11.
U.S. banks suggested this to foreign customers only when it was thought necessary to retain their accounts. The banks apparently tried even more to discourage their domestic customers from making deposits in London. The extent to which these attempts have been successful is not known.
The prime rate rose from 3½ per cent in the second quarter of 1958 to 5 per cent toward the end of 1959. The movement of “free” reserves (the difference between reserves held and the sum of required plus borrowed reserves) is indicated by the data in the following table:
Monthly Average of “Free” Reserves of New York City Banks
(In millions of US. dollars)
Monthly Average of “Free” Reserves of New York City Banks
(In millions of US. dollars)
Monthly Average of “Free” Reserves of New York City Banks
(In millions of US. dollars)
Since 1954, the reserve requirements of the Chartered Banks have been set by the Bank of Canada at 8 per cent against deposit liabilities payable in Canadian currency. The Bank Act of 1954 (Chap. 48, Sec. 71) also requires “adequate reserves against liabilities payable in foreign currencies.” In practice, the Chartered Banks have maintained the same reserves against both types of deposit. Since 1956, the banks have also maintained, by voluntary agreement, a supplementary liquidity reserve of 15 per cent against deposits. This reserve is invested in day-to-day loans and Canadian Treasury bills.
From a study, as yet unpublished, by Fred H. Klopstock, A New Look at Foreign and International Banking in the United States.
Canadian figures from the supplement to the Canada Gazette; New York City bank figures from the Federal Reserve Bulletin.
Some estimates have placed this amount at $300-400 million. An article on “Japanese Banks’ Success Story” in the symposium “Japan—An Economic Survey” in The Statist (London), June 3, 1961, p. 12, estimated the inflow of Euro-dollars and Euro-sterling as of the spring of 1961 at $500 million.
The corresponding rate on overdrafts (as distinguished from secured loans or loans on notes) would be 10 per cent or more.
In comparison, interest rates paid by commercial banks on yen notice deposits were 2.9 per cent. On yen time deposits, they were as follows: 3 months, 4.3 per cent; 6 months, 5.5 per cent; and 12 months, 6.0 per cent.
The Times (London), however, stated on September 15, 1960 that between 65 and 75 per cent of these Euro-dollar deposits are being turned into yen.
These agreed rates are given in the Bank of Italy, Bolletino, February 1961, Table 13. In practice, actual minimum rates have been above these agreed minima. Some years ago, the differential was about 2-2½ per cent; at present, however, it is very low.
Bank of Italy, Annual Report, I960, p. 140.
When this premium arrangement was introduced, the forward dollar was at a discount in terms of deutsche mark. This discount was 1.05 per cent on an annual basis at the end of September 1960 and 0.6 per cent at the end of the year.
These dollars could also be used to finance transit operations involving third countries and, during the period August-October 1960, to finance domestic operations.
The forward premium on dollars in terms of deutsche mark looked even more impressive when compared with the discount which had been charged by the Bundesbank in connection with swap transactions in 1959. This discount went as high as ⅞ of 1 per cent in August 1959. In the open market the forward dollar was at a discount for most of 1959.
“The Market for Dollar Deposits in Europe,” loc. cit., p. 197.
For a recent statement of this general view, see Sir George Bolton, “United States Trade with Eastern Europe,” Quarterly Review (Bank of London & South America Limited), April 1961, pp. 165-68.
The Soviet Union and other countries in the Soviet bloc are traditionally extremely secretive about their financial dealings, and they are adept in hiding their true positions, including those relating to gold production, stocks, and sales. See also 0. L. Altman, “Russian Gold and the Ruble,” Staff Pavers, Vol. VII (1959-60), pp. 416-38.
This may explain part of the large sales of Russian gold reported in the first five months of 1961, which were larger than in any corresponding period since the end of World War II. Some of these sales were probably for the account of Mainland China.
The Gosbank circular is in both Russian and English. The passage quoted is from the English text.
Many of the larger finance companies are associated with, or partially owned by, clearing banks or merchant banks. See “Instalment Credit in the United Kingdom,” The Statist (London), June 3, 1961, pp. 918-19.
Compare the following independent estimate published in The Economist (London), May 27, 1961, p. 920: “The turnover in the market, for these funds, which some people call Euro-sterling, remains small—probably not much over 10 per cent of the European market in dollar deposits.”
In order of size of external transactions, the currencies after the dollar and sterling would be Swiss francs, deutsche mark, guilders, and lire.
On this and other effects of foreign markets for currencies, see the speech by Guido Carli to the Italian Banking Association, reported in Mondo Economico (Milan), May 6, 1961.
See “The Market for Dollar Deposits in Europe,” loc. ext., pp. 201-02, and Bank for International Settlements, Annual Report, 1960, p. 138.