Difference between Eurocurrencyand Domestic MarketSlide 22 of 32 FACTORS TO CONSIDER WHEN CHOOSING BETWEEN EUROMARKETS ORDOMESTIC MARKETS(a)The currency that the borrower wants to obtainMultinational companies usually want to borrow in foreign currency to reducetheir foreign exchange exposure and therefore borrow in euromarkets ratherthan the domestic market.(b)The costThere is often a small difference in interest rate between eurocurrency anddomestic markets. On large borrowings, however, even a small difference ininterest rate result in a large difference in the total interest charged on the loan.(c)Timing and speedIt may be possible to raise money on the euromarket more quickly than in thedomestic markets.(d)SecurityEuromarket loans are usually unsecured. Whereas domestic market loans aremore commonly secured. Large borrowers may therefore prefer euromarkets.(e)The size of the loansIt is often easier for a large multinational to raise very large sums on theeuromarkets than in a domestic financial market.Qn/what is Euro market,how did it start?
The Euromarket is the over-the-counter market for interbank deposits, loans, debt, equity and derivative instruments denominated in a currency foreign to the bank, debtor or issuer of the instrument. Eurocurrency is any currency that is held on deposit with a bank that is foreign to the bank’s own domestic currency or the currency of a financial instrument foreign to that of the debtor’s or issuer’s home country. With the advent of the euro as the currency of the Eurozone, the use of the prefix Euro- to refer to the Euromarket and the instruments that are traded in the market has caused great confusion for market practitioners, investors and educators. Whereas most money market transactions occur domestically, money market instruments are also traded offshore. Since most Euromarket instruments are unsecured obligations, generally only issuers with a high credit rating, such as governments, supranational entities and top multinational corporations, can access this market. London is the leading Euromarket dealing center with New York, Tokyo and Singapore prominent in their respective time zones.
Before the existence of the Euromarket, all international finance was directly subject to the rules, practices and institutional arrangements of the respective national markets. In domestic markets, funds are denominated in the local currency and governed by the regulations applying to the domestic currency. In the Euromarket, by contrast, funds are intermediated outside domestic central banking jurisdiction. The Euromarket has is origins in the Cold War period of the 1950s, when Soviet Block institutions moved their holdings of US dollars from New York to London to avoid the risk of the US government freezing or seizing these assets. Soviet Bloc countries feared that dollar deposits held in the US may be attached by US citizens with claims against Soviet governments. The Eurobond market started in London in the early 1960s once the Eurocurrency deposits of the London merchant bankers had become large enough to provide long-term dollar-based financing.
The eurocurrency market is the money market for currency outside of the country where it is legal tender. The eurocurrency market is utilized by banks, multinational corporations, mutual funds, and hedge funds. They wish to circumvent regulatory requirements, tax laws, and interest rate caps often present in domestic banking, particularly in the United States. The term eurocurrency is a generalization of eurodollar and should not be confused with the EU currency, the euro. The eurocurrency market functions in many financial centers around the world, not just Europe.
The eurocurrency market originated in the aftermath of World War II when the Marshall Plan to rebuild Europe sent a flood of dollars overseas. The market developed first in London, as banks needed a market for dollar deposits outside the United States. Dollars held outside the United States are called eurodollars, even if they are held in markets outside Europe, such as Singapore or the Cayman Islands.
There is not necessarily any connection between eurocurrency markets and Europe today, although these markets did begin in Europe. The eurocurrency market has expanded to include other currencies, such as the Japanese yen and the British pound, whenever they trade outside of their home markets. However, the eurodollar market remains the largest. Interest rates paid on deposits in the eurocurrency market are typically higher than in the domestic market. That is because the depositor is not protected by the same national banking laws and does not have governmental deposit insurance. Rates on eurocurrency loans are typically lower than those in the domestic market for essentially the same reasons. Eurocurrency bank accounts are also not subject to the same reserve requirements as domestic accounts. Eurodollars were the first eurocurrency, and they still have the most influence. It is worth noting that U.S. banks can have overseas operations dealing in eurodollars. These subsidiaries are often registered in the Caribbean. However, the majority of actual trading takes place in the United States. The eurodollar trades mostly overnight, although deposits and loans out to 12 months are possible. Transactions are usually for a minimum of $25 million and can top $1 billion in a single deposit. The offshore euroyen market was established in the 1980s and expanded with Japan's economic influence. As interest rates declined in Japan during the 1990s, the higher rates paid by euroyen accounts became more attractive. There is an active bond market for countries, companies, and financial institutions to borrow in currencies outside of their domestic markets. The first such eurobond was issued by the Italian company Autostrade in 1963. It borrowed $15 million for 15 years in a deal arranged in London and listed on the Luxembourg stock exchange. Issuing eurobonds remained popular in Italy, and the Italian government sold US$7 billion in eurobonds in October 2019. It is essential to avoid confusing eurobonds with euro bonds, which are simply bonds denominated in euros issued by countries or firms in the eurozone. The main benefit of eurocurrency markets is that they are more competitive. They can simultaneously offer lower interest rates for borrowers and higher interest rates for lenders. That is mostly because eurocurrency markets are less regulated. On the downside, eurocurrency markets face higher risks, particularly during a run on the banks. |