International Banking, Money

Market
 International Banking and Money Market

Objective:

 This chapter serves to begin our

discussion of world financial
markets and institutions.
 Outline
 International Banking Services
 The World’s Largest Banks
 Outline
 International Banking Services
 Reasons for International Banking
 Outline
 International Banking Services
 Reasons for International Banking
 Types of International Banking Offices
 Correspondent Bank
 Representative Offices
 Foreign Branches
 Subsidiary and Affiliate Banks
 Edge Act Banks
 Offshore Banking centers
 International Banking Facilities
 Outline
 International Banking Services
 Reasons for International Banking
 Types of International Banking Offices
 Outline
 International Banking Services
 Reasons for International Banking
 Types of International Banking Offices
 International Money Market
 Eurocurrency Markets
 Euro credits
 Forward Rate Agreements
 Euro notes
 Euro commercial Paper
 Outline
 International Banking Services
 Reasons for International Banking
 Types of International Banking Offices
 International Money Market
 International Banking Services

 International Banks do everything that domestic

banks do and:
 Arrange trade financing.
 Arrange foreign exchange.
 Offer hedging services for foreign currency receivables
and payables through forward and option contracts.
 The World’s 10 Largest Banks

Bank of America U.S.

Citigroup U.S.
HSBC Holdings U.K.
Credit Agricole Group France
Chase Manhattan U.S.
Industrial & Commercial Bank of China China
UBS Switzerland
Deutsche Bank Germany
Wells Fargo U.S.
Bank One U.S.
Reasons for International Banking

 Low Marginal Costs

 Managerial and marketing knowledge
developed at home country can be used abroad
with low marginal costs.
Reasons for International Banking

 Low Marginal Costs

 Knowledge Advantage
 The foreign bank subsidiary can draw on the
parent bank’s knowledge of personal contacts
and credit investigations for use in that foreign
market.
Reasons for International Banking

 Low Marginal Costs

 Knowledge Advantage
Reasons for International Banking

 Low Marginal Costs

 Knowledge Advantage
 Prestige
 Very large multinational banks have high
perceived prestige, which can be attractive to
new clients.
Reasons for International Banking

 Low Marginal Costs

 Knowledge Advantage
 Home Nation Information Services
 Prestige
 Regulatory Advantage
 Multinational banks are often not subject to
the same regulations as domestic banks.
Reasons for International Banking

 Low Marginal Costs

 Knowledge Advantage
 Home Nation Information Services
 Prestige
 Regulatory Advantage
 Wholesale Defensive Strategy
 Banks follow their multinational customers abroad
to avoid losing their business at home and abroad.
Reasons for International Banking

 Low Marginal Costs

 Knowledge Advantage
 Home Nation Information Services
 Prestige
 Regulatory Advantage
 Wholesale Defensive Strategy
 Retail Defensive Strategy
 Multinational banks also compete for retail
services such as travelers cheques, tourist and
foreign business market.
Reasons for International Banking

 Knowledge Advantage
 Home Nation Information Services
 Prestige
 Regulatory Advantage
 Wholesale Defensive Strategy
 Retail Defensive Strategy
 Transactions Costs
 Multinational banks may be able to avoid government
currency controls.
Reasons for International Banking

 Home Nation Information Services

 Prestige
 Regulatory Advantage
 Wholesale Defensive Strategy
 Retail Defensive Strategy
 Transactions Costs
 Growth
 Foreign markets may offer opportunities to growth not
found domestically
 Reasons for International Banking
 Prestige
 Regulatory Advantage
 Wholesale Defensive Strategy
 Retail Defensive Strategy
 Transactions Costs
 Growth
 Risk Reduction
 Greater stability of earnings due to diversification.
 Types of International
Banking Offices
 Correspondent Bank
 Representative Offices
 Foreign Branches
 Subsidiary and Affiliate Banks
 Edge Act Banks
 Offshore Banking Centers
 International Banking Facilities
 Correspondent Bank
 A correspondent banking relationship exists when
two banks maintain deposits with each other. They
do not have their own banking operations.
 Correspondent banking allows a bank’s MNC
client to conduct business worldwide through his
local bank or its correspondents.
 A large New York bank will have a correspondent
bank account in a London account and the London
bank will maintain one with the New York.
 Representative Offices
 A representative office is a small service facility
staffed by parent bank personnel that is designed
to assist MNC clients of the parent bank in
dealings with the bank’s correspondents.
 Representative offices also assist with
information about local business customs,
economic information and credit evaluation of
the MNC’s local customers.
 The parent bank will open a representative office
in a country in which it has many MNC clients or
at least one important client.
 Foreign Branches
 A foreign branch bank operates like a local bank, but is legally part of
the parent.
 Subject to both the banking regulations of home country and foreign
country.
 US branch banks in foreign countries are regulated through United states by
Federal Reserve Act and its regulations.
 Branch Banks are the most popular way for U.S. banks to expand
overseas.
 Branch banks loans limits are based on the capital of the parent bank
and not the branch bank. And hence will likely be able to extend a
larger loan to a customer then a locally chartered subsidiary bank of the
parent.
 The books of the branch bank are part of the parent’s bank books.
 Subsidiary and Affiliate Banks

 A subsidiary bank is a locally incorporated bank

wholly or partly owned by a foreign parent.
 An affiliate bank is one that is partly owned but
not controlled by the parent.
 Both the banks operate under the banking laws of
the country in which they are incorporated
 Edge Act Banks
 Edge Act banks are federally chartered subsidiaries of U.S.
banks that are physically located in the U.S. that are
allowed to engage in a full range of international banking
activities.
 The Edge Act was a 1919 amendment to Section 25 of the
1914 Federal Reserve Act.
 They accept foreign deposits, extend trade credit, finance
foreign projects abroad, trade foreign currencies, and
engage in investment banking activities with US citizens
involving foreign securities.
 Offshore Banking Centers
 An offshore banking center is a country whose banking system is
organized to permit external accounts beyond the normal scope of
local economic activity.
 Operate as branches or subsidiaries of the parent bank.
 The host country usually grants complete freedom from host-country
governmental banking regulations-low reserve requirements, no
deposit insurance, low taxes, favorable time zones that favor
international banking transactions and to a minor extent strict banking
secrecy laws.
 The primary activities of offshore banks are to seek deposits and grant
loan in currencies other than the currency of the host government
 Offshore Banking Centers
 The IMF recognizes
 the Bahamas
 Bahrain
 the Cayman Islands
 Hong Kong
 the Netherlands Antilles
 Panama
 Singapore
 as major offshore banking centers
 International Banking Facilities
 An international banking facility is a separate set of accounts that are
segregated on the parents books.
 An international banking facility is not a unique physical or legal identity.
 A US branch or subsidiary of a foreign bank or an US office of an Edge
Act bank may operate an IBF.
 IBFs operate as foreign banks in US.They are not subject to domestic
reserve requirements on deposits,nor is FDIC insurance required on
deposits.
 They seek deposits from non-US citizens and can make loans to only
foreigners.
 Established largely as a result of offshore banking ,but they can never be
eliminated as IBFs are restricted from lending to US citizens.
 International Money Market
 Eurocurrency is a time deposit in an international bank located in a
country different than the country that issued the currency.
 For example, Eurodollars are U.S. dollar-denominated time deposits in
banks located abroad.
 Euro yen are yen-denominated time deposits in banks located outside of
Japan..
 The Eurocurrency market is an external banking system that runs parallel
to the domestic banking system of the country that issued the currency.
Both the banking systems seeks deposits and make loans to customers
from the deposited funds.
 Eurodollar deposits are not subject to arbitrary reserve requirements or
deposit insurance, hence the cost of operations is less.
 Contd…
 The Eurocurrency market operates at the interbank
or at the wholesale level .
 The Eurobanks with surplus funds and no retail
customers to lend to will lend to Eurobanks that
have borrowers but need loanable funds.
 The rates charged by banks with excess funds is
referred to as interbank offered rate;they will
accept deposit at interbank bid rate.
 Contd…
 The LIBOR is the world's most widely used benchmark for short-term interest
rates. It's important because it is the rate at which the
world's most preferred borrowers are able to borrow money. It is also the rate
upon which rates for less preferred borrowers are based. For example, a
multinational corporation with a very good credit rating may be able to borrow
money for one year at LIBOR plus four or five points. 
 An interest rate at which banks can borrow funds, in marketable size, from
other banks in the London interbank market. The LIBOR is fixed on a daily
basis by the British Bankers' Association. The LIBOR is derived from a filtered
average of the world's most creditworthy banks' interbank deposit rates for
larger loans with maturities between overnight and one full year.

Countries that rely on the LIBOR for a reference rate include the United States,
Canada, Switzerland and the U.K.
 Eurocurrency Market

 Most Eurocurrency transactions are inter-bank transactions in

the amount of $1,000,000 and up.
 Common reference rates include
 LIBOR the London Inter-bank Offered Rate
 PIBOR the Paris Inter-bank Offered Rate

 SIBOR the Singapore Inter-bank Offered Rate

 A new reference rate for the new euro currency

 EURIBOR the rate at which interbank time deposits of
are offered by one prime bank to another.
 Euro credits
 Euro credits are short- to medium-term loans of
Eurocurrency extended by Eurobanks to corporations,
sovereign govt. and international organisations.
 The loans are denominated in currencies other than the
home currency of the Euro bank.
 Often the loans are too large for one bank to handle; a
number of banks form a syndicate to share the risk of
the loan.
 Euro credits feature an adjustable rate. On Euro credits
originating in London the base rate is LIBOR.
 Contd…
 The credit risk on these loans is greater than on loans to
other banks in the interbank market.
 Interest rate must on EURO credits must compensate the
bank or the banking syndicate for the added credit risk.
 On Eurocredits originating in London the base lending rate
is LIBOR
 The lending rates on these credits is stated as LIBOR +
x,where x is the lending margin charged depending upon
the credit worthiness of the buyer.
 Forward Rate Agreements
 What Does Forward Rate Agreement - FRA Mean?
An over-the-counter contract between parties that determines the rate
of interest, or the currency exchange rate, to be paid or received on
an obligation beginning at a future start date. The contract will
determine the rates to be used along with the termination date and
notional value. On this type of agreement, it is only the differential
that is paid on the notional amount of the contract.

Also known as a "future rate agreement".

 Contd…
 Typically, for agreements dealing with interest rates, the
parties to the contract will exchange a fixed rate for a
variable one. The party paying the fixed rate is usually
referred to as the borrower, while the party receiving the
fixed rate is referred to as the lender.
 For a basic example, assume Company A enters into an FRA with Company B
in which Company A will receive a fixed rate of 5% for one year on
a principal of $1 million in three years. In return, Company B will
receive the one-year LIBOR rate, determined in three years' time, on
the principal amount. The agreement will be settled in cash in three years. 

If, after three years' time, the LIBOR is at 5.5%, the settlement to the
agreement will require that Company A pay Company B. This is because the
LIBOR is higher than the fixed rate. Mathematically, $1 million at 5%
generates $50,000 of interest for Company A while $1 million at 5.5%
generates $55,000 in interest for Company B. Ignoring present values, the net
difference between the two amounts is $5,000, which is paid to Company B.
 Forward Rate Agreements: Uses
 Forward Rate Agreements can be used to:
 Hedge interest rate risk.
 Speculate on the future course of interest rates.
 Euro notes
 Euro notes are short-term notes underwritten by a
group of international investment banks or
international commercial banks.
 A client borrower makes an agreement with a
bank to issue Euronotes in its own name for a
period of time generally 3 to 10 years.
 They are sold at a discount from face value and
pay back the full face value at maturity.
 Maturity is typically three to six months.
 Euro-Medium-Term Notes
 Typically fixed rate notes issued by a corporation.
 Maturities range from less than a year to about ten
years.
 Euro-MTNs is partially sold on a continuous basis
–this allows the borrower to raise funds as they
are needed.
 Euro commercial Paper
 Unsecured short-term promissory notes issued by
corporations and banks and placed directly with
the investment public through a dealer.
 Like Euronotes they are sold at a discount then the
face value
 Maturities typically range from one month to six
months.
 Euro commercial paper, is U.S. dollar
denominated.