What Is a Eurobank?
It is not necessary for a "eurobank" to be located in Europe; it can in fact be located anywhere in the world. For example, an American bank located in New York which holds deposits and issues loans in Japanese yen (JPY) would be considered a eurobank.
Eurobanks may operate in their own country, such as the American bank in the example above, or they may operate in a country outside their home.
- Eurobanks are financial institutions that accept foreign currencies for deposits and loans.
- Eurocurrencies are simply foreign-denominated bank deposits held abroad. For example, dollars held abroad are known as eurodollars.
- Because they handle multiple currencies transactions, these institutions play a key role in facilitating global trade.
- Because eurocurrency deposits are less regulated than U.S. banks, they can also afford easier cross-border transactions and often at more favorable rates.
- Eurobanks cater mainly to governmental and institutional clients and will often form syndicates to facilitate especially large transactions.
How Eurobanks Work
Eurobanks play an important role in the global economy because they facilitate international trade. Following World War II, this model of banking became popular due to demand from communist countries which wished to remove their holdings from U.S. banks in order to hedge against political risks stemming from the then-nascent Cold War.
Since then, the emergence of eurobanks has done much to facilitate trade and investment between countries. In the past, cross-border trade was hampered by a lack of international intermediaries capable of accommodating transactions involving multiple foreign currencies. This is especially true because, despite the growing importance of these economies, some of the currencies of these nations are still not widely traded on global currency markets. As such, emerging economies often find it necessary to conduct international trade using foreign currencies.
Eurodollars are U.S. dollar-denominated deposits that are held at foreign banks or at the overseas branches of U.S. banks.
History of Eurobanks
Banks holding foreign-denominated deposits were rare until after World War II. At the onset of the Cold War, communist countries, fearing that their U.S.-based assets would be frozen or seized transferred large amounts of dollars to be held in friendly banks in Eastern Europe. Throughout the 1960s, lawmakers in the U.S. imposed several restrictions and capital controls that were meant to discourage foreign borrowers from raising capital in U.S. markets and limit loans from U.S. banks to foreigners. These measures further increased the demand for dollar-denominated assets held outside of the U.S.
The oil shocks of the 1970s also increased the demand for foreign U.S. dollars, as oil prices were (and still are) a global commodity that is dollar-denominated. Moreover, oil-exporting countries (such as OPEC members) suddenly found themselves with large dollar surpluses that they were unable to use immediately, and that they subsequently deposited in the Eurodollar market.
The substantial growth in international trade that we have witnessed since the 1980s is due in part to the proliferation of eurobanks throughout the world. This growth was further propelled by the development of large and dynamic economies such as those of China, India, and other emerging economies. As these nations have pursued policies of economic development and industrialization through export-led growth, the demand for eurobanking has grown accordingly.
Benefits of Eurobanks
One important benefit of eurobanking is that these institutions can often offer lower interest rates for foreign borrowers of U.S. dollars (and higher interest rates for foreign lenders of dollars). That is mostly because eurocurrency markets are less regulated than U.S. banks and American bank deposits.
Another benefit is that eurobanking helps to facilitate cross-border transactions, with transactors needing access to deposits of both dollars and local currency in different regions throughout the world. Today, international banks regularly exchange and lend foreign currencies among each other drawing from their eurocurrency deposits.
The currencies held and lent by eurobanks are known as eurocurrencies, although it is important to note that the term “eurocurrency” is used even if the currency in question is not the euro. Today, the most widely used eurocurrencies are the U.S. dollar (USD), JPY, British pound (GBP), and the euro (EUR).
When eurobanks issue loans denominated in eurocurrencies, these are referred to as eurocredits. More specifically, a eurocredit is any loan given by a eurobank that is not denominated in that eurobank’s domestic currency. Typically, eurocredits are issued to sovereign governments, corporations, international organizations, and commercial banks. In this respect, eurobanks are mainly oriented toward facilitating commerce at the international and institutional level.
If an especially large loan is required, eurobanks will typically work together in a syndicate, in order to spread their respective risks. The loans themselves often have short or medium-term durations, with the outstanding balances rolled over at the end of the term. As in many banking transactions, the interest rate used on eurocredits is typically based on very short-term interbank lending rights such as the Fed Funds Rate or Euribor.
How Is a Eurocurrency Created?
A eurocurrency refers to foreign deposits of foreign currency, and are created once those funds are deposited and held abroad. For instance, a eurodollar is created when a U.S. dollar is deposited and held at a foreign bank.
Why Is It Called a Eurocurrency?
Despite the "euro" in the name, a eurocurrency can be any currency held in any foreign country (e.g. yen held in the U.S. would be euroyen). The name comes from the fact that the first such example was eurodollars—and these were, in particular, dollars held in Eastern European banks.
What Is a Eurodollar Bond?
A eurodollar bond (or eurobond) is a U.S. dollar-denominated debt issued outside of the U.S. by a non-American entity. Eurobanks may be used to help underwrite and market such securities.