OFC History - Eurodollars/Eurobonds

Eurodollars
The phenomenon known as Eurodollars arose after World War II, when the amount of US dollars held outside of the United States grew substantially. This situation was attributable to the following:

  1. Russia and other iron curtain countries who held US dollars in United States banks were concerned that these funds may be seized for political reasons by the government of the United States. In order to overcome the risk of their US dollars being seized, the Russians subsequently concentrated their US dollar holdings in a Russian owned bank in France. As a result, this bank had a very large surplus of US dollars which it then in turn lent to other banks in Europe outside the reach of the US authorities.
  2. In 1957, the Treaty of Rome was signed and several American multi national companies were set up in Europe, earning and spending US dollars and thereby increasing the number of US dollars in Europe.
  3. The OPEC oil crisis hit hard in 1973 and the price of crude oil quadrupled over a twelve month period. Due to the fact that the trading of this oil was paid for in US dollars, there was subsequently a very large rise in US dollars held by OPEC countries outside of the United States.
  4. Also, at this time "Regulation Q" was in force in the United States which meant there was a strict control of interest rates which could be offered by US banks to deposit holders of US dollars. Hence, European banks not bound by "Regulation Q" offered US dollar deposit holders more attractive interest rates.

Eurobonds
The birth and subsequent development of the Eurobond markets is quite intriguing. The Eurobond markets were triggered as a result of:

  1. A large quantity of Eurodollars being available for investment.
  2. Oppressive regulations in the domestic U.S Bond Markets applying to non U.S (foreign) bond issuers.
  3. The international debt crisis which hit in the 1980's. (In the mid to late 1970's, cashed up Commercial Banks began lending significant dollars to the governemtns of underdeveloped Latin American countries such as Mexico, Brazil, Argentina and Peru at floating rates. The borrowing countries started to default in 1982 and the LDC (less developed countries) debt crisis arrived in 1987. The banks suffered massive losses. This resulted in the banks no longer having sufficient cash to lend to industry in need of capital. Hence, large Corporate companies borrowed directly from lenders on the money and bond markets and not from banks. This process is called disintermediation (cutting out the middle man if you like), so that borrowers could meet lenders directly. This was an extremely popular innovation as evidenced by the increased issue of Eurobonds in the 1980's and 1990's).

US Yankee Bond Tax
As a consequence of the developing Eurodollar and Eurobond markets, a vast amount of US dollars was held outside of the United States by both U.S and non U.S residents. The majority of this money was concentrated in Europe. In 1963, President Kennedy introduced a yankee bond tax. Yankee bonds are bonds denominated in US dollars and issued in the United States by non U.S resident entities. The financial community then reacted to the yankee bond tax legislation by issuing similar bonds from Europe thus avoiding the tax.

Development of the Eurobond Market
Where was this new eurobond market going to develop?
The new centre for Eurobonds needed to have the following characteristics:

Where would this new jurisdiction be... the answer was... "London".

Hence, you will not be surprised to learn that Euromarkets have been one of the most significant financial developments in recent history. A huge pool of international money has been created with investors seeking the best jurisdiction to place such money. Thus, the events of the 1960's and 1970's as mentioned above were major contributing factors in the growth of offshore banking and the subsequent proliferation of the modern offshore financial centre.

In Asia, offshore interbank markets began to develop around 1968 when Singapore commenced the Asian Dollar Market and introduced the Asian Currency Units.

In Europe, Luxembourg attracted investors from the neighbouring countries of Belgium, France and Germany in the early 1970's with the introduction of low income tax rates, no withholding taxes for non residents on investment income and bank confidentiality laws. The Isle of Man, Jersey and Guernsey also offered similar attractions for investors.

In the Middle East, Bahrain acted as a collection centre for the region's oil surpluses in the mid 1970's after introducing favourable banking laws and providing tax incentives to encourage the incorporation of offshore banks.

In the western hemisphere, the Bahamas and later the Cayman Islands introduced similar incentives which attracted offshore investors.