CHAPTER 15
INTERNATIONAL BANKING
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15-1
American International Banking
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International banking dates back to the rise of
international trade.
Great Britain dominated international finance until
after WW II.
American banks entered international finance
after 1914.
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The Edge Act (1919)
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Federal Reserve Act of 1913 permitted foreign
branches.
Agreement corporations were legalized in 1916.
Details of the Edge Act
– Banks able to create federally chartered
subsidiaries located in the United States
– Participated in international banking
– Could make equity investments
– U.S. banks able to compete with European banks
– Grew in number and activities after WW II
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The Reasons for Growth in U.S.
International Banking
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Increased expansion of U.S. trade and foreign
markets.
Growth of multinational corporations.
U.S. government business regulation limited U.S.
profit opportunities.
Need to finance petroleum induced deficits in
foreign countries.
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Recent Activity in U.S.
International Banking
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Growth slowed in the early 1970s.
– U.S. regulations limiting the outflow of funds to
foreign countries were eliminated.
– Smaller banks could not compete with larger
international operations.
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International lending increased in 1974.
– OPEC increased oil prices.
– Oil producers and oil importers had surplus/deficit
funds flow to invest or finance.
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Regulation of Overseas
Banking Activity
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Domestic U.S. banking has been regulated to
promote the following goals:
– bank safety and financial soundness and stability.
– bank competition -- performance.
– banking business is "special" and kept separate
(arms length) from other types of business
activities.
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Foreign banks are not as regulated the same as
U.S. banks, especially in their international
banking activity.
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Allowable Banking Activities
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Traditionally more types of businesses permitted
by U.S. banks operating in foreign countries to
enhance competitiveness.
– Security underwriting
– Equity investments
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Restraints are kept on:
– U.S. foreign bank subsidiaries owning nonfinancial
businesses.
– control of foreign companies.
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Delivery of Overseas Banking
Services
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Representative offices -- assist parent bank
customers.
Shell branches -- limited wholesale money
market transaction rather than retail public
branches.
Correspondent banks -- relationship with foreign
banks to provide international banking services.
Foreign branches -- legal branch of domestic
parent banking providing full banking services in
foreign country.
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Delivery of Overseas Banking
Services (concluded)
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Edge Act corporations -- federally chartered
subsidiaries of U.S. banks engaging in international
activities not permitted domestic banks.
– International banking activities
– International financing activities
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Foreign Subsidiaries and Affiliates
– Subsidiaries -- separately -- (owned entirely or in
part) by a U.S. bank, bank holding company, or Edge
Act corporation.
– Affiliates -- small ownership interest in foreign bank
by U.S. bank.
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Funding International Loans
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International loans can be denominated in almost
any major currency, but the U.S. dollar is the
most common.
The average international loan is larger with
large, multinational firms and sovereign countries
as borrowers.
Most large international loans are funded in the
Eurocurrency market,
– International banks issue time deposits and make
short or intermediate-term loans
– Banks often lend to each other in the interbank
market
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Pricing International Loans
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The interbank rate in London is called the LIBOR or
London Interbank Offered Rate.
Nonbank borrowers pay above the LIBOR.
The interest rate paid to time deposits and the rate
charged borrowers will be tied to the interest rate
levels of the country and currency used to
denominate the deposit and loan.
Lending rates are fixed for the stated credit period
(usually a month) but change (float) with the LIBOR
at the beginning of each (rollover) period.
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Syndicated Loans
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Several banks usually participate in funding the
loans, thus spreading the risk to banks and
providing the large amounts of funds needed by
the borrower.
One or more lead bank(s) package the loan
arrangement.
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Collateral
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Most international credits are unsecured.
Most business borrowers have high credit
ratings.
Borrowing countries pledge their "full faith and
credit."
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Risks in International Lending
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Credit risk -- the risk of default.
Country risk -- related to the political stability,
laws, and regulations of the foreign country.
– Expropriation
– Nationalization
– Change of government
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Currency risk -- risk of currency value changes
and exchange controls.
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Methods of Reducing Risk in
International Lending
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Third-party help
– Guarantees by governments or central banks
– Guarantees by organizations outside the foreign
country
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Pooling risk -- participation loans among banks to
spread risk.
Diversification of foreign loan portfolio
Loan Sales -- selling nonperforming loans in the
secondary market at a discount.
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Growth of Foreign Banks in the
U.S. -- High Growth after Mid-1970s
Until 1990.
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Japanese banking growth dominated the world in
the late 1980's and made significant inroads into
west coast U.S. markets.
The waning Japanese equity markets, increased
international capital adequacy standards and the
recent merger activity among large U. S. banks
seem to have slowed the decline in U. S. banks
relative to foreign competitors.
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Number of Foreign Banks in the
U.S. (1982-1998)
700
Number of Foreign Banks
600
500
400
300
200
100
0
1982 1984 1986 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998
Source: American Banker, various issues, 1983-1995, and Federal Reserve System, Structure Data for U.S. Offices of Foreign Banks, 1996-1999..
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Foreign and Domestic Bank
Assets in the U.S. (1982-1998)
Total Bank Assets in Trillions
$6.0
$5.0
$4.0
Foreign Bank Assets
Domestic Bank Assets
$3.0
$2.0
$1.0
19
82
19
84
19
86
19
88
19
89
19
90
19
91
19
92
19
93
19
94
19
95
19
96
19
97
19
98
$0.0
Source: American Banker, various issues, 1983-1995, and Federal Reserve System, Structure Data for U.S. Offices of Foreign Banks, 1996-1999..
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International Banking Act of 1978
passed to make U.S. banks
competitive with foreign banks
operating in the United States.
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Allow federal chartering of foreign banking
facilities.
Limit ability of foreign banks of accepting
interstate deposits.
Fed may impose reserve requirements on foreign
banks.
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International Banking Act of 1978
passed to make U.S. banks
competitive with foreign banks
operating in the United States.
(concluded)
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FDIC insurance required on domestic retail
deposits in U.S. based foreign banks.
Foreign banks permitted to form Edge Act
corporations.
U.S. based foreign banks were made subject to
nonbanking prohibitions of U.S. banking holding
companies.
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