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Source: Encyclopedia of Banking & Finance (9h Edition) by Charles J Woelfel
(We recommend this as work of authority.)

Dollar deposit claims upon U.S. banks, deposited (transferred) in banks located outside the US.S, including foreign branches of U.S. banks, so that the funds do not physically leave the U.S. banks.  These dollar deposit claims in turn may be redeposited in other foreign banks, lent to business enterprises, invested, or retained to improve reserves or overall liquidity, reflecting the acceptability of dollars as a key reserve currency, their availability in Eurodollar form when domestic monetary policies might make money extremely difficult to obtain and/or balance of payments restraints encourage use of Eurodollars, and their competitive rates, as well as freedom from required reserves until recent years.

The Eurodollar market is principally maintained by commercial banks in London, Paris, and other European cities which are willing to accept such U.S. deposit claims as time deposits, or (since 1966) willing to accept them as time certificates of deposit in negotiable form.  This market actually includes other currencies, so that it might be more properly referred to as the Eurocurrency market.  Transactions in dollars, however, constitute about three-fourths of the volume of transactions, which take place in wholesale amounts on the order of $1 million to $5 million, with maturities from call basis to one year, although it is reported that maturities of up to five years can be negotiated.

Eurodollar deposits are practically free of regulation by the host country, including U.S. regulatory agencies.  For example, they are not subject to reserve requirements and FDIC fees.  Regulation D requires that net domestic borrowings from the Eurodollar market be subject to a 3% domestic reserve requirement.

Negotiable Eurodollar CDs were desgned by Citibank in London in 1966.  They are usually sold in denominations larger than $250,000, or more.  Eurodollar CDs are not subject to a 3% reserve requirement and an FDIC fee of about 8 basic points, as are domestic CDs.  Eurodollar CDs trade in secondary markets.  Default risk and marketability depend on the issuing bank, so the market is usually limited to the largest banks with strong international reputations.

Floating-rate Eurodollar CDs have been introduced in the financial markets.  Such CDs can have maturities extending beyond one year.  Floating-rate notes have maturities ranging up to approximately 20 years.  Floating-rate CDs and notes are priced at a spread off the London interbank offering rate (LIBOR).

Markets also have developed for loans and deposits denominated in other currencies, such as the West German mark, Swiss franc, and Japanese yen, but maintained outside these countries.  These markets are referred to collectively as the Eurocurrency market.

Interest rates on Eurodollar deposits are usually higher than the rates paid on deposits in the United States, while Eurodollar market lending rates tend to be somewhat lower.  Because Eurobanks operate with lower spreads than banks in the United States, they are able to compete effectively with domestic U.S. banks for loans and deposits.  Their lower spread is possible because they do not have the additional costs associated with statutory reserve requirements, deposit insurance fees, and other regulatory constraints imposed on banks in the United States.

The Eurodollar market has grown rapidly since the 1950s, due in part to the U.S. banking regulations (particularly Regulation Q) that have prevented U.S. banks from paying competitive interest rates on savings accounts and have raised the costs of lending.  Persistent deficits in the U.S. balance of payments increased the dollar holdings of foreigners, as did the steep rise in petroleum prices that created enormous wealth in the petroleum-exporting countries.  These factors, combined with the relative freedom allowed foreign currency banking in many countries, spurred the rapid growth of the market.

Eurodollars are in essence international money, and as such they increase the efficiency of international trade and finance.  As money, they provide an internationally accepted store of value, standard of value, and medium of exchange.  Because Eurodollars eliminate the costs and risks associated with converting from one currency to another, they allow savers to scan the world more easily for the highest returns and borrowers to search out the lowest cost of funds.  They are a worldwide link among various regional capital markets, helping to create a global market for capital.  (Eurodollars held by petroleum-exporting countries are sometimes referred to as petro-dollars.)


Since the origins of the Eurodollar market in the 1950s, the Board of Governors of the Federal Reserve System has shown an active interest in regulating Eurodollar liabilities, borrowing, and loans of U.S. banks.  Measures adopted have included the following:

1.  Effective October 16, 1969, member banks were required by Regulation M (then pertaining
     to foreign activities of national banks) to maintain reserves of 10% against balances above
     a specific base due from domestic offices to their foreign branches.  The rate was raised to
     20% effective January 7, 1971.  Regulation D (Reserves of Member Banks) imposed a
     similar reserve requirement on borrowings above a specified base from foreign banks by
     domestic offices of member banks.

     Indicative of the Fed's views of the role and impact on monetary policy of Eurodollar activity,
     as well as its effects upon the U.S. balance of payments, the Fed explained that the raise
     from 10% to 20% was intended to give banks an added inducement to preserve their
     reserve-free bases, instead of allowing their bases to be lowered automatically by repaying
     their Eurodollar borrowings.  "A matter of increasing concern was the deleterious effect on
     the U.S. balance of payments of the repayment by U.S. banks of their Eurodollar
     borrowings.  Such repayments had already assumed heavy proportions, and pressure
     toward acceleration of that movement seemed certain to intensify if U.S. short-term rates
     declined further and domestic demands for credit continued to moderate."

2.  Effective April 1, 1971, Regulation M was further amended to provide a means by which a
     member bank could retain its reserve-free base with respect to its Eurodollar borrowings
     from its foreign branches, by counting within its base the amount of purchases by its foreign
     branches of a U.S. Treasury offering of certificates of indebtedness to overseas branches
     of U.S. banks designed to provide an investment outlet in the United States for Eurodollars
     acquired by the overseas branches.  On January 15, 1971, the Board of Governors had
     made a similar amendment to Regulation M regarding Export-Import Bank securities
     offered to foreign branches of U.S. banks as part of the effort to strengthen the inducement
     for such banks to retain their Eurodollar liabilities.

3.  By early 1973 the situation had changed to such an extent that the Board of Governors
     issued an interpretation of Regulation K (Corporations Engaged in Foreign Banking and
     Financing Under the Federal Reserve Act) and Regulation M, in the form of a statement of
     policy, whose purpose was "to give guidance to member banks having foreign

(1)  The Board of Governors of the Federal Reserve System, as a central bank, is
       properly concerned with the preservation and promotion of a sound banking
       system in the United States.  The Board of Governors and other Federal
       banking supervisory authorities have been given specific statutory
       responsibilities to assure that banking institutions are operated in a safe and
       prudent manner affording protection to depositors and providing adequate and
       efficient banking services to the public on a continuing basis.  These
       responsibilities and concerns are shared by central banks and bank
       supervisors the world over.

            (2)  Under Sections 25 and 25(a) of the Federal Reserve Act, the Board has
       particular responsibilities to supervise the international operations of member
       banks in the public interest.  In carrying out these responsibilities, the Board
       has sought to assure that the international operations of member banks would
       not only foster the foreign commerce of the United States but that they would
       also be conducted so as not to encroach on the maintenance of a sound and
       effective banking structure in the United States.  In keeping with the latter
       consideration, the Board elieves it incumbent upon member banks to
       supervise and administer their foreign branches and subsidiaries in such a
       manner as to assure that their operations are conducted at all times in
       accordance with high standards of banking and financial prudence.

  (3)      Proper administration and supervision of foreign branches and  
 subsidiaries require the use of effective systems of records, controls,
 and reports that will keep the bank's management informed of the
 activities and condition of its branches and subsidiaries.  At a
 minimum, such systems should provide the following:

(a)       Risk assets.  

            To permit assessment of exposure to loss, information furnished or available to head office should be sufficient to permit periodic and systematic appraisals of the quality of loans and other extensions of credit.  Coverage should extend to a substantial proportion of the risk assets in the branch or subsidiary, and include the status of all large credit lines and of credits to customers also borrowing from other offices of the bank.  Information on credit extensions should include (1) a recent financial statement of the borrower and current information on his financial condition; (ii) credit terms, conditions, and collateral; (iii) data on any guarantors; (iv) payment history; and (v) status of corrective measures employed.

            (b)    Liquidity.  

                      To enable assessment of local management's ability to meet its
          obligations from available resources, reports should identify the
          general sources and character of the deposits, borrowings, and
          so forth, employed in the branch or subsidiary with special
          reference to their terms and volatility.  Information should be
          available on sources of liquidity - cash, balances with banks,
          marketable securities, and repayment flows - such as well reveal
          their accessibility in time and any risk elements involved.

            (c)     Contingencies.  

                      Data on the volume and nature of contingent items such as loan
          commitments and guaranties or their equivalents that permit
          analysis of potential risk exposure and liquidity requirements.

            (d)     Controls.  

                      Reports on the internal and external audits of the branch or
          subsidiary in sufficient detail to permit determination of
          conformance to auditing guidelines.  Such reports should cover
          (i) verification and identification of entries on financial
          statements; (ii) income and expense accounts, including
          descriptions of significant charge-offs and recoveries; (iii)
          operation of dual-control procedures and other internal controls;
          (iv) conformance to head-office guidelines on loans, deposits,
          foreign exchange activities, proper accounting procedures, and
          discretionary authority of local management; (v) compliance with
          local laws and regulations; and (v) compliance with applicable
          U.S. laws and regulations.


 4.        By early 1975, the situation had eased, and effective May 22, 1975, the Board of Governors amended its Regulations M and D to reduce from 8% to 4% the reserve requirement on member banks' Eurodollar borrowings and on loans made by member banks' foreign branches to U.S. residents.

 5.        Effective November 2, 1977, further amendment to Regulation M reduced from 4% to 1% the reserve requirement applicable to funds loaned by foreign branches of U.S. member banks to U.S. borrowers.  No change was made in the 4% reserve requirement on borrowings by member banks from their overseas branches or from foreign banks.

 6.        Amendments of Regulations D and M, effective August 25, 1978, eliminated the 4% reserve requirement that had been imposed on borrowings - primarily Eurodollars - or member banks from their foreign branches or from other foreign banks and on assets held by foreign branches that were acquired from their domestic offices.  The board also removed the 1% reserve requirement on loans of foreign branches to U.S. borrowers.  These changes were expected to encourage member banks to borrow in the Eurodollarmarket.  The board explained that it took these actions in conjunction with other measures to combat domestic inflation and to counter the disorder that exsisted in foreign exchange markets.

 7.        Subsequently, effective November 1, 1978, the board amended Regulation D by establishing a supplemental reserve requirement of 2% on all time deposits of $100,000 or more and on certain other liabilities of member banks, effective with outstanding deposits beginning November 2, 1978, for reserves to be maintained beginning November 16, 1978.  This increase in reserve requirements was one of several measures taken jointly by the Federal Reserve and the Treasury Department to improve the position of the dollar on foreign exchange markets and to reduce inflationary pressures.  The action was taken to help moderate the expansion of bank credit and to increase the incentive for member banks to borrow abroad, thereby improving the demand for dollar-denominated assets.

 8.        On February 14, 1979, the board approved technical amendments that removed the provisions governing reserve requirements on foreign deposits from Regulation M and consolidated them within Regulation D.  Effective June 8, 1979, the board also approved substantive revisions of the regulations governing the international operations of member banks, Edge Act and agreement corporations, and bank holding companies, and combined them in a new comprehensive Regulation K, International Banking Operations.

 9.        Effective with the reserve maintenance period beginning October 25, 1979, a marginal reserve requirement of 8% was added to managed liabilities in excess of a base amount, and with the maintenance period beginning April 3, 1980, the requirement was increased to 10%.  (Managed liabilities were defined as large time deposits, Eurodollar borrowings, repurchase agreements against U.S. government and federal agency securities, federal funds borrowings from nonmember institutions, and certain other obligations.)  In general, the base for the marginal reserve requirements was originally $100 million, or the average amount of the managed liabilities held by a member bank, Edge Act corporation, or family of U.S. branches of a foreign bank for the two statement weeks ending September 26, 1979.

For the computation period beginning March 20, 1980, the base was lowered by (a) 7% or (b) the decrease in an institution's U.S. office gross loans to foreigners and gross balances due from foreign offices or other institutions between the base period (September 13-26, 1979) and the week ending March 12, 1980, whichever was greater.  In addition, the base would be reduced further after March 19, 1980, to the extent that such foreign loans and balances continue to decline, the minimum base remaining at $100 million.

 10.      However, with the domestic economy slipping into recession, the board of governors on May 22, 1980, announced a reduction from 10% to 5% in the reserve requirement imposed on the managed liabilities of member banks and agencies, branches of foreign banks, and large nonmember institutions and also raised by 7.5% the base upon which the reserve requirement was calculated.

This easing of restraints was followed on July 3, 1980, by announcement of elimination by the Fed of the remaining 5% marginal reserve requirement on managed liabilities of the large banks and agencies and branches of foreign banks, beginning July 10, 1980, for reserves required beginning July 24, 1980.  In addition, the board eliminated effective the same date the 2% supplementary reserve requirement applicable to member banks on large time deposits, which had been imposed in November, 1978.


Review of the actions taken by the board of governors with respect to Eurodollar liabilities, borrowings, and loans of U.S. banks and related activities indicates the continued likelihood of frequent changes in regulations imposing restrictions or easing them in accordance with domestic considerations of monetary policy, besides the international aspects of impact upon the balance of payments and position of the dollar in the foreign exchange markets relative to that of other currencies and flows of international funds including "recycling" of oil funds.


BANK FOR INTERNATIONAL SETTLEMENTS.  Recent Innovations in International Banking.  Bank for International Settlements, Washington, DC, April, 1986.

BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM.  Federal Reserve Bulletin, February, 1980.

"Money Stock Measures and Liquid Assets."  September 11, 1986.

DUFEY, G., and GIDDY, I.H.  "Eurocurrency Deposit Risk."  Journal of Banking and Finance, December, 1984.

SALOMON BROTHERS.  An Analytical Record of Yields and Yield Spreads.  Salomon Brothers, New York, NY, 1986.

STOAKES, C.  "Eurodollar Deposits on Trial."  Euromoney, August, 1985.

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