Robert Z. Aliber

The integration of the offshore and domestic banking system

Abstract The thesis of this article is that offshore banks are branches of the major U.S., British, Swiss, German, Japanese, etc., banks situated in ‘monetary havens’ jurisdictions in which they are subject to minimal regulation, especially to requirements that they must hold non-interest bearing reserves against their deposits. Each bank determines the maximum interest rate to pay on offshore deposits as a function of the maximum interest rate on domestic deposits and the implicit tax on reserve requirements. The more rapid growth of offshore deposits than of domestic deposits during the last several decades reflects two factors — the implicit tax on domestic deposits has increased with the upward movement in interest rates and investor assessment of the risk associated with external deposits has decreased. The effective reserve requirement applicable to each bank is the weighted average of requirements applied to its domestic deposits and to its offshore deposits. Because offshore deposits have grown more rapidly than domestic deposits, the effective reserve requirement has decreased: the fractional reserve multiplier has increased. Because the growth of offshore deposits to domestic deposits appears highly variable, the effectiveness of monetary control has declined.

The Firm under Pegged and Floating Exchange Rates

This article seeks to answer the question about the impact of floating exchange rates on international trade and investment by comparing the costs and risks encountered by traders under floating rates with those under pegged rates. Data indicate that transactions costs are five to ten times higher under floating rates, with the larger increases associated with the more volatile currencies. Exchange risk is measured under the two exchange rate systems by comparing the mean forecast errors between the forward rate and the spot rate at the maturity of the forward contracts and the standard deviations of these forecast errors; both mean and standard deviation have increased by a factor of five to ten. Finally price risk, which involves variations in the domestic price of tradeables as a result of changes in exchange rates, is shown to be substantially higher under the floating rate system.

The reconstruction of international monetary arrangements

Notes on the Contributors - Introduction R.Z.Aliber - PART 1 THE RECENT PAST - The Evolving International Monetary System: Past Plans and Optimality H.G.Grubel - Unexpected Real Consequences of Floating Exchange Rates R.McCulloch - Toward a More Orderly Exchange Rate System J.R.Artus - The Wage and Price Adjustment Process in Six Large OECD Countries R.J.Gordon - Fixed Exchange Rates, Flexible Exchange Rates, or the Middle of the Road: A Re-examination of the Arguments in View of Recent Experience H.Genberg and A.K.Swoboda - PART 2 INTERNATIONAL RESERVES AND INTERNATIONAL MONEY - Internationally Managed Money Supply G.M.von Furstenberg - Changing Perceptions of International Money and International Reserves in the World Economy K.A.Chrystal - Gold: Does it Provide a Viable Basis for the Monetary System? R.N.Cooper - Gold in the International Monetary System: A Catalogue of the Options R.Z.Aliber - Gold Monetisation and Gold Discipline R.P.Flood and P.M.Garber - Gold in the Optimal Portfolio D.A.Hsieh and J.Huizinga - An Analysis of the Management of the Currency Composition of Reserve Assets and External Liabilities of Developing Countries M.P.Dooley - The Theory of the Lender of Last Resort and the Eurocurrency Markets J.R.Shafer - The Endogeneity of International Liquidity P.M.Oppenheimer - Index

Capital Flows, Exchange Rates, and the New International Financial Architecture: Six Financial Crises in Search of a Generic Explanation

Exchange-rate history can be divided into two periods: the Bretton Woods period and the period of floating exchange rates since the early 1970s. In this second period, financial crises and the roles played by institutions, rules, and commitments in international finance have been of central importance. Many proposals for changing the international financial architecture have been presented to reduce the likelihood of crises, but the source of the problem is in variable capital flows and the floating exchange-rate system. Based on six major financial crises of the last 25 years, the wide range in movements in the exchange rate, which might also be inferred from differences in national inflation rates, reflects changes in the ex-ante cross-border capital flows. As long as currencies are floating, economic conditions among countries are likely to be more variable and diverse: the greater variability in economic conditions suggests greater variability in capital flows. Copyright Kluwer Academic Publishers 2000

Gresham's Law, Asset Preferences, and the Demand for International Reserves

Introduction, 628. — I. The demand for international reserves under the gold exchange system, 630; adjustment to asset preferences, 630; crisis in the gold exchange standard, 631. — II. The demand for reserves in the IMF system, 631; attributes of reserve assets, 632; ranking of reserve assets, 633 adjustment to asset preferences, 634; changes in asset attributes, 636. — III. Conclusion, 638.

Anatomy of a Typical Crisis

For historians each event is unique. In contrast economists maintain that there are patterns in the data and particular events are likely to induce similar responses. History is particular; economics is general. The business cycle is a standard feature of market economies; increases in investment in plant and equipment lead to increases in household income and the rate of growth of national income. Macroeconomics focuses on the explanations for the cyclical variations in the rate of growth of national income relative to its long-run trend rate of growth.

The Future of International Commercial Banking

International commercial banking is a subset of commercial banking transactions or activities that involve some cross-border element. Three different types of activities can be distinguished. One type of activity involves a loan from a bank in one country to a borrower in some other country; or individuals residing in one country may acquire deposits from a bank in some other country. Within the last decade banks have become important intermediaries in international capital flows; and their loans have increased rapidly relative to direct portfolio flows. The second type of activity occurs when banks with their headquarters in one country sell deposits and buy loans through a branch or subsidiary located in some other country with the transactions denominated in the currency of the country in which these banks are based. The third type of activity occurs when the foreign branches or subsidiaries of banks based in particular countries sell deposits or buy loans denominated in the currencies of the countries in which they are located in competition with host country banks.

Euphoria and Economic Booms

Consider some of the tallest office buildings in the world. The Empire State Building in New York City was started in 1929. The Petronas Twin Towers in Kuala Lumpur were started in 1993. The Jailing Tower in the Pudong area of Shanghai was started in 1995. In the late 1980s it seemed like half of the building cranes used to construct tall structures were in Tokyo. By the mid-1990s many of these cranes had migrated to Shanghai and Beijing.

The Critical Stage — When the Bubble is About to Pop

The standard model of the sequence of events that leads to a banking crisis is that a shock triggers an economic expansion that morphs into an economic boom and then euphoria develops; the prices of securities and real estate increase rapidly, much more rapidly than GDP. Then there is a pause in the pace of these increases in the price of securities. A few savvy or lucky investors sell some of their securities to park their speculative gains in a secure store of value. The slowing of the increases in the prices of securities and real estate may induce a more cautious approach by others. Distress is likely to follow as the prices of securities begin to decline. The pattern is biological in its regularity. A panic is likely and then a crash may follow. Lord Overstone, the leading British banker of the middle of the nineteenth century, saw a similar pattern and was quoted with approval by Walter Bagehot: ‘quiescence, improvement, confidence, prosperity, excitement, overtrading, CONVULSION [sic], pressure, stagnation, ending in aquiesence’.1 Overstone identified five stages of euphoria before the financial crisis, or, in his words, the convulsion.

The Lessons of History

The last four hundred years have been replete with financial crises, which often followed increases in the supplies of credit, greater investor optimism, and more rapid economic growth. More and more individuals purchased securities and assets for short-term profits from the increases in their prices. Households became wealthier as the market prices of securities and assets increased, and consumption spending grew. Business firms became more upbeat and invested more. The external indebtedness of many countries increased, and at a pace that was too rapid to be sustainable. The domestic counterpart of the rapid increase in the external indebtedness was that the domestic indebtedness of a group of borrowers in these countries increased at rates that eventually proved too rapid to be sustained. Economic booms followed and then euphoria developed. The increases in the supplies of credit led to sharp increases in the prices of securities and real estate to levels that proved too high to be sustainable.