eurobond

Usually, a Eurobond is issued by an international syndicate and categorized according to the currency in
which it is denominated. A Eurodollar bond that is denominated in U.S. dollars and issued in Japan by an
Australian company would be an example of a Eurobond. The Australian company in this example could
issue the Eurodollar bond in any country other than the U.S.

Eurobonds are attractive financing tools as they give issuers the flexibility to choose the country in which
to offer their bond according to the country's regulatory constraints. They may also denominate their
Eurobond in their preferred currency. Eurobonds are attractive to investors as they have small par
values and high liquidity.
The Eurocurrency Market
A Eurocurrency is any currency banked outside of its country of origin. Eurodollars, which account for
about two-thirds of all Eurocurrencies, are dollars banked outside of the United States. Other important
Eurocurrencies include the euro-yen, the euro-deutsche mark, the euro-franc, and the euro-pound. The
term Eurocurrency is actually a misnomer because a Eurocurrency can be created anywhere in the
world; the persistent euro- prefix reflects the European origin of the market. As we shall see, the
Eurocurrency market is an important, relatively low-cost source of funds for international businesses.
Attractions/Advantages of the Eurocurrency Market
The main factor that makes the Eurocurrency market so attractive to both depositors and borrowers is
its lack of government regulation. This allows banks to offer higher interest rates on Eurocurrency
deposits than on deposits made in the home currency, making Eurocurrency deposits attractive to those
who have cash to deposit. The lack of regulation also allows banks to charge borrowers a lower interest
rate for Eurocurrency borrowings than for borrowings in the home currency, making Eurocurrency loans
attractive for those who want to borrow money. In other words, the spread between the Eurocurrency
deposit rate and the Eurocurrency lending rate is less than the spread between the domestic deposit
and lending rates (see Figure 11.8). To understand why this is so, we must examine how government
regulations raise the costs of domestic banking.
For example, suppose a bank based in New York faces a 10 percent reserve requirement. According to
this requirement, if the bank receives a $100 deposit, it can lend out no more than $90 of that and it
must place the remaining $10 in a non-interest-bearing account at a Federal Reserve Bank. Suppose the
bank has annual operating costs of $1 per $100 of deposits and that it charges 10 percent interest on
loans. The highest interest the New York bank can offer its depositors and still cover its costs is 8 percent
per year. Thus, the bank pays the owner of the $100 deposit (0.08 * $100 =) $8, earns (0.10 * $90 =) $9
on the fraction of the deposit it is allowed to lend, and just covers its operating costs.
In contrast, a euro bank can offer a higher interest rate on dollar deposits and still cover its costs. The
euro bank, with no reserve requirements regarding dollar deposits, can lend out all of a $100 deposit.
Therefore, it can earn 0.10 * $100 = $10 at a loan rate of 10 percent. If the euro bank has the same
operating costs as the New York bank ($1 per $100 deposit), it can pay its depositors an interest rate of
9 percent, a full percentage point higher than that paid by the New York bank, and still covers its costs.
That is, it can pay out 0.09 * $100 = $9 to its depositor, receive $10 from the borrower, and be left with
$1 to cover operating costs. Alternatively, the euro bank might pay the depositor 8.5 percent (which is
still above the rate paid by the New York bank), charge borrowers 9.5 percent (still less than the New
York bank charges), and cover its operating costs even better. Thus, the euro bank has a competitive
advantage vis--vis the New York bank in both its deposit rate and its loan rate.
Clearly, there are very strong financial motivations for companies to use the Eurocurrency market. By
doing so, they receive a higher interest rate on deposits and pay less for loans. Given this, the surprising
thing is not that the euro market has grown rapidly but that it hasn't grown even faster. Why do any
depositors hold deposits in their home currency when they could get better yields in the Eurocurrency
market?