AN ANALYSIS OF THE SUPPLY OF EURO‐CURRENCY FINANCE TO DEVELOPING COUNTRIES
| Author | ISHAN KAPUR |
| DOI | http://doi.org/10.1111/j.1468-0084.1977.mp39003001.x |
| Date | 01 August 1977 |
| Published date | 01 August 1977 |
OXFORD BULLETIN
of
ECONOMICS and STATISTICS
AN ANALYSIS OF THE SUPPLY OF EURO-CURRENCY
FINANCE TO DEVELOPING COUNTRIES
By ISHAN KAPUR*
I. INTRODUCTION AND SUMMARY
Since the emergence and rapid growth of the Euro-currency market during the
1960's, there have been a number of studies and investigations into its origins,
structure, operation and impact upon the economies of industrial countries within
which the market exists.' There have been, in addition, a few studies of the
reasons behind the demand for Euro-currency finance by private international cor-
porations and governments of industrial countries. Analytical work on trans-
actions of developing countries in the Euro-currency market has been scarce, and
the few notable studies that have been made deal in one way or another almost
exclusively with the demand for Euro-currency funds.
There exist serious lacunae in our knowledge of the considerations underlying
the supply of Euro-currency finance to developing countries. The reasons for this
deficiency are not hard to find. It has been, until fairly recently, difficult to obtain
reliable data on the magnitude and share of Euro-currency finance going to specific
countries. In addition, given the confidential nature of the transactions involved,
international bankers are reluctant to reveal the assumptions and factors that
determine the flow of such finance to individual countries.
* The author is particularly grateful to Professors ROnald Findlay and Stanislaw Wellisz,
and to Richard Williams, Claudio Loser, and Carlos Emanuel for their comments and assistance.
The opinions expressed in the paper in no way represent the views of the International Monetary
Fund, and the responsibility for any errors is, of course, entirely the author's.
'See, among others, Altman, O,, 'Foreign Markets for Dollars, Sterling, and Other Curren-
cies', ¡MF Staff Papers, Vol. VHI, No. 3, (December 1961); Hewson, John and Sakakibara,
Elsuke, The Euro-currency Markets and Their Implications, (Lexington, Mass., D. C. Heath,
Lexington Books, 1975); Friedman, Milton, 'The Euro-Dollar Market: Some First Principles',
The Morgan Guaranty Survey, (October 1969), pp. 4-14; Swoboda, Alexander, 'The Euro-Dollar
Market: An Interpretation', Essays In International Finance, No. 64, (Princeton University,
February 1968); Prochnow, H., The Euro-Dollar Market, (ed.), (Rand-McNally, Chicago, 1970);
McClam, Warren, 'Credit Substitution and the Euro-currency Market', Banca Nazionale del
Lavoro Quarterly Review, No. 25, (December 1972), pp. 323-363; Crockett, Andrew, 'The Euro-
Currency Market: An Attempt to Clarify Some Basic Issues', ¡MF Staff Papers, Vol. XXIII,
No. 2, (July 1976).
Volume 39 August 1977 No. 3
172 BULLETIN
This paper presents a hypothesis on the factors underlying the supply of Euro-
currency finance to developing countries, in particular with respect to the differen-
ces in the supply of Euro-currency loans going to different countries. The
hypothesis is that banks exercise credit rationing based on assessments of borrower
creditworthiness. The behavioral relationships are tested through cross-section
regressions on actual borrowings from the London Euro-market by 25 developing
countries. The specific characteristics of the Euro-currency market and the insti-
tutional background are described in Section II. Section III presents the broad
analytical framework and the basic hypothesis. Finally, the results of the em-
pirical testing of the hypothesis are discussed in Section IV.
The results of the cross-section analysis may be summarized briefly as follows:
In a highly competitive market, such as the Euro-currency market, in the absence
of the ability to perfectly discriminate among borrowers through the cost of funds,
bankers allocate funds to external borrowers on the basis of quantity rationing.
The amounts rationed, expressed as maximum commitment or exposure levels, are
dependent upon perceptions of relative creditworthiness of borrowers. Abstracting
from political or institutional considerations, there may be four or five major
indicators of economic performance that are taken into consideration. In broad
terms, these indicators appear to be the current level and expected growth of
exports, the overall growth performance of the economy and the projected change
in debt-service relative to export receipts. The existing level of bank commitment
to the borrower (exposure) is another significant factor underlying lending deci-
sions. It is probable, of course, that there are other factors specific to each borrower
that will influence decisions taken by bankers on proposed lending. One such
factor would be the extent of a bank's involvement in, and a favourable historical
relationship with, a particular borrowing country. The usefulness of the analysis
contained in this paper is indicative rather than definite. The availability of
considerably more information and further work are needed before concrete con-
clusions can be drawn about this highly complex subject.
II. THE EURO-MARKETS AND DEVELOPING COUNTRIES: BACKGROUND
Until about 1970, governments of developing countries with severe balance of
payments deficits or chronic shortages of developmental capital had few potential
sources of private finance; domestic private corporations in those countries can be
said to have had access to even fewer sources of private foreign loan capital.
Suppliers and trade credits for financing exports from industrial countries were a
major source of private finance to both public and private entities in developing
countries, but these frequently were provided under the umbrella of export credit
insurance agencies in the exporting countries. Additionally, there were occasional
cases of large scale direct lending, particularly to a few countries in Latin America
by a few US banks in support of stabilization programs undertaken by the author-
ities in those countries; such credits were provided to the monetary authorities or
governments in those instances. Access by developing countries to foreign bond
markets was quite limited and in the case of private entities in those countries,
essentially non-existent.
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