Saturday, December 22, 2018
Earlier this week, the Bank for International Settlements – an international financial institution in Basel, Switzerland, created in 1930 and owned by 60 global central banks – released its Quarterly Review of international banking and financial market developments. Several “special features” (articles) follow a sobering discussion of conditions in today’s global financial markets aptly titled: “Yet more bumps on the path to normal.” In this post, I focus on the article, The growing footprint of EME banks in the international banking system (Growing Footprint), and comment upon its links to another, The geography of dollar funding of non-US banks (Dollar Funding) (note my admirable restraint in choosing not to discuss Clearing risks in OTC derivatives markets: the CCP-bank nexus).
Emerging market economy (EME) banks are much more on the move these days than advanced economy (AE) banks when it comes to growth in cross-border lending activity. Indeed, the expanding footprint in the global banking system of banks headquartered in EMEs mirrors the increased contribution of EMEs to global GDP (now at 40%) and its growth (responsible for 2/3 in 2017). Key takeaways from Growing Footprint are: 1) a greater amount of EME banks' cross-border lending to EMEs transpires through their foreign affiliate banks rather than their headquarters; 2) interconnections and interdependencies among firms in EMEs and these EME foreign affiliate banks are on the rise and, in many cases, these banks provide more than half of total cross-border loan amounts to such firms and, in some cases, provide total loan amounts surpassing 25% of the EME firm country’s GDP; and 3) significant cross-border interbank liabilities exist among EME banks, with institutions in larger EMEs being net borrowers on average from banks in smaller EMEs.
Takeaway #1 presents a bit of a puzzle. The pattern is actually the reverse in the case of advanced economy (AE) banks, whose cross-border lending to EMEs tends to be booked from their home office. However, this difference disappears with cross-border borrowers in AEs, whose loans tend to be booked from a bank’s home office whether in an EME or AE. Thoughts, Readers?
Also notable is that EME banks extend the majority of cross-border dollar lending to non-banks in about 60% of the EMEs in Africa and Asia, and in about 50% of emerging European countries. It is unclear to me whether this is long-term or short-term dollar borrowing. However, either could be potentially problematic. If long-term, adverse currency movements could impact a poorly-hedged borrower’s repayment ability. If short-term, any future overseas dollar funding shortages such as happened in the financial crisis could impact global financial market stability. Indeed, Dollar Funding reports that: “US dollar liabilities of non-US banks grew after the Great Financial Crisis (GFC). At end-June 2018, they stood at $12.8 trillion ($14.0 trillion including net off-balance sheet positions) – as large as at the peak of the GFC.” And guess what?? The authors talk about their findings in a YouTube video (as a side note, I’d love more clips like this)!
Most readers are likely aware of TARP, a $700 billion dollar U.S. government response to the 2008 financial crisis. However, fewer are likely aware of the Federal Reserve’s central bank swap lines, which were used to lend $583 billion dollars to 14 foreign central banks during this period because of risks to global financial market stability due to overseas dollar funding shortages. Legal academics have focused scant attention on this general area. But with numbers like those reported in Dollar Funding, perhaps it’s time to reverse this trend.