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You Can't Become Rich In Your Pocket Until You Become Rich In Your Mind | ||||
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What are Eurodollars?The Expatriate Dollar: The Eurodollar [G]roup sensitivity . . . This sense is seen when you watch a flight of birds, pigeons are particularly good examples. The flight, moving in one direction, turns, all together, and changes direction. The movement is not made by one bird who acts as a leader but simultaneously by all the birds in the flight. R. GRAVES THE UNITED STATES HAS HAD, for decades, the lowest personal savings rate of any of the industrial nations. It is but a slight overstatement to assert that in the post-Cold War era, saving is the only remaining unAmerican activity. On the surface, this is remarkable, because Americans do not have government pension schemes as generous as those enjoyed by citizens of most leading industrial nations, and health care is primarily provided by private plans rather than by government programs. It is not that Americans dont put money aside for rainy days, although they do it less than people in any other advanced economy. They dont save, because they find it so easy to borrow. The U.S. economy is built on readily availableand astonishingly flexi bleconsumer credit. America is justly proud of having the highest percentage homeowner rate among the leading nations. That didnt just happen. It was driven by (1) giving homeowners full income tax deductibility for mortgage interest, and (2) the development of unique mortgages. In the United States, homeowners can borrow up to 80 percent (and sometimes more) of the value of their homes with fixed-rate mortgages for 15 and 30 years. And those mortgages can be repaid in whole or in part at any time, without notice, and at no cost (except, in the event of full prepayment, modest service charges). If that were not enough, American banks developed another taxdeductible productthe home equity loana second mortgage, at a rate usually below prime, which, depending on the aggressiveness of the lender, can inflate the indebtedness beyond the full market value of the home. But theres more. Americans were the pioneers in the development of painless automobile financingthrough loans and leases. Americans pioneered the credit card loan, whereby offerings of (initially) cheap funds come through the mail, with seemingly little or no credit checking on the part of the card issuer. To take an example, one of my clients, a sophisticated institutional investor, has a credit card in the name of his dog. He uses that card, whose credit line he capped at $500 (but only after mail arguments with the bank, who wanted the dog to have a far higher line), to make Internet purchases, having heard horror stories about what happened to peoples credit when they made Web purchases on their credit cards. A further example: A New Orleans bank that had suffered heavily from credit card losses retained consultants to analyze their experience so they could fine-tune their future card offerings. They learned that their default rate was almost zero when the cardholder had lived at the same address for more than five years. So they assembled the data on southern Louisiana and then mailed out credit card offeringswith generous credit linesto people who fit that description. Thus it was that the mail brought an offer from the good ol folks at their friendly bank to all long-term inmates at the local prisons (some of whom were doubtless there for having robbed that bank). The unanimous acceptance rate dazzled the bankers. Where does all the money come from to finance the federal deficit, the Current Account deficit, U.S. home mortgages and home equity loans, U.S. corporate debts, car loans and leases, credit card borrowings, brokers margin accounts, and all the other ways Americans manage to go deeper into debt each passing day if American savers dont provide it? The nation of grasshoppers has been sustained by the nations of thrifty, industrious ants abroad. Foreign savings have made up the U.S. savings deficit as well as the Current Account deficit (which is mostly the trade deficit), an outflow that moved steadily up during the 1990s, exceeding $1.2 billion per working day as the old millennium went. Foreignersparticularly foreign central bankshave long been heavy buyers of Treasury bonds and bills. In recent decades, they also became big buyers of corporate bonds. During the 1990s, foreigners eager to invest in dollar-denominated securities got hooked on the allurements of mortgage-backed securities issued by Fannie Mae and Freddie Mac. Why did Europeansled by the thrifty Germanssuddenly take to these instruments? Because they were marketed by investment banks and dealers as having a government guarantee. In fact, that is not legally true, and Alan Greenspan got very upset when his European central banker colleagues inquired about the big surge in U.S. mortgage sales. Thrifty foreigners supported the dollarand thereby the American borrowing bingeby: rates, with a particularly great appetite for telecom bonds 3. By continuing to load up on eurodollars It was this seemingly insatiable appetite for eurodollars that was the most important foreign contribution to the American Way of Debt. What are Eurodollars? They are American dollars deposited in banks outside the United States. They can beand most certainly areloaned back into the U.S. financial system, but they are resident abroad. They can be demand deposits or, more commonly, are loaned for weeks, or months, or, in some cases, years. That means the money loaned into the U.S. banking system can be recalled at any time the deposits mature. Where Did They Come from Originally? All eurodollars started off as ordinary American dollars. They went abroad and stayed abroad because they were spent abroad to buy foreign-made goods, or by American tourists, or by drug dealers and other underworld characters who wanted to keep their money outside the purview of American authorities. The interest paid on those deposits also accumulated abroad, so that what used to be a few billion dollars became trillions of dollars. Because they have been for many years the primary source of global financial liquidity, eurodollars are naturally subject to trade in the financial futures markets. The primary place theyre traded is a few blocks from my office at the Chicago Mercantile Exchange, where the basic futures contractfor 1 million eurodollarsis the most active and important term financial futures contract in the world. By the late 1990s those elusive, ubiquitous, largely tax-exempt dollars were being repatriated heavily into the U.S. banking system to make up for the modest growth in bank deposits. By the end of the century, the U.S. banking system was growing its loan portfolio nearly twice as fast as it was growing its depositsa feat of financial prestidigitation possible only by daily increases in repatriation of eurodollars from abroad. Long before the year 2000, eurodollarswhich are deposits not created, directly or even indirectly, by the Federal Reservehad become the worlds most important source of financing for banks and for dollardenominated bonds and financial derivatives traded globally. The good news for the American appetite for borrowingand for the growth of world trade, which the eurodollars financedwas that the eurodollars were so readily available. The potential bad news was the ever-present possibility that the foreign holders might decide not to roll over their deposits. If or when that happened, the U.S. financial system would have big, big problems. If it happened now, the crisis could be more acute than the financial system faced in 1987 when many foreign holders simultaneously decided to switch their investment from eurodollars into other eurocurrencies or other assets denominated in other currencies. |
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