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SURGE IN BANK LENDING, BUT NOT TO DEVELOPING WORLD

According to the Bank for International Settlements' Quarterly Review, there was a resurgence in the international banking market in the first quarter of 2000, but this however, was confined to interbank movements in developed countries and did not extend to developing countries.

by Chakravarthi Raghavan


Geneva, 28 August 2000 -- There was a resurgence in the international banking market in the first quarter of 2000, but this was confined to interbank movements in developed countries and did not extend to developing countries, according to the Quarterly Review by the Bank for International Settlements (BIS).

For developing countries, the securities markets continued to be by far the most important source of debt finance.

In the first quarter of 2000, international banks further reduced their overall exposure to developing countries, albeit at a slower pace than in 1998-99 (when they withdrew precipitously).

Investment in developing-country securities at $7 billion, the largest since mid-1987, was more than offset by a $9 billion reduction in loans.

Much of the reduction was due to decline in lending by US banks to Middle East borrowers. In Latin America, new loans roughly offset repayments, while in Asia, bank lending turned slightly positive after ten consecutive quarters of repayments.

Korea was the largest developing-country borrower in Asia in the first quarter, while for most other Asian countries, repayments continued to exceed new loans.

In the overview of global financial developments, the BIS has cautioned against widespread use of the growing approach to estimating credit risk, based on treating equity as an option on a firm’s assets.

Such an approach, the BIS comments in the latest issue of the BIS Quarterly Review of International Banking and Financial Market Developments, could potentially increase the sensitivity of credit spreads to a sharp correction in equity prices, if such an adjustment were to occur.

In the second quarter of this year, BIS notes that during April and May fears of a prolonged period of monetary tightening and a possible hard landing contributed to equity market declines in the US and Europe, a further widening of swap and credit spreads and a general aversion to risk.

But in June, the US stock markets led a rally in global equity and fixed income markets on signs that were interpreted as weakening the case for further tightening by the Federal Reserve. This swing in sentiment turned on a few data releases suggesting that US economic growth was slowing to a more sustainable pace.

The shifts and uncertainties in macro-economic expectations in recent months seemingly exerted more pronounced effects on stock markets than before, most notably in the US. In contrast to historical experience, on several occasions changes in expectations about the near-term course of US interest rates had a significant impact on equity markets, but a muted impact on fixed income markets. Moreover, price declines and increases in volatility in equity markets appeared to have greater influence on credit spreads than in the past.

This link between credit and equity markets seemed to arise in part from a growing use of an approach to estimating credit risk based on treating equity as an option on a firm’s assets. “Widespread use of such an approach could potentially increase the sensitivity of credit spreads to a sharp correction in equity prices, if such an adjustment were to occur.”

The report notes that financial markets in recent months have been more sensitive than usual to prospective actions by central banks. The future path of monetary policy in the US, the possibility of intervention to support the euro and the talk of ending the zero interest rate policy in Japan, all preoccupied market participants.

In the past, bond markets tended to be the first to reflect macro-economic developments with implications for monetary policy, while equity markets responded to movement in the yield curve.

Now, stock markets reacted more promptly and forcefully than bond markets to significant data releases. And with bond markets beset with liquidity problems, equity markets have increasingly been reacting in their own right rather than taking their signals from bond markets.

In the international banking sector, there has been a resurgence in the international banking market in the first quarter of 2000, driven by cross-border inter-bank transactions.

“Strong demand by the telecommunications sector in Europe for financing for mergers, acquisitions and bids for third generation mobile phone licences appear to have set in train a movement of funds from various banking centres around the world to Europe. This rechanneling process caused lending flows between banks in developed countries to surge to $321 billion during the first quarter, the highest level of activity in the interbank market since the fourth quarter of 1997. A portion of the funds was lent to non-bank borrowers - resulting in a near tripling of loans to non-bank borrowers in developed countries to US$65 billion.”

To meet the demand by borrowers in Europe, particularly by telecommunications firms, international banks rechannelled funds through various banking centres around the world, in the process causing interbank balance sheets to expand sharply.

The largest net inter-bank flows involved banking centres in the US, Switzerland, Hong Kong, Japan and the UK. Inter-bank funds appear to have been raised in New York and Hong Kong, passed on to Zurich and Tokyo, and pooled in London.

Some of the inter-bank fund raising took the form of a winding down of short-term inter-office claims on offshore centres by banks in the US and Japan. US banks received large repayments from their own offices in Bahamas - with a decrease of more than $20 billion in claims on that offshore centre. A $25 billion contraction in claims on Hong Kong and a $11 billion fall in claims on Singapore were largely due to further unwinding of Japanese banks ‘yen impact’ loans—yen funds lent to companies resident in Japan, but channelled via overseas branches of Japanese banks.

Repayments from emerging markets appear though to have bottomed out in the first quarter of 2000. These repayments had averaged $15 billion a quarter in 1999 and were down to $2.2 billion in first quarter of 2000.  There was a small resumption of lending to Asia, following 10 consecutive quarters of repayments. The fall in claims on developing countries was more than accounted for by a $6.7 billion reduction on Africa and Middle East, most of which were due to a reduction in US positions in Middle East.

The BIS' consolidated banking statistics show that Korean short-term debt to international banks has been rising again - to $39 billion or 58% of claims outstanding - after shrinking to $30 billion at the end of 1998. Although, a higher ratio than the average for Asian countries, this is still far below the peak of $71 billion at June 1997, or 68% of outstanding claims.

The biggest net reduction in banks’ claims were reported vis-a-vis Indonesia, $1.5 billion, and India, $1.1 billion.-SUNS4728

The above article first appeared in the South-North Development Monitor (SUNS) of which Chakravarthi Raghavan is the Chief Editor.

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