After covering in my last post, the origin and characteristics of the Eurodollar market and some implications for cryptocurrency, I now proceed to write about the second part of Rene P. Higonnet’s paper.
Two interesting sections in the second part of the paper are about the motives of the central banks’ transactions in the Eurodollar market and the unpopularity of the position of those who advocate for regulation and supervision of the said market. The role of the New York money market in the formation of the Eurodollar market is not so relevant; it is just a matter of curiosity and a historical fact.
In this article, I aim to respond to the following questions:
What are the motives of the central banks in doing financial transactions in the Eurodollar market?
Why did the proponents of regulating the Eurodollar market fail?
What are the additional insights we can learn from the Eurodollar market relevant to cryptocurrency?
The Motives of Central Banks
The motives of the central banks are relevant because we may find similar patterns in cryptocurrency. I am thinking of the involvement of national governments, central banks, commercial banks, and venture capitalists in these motives.
The motives can be summarized as the profit motive, but Higonnet dissected it into five parts: yield, secrecy, liquidity, interest rate, and exchange rate motives.
The yield motive is described that the Eurocurrency market bringing “more attractive returns than gold or US Treasury bills” (p. 34.). This motive is more important to the central banks of developing countries than to the central banks of developed countries.
The secrecy motive is about a “large and untractable balance of payments deficit” and quiet transactions in foreign exchange and gold (ibid.).
The liquidity motive pertains to the expansion of credit that central banks intended to do but are worried about the impact of their action on official reserves. To avoid that risk, they prefer to borrow from the Eurocurrency market and will issue those dollars as additional reserves to the banks to expand credit.
Since I think the other two motives are not so important to cryptocurrency, I decided to just skip them.
The Unpopularity of Regulation
In concluding his paper, Higonnet admits that he did not attempt to cover all aspects of the Eurodollar market. His primary concern is to introduce reform in three areas: accounting practices, regulation of foreign lending, and supervision of all offshore centers. He suggested that this task should be given to “a committee of wise men” “selected from central bankers, commercial bankers, and economists” (p. 43).
However, as for Higonnet, the most difficult task is political rather than technical. The main issue is the control of the Euromarkets.
Higonnet’s observation confirms the idea that money has already been in private hands for so long. Tom Woods’ proposal of separation between money and state in his book Meltdown fails to distinguish between the legal tender law among nations and the control of the private sector of the Eurocurrency market. If his proposal refers to legal tender law, he has a point. However, his failure to mention the massive capital flowing into the Eurodollar market tells us that perhaps he doesn’t know about the existence of this market. This proves the insight I keep hearing from LeoFinance via @taskmaster4450 (if my interpretation of him is accurate) that a huge portion of the money supply has long been disconnected from the control of the State.
Another insight mentioned in the conclusion of the paper is about the Henry C. Wallich reserve requirement plan published in 1979. The proponent of the Wallich plan is convinced that the measures mentioned in it are badly needed to restore soundness in the Eurocurrency market. Unfortunately, the Wallich plan was not favorably accepted for the measures described in the plan were considered by the majority as “absurd” and “socialistic” (p. 46).
Instead of the Wallich plan, the majority argued based on an old resolution made by the Federal Legislative Committee of the American Banking Association (ABA). This resolution is “opposed to any plan looking to the mutual guarantee of deposits, either by a State or the Nation” on twelve grounds (pp. 46-47):
It is a function outside of State or National Government.
It is unsound in principle.
It is impractical and misleading.
It is revolutionary.
It is subversive to sound economics.
It will lower the standard of our present banking system.
It is productive and encourages bad banking.
It is a delusion that a tax upon the strong will prevent the failures of the weak.
It discredits honesty, ability, and conservatism.
A loss suffered by one bank jeopardizes all banks.
The public must eventually pay the tax.
It will cause and not avert panic.
Higonnet laments the unpopularity of his regulation proposal among his colleagues. He mentioned that there was only one banker who dared to defend the reserve requirements he is advocating. He named this banker “Schuette,” but the guy was shouted down.
Both Schuette and Higonnet were convinced that going on with the current practice in the Eurodollar market would certainly bring international financial disaster and that is why they were proposing to adopt available measures. And that exactly was his goal why he wrote his paper in the first place.
Insights for Cryptocurrency
In my previous article, I mentioned the fact that both the Eurodollar and cryptocurrency are indeed outside of the control of both national governments and central banks, the revolutionary character of the popular idea in cryptocurrency that every individual is his bank, and the financial qualities that cryptocurrency shares with the Eurodollar such as financial innovation and distribution of credit, and the ability of cryptocurrency to destabilize the traditional finance.
Among all the identified insights, I want to focus on the issue of regulation and supervision. But before I do that, let us take the motives aspect first and see their relevance to cryptocurrency.
Concepts of yield and liquidity are also popular in cryptocurrency. Perhaps the size and the application are different. In the Eurodollar market, they are far bigger and only established institutions such as the central banks are allowed to do such transactions. Nevertheless, regardless of size, money is involved. If central banks’ financial transactions in the Eurodollar market are considered acceptable having these motives, why then the regulators would find fault if individuals are involved in cryptocurrency with similar motives? Isn’t the search for more attractive returns for your money still within the sphere of personal liberty? How about the quest for credit expansion? Do central banks have an exclusive monopoly on this liquidity motive? Are private companies and individuals free to engage in legitimate transactions like this? Is there any law that prohibits them to engage in such activity?
As for the secrecy motive, anonymity is considered sacred in cryptocurrency. Yes, the two might not be the same, but for me the distinction is fluid. If central banks don’t like the public to know about their huge and quiet transactions, what is then the justification for the regulators wanting to know about the details of every financial transaction of individuals? Yes, malicious actors can take advantage of such anonymity, and yet it is not enough as a basis to end it. Again, I suspect that those who are pushing for it are just looking for another excuse for control and regulation. It is not us that need the kind of transparency they want to impose, but the politically well-connected for they are the ones notorious for fraudulent activities. Furthermore, just like that recent issue demonizing crypto transactions based on 0.15% illicit activity, that again is a distortion of facts to advance a particular agenda. The proponents of crypto regulation are taking for granted the 99.85% legitimate transactions as if the 0.15% unlawful activity is the whole thing about crypto.
Focusing on the issue of regulation, every time I hear any financial authority speaking about “reform,” I cringe. Again, this reminds me of an old modus operandi like the report in this news article that I just read this morning about David Malpass, the President of World Bank. The guy is now selling the global recession and stagflation narrative to introduce his ideas of reform "in fiscal, monetary, climate and debt policy." Nothing new! He is using the usual excuses such as capital misallocation and global inequality to introduce more regulation.
In Higonnet’s experience, his regulation and supervision proposal has been received unfavorably by international financial authorities. If they cannot come up with such a consensus concerning the regulation of a very old market such as the Eurodollar, how come those “wiser” than them think they can regulate cryptocurrency?
Yes, I acknowledge that the regulators in cryptocurrency are of a different breed than the regulators in the Eurodollar. Perhaps, the reason why such an attempt has not been successful in the Eurodollar market is because of the resistance of powerful financial authorities.
Do we have similar powerful financial personalities to defend cryptocurrency? Perhaps not. I suspect that in the case of cryptocurrencies, those who will be affected, which include not only national governments and central banks, but also commercial banks are the ones pushing this regulation thing. I am really curious if they will be successful in this regulation fight for the technology that supports cryptocurrency has been created and has the potential to shift power away from regulators back to the people.
Grace and peace!
Reference:
Paolo Savona and George Sutija, editors. 1985. Eurodollars and International Banking, England: Macmillan Publishers Ltd.
