Asian dollar market - the early days

ON June 30, Singapore announced that banks in the city state will no longer be required to segregate their domestic and offshore operations for accounting purposes.

Previously, they were required to register their domestic banking units (DBU) and Asian Currency Units (ACU) as separate accounting entities.

The DBU of a bank holds its domestically focused operations denominated in Singapore dollars, while the ACU holds its offshore operations entirely denominated in foreign currency.

The divide was intended to safeguard Singapore’s domestic market without unduly affecting regional activity of banks in the city state.

The separation between DBU and ACU was implemented when Singapore introduced the Asian Dollar Market, a market in which US dollars and other foreign currencies are transacted. The divide required banks to set up the ACU to book their Asian Dollar Market operations and other foreign currency transactions.

Banks book their domestically focused operations, primarily denominated in Singapore dollars, in the DBU.

The divide served Singapore well for decades but is losing its relevance given major regulatory developments in the last five years that have resulted in banks’ offshore activities being subject to rules which are broadly similar to those governing domestic banking in Singapore.

What exactly is the Asian Dollar Market?

Since 1968, foreign and local banks in Singapore developed a market in Euro dollars, although referred to as an Asian Dollar Market, it is essentially an Asian-based market, given its geographical context.

The Asian Dollar Market is a US dollar- denominated deposit liabilities outside the United States.

A key factor that drove the growth of Singapore’s Asian Dollar Market, has been the maintenance of free markets or the near absence of inhibiting controls on domestic and international transactions. Or in other words, the free flow of capital.

One of the first bank that initiated the move to set up an Asian Dollar Market was the city state’s branch of Bank of America.

In the spring of 1968, proposals were made to establish a new and separate department that would be licensed to accept non-resident foreign currency deposits, to pool the funds that were obtained and to lend these funds to non-resident corporate and individual borrowers.

The proposal was accepted by the Singapore government and with necessary administrative initiatives, licensed the Bank of America to establish an Asian Currency Unit (ACU). ACU is the formal name used by the Singapore Monetary Authority for convertible foreign currency deposit accounts maintained by the Asian Dollar Banks. Banks maintaining these accounts are referred to as ACU banks.

It was stipulated then that all ACU transactions should be recorded in the bank’s special ACU accounts and it should be kept separate from the bank’s other transactions.

Additional rules included the head office of any ACU bank being required to provide the Monetary Authority of Singapore with a commitment that it will make up for any shortfall in liquidity suffered by the ACU bank.

In October 1968, operations began, and in October 1969, the Singapore branch of Chartered Bank established an ACU account as more banks followed suit, which included First National City Bank of New York, Bank of Tokyo and the Hong Kong and Shanghai Banking Corporation.

During the formative years of the Asian Dollar Market, 90% of foreign currency deposits consisted of the US Dollar with the remainder being mainly in Swiss francs, Deutsche mark, the yen and Dutch guilders.

Common maturity period of deposits in ACU accounts were usually between one to three months.

Interest rates paid on ACU deposits then were not subject to any legal ceilings and were allowed to fluctuate freely.

Interest rates paid in the city state were determined by interest rates paid on Euro dollars in London and Continental Europe, with interest rates reflecting interplay of market forces.

Fluctuations were narrow during Asian trading hours but activity picked up when London and Europe opened.

Differences in interest rates between the Euro Dollar Market and Asian Dollar market were quickly arbitraged and interest rates were equalised at whatever levels the Euro Dollar market dictated.

The mechanism of the equalisation simply followed rules based on the worth of the US dollar and other foreign currencies during Asian trading hours vis-a-vis its worth during London/European trading hours.

Which tells us even in current times, why the US dollar and most other global currencies quickly alter their values when trading sessions shift between each major financial centre.

Looking through the pages of the past, the establishment of an Asian Dollar Market has to a large extent defined foreign exchange operations in Asia and continues to this very day as a vital cog for the smooth functioning of currency markets in Asia.

Dr Suresh Ramanathan is an independent interest rate and foreign exchange strategist who has spent 20 years in several onshore and offshore financial institutions. He can be contacted at [e-mail]