Asian Dollar Market

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2.3 Specificities of Singapore’s financial cluster

Singapore’s Financial Cluster has been able to develop through the cultivation of three specific factor conditions, the Asian Dollar Market, the Banking Act, and the Trust Companies Act.

2.3.1 Asian Dollar Market

Singapore has long been a central nod for traders in Asia. In the mid-1960’s Singaporean banks recognized the opportunity that laid in attracting USD denominated funds from merchants from all over Asia.

Generally speaking the Asian Dollar Market refers to the pool of money held in a currency that is not the official one of the country (similarly to the Eurodollar market).

In 1968, Singapore won the bid to open the Asian Dollar market against Hong Kong and Tokyo, and it became operational in 1971. This development has been beneficial, it attracted the headquarters of many multinational companies in Singapore (Kuah, 2008). This inflow of foreign companies has in return further strengthened the local financial cluster, as multinational companies need wholesale banking services.

Ever since its creation, the Singaporean government has done all it could to make the Asian Dollar Market the central part of its financial market. Thus it has created many tax rebates and incentives to make it more appealing for banks to get involved in it (Lee, 1986, p. 98).

In 2012, lending in the Asian Dollar Market grew by 7.4%, especially for those loans denominated in East Asian currencies, thus reflecting the ever-growing emergence of China and the ASEAN as key economic partners for the city-state (Monetary Authority of Singapore, 2013a, p. 34). Furthermore, the sector still has huge prospects following the creation of Singapore’s RMB offshore market in 2013.

2.3.1.1 Asian Currency Units

Asian Currency Units (ACUs) are quintessential of the Asian Dollar Market.

This category of assets designates the account where all the foreign currencies of a bank are held. Bank of America, the first bank involved in the Asian Dollar Market, made their first use of ACUs in 1968 (Tee, 2003).

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The separate accounting system that is required to handle ACUs is designed to prevent any risk contagion that a crisis could have on domestic banks. ACU deposits are mostly denominated in USD, Euro, Yen, British Sterling, and Swiss franc. All assets denominated in SGD are categorized as Domestic Banking Units (DBUs), and also require a dedicated accounting record (Jin, 2005, p. 212). The popularity of ACUs has been undeniable since its launch (cf. Table 4).

Even though the Asian financial crisis impacted the number of banks involved in ACUs, their number has stabilized since 2006 at around 140 banks. Yet, it has so far not been able to reach its pre-crisis level of 224 banks in 1997.

However, the overall amount of ACUs’ assets/liabilities expressed in USD has increased sharply, from 557.19 billion in 1997 to 1.09 trillion in 2012, almost doubling in 15 years. As the number of banks handling ACUs has decreased over time, it means that each bank handles more of it than ever. In 1997, one bank handled on average 2.49 billion USD worth of ACUs, this jumped to a whooping 6.63 billion USD in 2012, a phenomenal increase of 266% in 15 years.

This sharp rise can be easily explained by rules that are less strict for ACUs than for DBUs. There is no cash reserve needed when handling ACUs, a sharp contrast with DBUs that require a minimum of 3%. Furthermore, the profits earned from ACUs are only taxed at 10% (Jin, 2005, p. 213).

All in all, we can see that ACUs have been a key component of the

development of Singapore as an offshore banking center, increasing the capability of local and foreign banks to lend money to multinational enterprises.

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Popularity of ACUs from 1997 to 2014

Source: Monetary Authority of Singapore, 2001a, p. 88; Monetary Authority of Singapore, 2005, p. 136; Monetary Authority of Singapore, 2009, p. 106; Monetary Authority of Singapore, 2013a, p. 108.

224 226 205 195 184 169 164 160 153 151 154 158 161 162 163 165 2,487

ACU assets/liabilities per bank (USD, in million)

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2.3.1.2 Asian Dollar Bond Market

The Asian Dollar Bond Market (ADB) refers to the debt market non-denominated in SGD. Even though since 1998 foreigners have been allowed to invest in the Singapore Dollar Corporate Bond Market (SDCB), incentives to invest in the ADB have remained far greater.

After the 1997 Asian financial crisis many companies faced liquidities shortage ensued from the collapse of the overseas short-term lending system.

Singapore saw an opportunity there. Southeast Asian companies needed to find means to recapitalize; the bond market that provides long-term financing options was therefore promoted in the region as a solution for cash-strapped companies. Thus, the MAS mimicked the strategy adopted decades before by Switzerland to become a regional bond center in Europe.

In order to ensure that the Asian Dollar Bond Market is attractive, the Singaporean government and the MAS have had to optimize the SDCB as well. A set of measures was launched overtime. 10-year, 15-year, and 30-year government bonds were successfully introduced in respectively 1998, 2001, and 2012, in order to allow corporate bonds’ issuers to use the SDCB as their benchmark. In 2000, the MAS also launched a new policy lifting most of the rules that made it hard for foreigners to issue bonds denominated in SGD. In 2001, the Singapore Exchange (SGX) was also used to increase the liquidity of the bond market; through the launch of futures contracts¹⁴ linked to the 5-year government bonds. All these measures had the common goal of improving the benchmark system (Jin, 2005).

Those moves were particularly needed, as the Singaporean government is virtually debt free, the only reason for Singapore to auction State bonds is to allow the domestic bond market to reach a critical mass¹⁵. Otherwise, the Republic of Singapore would not require to issue bonds.

14 Futures contracts are contracts made between two parties, and chiefly aim at reducing risks originating from price volatility. As prices of commodities for instance can be extremely volatile, two entities can agree on a preset price for the purchase of a good. Consequently purchasers and producers can make prices more predictable, and plan ahead in the future. Many also use it to make profits, thus betting on the rise or fall in asset value of the traded goods, and sell the futures contract when a profit is foreseeable; thereby they never plan to physically purchase goods.

15 Critical mass refers to the concept that when there is an adequate number of users or customers for a product, the market will carry on growing by itself. When a market reaches its critical mass it should attain self-sustainability without having to invest much more in its development.

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While the MAS has done all it could to increase the issuing of corporate bonds over time, it has however suffered heavily from the explosion of the 2000 Dotcom bubble¹⁶, and the 2008 financial crisis¹⁷. Table 5, shows how sensitive this market is

16 The Dotcom bubble refers to the years from 1997 to 2000 during which stocks related to the Internet sector saw their value skyrocket. However, as there were no pre-established business models (the Internet being a new technology), the value of those stocks was based on potential success and profits.

As a consequence stock pricing was no longer linked to earnings and growth. In 2000, the market strongly fell after many companies failed to keep their promises, thus stock markets crashed in most developed countries, often losing more than half of their value.

17 The 2008 financial crisis refers to the financial chaos that followed the default of Lehman Brothers Bank. The crisis originated from careless lending to aspiring American homeowners through

‘subprime’ loans. The borrowers often did not meet minimal risk requirements, however as the loans were processed by financial engineers and repackaged in investment vehicles ‘collateralized debt obligations’, the risk was spread all over the world. When interest rates rose in 2007/2008, many borrowers were unable to repay their loans; many financial institutions were hardly hit. However the situation reached a point of no-return when the US government refused to come to the rescue of Lehman Brothers, and let it default in 2008. Panic spread all over the globe, stock markets plummeted,

$1.7 $5.2 $10.3

1997 1999 2001 2003 2005 2007 2009 2011

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to any international crisis, and therefore volatile, for instance in 2008 it witnessed a three-fold decrease in comparison to the previous year.

Therefore the MAS is intensively looking forward to diversifying the origin of companies that are willing to issue bonds. China, India, and the ASEAN are natural markets where Singapore is interested to tap into. Yet, until today, more than 90% of non-SGD corporate bonds have been issued in USD, making the local market extremely sensitive to a crisis originating from the USA (Jin, 2005).

In order to lower the current volatility, the MAS launched in 2013 the

“Singapore Dollar corporate bond securities lending facility”, which will aim at centralizing the trade of corporate bonds, in order to ensure that the liquidity of the SGD and non-SGD primary and secondary market is optimal. This move was also accompanied by the creation of the SGD corporate bond index that aims at improving the benchmark system (Monetary Authority of Singapore, 2013d).

2.3.2 The Banking Act and the Trust Companies Act: guarantors of