Interest Rates in the $Eurobond Market

Since the early 1960's the European capital market has witnessed rapid growth as a source of short- and long-term dollar denominated funds to international borrowers and as an alternative investment area to potential lenders. While considerable work has analyzed the determinants of short-term dollar denominated Eurorates (Eurodollar yields), less work has concentrated on the determinants of long-term dollar denominated ($Eurobond) yields. In addition, work on the determinants of long-term $Eurobond rates has been conducted on data derived from periods of fixed exchange rates and capital controls and may not be applicable to periods of post-capital controls or floating exchange rates. Theoretically, there should exist a strong relationship between yield levels and yield changes in domestic and foreign securities under a fixed exchange rate system. Under a floating exchange rate system, however, domestic yield levels may move independently of foreign yields with the exchange rate adjusting price differentials. In addition, in a period of capital controls, the $Eurobond market and U.S. bond market may not necessarily be regarded as competing segments of a larger market or dollar denominated financial assets. The existence of a floating rate exchange system and the removal of U.S. capital controls may have, therefore, affected the relative behavior of $Eurobond, U.S., and foreign security yields. While previous studies have analyzed $Eurobond yields under fixed exchange rates and capital controls, in this paper we also have analyzed $Eurobond yields under floating rates and post-capital controls.