2012

Top Stories: International

Know Your Basics:

Domestic Liability Dollarization

Golden Share
Know Your Basics:

FIN-O-PEDIA
Lets Talk FINANCE!!

A SIMSREE Finance Forum Initiative | Issue 29

SYDENHAM INSTITUTE OF MANAGEMENT STUDIES, RESEARCH & ENTREPRENEURSHIP EDUCATION

Know Your Basics:

Domestic Liability Dollarization
Domestic liability dollarization (DLD) refers to the denomination of banking system deposits and lending in a currency other than that of the country in which they are held. It is important to note that DLD does not refer exclusively to denomination in US dollars, as DLD encompasses accounts denominated in internationally traded hard currencies such as the British pound sterling, the Swiss franc, the Japanese yen, and the Euro (and some of its predecessors, particularly the Deutschmark).

Measurement
In developed countries, DLD is defined as Bank for International Settlements reporting banks local asset positions in foreign currency as a share of GDP. In emerging-market economies (EMs), a proxy measure of DLD is constructed by summing dollar deposits and bank foreign borrowing as a share of GDP. This proxy is based on the assumption that banks match their assets and liabilities by currency type and transfer exchange rate risk to debtors. In other settings, DLD is defined as the share of foreign currency deposits over total deposits.

Determinants
A variety of causes have been proposed for DLD, some more widely accepted than others.[4] Causes often cited in the early literature on DLD, especially in Latin America, include high fiscal deficits, loose monetary policy and a history of inflation. In an economic environment characterized by these features, the domestic currency (often generically referred to as the peso) serves neither as a reliable medium of exchange nor a predictable store of value.

Implications
Researchers have attributed a variety of both positive and negative effects to DLD. The benefits are largely found at the household and firm levels in the short to medium term. These benefits include insurance against inflation and currency devaluation, as well as permitting long-term lending and borrowing through the use of a relatively stable currency. In contrast, the real or potential costs of DLD exist largely at the systemic level and over the long term. When DLD is widespread, economic actors are often required to experience a currency mismatch between domestically denominated income and dollar-denominated liabilities, which represent the only available means of long-term borrowing. Currency mismatches are a particular danger for firms and sectors in non-tradable goods and services. Countries with high levels of DLD, moreover, are often afflicted as well with Original Sin, a countrys inability to borrow in its own currency.

Policy Measures
Policy interventions to reduce DLD have taken a variety of recommended and actual forms and have met with varying degrees of success. It is generally agreed that controlling inflation is necessary, as the uncertainties brought about by inflation represent perhaps the greatest single determinant of DLD. Yet reducing inflation alone is generally not considered sufficient to achieve de-dollarization, as economies with high levels of DLD may exhibit hysteresis once actors adjust their expectations and behaviours to transactions denominated in foreign currency.

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GOLDEN SHARE
A golden share is a share with special voting rights that allow the holder to outvote other shareholders, usually in restricted circumstances. It may also give the holder other special rights. These shares also have the ability to block a takeover or acquisition by another company. This type of share controls at least 51% of voting rights. These shares were most popular during the 1980s with governments who wanted to maintain control over privatized companies. Golden shares are used mainly in the United Kingdom. In the European Union however, golden shares have been deemed illegal by the government. Common powers attached to golden shares are: veto powers the ability to block any one shareholder from acquiring more than a certain proportion of ordinary shares the power to block a takeover

Golden shares are commonly introduced by the founders of a company and by governments during privatisations. The use of government held gold shares, particularly those used to block foreign takeovers, has been ruled illegal in the EU. Some companies retain a golden share in a former subsidiary or associate that has been spunoff. This approach may be used by companies to spin off departments into independent businesses which are not structured as subsidiaries since the golden share holdings minimize the opportunity for a competitor to buy the new business and possibly use the association to undermine the production capacity of the original owner. Another example of the use of golden shares include family companies that wish to give a trusted, impartial outsider (almost certainly a trustee) powers sufficient to help resolve conflicts without involving them in running the company under normal circumstances. Golden shares may also be used to protect a company ethos, values or social commitments. This again relies on the golden share being held by trustees or a non-profit organisation that will use the special powers of the golden share to balance the powers of the ordinary shareholders when necessary. Shareholders who are recipients of golden share stocks may or may not earn some type of higher return on the shares held. More often, it is the benefits and privileges that set this type of offering apart from other shares issued by a given company. While useful in terms of protecting the interests of the company in most situations, it is important to note that unless provisions are made within the company charter to closely limit when and how those special privileges are invoked, the shares can be used in a manner that is ultimately not in the best interests of the company or the majority of its shareholders, such as aiding in a takeover of the board or a takeover bid launched by a competitor or corporate raider.

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