There Are Trillions of Dollars the Fed Cannot See or Control

There is a kind of dollar that the United States does not print, does not control, and cannot fully count.

It is called a eurodollar. The name is misleading, so set aside what you think it means. It has nothing to do with the euro currency. A eurodollar is simply a US dollar that lives in a bank outside the United States. A dollar in a London bank. A dollar in a Hong Kong bank. A dollar in the Cayman Islands, Singapore, or Tokyo.

That sounds like a technicality. It is not. It is one of the largest and least understood financial systems on earth.

These offshore dollars are created by foreign banks, lent by foreign banks, and multiplied by foreign banks, entirely outside the jurisdiction of the Federal Reserve. The Fed can watch the eurodollar system. It cannot control it. And nobody, including the Fed, knows exactly how big it is. Estimates run into the trillions. At its mid-2010s peak, one credible estimate put it near 14 trillion dollars.

A pool of American currency the size of a major national economy exists in a place the American central bank cannot reach.

And it began, like several things in this newsletter, with someone trying to hide money from the United States government.

Here is the full file.

In the 1950s, the Soviet Union had a problem that will sound familiar to anyone who has read this newsletter for more than a month.

The USSR earned dollars. It sold oil and raw materials on world markets, and those markets paid in dollars, because after Bretton Woods the dollar was the currency of global trade. So Moscow accumulated a significant pile of American currency.

The natural place to keep dollars is in an American bank. But it was the height of the Cold War, and the Soviets could see the obvious risk. If tensions escalated, Washington could freeze Soviet dollar accounts held in New York with the stroke of a pen. Their own reserves could be turned into a weapon against them.

So the Soviets made a decision that created an entire financial system by accident. They moved their dollars out of American banks and into European ones, primarily in London and Paris, where Washington could not touch them.

One of the banks that held these deposits was a Soviet-owned institution in Paris, the Banque Commerciale pour l'Europe du Nord. Its telex code, its address on the wire network banks used to move money, was a single word.

The word was EUROBANK.

Dollars deposited there, and at banks like it, came to be called eurodollars. The name of an entire multi-trillion-dollar system is the telex handle of a Soviet bank in Paris that was trying to keep its cash away from the United States.

That is not a metaphor. That is the etymology.

If the story were only Soviet paranoia, the eurodollar market would be a footnote. It became the plumbing of the world for a more powerful reason. Everyone discovered it was useful.

In the United States, banks operated under a rule called Regulation Q. It capped the interest a bank could pay on deposits. It was a restraint, and like all restraints on money, it created an incentive to go somewhere without it.

London had no such cap.

A London bank could take dollar deposits and offer higher interest than any American bank was legally allowed to pay. It could lend those dollars more cheaply, because it was not bound by American reserve requirements either. For a depositor, offshore dollars paid more. For a borrower, offshore dollars cost less. For the London bank, the spread was pure profit.

And the Bank of England, watching a vast new financial industry take root in the City of London, became the eurodollar market's earliest and most enthusiastic supporter. London had lost an empire. In the eurodollar, it found a new role: the world's offshore dollar banker.

Here is the paradox that defines the whole system. A financial instrument invented by America's Cold War adversary, to escape American control, was embraced by British banks, encouraged by the British central bank, and eventually adopted with enthusiasm by American banks themselves, who set up London branches to do the things they were forbidden from doing at home.

Everyone won. Depositors, borrowers, London, and eventually Wall Street. Everyone except the one institution that was supposed to be in charge of the dollar.

Now the part that sounds impossible, and is the true reason this market matters.

The eurodollar system does not merely hold dollars. It creates them.

When a London bank takes a dollar deposit and lends it out, and that loan is redeposited in another offshore bank, which lends again, the system multiplies dollars through exactly the same mechanism domestic banks use, the one this newsletter has described before: banks create money when they lend. Except offshore, there is no Federal Reserve setting reserve requirements, no regulator counting the layers, no central authority that can see the full chain.

The eurodollar system is a dollar-printing machine operating outside the borders and the sight of the country whose currency it prints.

This is not a fringe interpretation. A Vanderbilt law analysis walks through the mechanics and reaches the plain conclusion: offshore banks create dollar liabilities that perform every function of a real dollar, with no direct Fed backstop and no reliable measurement. The people who study this market for a living cannot give you a precise size for it. They can only tell you it is enormous, and that it moves first.

That last point is the one professional traders care about. Changes in global dollar conditions frequently show up in the offshore market before anything happens onshore. The Fed adjusts its rate and the world reads the headline, but the actual weather of global money, the tightening and loosening of real dollar liquidity, is set in London and Hong Kong, in a market the Fed can influence but not command.

For decades, this was an abstraction that only bankers worried about. Then, twice in twelve years, the eurodollar system stopped working, and the entire world discovered how much depended on it.

The 2008 financial crisis is remembered as an American mortgage crisis. At its plumbing level, it was a eurodollar crisis. European banks had built enormous dollar-denominated businesses, funded by short-term offshore dollar borrowing. When the money markets froze after Lehman Brothers collapsed, these foreign banks could not roll over their dollar funding. They needed dollars they could not get, because the offshore machine that normally supplied them had seized.

The problem was that a foreign bank in dollar trouble is not something the Fed's normal tools can fix. The Fed lends to American banks. It cannot easily reach a bank in Frankfurt or Seoul.

So the Fed did something extraordinary. It opened what are called swap lines with foreign central banks. It effectively created new dollars and handed them to the European Central Bank, the Bank of Japan, and a dozen others, who passed them to their own banks. By December 2008, the outstanding total had risen above 580 billion dollars.

Read what actually happened. The American central bank was forced to become the lender of last resort not just for American banks, but for the entire offshore dollar system it does not control. The eurodollar market privatized the profits for fifty years and then, in the crisis, socialized the rescue onto the Fed.

It happened again in March 2020. The pandemic triggered a global scramble for dollars, the offshore system froze in days rather than months, and the Fed reactivated the swap lines within a week. Japan alone drew roughly 225 billion dollars.

What began as an emergency in 2008 is now permanent. The Fed maintains standing swap lines with the central banks of Canada, England, the eurozone, Japan, Mexico, and Switzerland. The backstop for the offshore dollar machine is now a permanent feature of the system, which means the machine can keep growing, knowing the Fed will catch it when it falls.

The eurodollar system is not a curiosity for bankers. It is the clearest working proof of a principle that governs everything in this newsletter.

Money escapes the authority that issues it. The United States created the dollar and made it the currency of the world. In doing so, it lost control of it. The moment a dollar became valuable enough for everyone to want, it became valuable enough for everyone to create, offshore, beyond the reach of the institution whose name is printed on the note. The lesson generalizes. Any instrument valuable enough to dominate will be replicated outside the control of whoever issued it. The issuer gets the prestige. The world gets the printing press.

The real system is always bigger than the visible one. The Fed, the institution you are told runs the dollar, presides over only the domestic portion of a system whose offshore half is larger, older in its cunning, and impossible to measure precisely. This is the recurring shape of real financial power. The part you can see, the press conferences and the interest rate decisions, sits on top of a much larger structure that operates in the dark. When you read that the Fed raised rates, understand that you have read a headline about the visible half of a machine whose other half is setting the actual price of money in London while you sleep.

Freezing reserves has a permanent cost. The eurodollar market exists because, seventy years ago, one country feared the United States would freeze its dollars, and acted to escape that risk. In 2022, the United States froze Russia's dollar reserves. Every central bank on earth received the same lesson the Soviets learned in 1955, updated and confirmed: dollars held within reach of Washington are only conditionally yours. The offshore dollar system was born from exactly this fear, and the same fear is now driving central banks toward gold and toward alternatives, for exactly the same reason. The wheel that turned in 1955 is turning again, and it turns in one direction.

The dollar you understand is issued by the Federal Reserve, counted, controlled, and printed in Washington.

The dollar that actually runs the world is issued by nobody in particular, counted by no one precisely, and printed in London, Hong Kong, and the Cayman Islands, by a machine that a Soviet bank switched on by accident and that no one has ever figured out how to switch off.

$14,000,000,000,000. A credible estimate of the eurodollar market near its peak. Trillions of dollars, created and held outside the United States.

The honest number is that nobody knows the honest number. There is no register, no central count, no authority that can tell you the true size of the pool of dollars living beyond the reach of the country that prints them.

The largest dollar system on earth is the one the issuer of the dollar cannot see.

That is not a conspiracy theory. That is the swap line.

The Dark Money Letter is published every Wednesday. → thedarkmoneyletter.com

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