Trade-Financing Facilities: A Counter-Cyclical Role in the Current Global Context?
There have been several efforts from the international community to counteract the effects of the global financial crisis; firms operating in developing countries, which rely heavily on trade finance to support exports and imports, still face the lack of finance necessary to cover their financing needs. This situation hinders them to maintain their production and trade activities.
The trade finance formula
How does trade finance support production of goods and services from developing countries? Trade finance refers to methods and instruments designed to support importers and exporters through the trade cycle. Exporters extend credit to importers until they pay, and at the same time, they need to finance their own import and purchase of raw materials and production to support their export sales. The transaction encompasses a circuit where firms extend credit and secure financing to customers and simultaneously receive credit from their suppliers. On both sides the transaction involves the risk of non-payment and therefore, can generate shocks.
Trade financing involves a wide array of instruments, structures and mechanisms, depending on the parties to the transaction, the sector, country of destination, term and conditions of the contracts, etc. Generally, the most important issues behind trade financing are financing the cash-to-cash cycle of the exporter and importer, as mentioned above, and risk mitigation needs related to the importer and/or the importer´s country (country risk and commercial risk). The general premise is that exporters want to accelerate their cash-to-cash cycle, thus seeking shorter tenors as well as lower as much as possible the risk profile of a trade transaction, and importers need to extend the payment tenors.
A bipolar world of access to trade financing
Large corporations, retailers and traders, at the helm of the global supply chains (GVCs), have succeeded in building a strong network of banks over the years and therefore have excellent access to a wide variety of financing structures and channels, which protect them even in times of crisis. Unfortunately the majority of the small and medium size enterprises (SMEs), mostly in the least developed countries (LDCs), are in the opposite situation. Besides being weaker financially wise and in higher risk countries, they lack the necessary formation and information of available trade financing products. To make it worse, the potential volumes are small as compared to the first group, therefore lacking the necessary leverage to insure access to banks and trade financing lines with interesting tenors and products. Hence the GVCs and related financing are dominated by large corporations and their network of banks with very little inclusion of SMEs which, when included, are obliged to accept difficult trading conditions with long repayment tenors when exporting or short payment terms when importing, all of this under very limited financing access.
Accessing international value chains through trade financing
The intermediation of financial institutions is therefore needed because of the opposite necessities on both sides of a trade transaction. Trade financing structures and products allow the parties in a transaction to maximise their working capital cycles, and also mitigate the risks involved in a transaction, shifting the risk away from the trading partners to a financial institution. To achieve that purpose there is a diversity of financial agents, from private and government owned banks, ExImbanks and DFIs, to trade financing funds, among others.
The role of government owned and multilateral trade financing agents
A number of multilateral development banks have played a key role in ensuring trade financing flows in the post-financial crisis period. This has been translated into an expansion of trade-finance facilitation programmes by these institutions. In this regard, the G-20 Summit’s Initiative (2009) was useful to mobilise additional short-term finance and guarantees to support trade. The role played by the Trade Finance Facilitation Programs of institutions such as the Asian Development Bank, the European Bank for Reconstruction and Development, the Inter American Bank, the Islamic Development Bank, and the World Bank, have been widely recognised. These institutions have been supporting the Aid for Trade (AfT) Initiative launched in Hong Kong in 2005.
There are also a number of development finance institutions (DFIs) and ExImbanks from developing countries and emerging economies focusing on supporting trade in goods and services, including through GVCs; increasing the internationalisation of SMEs and its integration into GVCs, and developing infrastructure projects (energy, transports, communications), among other domains. Given that their membership is composed almost exclusively by developing countries and emerging economies, DFIs and ExImbanks can assess better the needs and priorities at country and regional level, and this may also give a signal to enhance the institutions, including an increase in resource allocation. Some of these institutions also follow solidarity and regional integration as a guiding principle for their cooperation initiative, and embrace socially inclusive goals. This is, for example, the goal of the proposed Bank of the South and the Bank of the Bolivarian Alliance for the Peoples of Our Americas (Spanish: Alianza Bolivariana para los Pueblos de Nuestra América, or ALBA).
Support from DFIs and ExImbanks to trade in goods and services of developing countries, particularly LDCs, and emerging economies is required in every phase of the production process; this becomes crucial when firms from these countries, and particularly SMEs, wish to join GVCs.
In Latin America and the Caribbean, the Development Bank of Latin America’s (CAF) strongly support to the development of the vital physical infrastructure and the processes of integration and international competitiveness of the region, especially aimed at the areas of roads, energy and telecommunications among others. The Brazilian Development Bank (BNDES) is an example of an institution that is committed to national development but also increasingly guided by an internationalisation strategy. BNDES-exim provides Brazilian producers of goods and services with an important source of financing for trading with the rest of the world. Among its efforts, the increasing support of Brazilian companies trading in South America has been emphasised, in response to their strategy to strengthen commercial and financial ties across the continent. The Brazilian Export Financing Program (PROEX), which is managed by the Banco do Brasil, supports Brazilian exports of goods and services, especially by SMEs. The Central American Bank for Economic Integration (CABEI/BCEI) and the Foreign Trade Bank for Latin America (BLADEX) have noticeably gained high credit standing in the international community. CABEI has undertaken initiatives that promote intermediated credit to SMEs and has become the main regional provider of funding to the sector in Central America. It began with intermediated financing of microcredits and has gradually expanded its scope of action through other activities. BLADEX specialises in providing trade financing for the entire region, from Argentina to México and the Caribbean. It is a supranational bank originally established by the central banks of Latin American and Caribbean (LAC) countries to promote trade finance in the region and is also listed in the New York Stock Exchange (NYSE). The Latin American Association of Development Financing Institutions (ALIDE) has played a key role in promoting joint actions and coordinated participation of development banks and financial institutions focusing on Latin America and the Caribbean’s socioeconomic progress and promotes exchange of experience with institutions from other regions.
The African Export Import Bank, whose goal is to stimulate a consistent expansion, diversification and development of African trade, has recently been awarded for its work in support of Africa’s SMEs. The Nigerian Export Import Bank (NEXIM) aims to promote the diversification of the Nigerian economy and develop the external sector through the provision of services in support of non-oil exports, which includes the creative industry. NEXIM and the ExIm Bank of India have been cooperating in this field: a number of trade financing and infrastructure financing initiatives were introduced by the Export-Import Bank of India, including specific programs to support micro and SMEs. The latter has been awarded recognition from the Association of Development Financing Institutions in Asia and the Pacific (ADFIAP) for its unique financing programme targeting the export-oriented Indian creative industry, which includes financing individual entrepreneurs, establishing infrastructure facilities for the creative industry and providing capacity building, reinforcing and promoting creative entrepreneurship.
Trade finance support is driven by the two main policy institutions in China, namely the China Development Bank (CDB) and the Ex-Im Bank of China. As an example of the type of negotiation that China is undertaking, it is possible to cite the CDB’s infrastructure-related bilateral arrangements signed with selected countries linked to petroleum projects. Furthermore, the Korean Ex-Im Bank (KEXIM) has also been quite active in promoting South-South cooperation and the Türk ExImbank has partnered with the Nigerian ExImbank (NEXIM) to support activities in the non-oil Nigerian sector. ExImBank Malaysia, a government-owned development financial institution, provides a diverse range of products and services to Malaysian exporters; and the Philippines Export Credit Agency (Philguarantee), provides export loans and guarantees.
Constructing a new global financial architecture (suggested sub-heading)
As part of their long-term view to promote stable economic growth and help local firms to obtain cheap funding, cooperation initiatives among DFIs and ExImbanks have included the extension of lines of credits, exchange of staff, promotion of joint projects, among others. The Global Network of DFIs and ExImbanks (G-NEXID), composed of 24-members, aims to promote global trade and investment flows, especially between developing countries, within the framework of South-South cooperation. The Network was established in 2006 at the hands of the Secretary General of UNCTAD and is currently chaired by BLADEX.
More information on the role of development banks is included in the discussion paper DP152, Trade Finance Opportunities through South-South Cooperation, which can be found at www.ecdpm.org/dp152. The paper shows the need to strengthen national and regional institutions and financing trade of goods and services including through GVCs. It also praises the importance of coordinating activities and coming up with common policies to improve the conditions for and availability of trade financing. Some examples of cooperation initiatives such as G-NEXID, the Berne Union, the Prague Union, the International Development Finance Club (IDFC), the Amman Union, the Asian ExIm Banks Forum, ADFIAP, ALIDE and the proposed Brazil Russia India China South Africa (BRICS). Development Bank illustrate effective cooperation between institutions that adhere to different ideologies, face different levels of development and/or are geographically distant.
Setting up national development banks and/or ExImbanks requires a significant effort as well as bold decision making by governments, including the status of the institution, the most appropriate models of export credit, insurance and guarantee institutions that should be used as a reference, and the services that could be provided.
Nevertheless, given the rapid changes in the conditions and requirements of trade in today´s world, the dominance of open account terms of trade, accounting for more than 80% of the trade transactions, and the need for speed and efficiency, ExImbanks and DFIs traditionally specialised in mid to long term financing products, have an urgent task to adapt by reducing the lengthy processes and cumbersome paperwork, as well as increasing the range of short term financing, structures and risk mitigation products.
South-South cooperation is at the forefront of the debate on international economic development. Accordingly, the ways in which trade financing supports trade in goods and services and cooperation should be a major topic of debate and analysis in exploring joint work programs between development banks and ExImbanks. The existing partnership between UNCTAD and G-NEXID provides a useful means to facilitate such cooperation.
The impact of trade finance programmes in every stage of the production process, and particularly in the process of integrating national, regional and global value chains, deserves particular emphasis and involves different economic actors. Strengthening trade finance institutions should therefore be part of any post-financial crisis reform.
Ana María Alvarez is an Economic Affairs Officer atUNCTAD.
The opinions expressed in this paper are those of the author and do not necessarily reflect the views of UNCTAD nor those of other experts or institutions that are mentioned therein.
This article was published in GREAT Insights Volume 2, Issue 8 (November 2013).