The G20 mandate on fixing trade finance for low-income nations

Marc Auboin 25 November 2010

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Over the last year, a number of papers and studies have highlighted the impact of the global crisis on the availability of trade finance in global markets, and its spill-over effect on trade (Weinstein and Amiti 2009, Baldwin 2009). While there are differing views on its incidence on the "great trade collapse", there is an overall acknowledgment that trade finance "matters", that exporting firms are in general more vulnerable than domestic firms to credit availability (Bricongne et al. 2009), and that developing countries are subject to interruptions in international credit lines (Auboin 2003).

They also point out that despite the London G20 Summit's promise to mobilise $250 billion in additional short-term trade finance and guarantees within two years, the reality has been largely front-loaded. Large traders have been able to benefit from the rapid mobilisation of their export credit agencies and risk-sharing mechanisms enhanced by international financial institutions. Within a year of implementation, the initiative helped mobilise $170 billion in additional capacity, mainly from export credit agencies, of which $130 billion had already been used.

By the summer of 2009, some observers felt that the outlook for global trade finance had improved, in part due to improvements in overall financial markets and partly due to a recovery of trade. But at the same time concerns were raised that the full impact of the G20 package had not been felt by smaller exporters from Central America, Africa, Eastern Europe, and generally in low-income countries. This motivated the Director-General of the WTO, Pascal Lamy, to ask leaders at the G20 Summit in Toronto to ensure that remaining G20 funds be focused on the end-users that need it the most and to commit to keeping the situation under close watch.

The market situation we have observed this year has confirmed the end of 2009 outlook (ICC 2010). Thanks to a global recovery of trade flows and finance, the trade finance environment has continuously been improving during the year, with falling prices and fast growing volumes of transactions.

But this recovery has not been evenly spread. The recovery in market conditions was mainly driven by the "grand routes" of trade within North America, Europe, Asia, and between Asia and the rest of the World. In these areas, spreads had returned almost to pre-crisis levels, with a difference between traditional trade finance instruments (letters of credit), whose prices fell to very low levels on the "best" Asian risks, and so-called funded trade-finance products (on-balance sheet, open-account transactions), whose higher prices reflected a relatively normal re-pricing of risk and liquidity.

Meanwhile, traders at the "periphery" of grand trade routes, particularly in low-income countries, are still facing severe difficulties in accessing trade finance at affordable cost, particularly in import finance. Similar difficulties appear to be confronting small- and medium-sized enterprises in developed countries, which rely on small or medium-sized banks. This situation is explained by a banking environment in which capital has become scarcer and the selectivity of risks greater. In addition, new regulatory requirements aimed at securing financial transactions, including more stringent information to be provided on counterparty banks and traders in poorly (or non-) rated countries, might be increasing the cost of doing business in these areas altogether, deterring banks and investors. As a result, the "lower end" of the trade finance market is relying increasingly upon development bank risk mitigation instruments.

Prices and conditions faced by some countries for obtaining trade loans are surprisingly tight. According to prices for random transactions published by Omni Bridgeway, a leading consulting firm active in trade finance restructuring exercises for the Paris and London Clubs (GTR, September 2010), regular import loans charged on non-sovereign African risks are well over 10% per annum for at least a third of African countries, and for another 25 to 30 countries in the rest of the world. Cash collateral requirements of up to 50% of the loan face value may be asked in addition to such high interest rates.

What is being done?

Regional development banks and the International Finance Corporation are actively trying to reduce the risk, or at least perception of risk, in these countries.

The Asian Development Bank is providing risk-mitigation support to financial institutions in countries such as Pakistan, Bangladesh, Vietnam, and Mongolia. The same applies to Latin America, where the Inter-American Development Bank supports smaller Central American States' banks. Meanwhile, respective regional development banks are doing a similar job in Central and Eastern Europe, and in Africa. In Africa, international banks seem to pulling out of the continent, despite the African Development Bank's $1 billion commitment to support trade finance.

Despite the action already taken, there is a clear risk that in a retrenching global banking environment, a substantial number of countries could be increasingly left out of mainstream trade finance markets and thereby unable to benefit fully from the recovery of global trade. It is with this danger in mind that the Director-General of the WTO and President of the World Bank, with the support of the Heads of Regional Development Banks, have brought this problem to the attention of the international community.

It is my hope that the above outline of the issues can help readers understand the motivations of the international institutions at the G20 and can help clarify the G20 communiqué that resulted from these discussions. These are below:

  • "addressing regulatory reform pertaining specifically to emerging market and developing economies: we agreed to work on financial stability issues that of particular interest to emerging market and developing economies, and called on the FSB, IMF and World Bank to develop and report fore the next Summit. These issues could include: (....); trade finance."
  • "To support LIC capacity to trade (...), we note our commitment to (..) support measure to increase the availability of trade finance in developing countries, particularly LICs. In this respect, we also agree to monitor and to assess trade finance programs in support of developing countries, in particular their coverage and impact on LICs, and to evaluate the impact of regulatory regimes on trade finance."

Over the coming weeks we will see institutions such as the WTO, the World Bank, as well as others work together in order to address such obstacles, along the lines of the G20 mandate.

References

Amiti, Mary and David Weinstein (2009), "Exports and Financial Shocks: Evidences from Japan”, VoxEU.org, 23 December.

Auboin, Marc (2003), “Improving the Availability of Trade Finance During Financial Crisis”, Discussion Paper no. 2, WTO.

Baldwin, Richard (2009), “The Great Trade Collapse: What Causes it and What Does it Mean?”, VoxEU.org, 27 November.

Bricongne, Jean-Charles, Lionel Fontagné, Guillaume Gaullier, Daria Taglioni, and Vincent Vicard (2009), “Firms and the Global Crisis: French Exports in the Turmoil”, VoxEU.org, 5 November.

International Chamber of Commerce (2010), “Global 2010 Trade Finance Survey”.

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Topics:  Global crisis International trade

Tags:  WTO, G20, Trade finance