This blog, over the last couple of months, has intermittently pointed to the difficulties of obtaining trade finance (particularly letters of credit) as playing a role in the fall in international trade. Because L/Cs are a profitable backwater at most banks, serving smaller/midsized customers (big ones are more likely to deal with existing supply chains and use an open order system), the problem has gotten amazing little attention despite its potential importance. Then again, this verges on being a back office business, and thus is a part of the financial system plumbing that gets little notice even when it starts to leak.
The Atlanta Fed’s Macroblog has a nice piece on the issue today, “Credit Storm Hitting High Seas?” (hat tip reader Andrew), written by Galina Alexeenko and Sandra Kollen. Worth reading in in its entirety, and here are some key sections:
International trade amounts to about $14 trillion and, according to the World Trade Organization (WTO), 90 percent of these transactions involve trade financing. Trade-related credit is issued primarily by banks via “letters of credit,” the purpose of which is to secure payment for the exporter. Letters of credit prove that a business is able to pay and allow exporters to load cargo for shipments with the assurance of being paid. Though routine in normal times, the letter of credit of process is yet another example of how transactions between multiple financial intermediaries introduce counterparty risk and the potential for trouble when confidence flags….n general, exporters and importers in emerging economies may be particularly vulnerable since they rely more heavily on trade finance, and in recent weeks, the price of credit has risen significantly, especially for emerging economies. According to Bloomberg, the cost of a letter of credit has tripled for importers in China, Brazil, and Turkey and doubled for Pakistan, Argentina, and Bangladesh. Banks are now charging 1.5 percent of the value of the transaction for credit guarantees for some Chinese transactions. There have been reports of banks refusing to honor letters of credit from other banks and cargo ships being stranded at ports,….
These financial market woes are clearly spilling over to “global Main Street.” The Baltic Dry Index, an indirect gauge of international trade flows, has dropped by more than 90 percent since its peak in June as a result not only of decreased global demand but also availability of financing that demand.
M.G. 
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I agree that this is a big issue, but I’m also hearing that some big foreign customers are using LOC problems as an excuse to get out of contracts entered into during better times.