When trade started falling off in the later half of last year, this blog commented from time to time that the scarcity of trade finance, particularly letters of credit, was playing a meaningful role. That line of thinking was sometimes met with skepticism.
Trade related funding has gotten even more scarce and costly, to the point that governments are now filling the breach. From the New York Times:
As hard as it is for businesses to get loans these days, consider this: even for Toyota Motor, the world’s largest automaker, the well has run dry.
The problem, which led Japan to take the rare step Tuesday of tapping its foreign currency reserves to help, is a result of banks curbing the once-easy stream of credit that had helped nurture a boom in global trade.
When the world’s economies were expanding, banks financed up to 90 percent of the $13.6 billion market for merchandise trade. But lenders pulled back sharply when the credit crisis hit, forcing governments that are already providing trillions of dollars to financial institutions to support another vital part of the system that extends loans to exporters and importers…..
Elsewhere in the world, companies are complaining about similar problems. “We cannot get credit from U.S. banks,” said Byon Hyong Jun, who works for a small trading firm in South Korea that takes orders from American clothing companies and arranges for them to be made in Vietnam and other Asian countries.
In part because of the borrowing difficulties, he added, “garment exporters like us have reduced our shipments to the U.S. by as much as 70 percent.”
Normally, trade finance is considered virtually riskless….
But those dynamics have changed as the global economy contracts. Consider the tale of Jeff Auton, the manager of trade finance at Mark Andy, a maker of specialized printing equipment in Chesterfield, Mo. When he fielded a call from his distributor in Brazil in December, Mr. Auton received the good news first.
“Hey, we’ve got a buyer here,” Mr. Auton recalled the distributor saying. The bad news, however, was that at least three sales, worth a total of $1 million, were at risk because “the local banks were pricing the deal out of the picture.”
Hoping to rescue the sales, Mr. Auton dug into the financials of his customers and managed to persuade the Export-Import Bank of the United States, a government agency, to guarantee a private loan to the Brazilian buyers…
The change in the cost of financing trade deals highlights the problem. The interest rate on export finance loans to India, to take but one example, has gone from a fraction above Libor, a floating benchmark rate set in London, to about 5.5 percentage points higher.
Sure enough, one potential Mark Andy customer in India, mulling a $750,000 order, has not been able to get financing.
“The deals don’t so much fall through as we haven’t been able to obtain the business in the first place,” Mr. Auton said….
The world’s export credit agencies, like the Ex-Im Bank, are also finding new ways to finance exports…
Still, said Jeffrey Abramson, vice president for trade finance and insurance at Ex-Im, taking the place of the banks is a distant second choice.
“Part of our basic mandate is not to compete with the private market,” he said. “We want people to stay in the trade finance game.”
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The trade bubble would wilt without continued subsidies and unfair practices.
With all the introspection occuring in the economics profession, one would think the free traders would be required to acknowledge and address the carnage the trade imbalances have caused.
Free trade idealogy is at the root of the world meltdown, again. Just like it was in the 20’s. What are the benefits to the average American from the huge trade and related budget deficits ?
Keep in mind that US ExIm bank financing is a bit more expensive than market rates. There’s an upfront fee, so it cuts into producer margins.
jult52
I hope you will remember that my skepticism was never about a buyer’s difficulty in obtaining financing, but only that once that financing was in place that a counterparty would refuse to honor a bank’s L/C. There is a difference.
If the only thing holding back trade is financing, why is the inventory/sales ratio jumping? In the first two anecdotes, the evidence is quite to the contrary.
Toyotas are piling up port terminals, and the idea that there is unsatisfied demand in textiles would come as quite a surprise to retailers in the U.S. (or UK, Europe, Japan, etc.)
The two other cases sound more like situations where the cost of loans has gone up to a point where the borrowers consider them “unavailable.”
This sounds like the argument that there’s no market in the various toxic assets Citi holds because they don’t like the price the market is offering.
FDIC’s Bair Says Insurance Fund Could Be Insolvent This Year
http://www.bloomberg.com/apps/news?pid=washingtonstory&sid=alsJZqIFuN3k
Obama and crew had better hope the sheep don't figure out what this means. Think I'll go make a withdrawal.
The pricing issue does seem to be the most interesting aspect of this story. Could it be that modern finance did not really provide a low cost of capital? Instead the cost to the primary borrower was subsidized by the earnings on the back end from the fraudulent churning known as securitization.
This would mean that the purpose of securitizing traditional loans wasn’t so much to mobilize capital for productives uses, but rather to use the legitimate business of the primary borrower as cover for the more lucrative business of creating worthless securities. Kind of like the old mafia organizations always owned a waste disposal company.
The trade bubble would wilt without continued subsidies and unfair practices.
With all the introspection occuring in the economics profession, one would think the free traders would be required to acknowledge and address the carnage the trade imbalances have caused.
Nothing like contradicting yourself.
This isn’t saying that trade finance doesn’t exist… it is saying the price is going up for some locations.
The locations are always Brazil, Vietnam, India, etc… not any of the major exporting countries (though the article throws you by saying the guy is in South Korea).
Trade finance is like every other part of business… you can get it done, but it comes with a price. This sounds like some people feel like it is a right to have super-cheap trade finance.
By the way if it stays at this price (Libor + 5?)companies will move in and undercut competitors because it still is a virtually risk free business.
Th article reads like the the author is confusing Lines of Credit and getting traditional business loans with Letters of Credit/Trade Finance. Two different things.
Sure, if the Brazilian company can not get a Line of Credit (at a rate they want to pay) to purchase a capital good it is bad for trade. But it also is not a breakdown in trade finance.
And as for Toyota: from the WSJ on the loan from Tokyo-
“The seizing-up of U.S. credit markets means they are having trouble raising dollar funds, which they’d like to use to extend auto loans to customers in the American market.”
Hardly a trade finance issue. It is a debt market issue and we all know the problem with that.
Maybe we need a definition in this blog of the term Trade Finance if it is to be tossed around. I can see how it can mean different things to different people.
Let me make this as clear and simple as I can, but first, a basic background example of the concept of the complexity of entropy:
One of the most common examples given for diffusion is opening a perfume bottle in a closed room. However,
in this example (and many others) molecular diffusion is not the dominant mechanism. Bulk motion of the fluid is often responsible for most of the mixing effects that we experiencein liquids and gases. While diffusion is important
in the detail of these processes, convection is what we most often experience. Were it not for convective motions in
the air it would take us one year to smell our feet after taking off our shoes (Squires and Quake 2005).
Likewise, it is the stirring of the milk in the coffee that mixes it; molecular diffusion would take so long that the drink would
long spoil and evaporate long before it was mixed.
> People, what we have with the conceptual premise of TARP and the current network of collusion holding together wall street accounting fraud, is the simple image of a broken perfume bottle that is broken into thousands and thousands of chaotic fragments, and the perfume molecules are diffused — and in essence diluted as in shareholder dilution and loss of value.
All the analytical risk models and Monte Carlo Game Theory inventions and thinking about valuation mechanics and methodology are as useless as all rating agencies and all the securities and homes that were all connected to a system which does not exist within any framework of past reality — the banking perfume bottle is systemically shattered and the sweet derivative perfume spirits in that bottle have evaporated.
So, let me make this as clear as I can. We are gonna take TARP funding from taxpayer revenues, drain the Treasury and print as much money as it takes to stimulate inflation and to re-build that bottle by the end of this decade. That is our American Dream, our American PLan to restore confidence and faith, so that the the next generation of rubes, I mean citizens that inherit this windfall, will hold heads high, as if on methamphetamine, and say, this was the challenge that America faced, this is the challenge that people have died for and that we as Americans are united in our belief that this perfume bottle can be re-built, re-structured and made stronger, through financial engineering!
Some may suggest that we build a new bottle and not waste trillions of dollars to put that dispersed perfume back in the broken bottle — to defy the basic laws of nature, but that citizens is our call, that is our challenge, we will unite as one America, one Congress, one voice, and we will defy the laws of nature and spend as much money as it takes to build a monument to the everlasting spirit of The American Dream — which is far greater than any law of nature. We trust not in God, but in wall street and we shall overcome reality …
Amen!!
I didn't spell check, but WTF… this is blogging baby
10;26,
the trade bubble would also wilt if trade was accurately calculated rather than the double and triple counting which result from anachronistic nation-state centered methods that contradict a _trans_national structure — ‘free traders’ have, in general, failed to advance beyond Ricardian ideologies, presented, of course, with a sufficiency of econometric ‘proofs’.
but if a nation-centered view cannot be displaced, it might as well be worthwhile to consider unequal exchange — in its essence the exchanging of more labor for less.
“What, man! confound it, hands and feet
And head and backside, all are yours!
And what we take while life is sweet,
Is that to be declared not ours?
Six stallions, say, I can afford,
Is not their strength my property?
I tear along, a sporting lord,
As if their legs belonged to me.”
Goethe: Faust (Mephistopheles)
“That which is for me through the medium of money — that for which I can pay (i.e., which money can buy) — that am I myself, the possessor of the money. The extent of the power of money is the extent of my power. Money’s properties are my — the possessor’s — properties and essential powers. Thus, what I am and am capable of is by no means determined by my individuality. I am ugly, but I can buy for myself the most beautiful of women. Therefore I am not ugly, for the effect of ugliness — its deterrent power — is nullified by money. I, according to my individual characteristics, am lame, but money furnishes me with twenty-four feet. Therefore I am not lame. I am bad, dishonest, unscrupulous, stupid; but money is honoured, and hence its possessor. Money is the supreme good, therefore its possessor is good. Money, besides, saves me the trouble of being dishonest: I am therefore presumed honest. I am brainless, but money is the real brain of all things and how then should its possessor be brainless? Besides, he can buy clever people for himself, and is he who has a power over the clever not more clever than the clever? Do not I, who thanks to money am capable of all that the human heart longs for, possess all human capacities? Does not my money, therefore, transform all my incapacities into their contrary?
If money is the bond binding me to human life, binding society to me, connecting me with nature and man, is not money the bond of all bonds? Can it not dissolve and bind all ties? Is it not, therefore, also the universal agent of separation? It is the coin that really separates as well as the real binding agent — the [. . .] chemical power of society.”
(German guy, 1844)
I agree with Anon 1:46, the article is not about trade financing.
So Juan, amen to that. The concept of nationcentric macroeconomics is sooo 18th century. Then, national tax bases and their imperial subsidiary extractive monopolies were the fulcrums which national bourses leveraged into monies going to and fro. Now, we just ‘create’ money, so who needs such stepping stones? Production is so declasse in the 21st century. Until it stops.
Look y’all anons pushing ‘there’s no problem with L/Cs’ in comments, the negative case doesn’t make _your_ position, either. If trade is contracted/contracting because purchase credit is not available, then we don’t get to the point of someone declining to issue or accept a L/C on the boat that doesn’t float. I’m not going to delve deeply into the L/C issue, but the article does make a salient point: these deals _aren’t_ getting done, and the problems with financing in the broader sense (regardless of the stricter sense) are manifest. And the pattern of this is suspicious, to me. If trade purchase credit is so riskless, as even some of you assent to, why is ‘the market’ charging such a punitive rate that deals are getting choked off? This could be because: a) the borrowers are suspect, b) the ‘lenders’ are suspect, or c) [your reason here]. I find the idea that, say, Brazil and ‘Nam are in such bad shape that the Big Boys have legitimately cold feet in lending to them. To me, the high price looks like a deliberately high one, at least to discourage business. And that line that “others will undercut that rate if . . .” doesn’t carry much weight. These Banks are losing money in great hunks and really need to, like, make some. Their rates say either they are too stupid to do so or that the do not wish to do so in the trade financing business.
I challenge those of you who think that trade finance is, basically, working to make your case. Let’s see y’all dig up some meat-and-potato-masher deals that are being legitimately financed. If you want to generate belief, let’s see you make the positive case for your position.
R Kline,
“…I find the idea that, say, Brazil and ‘Nam are in such bad shape that the Big Boys have legitimately cold feet in lending to them…”
This is why I was asking for a nakedcapitalism definition of Trade Finance. Originally, this whole discussion began with this blog looking at trade finance as Letters of Credit which was purported to be a stumbling block for trade. This is what I am saying is a riskless banking product and will not dry up. A Letter of Credit is in essence an escrow account… so it is an all cash transaction meaning no risk. Banks just facilitate this and collect a small fee for their troubles.
You guys keep morphing the discussion into bank lending and Lines of Credit. That is a completely different discussion. That is an accounting discussion, as I’m sure manufacturers with strong balance sheets and customers can still get loans (though the rates might be higher than before).
If you get your cash flow for operations through a credit line and a couple point increase from historically low rates makes your business unprofitable… your business model was broken to begin, so don’t blame it on “trade finance”. Having said that, +5% is extreme in the example and I’m sure that business was getting the brush-off like you were saying.
Anonymous at 1:50 pm: There are different types of letters of credit. Some are cash collateralized (so they are a form of escrow account); and others aren’t (so there is counterparty credit risk).
“…and others aren’t (so there is counterparty credit risk).”
Actually you are wrong. All LCs are cash collateralized. Where some get confused is where that cash comes from to fully fund the transaction.
What you are calling “cash collateralized”, the buyer comes up with 100% of the cash owed and gives it to the bank to fully fund the LC. The other transaction you are talking about is the buyer has some of their own cash and borrows the rest on credit to fully fund the LC. This helps the company’s cash flow.
I know the Loan and Letter of Credit are bundled by the bank many times and it looks like it is one transaction… but it is not. You have the loan and you have the Letter of Credit which is separate.
Either way the transaction is risk free to the seller, because he is receiving all cash (no counterparty risk), and the Letter of Credit part of the transaction is risk free for the bank because it is all cash (no counterparty risk).
Now if you want to argue if there is risk on the loan, that is a separate discussion because it is a loan… of course there is counterparty risk. If you hear a company can not get a Letter of Credit, what they are really saying is they don’t have enough cash and they don’t qualify for a loan. But that is not because there is an unwillingness to issue a Letter of Credit.
Richard, do I detect a note of sarcasm? If so, my point had to do with: nation-centric definitions and methods [no matter that the dominant mode of organization of production, distribution and financing has, over the last moreless 50 years, quant and qualitatively changed, entering into contradiction w/nation-states not to dispose of but make use of these entities through, e.g., bidding wars and consequent socializing of costs. Internal transfer is not trade no matter how many political borders crossed and times counted. The focus on nations as national economies is not wrong but one-sided]
My point only indirectly had to do with the rise of a rentier capitalism which can be seen as logically flowing from the same causalities which drove transnational organization, the same causes which promoted the rise in such extreme mass of now being destroyed fictitious capital. [and the ever more bizarre, because futile, attempts to prevent this]