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    Eliminating Obstacles To Efficient Trade Finance In ... Eliminating Obstacles To Efficient Trade Finance In ... Document Transcript

    • UNITED NATIONS ECONOMIC COMMISSION FOR EUROPE COMMITTEE FOR TRADE, INDUSTRY AND ENTERPRISE DEVELOPMENT ELIMINATING OBSTACLES TO EFFICIENT TRADE FINANCE IN TRANSITION ECONOMIES: PRACTICAL ASPECTS PROCEEDINGS OF THE SEMINAR held on 4 and 5 May 2000 in Riga (Latvia) Geneva/New York 2000
    • The views expressed and the designations employed in this publication are those of the authors and do not necessarily reflect the views of the United Nations Secretariat nor do they express any opinion whatsoever on the part of the Secretariat concerning the legal status of any country, territory, city or area or of its authorities, or concerning the delimitation of its frontiers or boundaries. All material may be freely quoted or reprinted, but acknowledgement is requested, together with a copy of the publication containing the quotation or reprint (to be sent to the following address: Trade and Investment Promotion Section, Trade Division, United Nations Economic Commission for Europe, Palais des Nations, Geneva 10, CH-1211 Switzerland). ECE/TRADE/267 UNITED NATIONS PUBLICATIONS Sales No. E.01-II-E-4 ISBN 92-1-116772-8 ISSN 1020-7384
    • CONTENTS Page Preface .............................................................................................................. v Introductory Remarks by Ms. Danuta Hübner Executive Secretary, United Nations Economic Commission for Europe ........ vii Welcoming address by Mr. Bernhard Gerdhard State Secretary, Ministry of Economy, Latvia .................................................. xi Welcoming address by Mr. Zenon Olbrys President and Chairman of the Board, Baltic Transit Bank, Latvia ................ xiv Chapter III. Important Features of Trade Finance in Transition Economies: Second Half of the 1990s. Note by the UNECE secretariat.................. 1 III. Short-term Payment and Credit Arrangements as Instruments of Trade Finance: Some Practical Experiences in Different Groups of Countries................................................................................................. 37 1. Mr. Beat Haenni, Retired Head of International Trade Finance and Credit Mana- gement, Novartis Pharma Services Inc (Switzerland) Trade Finance Consultant................................................................... 37 2. Mr. Dmitry Latishev, Director, International Department, Baltic Transit Bank (Latvia) ..... 39 3. Discussion ........................................................................................... 43 III. Medium and Long-term Trade Finance: Available Schemes and Problems ................................................................................................. 51 1. Mr. Kenneth Owen, Head of Trade Finance Department, Hansabanka (Latvia) ............... 51 2. Mr. Tomas Dvorak, Deputy Financial Director, SKODA Export Co. Ltd (Czech Republic) 55 3. Discussion ........................................................................................... 58 iii
    • Page IV Banks as Partners in Export Finance: the Experience of Transition Economies ............................................................................................... 59 1. Ms. Veronika Shemyakina, Head of Project Finance, International Business Department, Promsvyazbank (Russian Federation) ........................................ 59 2. Mr. Meirambek Karazhigitov, Expert on International Financial Institutions, Kazkommertsbank (Kazakhstan) ................................................................................... 60 3. Discussion ....................................................................................... 63 IIV. Government Support to Trade Finance: Direct Financing and Export Promotion Schemes 1. Mr. Alexandru Vrabie, Director, Bucharest Branch, Eximbank (Romania) ................... 67 2. Mr. Martin Drabek, Senior Director, Banking Section, Eximbank (Slovakia)................. 69 3. Discussion ....................................................................................... 77 IVI. Government Support to Trade Finance: Risk Insurance and Guarantees ....................................................................................... 81 1. Mr. Jonast Placiakis Director General, Lithuanian Export and Import Insurance (Lithuania) ................................................................................. 81 2. Mr. Michael Spivey Director of Business Development, Eximbank (United States) ....... 83 2. Mr. Louis Habib-Deloncle, Chairman/CEO, Assurance, Finance et Développement (AFD) (France) ....................................................................................... 87 4. Discussion ...................................................................................... 92 VII. Summary of General Discussion........................................................ 99 iv
    • Preface The purpose of this series of trade and investment guides is to assist econo- mies in transition, as well as economic actors in other countries, in becoming famil- iar with best practices in the areas of trade and investment and related legal and commercial practices. The guides are developed under the aegis of the United Na- tions Economic Commission for Europe's Committee for Trade, Industry and En- terprise Development and its subsidiary bodies. The present guide was prepared by the UNECE secretariat, with substantial contribution from Mr. Vassili Serebriakov, an intern with the secretariat. This is the fifth guide. The preceding titles in this series are: 1. Trade Finance in Transition Economies: Practical Ways to Support Exports and Imports 2. Standards and Regulations in International Trade 3. Investment Promotion in Central and Eastern Europe and the CIS 4. The Polish Experience of Transition: Accomplishments and Problems. These can be obtained from the UN Publications Service: Geneva: Tel. +41-22-917 2613 – Fax. +41-22-917 0027 – e-mail: unpubli@unog.ch New York: Tel. +1-212-963 8302 – Fax. +1-212-963 3489 – e-mail: publications@un.org v
    • INTRODUCTORY REMARKS Ms. Danuta Hübner, Executive Secretary, United Nations Economic Commission for Europe It is my pleasure to introduce to you the proceedings of the Seminar on “Eliminating Obstacles to Efficient Trade Finance in Transition Economies: Practical Aspects”. This Seminar took place in Riga (Latvia) on 4- 5 May 2000. It was jointly organized by the UNECE secretariat and the Baltic Transit Bank (Riga). The Baltic Transit Bank as well as the Moscow-based Alfa Bank provided financial support to this event. Two features of today’s world have become particular- ly prominent in recent years. The first one is the speed with which modern technologies develop. Modern telecommunications and the Internet are rapidly trans- forming all aspects related to the international movement of commodities, labour and capital. Therefore, and this is the second remarkable feature of today’s world, the economy is experiencing rapidly growing internatio- nalisation and globalisation of production and exchange, which have already now attained levels unthinkable a decade ago. Both of these trends create tremendous opportunities for individual companies, on the one hand, and for coun- tries liberating themselves from excessive government controls and autarkic trends, on the other. In the context of rapid globalization, the issue of trade promotion, in general, and of trade finance, in particular, has become highly relevant for the transition economies of central and eastern Europe and the Commonwealth of Independent States. Over the past decade of market trans- formation in these countries, foreign trade has proved to be a potent means of facilitating reforms and smoo- thening the hardships of transition. In particular, growing exports in several countries of the region have been a result of successful structural reforms. At the same time, the increase in revenue and growth resulting from these exports have, in turn, influenced favourably internal transformations. The growing inflow of convertible vii
    • currency due to export promotion generates additional income and enables enhanced imports of both consumer and investment goods, facilitating structural adjustment and the modernization of national economies. From this standpoint, an unobstructed and adequate flow of funds to finance exports and imports can contribute importantly to a successful transition. Another relevant aspect is the critical nature of financ- ing for small and medium-sized enterprises in the context of their establishment, growth and expansion into export activities. Information provided to nascent private sector companies on how to build constructive relationships among themselves, with commercial banks and insurance companies, as well as with government trade-supporting institutions, is often a key element of their success. We attach a great deal of importance to this issue because the development of productive networks between private enterprises, banks and other financial institutions is one of the factors rendering the transition to the market economy sustainable. It is appropriate to emphasize that the Riga seminar was organized as a public-private partnership project where a regional commission of the United Nations collaborated with interested banks from the region. For us in the UNECE secretariat, this is another sign of the productivity of public-private cooperation in areas of practical significance for the transition process. We are convinced that the joint public-private organization of seminars, workshops and similar events in economies of the European region is a cost-effective and efficient means to build a platform for the exchange of opinions between various stakeholders and the development of rec- ommendations for Governments. These Proceedings provide an account of the vast spectrum of opinions on ways and means to remove ob- stacles to financing trade in transition economies coming from trading companies, bankers, insurers and represent- atives of Government trade-financing agencies. The variety of views presented at the seminar not only helps identify problems obstructing access to trade finance; it is also instrumental for finding solutions to these problems and, in fact, might inspire government bodies to adjust viii
    • their stance on certain issues of relevance to foreign trade promotion. I hope that the readers in both developed and transition economies will appreciate the wealth of relevant infor- mation that these Proceedings contain. I also hope that this publication will stimulate further the discussion of theoretical and practical issues related to market economy transformations in central and eastern European countries and the CIS. ix
    • WELCOMING ADDRESS BY: Mr. Bernhard Gerdhard, State Secretary, Ministry of Economy, Latvia It is my great pleasure to open this seminar, devoted to issues that are highly relevant to the development of the Latvian economy. There is no doubt that the unobstructed funding of foreign trade is essential for business people entering new markets and extending existing ones. It is also important for exporters wishing to reduce commercial or political risk-induced losses. Unfortunately, trade finance instruments are not sufficiently developed in transition economies, including Latvia. The legal basis for crediting, guaranteeing and insuring exports is still being developed. That is why I consider the theme of our seminar today very important and I hope that through an open exchange of opinions we shall be able to better understand problems related to the funding of foreign trade and, possibly, identify some solutions. I am very pleased to see in this room representatives from public institutions, organizations involved in export and import promotion and from the private sector. Hopefully, the seminar will provide an opportunity for an extensive exchange of ideas among the various interested parties. Opening the seminar today, I would like to make a brief overview of the current economic situation and policies implemented in Latvia. It has to be admitted that the general business environ- ment in the country is improving and conditions for development of the national economy are getting better. The consistent reforms in Latvia are starting to bear fruit. GDP and investments are growing, and living standards are also slowly improving. In the period from 1996 to mid-1998 average annual GDP growth was 6 per cent. xi
    • Unfortunately, the financial crisis in Russia has badly influenced the growth rates of the Latvian economy. In 1998, GDP grew by 3.9 per cent and in 1999 by only 0.1 per cent. This being said, since mid-1999 the situation has been improving and during the first months of 2000 the economic results were quite encouraging. During the first quarter of this year, exports and industrial production experienced a rapid increase, and Latvian ports shipped a high volume of cargo. The financial ratios are also good, and the budget has received more taxes than was planned. The activity of the stock exchange has also gained momentum. This makes us feel optimistic about the future. We envisage a 4 per cent GDP growth for 2000, and I think we shall be able to increase growth rates to 6 per cent subsequently. During the years of independent development, our country has managed to reorganize its economy. Latvia has implemented a liberal trade policy, thus enabling competitive sectors to benefit from their advantages in the international market. Currently, Latvia's imports and exports with EU countries constitute more than half of its total volume of exports and imports. This is despite the fact that during the years preceding the restoration of its independence, Latvia did not conduct any foreign trade outside of the former socialist countries area. Integration into the European Union is one of Latvia’s priorities, as Latvia considers itself as a European country. In December 1999, with the invitation of the European Commission to start the accession negotiations, Latvian-EU relations entered a new phase. On 10 February 1999, Latvia was the first among the Baltic States to become a full-fledged member of the World Trade Organization (WTO). Upon accession to the WTO, Latvia has invested a lot of effort into harmonizing and improving its foreign trade legislation. Latvia now has broader opportunities to participate in world trade based on unified principles. We are very well aware of the fact that economic reforms in Latvia have not been completed. The restruc- turing of the national economy should continue; we xii
    • should introduce more up-to date management methods and further train business persons to work in the market economy. This is the major reason why we need seminars like yours. We also hope that such events might help us to consolidate and improve the institutions responsible for the promotion of Latvian exports. I would like to express my gratitude to the organizers of this seminar, and to the participants, and express hope that it will not only constitute a platform for the exchange of opinions, but will also promote mutual contacts and cooperation. xiii
    • Welcoming address by: Mr. Zenon Olbrys, President and Chairman of the Board, Baltic Transit Bank, Latvia On behalf of Baltic Transit Bank let me welcome you, the participants of the seminar “Eliminating Obstacles to Efficient Trade Finance in Transition Economies” to Riga, the capital of the Latvian Republic. We, the Baltic Transit Bank, are proud that the United Nations Economic Commission for Europe has chosen our charming city as a venue for this conference and our bank as the coorganizer of the conference. I hope that during the next two days you will be able to discuss the problems and obstacles which prevent the de- velopment of business relations and trade between transi- tion economies and will find solutions as to how to overcome the identified problems and obstacles. I would like to thank the Moscow bank “Alfa Bank” which has agreed to be a co-sponsor of the conference in cooperation with the Baltic Transit Bank. Many thanks to the UNECE for their hard work during the preparations for this conference. I am familiar with the list of moderators and I am sure it will be a great pleasure for us to hear to their talks. We, the Baltic Transit Bank, are at your disposal and if you have any questions or need assistance please do not hesitate to contact us, and we shall do our best to help you. I hope you will be satisfied by the results of the confer- ence and enjoy your visit to Latvia. I wish you all fruitful and interesting work. xiv
    • CHAPTER I IMPORTANT FEATURES OF TRADE FINANCE IN TRANSITION ECONOMIES: SECOND HALF OF THE 1990s Note by the UNECE secretariat INTRODUCTION The development of transition economies’1 foreign trade has proved to be a very effective means of facilitat- ing reforms and smoothening the hardships of transition. In particular, growing exports in several countries of the region have been a result of successful structural transfor- mations and the revenue and growth resulting from these exports have, in turn, favourably influenced internal reforms. The increased inflow of convertible currency due to export growth generates additional income and en- ables enhanced imports of both consumer and investment goods, facilitating structural adjustment and the modern- ization of national economies. The present note summarizes the most recent develop- ments in transition economies’ trade; traces the evolution of trade finance risks and instruments used in short- and long-term export and import transactions; and examines the changing role of Eximbanks, export credit agencies and other government agencies engaged in trade finance 1 The European transition economies refer to the formerly centrally planned economies of eastern Europe and the former Soviet Union. Central and Eastern Europe (CEE) refers to the economies of Albania, Bulgaria, Hungary, Poland, Romania and the Czech Republic, Slova- kia, and the successor States of the former Socialist Federal Republic of Yugoslavia. Among the newly independent republics of the former Soviet Union, a distinction is made between the Baltic States, Estonia, Latvia and Lithuania, and the remaining republics which cooperate within the institutional framework of the Commonwealth of Independ- ent States (CIS): Armenia, Azerbaijan, Belarus, Georgia, Kazakhstan, Kyrgyzstan, Russian Federation, Republic of Moldova, Tajikistan, Turkmenistan, Ukraine and Uzbekistan. 1
    • 2 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects and promotion in transition economies. It is hoped that, on the basis of this paper and discussions at the seminar, participants might develop some practical recommen- dations to government agencies dealing with trade finance and promotion, and provide some guidance to international organizations active in this area. EXECUTIVE SUMMARY: MAJOR FINDINGS In the second half of the 1990s, the growth of trade in the European transition economies was unstable and tended to slacken. At the end of the decade, the value of both exports and imports showed negative growth rates, and this fall was particularly pronounced in the CIS countries. At the same time, developed market economies increased their role as the principal trading partners of European transition economies, and a growing demand from western markets has helped maintain the volume of exports in most of the central and eastern European countries and the Baltic States. The CEEC and Baltic countries have increased the share of high value-added goods (consumer goods, machinery and equipment) in their exports to developed market economies, while food products and intermediate goods (including chemicals) have become major compo- nents of their exports to other transition countries, in particular, members of the CIS. In contrast, primary commodities (crude oil, natural gas, oil products, metals and cotton) have continued to dominate the composition of exports from the CIS countries, making their export revenues particularly sensitive to changes in commodity prices. Recently trade payment conditions have tended to im- prove for those CEEC and Baltic States which are more advanced in the transition process and have stagnated or deteriorated for the other transition economies (CIS, in the first place). Imports to the CIS are conducted almost entirely on a prepayment basis, since very few western partners accept letters of credit issued by local banks. A major obstacle to the financing of CIS countries’ exports, and, in particular, the development of L/C transactions has been the weakness of the CIS banking system.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 3 Advance payments and cash collaterals, on the one hand, and countertrade on the other, remain essential features of transition economies’ foreign trade, while the lack of working capital and pre-shipment finance continues to impede exports from countries at the earlier stages of transition. Access to long-term trade financing is still limited in central and eastern European countries and practically un- available in the CIS. Even with assistance from govern- ment-sponsored schemes, commercial banks are unable to provide long-term credits to exporters and importers because of the narrow capital base on the one hand, and high risk of those operations, on the other. In this context, forfeiting and leasing can be potentially attractive solu- tions to companies’ financial needs. During the second half of the 1990s, barter and coun- tertrade continued to play an important role in the domes- tic trade of CIS countries, as well as in their trade with developed market economies and among themselves. However, the available data show that from 1995-1997, the value of barter in CIS countries’ trade declined both in absolute terms and as a proportion of exports and imports. The development of more flexible trade financing, as op- posed to barter, should be seen as an important instrument for assisting the transition process. The general paucity of efficient sources of trade financing is a major impediment. Access to private finan- cial sources is frustrated by companies’ lack of working capital and track record, (i.e. the lack of credit ratings), the undercapitalization of commercial banks and the high share of non-performing loans in their portfolios, as well as banks’ insufficient expertise with risk management and trade finance instruments. In addition, excessive security and collateral requirements have been identified as signif- icant obstacles to pre-export finance. The Russian financial crisis of 1998 has had a detri- mental effect on the availability of trade finance. Both domestic banking sectors and local security markets have been affected adversely, while the access of local finan- ciers to international financial markets has been handi- capped. Spillover effects have been most pronounced in the countries that maintained extensive trade links with
    • 4 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Russia prior to the crisis, namely the Baltic States and the other countries of the CIS. Although some countries (the Baltic States, in particular) have been more successful in dealing with the negative effects of the crisis, many problems, notably bank sector restructuring and reca- pitalization, have still to be addressed effectively. Since the beginning of the 1990s, a number of coun- tries in eastern Europe, the Baltic and the CIS have initiated Export Credit Insurance and Guarantee Schemes (ECGSs), and established export credit agencies (ECAs) and State-sponsored export and import credit banks (Eximbanks). Despite the limited scope of official export credit insurance programmes in most transition econo- mies, they are generally thought to have a positive impact on export development. The highest export growth rates have been shown recently by eastern European countries, where ECAs are relatively efficient and well managed. In the Baltic countries, which have enjoyed export growth rates comparable to that of central and eastern European economies, export credit agencies have been successfully expanding their operations. In contrast, in most countries of the CIS, the scale of export credit insurance remains modest. Recent financial and economic crises, and the resulting weakened domestic economies, have rendered transition economies more vulnerable to changing world market conditions. The aggravation of risks has emphasized the importance of export-credit insurance. Under these condi- tions, the maintenance of trade volumes among transition economies largely depends on the flexibility of ECAs, their prompt reactions to partners’ failures and innovative techniques of claim settlement. To this end, an exchange of information and cooperation among the relevant government agencies of different transition economies may help them to learn from each others’ experience and to develop practical tailored solutions. MAJOR FEATURES OF TRANSITION ECONOMIES’ TRADE IN THE SECOND HALF OF THE 1990S In the second half of the 1990s, the growth of Europe- an transition economies’ trade was unstable and tended to
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 5 slacken. Overall their annual export growth rates at current prices plummeted from over 25 per cent in 1995 to about 8 per cent in 1996, 4 per cent in 1997 and, finally, became negative in 1998 and 1999 (minus 3 per cent and minus 6 per cent, respectively). The import growth rates followed the same pattern, decreasing from 32 per cent in 1995 to less than half a per cent in 1998 and finally turning into a decline of 14 per cent in 1999. The export growth rates of central and eastern Europe- an countries fluctuated with a general decreasing trend, and in 1999 showed a negative growth (minus 2 per cent). Over the same period, exports of the CIS countries showed an even steeper downward trend: the export growth rate went down from 23 per cent in 1995, 10 per cent in 1996, less than one per cent in 1997 and minus 15 per cent in 1998 (the data for the first nine months of 1999 show a 9 per cent decrease). On the import side, growth rates showed a similar trend. Both in central and eastern European countries and the Baltic States, import value growth peaked in 1995 (36 and 53 per cent, respectively) slackened in the subse- quent years of the decade and finally reached negative signs in 1999 (a fall of about 4 per cent for central and eastern European countries and 17 per cent for the Baltic States). Here again, the performance of the CIS member States was worse than average: import growth rates dropped from 26 per cent in 1995 to 8-9 per cent in 1996 and 1997, and plummeted to a negative 14 per cent in 1998. Preliminary data for 1999 show an almost one third decline in USD value of CIS imports.2 In the 1990s, developed market economies, and those of western Europe in particular, increased their role as the major aggregated trading partner of transition economies. By the end of the decade their weight in total exports and imports of central and eastern European countries exceed- ed 70 per cent; the same re-orientation of trade toward the developed part of the world was characteristic during the past decade also for the CIS countries. The growing demand from western markets has helped maintain the exports of the central and eastern European 2 UNECE Economic Survey of Europe, 2000, No. 1, p. 3 - 11.
    • 6 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects countries and the Baltic States. In contrast, in 1998 and 1999 it was adversely affected by Russia’s economic cri- sis. Declines in exports from Russia and several other CIS State during 1998 and 1999 was largely a result of falling commodity prices and, to a lesser extent, the currency in- stability and banking system disruptions related to the above-mentioned crisis. In 1999, though, the rising prices of oil and metals partially offset the adverse effects of the crisis and contributed to maintaining the export levels and revenues of the CIS producer-countries. In the second half of the 1990s, the commodity struc- ture of the central and eastern European countries and the Baltic States’ exports was influenced by import demand in developed market economies and the CIS. Their ex- ports to the first destination consist mainly of consumer manufactures and machinery and equipment (central and eastern European countries). In contrast, by 1999 food products and intermediate goods (including chemicals) were major components of their exports to other transi- tion economies and CIS States in particular. This pattern is, to a large extent, the reverse of trade structures that were characteristic for those countries in the years imme- diately following the desegregation of the Soviet Union. Primary commodities have continued to dominate the composition of exports from the CIS countries. Russia, Azerbaijan and Kazakhstan depend significantly on for- eign sales of crude oil, natural gas and oil products. Exports of metals are important to the Russian Federa- tion, Kazakhstan, Tajikistan and Ukraine, while cotton and gold sales largely determine the export structure of central Asian countries. The dependence of CIS export revenues on primary commodities makes them highly sensitive to changes in commodity prices. On the import side, the CIS countries purchase predominantly machin- ery and transport equipment, agricultural products and food, fuels and chemicals. The commodity structure of the CEEC and CIS exports suggests particular forms of financing. The development of high value-added exports to developed market econo- mies from countries of central and eastern Europe increasingly requires medium- and long-term export credits and developed export insurance schemes. On the other hand, food and intermediate goods exports from
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 7 Box I Financial sector support to international trade The financial sector supports international trade in four main ways: First, it provides working capital to the exporter, thus bridging the gap between the time when the exporter needs funds for production and transportation, and the time when the importer pays for the products or services and reimburses the exporter’s in- vestment. Financial institutions directly influence the competitive positions of export- ers, as the ability of the latter to win contracts depends on their capacity to offer attractive payment terms to foreign buyers. The role of payment terms as a marketing tool is very relevant in countries of central and eastern Europe and the CIS where buy- ers often encounter serious financial difficulties and cannot purchase without credit. Second, it renders services, which help the exporter to receive payment in the least costly and risky way (from simple intra-bank money transfers to relatively complex in- struments such as leasing, letters of credit, and foreign exchange-related services). Third, it provides insurance against risks encountered in the process of trade. In- surance instruments include freight and export credit insurance but also forward con- tracts. Fourth, it makes valuable information available to corporate financiers, informing their clients on present and future money and capital market conditions. Source: WTO Special Studies 3, “Trade, Finance and Financial Crises”, 1999, pp 4-5. those countries as well as exports of primary commodities from the CIS economies may not need elaborate long- term financial arrangements but may demand considera- ble investment in export production (i.e. pre-shipment financing and working capital). RECENT TRENDS IN TRADE FINANCE IN TRANSITION ECONOMIES Adequate and timely access of exporting and import- ing companies to trade finance depends on the effective- ness of their interaction with the financial sector. The latter influences the competitive positions of domestic producers in several ways (see box I). In various transition economies, the peculiarities of exporters’ and importers’ cooperation with financial institutions depend
    • 8 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects D ia g r a m 1 : C O F A C E S h o r t T e r m C o u n tr y R is k s 2 0 0 0 M o d e r a te H ig h r is k L ow r is k R is k B o s n ia - H e r z e g o v in a A lb a n ia F Y R o f M a c e d o n ia P o la n d C z e c h R e p u b li c Y u g o s l a v ia S lo v e n i a S lo v a k ia R o m a n ia H ungary C r o a tia U k r a in e E s to n ia R e p u b li c o f M o ld o v a B e la r u s L a tv ia B u lg a r ia G e o r g ia L it h u a n ia R u s s ia A r m e n ia A z e r b a ija n K a za k h sta n U z b e k is t a n T u r k m e n is t a n T a jik ist a n K y rg y zsta n S o u r c e : “ R is q u e P a y s 2 0 0 0 ” M O C I D ia g r a m 2 : Risks 2000 C O F A C E M e d iu m - T e r m C o u n t r y R is k 2 0 0 0 V ery h ig h H ig h M o d e r a t e ly r is k R e la t iv e ly R is k h ig h r is k G ood g o o d r is k r is k B o s n ia - H e r z e g o v i n a R o m a n ia A lb a n ia B u lg a ria F Y R o f M a c e d o n ia L a t v ia P o la n d E s to n i a Y u g o s l a v ia L i th u a n ia C zech R u s s ia S lo v a k i a R e p u b lic U k r a in e C r o a tia H ungary B e la ru s S lo v e n ia G e o r g ia A rm e n ia A z e r b a ij a n K a z a k h s ta n U z b e k i s ta n T u r k m e n is ta n T a j i k is t a n K y r g y z s ta n S o u rc e : “ R isq u e P a y s 2 0 0 0 ” M O C I both on the level of that economy’s development and the level of market reforms that have been implemented. SHORT-TERM INSTRUMENTS AND FACILITIES The transition to a market economy in countries of eastern and central Europe and the CIS has opened up new profit opportunities for entrepreneurs from devel- oped market and transition economies. At the same time,
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 9 it has revealed considerable limitations and inefficiencies in the existing trade financing infrastructure. The experience of the last decade has shown that the past decade’s drastic systemic transformations, accompa- nied by an unstable and often contradictory institutional and regulatory environment, as well as the emergence of thousands of new actors has significantly enhanced foreign trade risks within the CEEC, Baltic and CIS countries. These high risks, in their turn, have strongly affected the availability and cost of trade finance in central and eastern Europe and the CIS region. The assessment of country risks by various credit- rating institutions during the last 5 or 6 years has shown that most economies of central and eastern Europe have improved their positions. Alternatively, the situation has not changed or has even worsened for the majority of CIS and south eastern European countries. Earlier this year, the French Export Credit Agency COFACE issued short and medium-term country risk ratings as they stood at the end of 1999. Diagram 1 shows that in terms of short-term country risks, most east and central European and Baltic countries, and especially those which have applied for membership in the Europe- an Union, were considered as low risk (Poland, Hungary, Slovenia and the Baltic States) or moderate risk (Czech Republic, Slovakia, Croatia and Bulgaria). The diagram also reveals that perceived short-term risks were consid- erably higher for the CIS States and countries of southeast Europe. Of the former, only the Republic of Moldova and the Russian Federation were rated by the Agency as moderate country risks (see Diagram 2), while all the other CIS member States were considered as highly risky partners. Hence, COFACE advises western exporters to the CIS countries to negotiate pre-payment terms where possible: prepayment remains “an irreplaceable norm” for dealing with Russian companies, for example. As a matter of comparison, for Hungary, Poland and the Czech Repub- lic, open account and documentary credit terms are most commonly advised. In the same way, for the Baltic States, deferred payment (letters of credit, supplier credit
    • 10 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects between 30 and 60 days) is considered acceptable for “well-known and serious exporters”.3 Consequently, in the CIS States’ trade both with devel- oped market economies and among themselves according to the least costly payment modes (open account, sight draft) are used rarely, if ever. For example, a recent survey of over 1,000 representative offices of German companies operating in Russia indicated that in trade transactions with Russian firms, 46 per cent of German companies asked for prepayment, only 29 per cent accepted deferred payment, and less than 12 per cent were prepared to trade on letter of credit (L/C) terms.4 In most CIS countries, letters of credit are issued by local private banks only in those cases where the custom- er can deposit the requisite funds in its account well before the transaction takes place. Prior to the 1998 finan- cial crisis, western banks were in some cases ready to confirm letters of credit from CIS banks. However, after the crisis, only a few western banks have accepted L/Cs issued by CIS commercial banks. In December 1999, the head of the Russian State-controlled Bank for Foreign Trade (Vneshtorgbank) indicated that “western banks have practically stopped normal credit transactions with the Russian banking system [Russian banks] as letters of credit are not accepted in import transactions”.5 For this reason, export trade with the CIS by compa- nies of developed market economies is conducted almost entirely on a pre-payment basis. This situation particular- ly distorts the trade of those countries where commercial banks are not authorized by the National Banks to service deals involving prepayment (e.g. Turkmenistan), con- firmed letters of credit then being the safest instrument for western exporters.6 3 MOCI “Risque pays 2000”, 27 January-2 February 2000, pp. 37, 59. 4 “Moskovskiye Novosti”, o 11, 1999, p.8. 5 “Vremia MN”, 27 December 1999. 6 US Department of State “FY 2000 Country commercial guide: Turkmenistan”, July 1999.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 11 In the context of CIS exports to the west, the major obstacle to the development of letter of credit transactions has been the weakness of the CIS banking system. west- ern bankers often indicate that only a few Russian banks have sufficient know-how to act as an advising bank in a letter of credit transaction where a western bank acts as an opening bank. This is probably the major reason for the predominant use of various types of prepayment not only in the import but also export transactions from the CIS member States. Importers from developed economies, as well as their banks, thoroughly investigate only the performance risk for exporters. Here, a lack of coherent ownership struc- ture or continuous infighting among shareholder groups, for example, may endanger pursuit in case of non- performance. In the same way, western importers’ banks look very closely at the financial position of exporters, notably tax arrears and utility bill payment records. Indebted companies are unlikely to win the contract because, in the case of competing claims on the exportable product, importers from developed market economies and their banks do not expect to win a court case against local creditors. The difficulty of obtaining sufficient pre-shipment working capital remains one of the most important obstacles for exporters in European transition economies (CIS in particular). More specifically, the problem lies not so much in the lack of short-term funds, but rather in the reluctance of commercial banks to extend credit without burdensome collateral requirements. As a result of this prudent approach to risk-taking, companies are required to pledge various types of security (asset-based collateral, cash deposits, contract-based cash flow commitments) often creating too heavy a burden on the exporter’s resources. According to a recent study by the International Trade Centre (ITC), excessive collateral requirements by banks significantly affect not only small firms trying to expand their export operations, but also larger firms, seeking to upgrade production equipment and technology.7 7 ITC “Improving The Financing of Exports From eastern Europe”, Division of Trade Support Services Technical Paper, 1997.
    • 12 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects To summarize, as was already mentioned in the 1996 UNECE study on Trade Finance in the Transition Econ- omies on the same subject, wider use of modern payment terms in trade by all CIS countries is hampered by major weaknesses of the financial sector in these countries (see below). Topics requiring further discussion: 1. What are the most relevant trade finance risks in different groups of transition economies? 2. What are the conditions that must be met for a transition from prepayment to less expensive payment terms (L/C, documentary collection)? 3. What are the factors favouring the reduction of collateral requirements by local banks? Long-term instruments and facilities (a) Risk perceptions To be competitive, exports of capital goods must be backed by favourable credit terms, extended for a period of up to seven years, depending on the size of the transac- tion. Imports of capital equipment, essential for the mod- ernization and upgrading of production in transition economies, also require cohesive support from the finan- cial sector.8 For this reason, macroeconomic instability and the overall weakness of the banking systems in many countries of the region considerably inhibit medium and long-term financing of foreign trade. It should be mentioned that, until 1998, at least well es- tablished companies from eastern European countries and the CIS enjoyed relatively easy access to foreign funds for expansion and restructuring, and banks were eager to lend to the fast-growing countries. However, the 1998 Russian financial collapse has considerably reduced the possibili- ties for bank financing both at home and abroad. This circumstance has left many exporters and importers in 8 Ibid.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 13 transition economies searching for alternative sources of financing. Here again, the opportunities of foreign traders have been different in countries at different stages of transition, depending on the perceived medium and long-term risks. Diagram 2, compiled from COFACE data, shows that at the end of 1999 the medium-term country risk ratings were closely correlated with the progress of market reforms and the success of economic stabilization. The Czech Republic, Estonia, Hungary, Poland and Slovenia, being the most immediate candidates for joining the European Union, represented relatively low risks for banks and exporters, while Croatia, Latvia, Lithuania and Slovakia were classified as moderately high risk. The diverging perceptions of risks associated with trade and investment have influenced the access to foreign financ- ing by companies from different countries. (b) Forfeiting9 The “Country Risk Rankings” published by Euro- money magazine use the discount on forfeiting available in different countries as a component of the countries’ overall risk rating. The forfeiting scores reveal that, at the end of 1999, in eastern and central Europe, Slovenia en- joyed the highest ranking, followed closely by Poland, Hungary and the Czech Republic. Of all former Soviet Union countries, ratings were attributed only to the Baltic States and Kazakhstan. All other CIS member States, including Russia and Ukraine, were qualified as “offering no sustainable access to forfeiting markets”.10 While traditionally the use of forfeiting is driven by an exporter’s need to reduce risks and get a quick reward, recently interest in forfeiting services has also come from eastern European importers seeking alternative financing 9 Forfeiting is a financial instrument aimed at reducing the risk of the exporter. It involves the issue of promissory notes by the importer (or bills of exchange by the exporter) on which a bank in the buyer’s country guarantees payment. Once the goods have been delivered and the contract fulfilled, the exporter sells the paper (i.e., the bills or notes) to a forfeiter without recourse and at a price determined by the forfeiter itself. Thus, the exporter receives payment instantly and transfers the risk of non-payment to the forfeiting company. 10 “Euromoney”, September 1999, pp. 250-255.
    • 14 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects methods after their habitual sources of financing disap- peared following the 1998 crisis.11 Importers from such countries as the Czech Republic and Croatia whose preferential access to the bond markets was lost as a result of the crisis have been successful in at- tracting the big forfeiting companies such as London West LB, London Forfeiting and DOG Trade Finance for import financing. For instance, recently London Forfeiting (with Zagrebacka Banka guaranteeing the deal) has put together the financing for John Deere to sell USD 15 million worth of tractors to a number of buyers in Croatia. The financing has been extended for seven years (with a two-year grace period) as opposed to the usual 1 to 3 years.12 The volume of individual forfeiting transactions with companies from CIS countries has yet to attain the levels of those undertaken with firms from central and eastern Europe. As a comparison, while in Hungary or Poland a single forfeiting deal can be worth up to USD 50 million, the value of individual forfeiting transactions in central Asia recently has not exceeded USD 5 million.13 In the context of intra-CIS trade, forfeiting is still uncommon because of the high risks inherent in long-term transac- tions, the relative weakness of local commercial banks as well as the lack of companies specializing in this type of financing. (c) Leasing Another potentially attractive financial solution for companies seeking to sell and purchase capital equipment is transborder leasing. Leasing services have enjoyed buoyant growth in countries of central and eastern Europe. The total volume of new lease financing in Hungary, Poland, the Czech Republic, Slovakia, and Slovenia rose from USD 1.3 billion in 1993 to more than USD 4 billion in 1996. In 1997, European transition economies experienced a slowdown in leasing growth, while in 1998 a major downturn in the region’s develop- ment lead to a significant divergence in growth rates of 11 “Central European”, February 1999, pp 30-31. 12 Ibid. 13 Ibid.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 15 leasing operations in different countries of the region. If the markets in the Czech Republic, Poland and Slovenia grew by 8, 28 and 12 per cent respectively, volumes of transactions declined by 19 per cent in Slovakia and as much as 35 per cent in Estonia..14 According to experts of Leaseurope Association, the expansion of the EU to selected eastern European countries will stimulate invest- ment, creating an important potential for lease financing. The importance of leasing has increased in various sectors and industries. It has been growing the fastest in services, followed by manufacturing and construction, and agriculture, forestry and fishing. In countries which have suffered the most from the consequences of the 1998 financial crisis, the share of short-term leasing (up to 2 years) has increased, reflecting the instability of the economic situation and the conse- quent rise in investors’ risks. At the same time, an increase in the amount of long-term leasing deals (with a duration of 5 to 10 years) has occurred due to a wave of restructuring of lease payments for those lessees who have run into payment difficulties. Over the last decade, leasing in general, and trans- border leasing in particular, has become an important instrument of long-term trade and investment finance. In 1998 about 80 per cent of leasing transactions in eastern and central European and Baltic countries and the CIS financed the acquisition of equipment and only 20 per cent the acquisition of real estate. The use of leasing makes it easier for the lender (lessor in this case) to preserve the security behind financing by keeping ownership rights on the leased title; in certain cases, both lessor and lessee may also acquire some tax gains15. The importance of leasing in transition economies may grow in the future. In Russia, for example, according to the Ministry of Economy’s forecast, the proportion of leasing may grow from being equivalent to about 2 per 14 Leaseurope Association “Annual Report 1999”. 15 “Multinational Business Review”, Fall 1999, pp. 89-96.
    • 16 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects cent of total investment in 1997 to about 20 per cent in the year 2000.16 Non-conventional trade During the second half of the 1990s, barter and countertrade continued to play an important role in the domestic trade of CIS countries17, their trade with devel- oped market economies and among themselves. At the beginning of the past decade, about 50 per cent of intra- CIS trade was estimated to have been effected via barter. Subsequently its importance has tended to decline.18 The available data show that in 1995-1997, the value of barter in CIS countries’ trade declined both in absolute terms and as a proportion of exports and imports. In most of the countries for which data are available, the share of barter dropped from about 20-25 per cent of exports in 1995 to 10-15 per cent in 1997. However, these transac- tions remained important for many countries, for example Belarus (28-30 per cent in 1997), Republic of Moldova and Azerbaijan (10-14 per cent) and Ukraine (9-10 per cent). In the trade of the Russian Federation, the share of barter in 1997 was about 6 per cent for exports and 8 per cent for imports. However, in absolute terms, these percentages still represented important values (about USD 4.5-5 billion in each case).19 Anecdotal evidence attests to a continued use of countertrade between traditional Soviet-era partners. Recent examples include a three-way deal to supply gas from Turkmenistan through Russia to Ukraine. The deal is based on an agreement between Turkmenistan and 16 “Zakon”, July 1999, pp. 46-49. 17 According to different estimates, the volume of barter transac- tions in the Russian Federation accounts for up to 80 per cent of inter- enterprise turnover. Guriev, S., Ickes, B. “Barter in Russian Enter- prises: Myths vs. Empirical Evidence”, The European Commission 1999, p. 6. 18 Trade Finance in the Transition Economies: a Further Examina- tion. Note by the Secretariat (UNECE doc. TRADE/R.641), Part I, p. 10. 19 Sodrouzhestvo Nezavisimych Gosudarstv. Statisticheskii Byul- leten’, August 1998, No. 15, p.75-76.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 17 Ukraine to deliver 20 billion cubic metres of gas from 1999 to 2005. As much as 10 billion cubic metres Ukraine will have to pay in kind to Gazprom for gas transit, the rest will be covered by payments in cash (40 per cent) and deliveries in kind (food and other goods). Another example of a big barter deal involves Ukraine handing over to Russia eight Soviet-made Tu-160 strategic bombers to cover USD 1.8 billion in natural gas debt.20 Payments in kind are also used outside of intra CIS trade. For example, a Latvian pharmaceuticals company ”Olainpharm” has reached a deal involving the export of medicines in exchange for Russian coal.21 It is also esti- mated that about one third of the annual trade turnover between Bulgaria and Russia (worth USD 1 billion) is ef- fected through barter transactions. In 1999 Gazprom agreed to accept, in partial payment, building materials equivalent in value to 30 per cent of its gas deliveries to the Bulgarian State construction company Glavbul- garstroi. In the same way, Glavbulgarstroi covers the cost of importing nuclear fuel to Bulgaria’s Kozlodui atomic power plant. For this purpose, this company has signed a USD 15 million contract with the Russian Atomic Energy Ministry (Minatom) to build a housing complex for the workers of a Novosibirsk chemical plant.22 It is seen from the above that Minatom uses countertrade as a project finance instrument. As was already indicated in the 1996 UNECE study, in the CIS countries countertrade plays a major role in main- taining trade volumes and supply in individual regions. For example, in 1999 the Russian Government proposed to the Association of Southeast Asian Nations (ASEAN) several barter agreements involving food deliveries from the member States of the Association to the Russian Far East in exchange for Russian machinery and equipment.23 The empirical evidence suggests a sustainability of payments in kind that cannot be explained only by enterprise liquidity shortages. The enhanced access to 20 “Countertrade and Offset”, February 22, 1999, p. 7 and Septem- ber 13, 1999, p. 6. 21 BIKI, 22 February 2000, p.3. 22 “International Trade Finance” December 18, 1998, p.4. 23 “Countertrade and Offset”, September 13 1999, p. 6.
    • 18 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Box II Electronic countertrade and barter: A promising solution for transition economies? The rapid development of electronic commerce via the Internet could make elec- tronic barter payments a potentially important tool of trade finance in transition econ- omies, and CIS countries in particular. The use of a commonly accepted electronic unit of accounting, for example a “trade dollar”, would offer multilateral trading possibili- ties - enabling the involvement in international trade of thousands of small companies. Such systems of “trade exchanges”, present virtually at Internet sites, offer companies an effective way to conduct business using a trade dollar as a medium of exchange. Already now, there are over 700 trade exchanges worldwide, used by 600,000 compa- nies in 23 countries. The year 1999 also marked the use of Internet for barter trade. The ubiquity of the Internet and its infrastructure could enable the development of powerful online elec- tronic barter centres to complement and expand existing, specialized barter companies, including those in transition economies. Sources: “Bank Systems & Technology”, December 1999; “World Trade”, January 2000. global markets substitutes for barter only to a limited ex- tent. A recent study of this issue prepared for the Europe- an Commission has shown that, in the CIS, an increase of exports by one rouble leads to a decrease in barter sales of as little as 17 kopecks. Moreover, this proportion applies to exports directed to both cash-constrained CIS States and non-CIS countries. The same study has provided ev- idence that barter is used by all industries despite their technological differences and varying number of suppli- ers. The authors suggest that, to a certain extent, trade-re- lated monetary transactions within the CIS may be more costly than barter due to high taxes, insecure property rights, imperfect credit markets, as well as rent-seeking by banks and other intermediaries.24 It is also important to emphasize that exchanges in kind among enterprises often seek to maintain inter-in- dustrial cooperation inherited from Soviet times and con- serve trade links among enterprises of the CIS region. In addition, recent years have borne witness to the emer- gence of specialized intermediaries (similar to those 24 Guriev, Ickes, op.cit., p. 9.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 19 flourishing in east-west countertrade in the 1970s) which focus on developing multi-party barter schemes, reducing their cost for the players. All those factors add up to a lock-in effect contributing to the perpetuation of barter.25 One also cannot discount, at least for some CIS countries, the emergence of electronic commerce via Internet and the new opportunities which it creates for on-line counter- trade (see box II). In summary, the medium-term future of countertrade and barter is unclear. The opening of markets and a grow- ing exposure to outside competition will tend to reduce the number of inefficient enterprises and the network of their traditional links within the CIS. This factor will de- crease the potential for countertrade. At the same time, the lack of convertible currency, pressures to preserve non-viable enterprises and the requirements for stability of supply in particular regions and for particular products will contribute to maintaining countertrade transactions. Topics for further discussion: 1. What are the factors determining long-term risks in trade finance? 2. Is country risk the most important risk in the long- term perspective? 3. What are the benefits of forfeiting to importers from the central and eastern European countries, the Baltics and the CIS? 4. Can forfeiting and leasing substitute for the lack of bank financing in transition economies? 5. Do countertrade and barter, in particular, substi- tute for conventional trade or, rather, supplement it? What are the major factors perpetuating barter? What are the perspectives of countertrade in the medium- to long-term future? 25 Ibid.
    • 20 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects SOURCES OF FINANCE 1. Company’s own funds In the second half of the 1990s and the beginning of the 2000s, the use of trading companies’ own working capital for export production and imports has been largely frustrated by undercapitalization and insufficient operat- ing profitability. For example, in Russia in the first half of 1998 (that is before the financial crisis broke out), more than 51 per cent of medium-sized and large enterprises operated at a loss. In September 1998, the share of enterprises having overdue receivables amounted to 72 per cent of their total number and those having over- due payables to 71 per cent. At that time, the value of overdue payables was estimated at over 40 per cent of GDP.26 New private companies, including those having potentially competitive products, often have to rely on borrowed funds both in their domestic operations and in exports. In the absence of such funds, important non-bank sources of financing have been tax arrears and the non- payment of utility bills.27 2. Commercial bank credit The availability of commercial bank credit crucially depends on the state of the banking system. The financial sector in the countries of central and eastern Europe, the Baltics and the CIS is known to have undergone radical changes during the transition. The original monobank has been replaced by a two-tier banking systems across all countries in the region and a considerable number of commercial banks have emerged. During the last decade, many of them, particularly in central and eastern Europe, dedicated considerable efforts to the development of new products and services, particularly for larger and more sophisticated clients. Recently, authorities in most countries have initiated 26 Goskomstat, “Statistical Bulletin”, December 1998. 27 EBRD “Transition Report 1999”, p.138.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 21 banking sector reforms, tightened market entry requi- rements, forced inefficient banks to exit, and recapitalized or merged weak but viable banks. Despite undeniable progress, the financial systems in transition economies remain underdeveloped, commer- cial banks being largely under-capitalized and small by western standards. Even in countries of central and east- ern Europe and the Baltics which are relatively advanced in institutional reforms, financial sector weakness is apparent. As an example, in the 11 European Union countries that have signed up to the Euro, bank assets (worth USD 17,000 billion), represent an equivalent of 260 per cent of their GDP. A similar indicator for the central European countries (Poland, the Czech Republic, Slovenia, Slovakia and Hungary), shows combined bank assets worth USD 257 billion, which does not exceed 92 per cent of their GDP. In the European Union coun- tries, there is one bank branch per 1,700 inhabitants, while in the countries of central Europe there is one per 11,000 inhabitants. 28 The underdevelopment of the banking sector is even more apparent in countries of the CIS. In many member States of this grouping, the bulk of financial services is still rendered by only a few banks. In Azerbaijan, for example, four State-owned banks account for 80 per cent of total bank assets. At the same time, only one of them (International Bank of Azerbaijan, IBA) is sufficiently capitalized and fully operational, while the other three are technically insolvent.29 Non-performing assets and bad debts continue to weigh heavily on the balance sheets of banking insti- tutions in the region. For example, in 1999 the banks Ceska Sporitelna and CSOB, accounting for about half of the total turnover of banking services in the Czech Republic, had bad loans amounting to 44 per cent and 30 per cent, respectively, of their total loan portfolios.30 28 Central European, February 2000, p. 8. 29 US Department of State “FY 2000 Country commercial guide: Azerbaijan”, July 1999 and EBRD “Transition Report 1999”. 30 The Euromoney, November 1999, pp. 31-39.
    • 22 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects For the reasons referred to above, the banking sector in transition economies often lacks the capacity to provide market-based financial services to private enterprises. During 1994-1998, the sum of loans to the private sector was equivalent on average to 27 per cent of GDP in east- ern Europe and the Baltics, and to only 9 per cent in the countries of the CIS. This is well below the EU countries’ average of over 50 per cent.31 Constraints to efficient trade financing have also been attributed to the general level of interest rates in the re- gion, which remain higher than those available to export- ers from the OECD countries. This factor is clearly very important. At the same time, research conducted by the European Bank shows that it is not necessarily the most burdensome. Often, the lack of access to long-term bank loans, heavy collateral requirements imposed by financial institutions, as well as the additional costs im- plied by the paperwork and other bureaucratic proce- dures imposed by banks, impede the access to finance more than the transparent cost of high interest rates.32 Western banks and their affiliates in transition econo- mies play an important role in financing exports from the region. However, their capacity to adequately evaluate the creditworthiness of exporters, especially new small companies, is limited, and they prefer to deal with large and well-known clients, particularly in the commodities’ export sector. For this reason, the enhanced penetration of foreign financial institutions into the local markets for banking and insurance services can seriously amplify the availability of trade finance, particularly for SMEs, only in conjunction with a strengthening of the local financial sector. To summarize, the following major weaknesses of the banking systems in European transition economies should be mentioned: Insufficient capitalization of local commercial banks, a lack of resources for the pre-shipment sup- port of exporters and an inability to issue adequate payment guarantees; 31 IMF “World Economic Outlook”, October 1999, p.69. 32 EBRD “Transition Report 1999”, p.153.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 23 The unstable financial position of many commer- cial banks which has been aggravated in the aftermath of the 1998 financial crisis; The lack of credit history and trust vis à vis many transition economies’ commercial banks (CIS in particular) both in developed market economies and within the group of European transition eco- nomies; A limited range of services and not always efficient loan monitoring; A lack of experience in documentary trade opera- tions and a divergence between local and interna- tional standards for such operations; as well as, in some cases, out-of-date document-processing technology. The 1998 financial crisis which started in August of that year in Russia has inflicted heavy losses on the banking sector in that country and in many of its neigh- bours. Both the domestic banking sector and local security markets have been affected adversely, while the access of local financiers to international financial markets has been handicapped. The spillover effects have been most pronounced in the countries that maintained extensive trade links with Russia prior to the crisis, name- ly the Baltic States and other countries of the CIS. Bankers’ losses on assets with exposure to Russia and deposit withdrawals induced by a decline in confidence in many of the CIS countries cannot be easily restored.33 After the crisis, some countries have been more suc- cessful than others in addressing the problems of banking reorganization34 In many transition economies, however, the performance of the banking sector has remained at low levels. As an example, while in the main countries of western Europe the ratio of pre-tax profits to total banking assets during the first 9 months of 1999 ranged between 33 “World Economic Outlook...” pp. 66-68. 34 In Latvia, for example, the Central Bank has strengthened regu- latory requirements covering consolidated reporting, loan loss provi- sioning and maximum permissible exposures to borrowers in non- OECD countries. During 1998, the total number of banks was reduced from 30 to 25, and further consolidation of the financial system is likely to follow the introduction of new minimal capital requirements of USD 5 million, effective from 31 December 1999 (EBRD “Transi- tion Report 1999” p.239).
    • 24 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects 0.5 and 1 per cent; in the Russian Federation and the Czech Republic this indicator was -1.2 and -0.2 per cent, respectively, meaning that the banking systems in both countries were making losses.35 As a result of the financial crisis, and due to significant losses and decreases in the banks’ capital base, the supply of credit available to exporters and importers in transition economies has shrunk. In Kyrgyzstan, for example, in the middle of 1999 the total assets of the banking system amounted to only USD 14 million with the value of cred- its to the private sector not exceeding the equivalent of 5 per cent of GDP. In 1999, seven out of twenty banks were placed under conservatorship or liquidation.36 In March 1999, the total capitalization of Russian banks at current prices had plummeted by 40 per cent as compared with the pre-crisis level. By the end of 1999, the banking sector had restored its capitalization to the pre-crisis level (at current prices). Yet, from March to December loans to non-bank customers fell from 43 to 35 per cent of total banking assets.37 The limited use of short-term trade finance instruments (particularly letters of credit), as well as a general paucity of long-term funds, is likely to persist until transition economies’ bankers build up the capital base of commer- cial banks, restore their credibility and develop adequate expertise.38 It also remains to be seen how successful the post- crisis reorganization of financial sectors across the region will be and how quickly tangible results will be attained. 3. Capital markets Non-bank domestic and international capital markets represent another potentially important source of trade and investment finance. So far, though, the role of domes- tic capital markets has been limited because of their low 35 “Ekspert”, 20 March 2000. 36 EBRD “Transition Report 1999” p. 235. 37 “Ekspert” 20 March 2000. 38 IMF “Transforming Financial Systems in the Baltics, Russia, and Other Countries of the Former Soviet Union”, 1999.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 25 capitalization and the small number of instruments avail- able to investors. The ratio of stock market capitalization to GDP is uniformly low across the European transition economies as compared to these indicators for developed market economies. A large part of transactions at stock exchanges has been of a short-term and speculative nature; so far only large enterprises have ventured to raise funds through share issues. Most European transition economies also have very limited corporate bond mar- kets.39 Since the Russian debt crisis in August 1998, the cost of borrowing from international capital markets has risen sharply for companies from all the transition economies. Although the interest rates on bonds and syndicated loans have somewhat fallen back since, at the end of 1999 they remained higher than in 199740. It should be repeated that this form of financing is accessible only to large enterprises capable of providing an important asset-based security, and benefiting from explicit or implicit government support. SMEs, however, will have to rely on their track record and a gradual building of trust with their servicing banks to finance their sales abroad. Topics for further discussion: 1. Do exporters in transition economies rely heavily on external financial sources? 2. What are the major obstacles to efficient credit financing by commercial bank of exports and im- ports (low capitalization of banks, high risks and collateral requirements, too high interest rates)? 3. What is the role of foreign banks in trade finance in transition economies? 4. What regulatory measures by Governments would be desirable to increase the availability of trade finance from commercial banks? 39 EBRD “Transition Report 1998”. 40 ECE “Economic Survey of Europe”, 1999, Issue 3.
    • 26 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects VI. GOVERNMENT SUPPORT FOR TRADE FINANCE Since the beginning of the 1990s, a number of countries in eastern Europe, the Baltics and the CIS have initiated Export Credit Insurance and Guarantee Schemes (ECGSs), and established export credit agencies (ECAs) and State-sponsored export and import credit banks (Eximbanks) (see box III). In general terms, official financial support to exporters and importers is provided through direct export financing and credit insurance. Direct financing of exports is effected through loans extended to domestic exporters or foreign buyers by the government-backed export bank. Respectively, the loans may take the form of pre-production financing of the domestic exporter of goods and services, or direct lending to the overseas borrower/buyer (buyer credit). In addition to direct financing, the export bank may also offer to exporters re-financing of export credits extended by domestic private lending institutions, re-financing of exporters’ outstanding payment obligations and interest rate subsidies (where credits are extended with fixed and lower-than-commercial interest rates). Export credit insurance is effected to cover risks as- sociated with supplier credits and buyer credits (lines of credit). Supplier credit insurance is a guarantee of pay- ment given to exporters against the buyer’s non-payment risks. These can include commercial risks (risk of non- payment because of bankruptcy, insolvency or default of the buyer), political risk (risk of non-payment because of government-imposed restrictions), pre-shipment or post- shipment risk (commercial and/or political risks linked to the settlement of the export contract). Insurance of supplier credits is most commonly used in short-term transactions. Buyer credit insurance guarantees the payment of the foreign buyer to the seller or its bank. The insurance of buyer credits is provided banks in countries of exporters which extend credits to foreign buyers of exported goods or services, and is normally used for medium- and long-term transactions.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 27 Box III The Berne Union and its Members The International Union of Credit and Investment Insurers (the Berne Union) was set up in 1934 by four founding members from France, Italy, Spain and the United Kingdom. In 1999 it had a total of 44 members and 4 observers from 40 countries. By 1999, ECAs from four eastern European States (Czech Republic, Hungary, Poland and Slovenia) had acquired observer status in this organization. The Union has also signed cooperation agreements with the newly-established export credit agencies in Albania, Belarus, Bulgaria, Croatia, Latvia, Lithuania, Romania, Russia, Slovakia, Ukraine, and Uzbekistan. The purpose of the Union is to: Work for international acceptance of sound principles of export credit insurance and the establishment and maintenance of discipline in terms of credit for international trade; Foster international cooperation in encouraging a favourable foreign investment climate, and in developing and maintaining sound principles of foreign investment in- surance; Provide a forum for the exchange of information, experience and expertise among members. The Union’s members are organizations engaged in export credit and investment insurance and their main activities are: Supporting exports of goods on cash or short credit terms through underwriting the repayment risks on individual buyers and, often, their banks, as well as a whole range of political risks. Supporting, either by insurance or guarantees, or direct lending, the supply of project and capital goods on medium- and long-term credit. Supporting outward investment in various forms (e.g. equity, loans) made in other countries. The Berne Union—like export credit itself—plays a role of central importance in world trade and investment. In 1997, export credit guarantee institutions, members of the Union, provided guarantees amounting to USD 409 billion, representing about 10 per cent of the combined exports of the respective countries. It has extensive interna- tional contacts and speaks for its members in discussions both with international finan- cial institutions and individual buying countries. Source: M. Stephens “The Changing Role of Export Credit Agencies”, IMF, 1999
    • 28 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects The multitude of goals pursued by export credit agencies explains the fact that there exists no uniform model for such organizations. In OECD countries, ECAs differ in terms of ownership (government department, public corporation or private company), scope of opera- tion (issuance of insurance policies and guarantees, direct lending or both) and the time range (short-term, medium- and long-term or both) of instruments that are offered. In all cases, however, the main objective of ECAs remains the removal and reduction of uncertainties and risks that accompany international trade. In transition economies, the goal of upgrading the international competitiveness of domestic producers is particularly challenging because of the general under- development of the financial and informational infra- structure. As in developed market economies, the ECAs in transition economies are expected to protect exporters and importers from political and commercial risks. In addition, and these objectives are very important in the transition context, they provide additional security for exporters (insurance policies), facilitating their access to bank finance; they supply exporters and importers with information on partner countries, individual buyers and sellers, and associated risks; and they give companies access to expertise and provide training in practical issues related to trade financing techniques. Despite their growing volume of operations, the scale of activities of ECAs from countries of eastern Europe, Baltics and the CIS remains limited. In 1998, export credit agencies covered commercial and political risks for about 5 per cent of trade transactions’ value in Germany, 16 per cent in Austria and 24 per cent in France. In the same year, this same indicator did not exceed 3 per cent in the Czech Republic and 2 per cent in Poland, while in other transition economies with newly established ECAs this proportion was significantly smaller.41 Depending on the scope of existing activities, one can distinguish three types of approaches to export finance and insurance operations in European transition eco- nomies. 41 A World Export Credit Guide 1999-2000, Supplement to “Trade Finance” and “EBRD Transition Report 1999”.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 29 In the first group of countries (e.g. Poland, Latvia, Uzbekistan), government agencies offer guarantee and insurance schemes against non-payment by buyers abroad due to commercial and political risks. They do not provide export credit financing. In the second group (e.g. Czech Republic and Hun- gary), two separate institutions deal with export insurance and export financing (they usually work in close cooper- ation). Thus, in the Czech Republic, the Export Guarantee and Insurance Corporation (EGAP) offers short-term commercial risk insurance, and political (medium- and long-term) credit insurance, while the Czech Export Bank (CEB) provides export financing through direct buyer and supplier credits. Loans received by the exporter from the CEB must be insured with EGAP42 (see box IV). Finally, in the third group of States (Kazakhstan, Romania, Russia, Slovakia, and Slovenia) there is a single government agency providing exporters with direct financing, State guarantees and, in most cases, insurance against commercial and political risks. These types of institution often extend guarantees both for exporters and importers. For example, in Romania, Eximbank issues guarantees related to imports of capital goods and accompanying services, which are designed to protect foreign lenders against non-reimbursement. In transition economies, the largest part of ECAs’ operations is focused on developed economies. In 1998, the OECD countries accounted for 66 per cent of the total volume of the insured non-commercial risks by the Slovenian ECA.43 In 1999, the Eximbank of Slovakia quoted the Czech Republic, Germany, India, Italy and Poland as its principle countries of operation.44 It seems that a better coverage of neighbouring transition econo- mies by ECAs in central and eastern European countries and the CIS could contribute to the expansion of sub- regional foreign trade. 42 “Export Credit Financing Systems in OECD Member and Non- member countries (Supplement)”, OECD 1999. 43 Internet Web Site of Sloven Export Corporation (SEC): http://www.sid.si/slo/poslovanje.html. 44 “World Export Credit Guide 1999-2000”, p.131.
    • 30 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Box IV Government support to export finance in the Czech Republic The system of institutional support to exports from the Czech Republic is based on three pillars. Insurance against export risks is provided by the Export Guarantee and Insurance Corporation (EGAP), a joint-stock company established in 1992. EGAP insures export credits against short-term political and commercial risks, and medium- and long-term supplier credits (with tenures exceeding 2 years) against territorial*, commercial and a combination of political and commercial risks. It also insures credits for the financ- ing of pre-export operations and guarantees export credits of commercial banks. In 1998, EGAP issued short-term guarantees worth USD 443 million, and medium- and long-term guarantees for a value of USD 638 million. The Czech Export Bank (CEB), export credit bank which is a joint-stock compa- ny, joined the system in 1995. It grants credits to exporters at lower than commercial rates. CEB provides predominantly medium- and long-term loans extended for 2 to 12 years which, in conformity with the OECD Consensus on Export Credit Conditions, do not exceed 85 per cent of the contracted value of exports. The credits are provided either directly to exporters or to their banks. Finally, more general information services to exporters and importers are provid- ed by the Czech Agency for Trade Support “Czech Trade”. The information on foreign markets and companies is particularly valuable to SMEs, which cannot afford collect- ing it by their own means. * Territorial risk is defined by EGAP as risk of non-payment or credit default involving buyers from the State sector. Source: “Czech Business and Trade”, Issue 1, 1999 Exports of transition economies to OECD countries are ensured against non-payment risks mostly on a short- term basis. These insurance operations are often effected as commercial transactions, and are supported by reinsurance either from western re-insurers or partner ECAs. Losses arise mainly from customer bankruptcies or fraud, and do not occur frequently. On the other hand, insurance against medium- and long-term commercial risks and political risks is usually provided by ECAs on behalf of their Governments, and is more often accom- panied by losses.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 31 Despite the limited scope of official export credit insurance programmes in most transition economies, there is a general agreement on their positive impact on export development. The highest export growth rates have been shown recently by eastern European countries where ECAs are relatively efficient and well-managed (e.g. Czech Republic, Hungary, Poland and Slovenia). In the Baltic countries, which have enjoyed export growth rates comparable to that of central and eastern European economies, export credit agencies have been successfully expanding their operations.45 In contrast, in most countries of the CIS, the scale of export credit insurance remains modest. To a certain extent, this is explained by relatively small shares of machinery and equipment and a predominance of raw materials in exports, the sale of which often does not require long-term credit. CIS Eximbanks and ECAs are significantly under- capitalized compared to similar institutions in eastern Europe. For example, at the end of 1998 Russian Roseximbank’s own capital did not exceed USD 9.7 mil- lion while the capitalization of the Czech EGAP stood at USD 230 million. Among the other CIS States, only in Kazakhstan (Eximbank) and Uzbekistan (Uzbekinvest National Export-Import Insurance Company) do export credit and insurance schemes seem to be fully opera- tional. The Uzbek Export-Import Insurance Company is the best capitalized (USD 136 million) and the most active ECA in the CIS region. Recent financial and economic crises have rendered transition economies more vulnerable to changing world market conditions. This increase in risks has raised the importance of export-credit insurance. Under these conditions the maintenance of trade volumes among tran- sition economies largely depends on the flexibility of ECAs, their prompt reactions to partners’ failures and their development of innovative techniques for claims settlement (see box V). 45 “Finance & Development”, IMF, Sep. 1999, p.64.
    • 32 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Box V Debt repayment agreement between MEHIB and Leningrad oblast’ In July 1999, a debt repayment agreement was reached between the Hungarian Export Credit Agency (MEHIB) and the Leningrad region in Russia. The original deal consisted of the sale of 120 Ikarus buses worth USD 13.8 million to a Leningrad Region Transport Company; it was financed by a national Eximbank-led consortium and insured by MEHIB. At the end of 1999, as a result of the bankruptcy of its guarantor bank (Rossijskij Kredit), and having repaid USD 2 million worth of credit, the Leningrad region Trans- port Company declared insolvency. The consortium financing the deal terminated the credit agreement with the debtor company and endorsed a full claim against MEHIB, making the Leningrad region Transport Company a MEHIB debtor. To avoid debt collection losses which often reach 20 - 40 per cent of the debt, MEHIB has negotiated a debt swap with the region’s authorities, supported by pay- ment guarantees. In particular, the oblast’s Government assumed the nearly USD 12 million indebtedness of the importer and confirmed the payment with a bank guarantee at its own cost. In return, the Leningrad region authorities obtained a grace period of three years46. Source: “MEHIB Newsletter, 1999”, Internet Web Site of Hungarian Export Credit Insurance Ltd.: http://www.mehib.hu/hirlevel/1999-3/leningrad-a.htm While there are positive experiences with the already operating export credit and guarantee schemes in transition economies, there are also a number of obstacles inhibiting the scope of their activities, including: the under-capitalization of ECAs, especially in countries of the CIS, thus impeding the develop- ment of high value-added exports; 46 “MEHIB Newsletter, 1999”, Internet Web Site of Hungarian Export Credit Insurance Ltd.: http://www.mehib.hu/hirlevel/1999- 3/leningrad-a.htm.
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 33 inadequate information on the ECAs’ activities and a lack of trust in their services, preventing commer- cial banks from accepting insurance policies as a security; poor legal enforcement creating difficulties in collecting “problem” loans; lack of re-insurance facilities; lack of reliable credit information systems which are required to assess risks. In the future, ECAs from countries of eastern Europe, the Baltics and the CIS are likely to face problems that are similar to those focused on by their counterparts in OECD countries. It was indicated, for example, that the short-term insurance of commercial risks remains the principal operating area for many ECAs in transition economies. At the same time, one also notes the emergence and strength- ening of private sector insurance in those countries which potentially could take over a part of this market. It seems important, in this context, that ECAs do not “crowd out” private companies from this business sector. Another potential problem concerns long-term insurance. In developed market economies, private sector insurers are increasingly willing to underwrite political risks, and many ECAs face the situation of operating under two conflicting objectives. On the one hand, these agencies still remain “lenders of last resort”, expected to accept risks and offer conditions unacceptable to the private sector. On the other hand, the discipline imposed by international agreements47 requires export credit agen- cies to break even over the long run, implying a more competitive stance versus the private sector. To summarize, in the area of government financial support to exporters, an exchange of views among relevant government agencies from different transition 47 WTO agreement on subsidies and countervailing measures, in particular. Also, the OECD Arrangement on Guidelines for Officially Supported Export Credits has been successful in phasing out interest rate subsidies and implementing tied aid disciplines in the participat- ing countries (see “The Export Credit Arrangement: Achievements and Challenges 1978-1998”, OECD, 1998).
    • 34 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects economies might help them to learn from each other’s experience and to develop practical solutions tailored to their situations. Topics for discussion 1. Is governmental support to exporters in transition economies sufficient? 2. What are the impediments to the development of export credit guarantee schemes in the CIS countries? 3. How can cooperation between the private sector and government agencies in trade finance be fostered?
    • BIBLIOGRAPHY European Bank for Reconstruction and Development, Transition Report 1998: Financial Sector in Transition, 1998 European Bank for Reconstruction and Development, Transition Report 1999: Ten Years of Transition, 1999 United Nations Economic Commission for Europe, Economic Survey of Europe, 1998, Issue 3 Guriev, S., Ickes, B. Barter in Russian Enterprises: Myths vs. Empirical Evidence, The European Commission 1999 International Monetary Fund, World Economic Outlook, October 1999 International Trade Centre, Improving the Financing of Exports from Eastern Europe, Division of Trade Support Services Technical Paper, 1997. International Trade Centre, The Financing of Exports: A Guide For Developing and Transition Economies, 1997 Knight, M. et al. (editors) Transforming Financial Systems in the Baltics, Russia, and Other Countries of the Former Soviet Union, IMF, 1999 Lankes, H.P., Economies in Transition: Deficiencies in Trade Finance EBRD Note for the International Meeting on Developing Export Finance and Insurance in NIS, central and eastern Europe, London, 11-12 March 1996 Organisation for European Co-operation and Develop- ment (OECD), Export Credit Financing Systems in OECD Member and Non-member countries (Supple- ment), 1999 Organisation for European Co-operation and Devel- opment (OECD), The Export Credit Arrangement: Achievements and Challenges 1978-1998, 1998 35
    • 36 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Stephens, M. The Changing Role of Export Credit Agencies, IMF, 1999. United Nations Economic Commission for Europe, Trade Finance in the Transition Economies: a Further Examination. Note by the Secretariat (UNECE document TRADE/R.641 and TRADE/R.641/Add. 1). United Nations Economic Commission for Europe/In- ternational Trade Centre, Strengthening of Export Finance Support in Central and Eastern Europe, back- ground paper for UNECE/ITC Consultative Meeting, 1996 US Department of State, FY 2000 Country commercial guide: Azerbaijan, July 1999 US Department of State, FY 2000 Country commercial guide: Turkmenistan, July 1999 “World Export Credit Guide 1999-2000”, supplement to “Trade Finance” World Trade Organization-, Special Studies 3: Trade, Finance and Financial Crises, 1999
    • CHAPTER II SHORT-TERM PAYMENT AND CREDIT ARRANGEMENTS AS INSTRUMENTS OF TRADE FINANCE: SOME PRACTICAL EXPERIENCE IN DIFFERENT GROUPS OF COUNTRIES 1. Mr. Beat Haenni, Retired Head of Inter- national Trade Finance and Credit Man- agement, Novartis Pharma Services Inc (Switzerland), Trade Finance Consultant This first, operational section starts with a discussion on payment terms. This is quite appropriate, as these terms are the pivotal financial element in every cross- border transaction, having a direct impact on both the financing conditions and the financial exposure of the company. The degree of ignorance and lack of know-how on methods and ways of settling export transactions among the management of exporting companies is often surpris- ing. In a sales-driven environment, the main concern is the volume of export sales. While the exporter and his customer seek to find a mutually satisfying agreement on product or service specifications as well as price and delivery times, the financial conditions for assuring timely settlement in an appropriate currency, often remain hazy. In other words, sales managers often do not bother about when and how the proceeds will reach the exporter's books. Contrary to that neglect, the payment terms often turn out to be a key element of export transactions, reflecting the exporter's expectations to be duly and timely reimbursed for the goods shipped or services rendered. One can distinguish here the following important parameters: 37
    • 38 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects the timing of payment, for example, 60 days after the invoice date, 180 days after shipment (time draft) or when collecting documents at the bank; the documentation required to obtain payment. For example, under deferred payment terms, a pro- missory note is issued by the buyer; under L/C con- ditions, the letter of credit stipulates the documents to be presented to the bank to get paid; the relationship between seller and buyer: mutual trust and confidence command lenient payment terms (open account as opposed to payment in advance); the exporter's assessment of economic and/or political risks in the customer’s country; the degree of bank involvement in the export trans- action: “open account” terms require a simple bank transfer, whereas a documentary collection requires more active intermediation by the exporter’s bank(s); services available from the exporter’s and importer's banks and costs of those services; the ease of shipment and customer satisfaction: e.g. “letter of credit” terms can be cumbersome and delay shipment and payments; in particular, inaccu- rate wording on conditions in the letter of credit can lead to documentary discrepancies, delaying export production and shipment. Often, export sales contracts stipulate stringent payment terms, for example, “payment in advance of shipment” or “letter of credit” because of the lack of thorough payment risk assessments. In many cases, a more accurate risk assessment can justify more compe- titive terms, thus assuring a steady flow of business transactions. It is hardly an exaggeration to say that accurate financial risk evaluation is the key to “repeat business”, that is a permanent or growing volume of export orders. Here, the various risks involved—political, commercial, currency, and in some countries even the “bank” risk—should be duly assessed. This being said, one should mention that many bankers tend to rely too heavily on country risk evaluations at the expense of investigating the specific circumstances of the partners involved in a deal. This is often linked to their lack of understanding of the client’s business and its
    • Short-term Payment and Credit Arrangements as Instruments of Trade Finance 39 customers, or an inability to understand the structure of the deal. Exporters are naturally more concerned with the credibility of the customer rather than with the so-called country risk. The task of export risk evaluation should be assigned to a credit management function within the exporting company. This function encompasses the tasks of supporting exports with competitive payment and financing terms, while protecting the export receivables accounts against bad debts, by using the right payment channels or stipulating insurance measures. 2. Mr. Dmitry Latishev, Director, International Department, Baltic Transit Bank (Latvia) I would like to share the experience of Baltic Transit Bank and its customers in the financing of foreign trade operations, in particular with reference to the issue of payment and credit facilities used in short-term trade transactions. First of all, I would like to thank the UNECE secretar- iat for the preparation of the background note, which, in my view provides an important basis for the discussions of obstacles to the financing of trade with transition economies. For us, as practical workers, it is particularly important to find ways of overcoming these obstacles, most importantly through the reduction of risks in trade. Since the goal of the seller in any trade transaction is to receive payment for the products shipped, in trade with transition economies where the risk perceptions are high, the seller is often inclined to ask the buyer for prepayment of the exported goods. On the other hand, the buyer’s primary concern is to receive goods of the quality and quantity stipulated in the contract. Often the interests of buyers and sellers cannot be easily matched. In particular, prepayment terms impose excessive risks on the buyer. As an example, one of our bank’s customers has purchased leather shoes from Austria on a 100 per cent
    • 40 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects prepayment basis. However, when the truck with the goods arrived in Riga the customer found out that the pairs of shoes were all in small sizes only. Another customer of the bank is involved in frozen fish trade. His supplier has demanded the following payment conditions: 25 per cent of the payment to be effected before the load- ing of the vessel and the remaining 75 per cent before the vessel arrives to the port of destination. The customer had no guarantees of the quality of the goods shipped or the time of delivery. Moreover, the importer’s working capi- tal had to remain frozen during the transaction. Recently, this customer has received a delivery of frozen fish from Estonia. When the truck with the goods was unloaded in the cold store rented by the importer, it became clear that each carton was unmarked and contained different amounts of fish. Hence the importer had to purchase scales to control the weight of the fish he was selling to its customers. This shows that in situations where 100 per cent prepayment has been made, all additional costs or losses are borne by the buyer. On the other hand, if the seller agrees to grant deferred payment terms to a customer in a country with unstable foreign currency regulations, problems may arise even if the importer has the requisite funds and is willing to pay. One customer of our bank could not receive payment from Belarus due to new regulations, which came into force after the goods had been shipped. According to these regulations the customer could not pay in USD or even in Belarus roubles since the seller was not a resident of Belarus. Any acceptable barter product was considered as strategic, the use of which was prohibited for exchange purposes. To summarize, one can note that: both ways (prepayment and deferred payment) can be risky for buyers and sellers; prepayment conditions will work only if the part- ners are honest, trust each other and have long standing business relations; prepayment conditions freeze the buyer’s money for an unlimited time; they enable the seller to use the buyer’s money and take advantage of the buyer, thus putting partners in unequal positions;
    • Short-term Payment and Credit Arrangements as Instruments of Trade Finance 41 instead of prepayment, some customers require performance bond from the seller/its bank; this mode might improve the situation; deferred payment, at least in the successor States of the Soviet Union, remains a very risky way of doing business. The problems which arise usually do not relate to the performance of the partner (buyer), but rather to the country where the partner is based (country risk). Nobody knows what regulatory changes concerning international trade might be made applicable after the goods have been shipped. In my opinion, the present situation on the market, where the seller dictates conditions to the buyer, is not normal. The main reasons for this are the weakness of the banking system and the overall economic instability in the transition countries. Small-sized companies cannot count on the help of government-owned insurance companies and have to rely on their own resources. Now, I would like to highlight some payment schemes developed by the Baltic Transit Bank, which are appli- cable in this risky environment, and under which none of the partners obtains unfair advantage. Company A in country B sells company C in country D one truck of goods. The buyer (company C) is unable to make a prepayment but for company A it is too risky to grant deferred payment terms. As a compromise, the companies conclude a contract for goods to be stored in a warehouse rented by the buyer while the seller keeps the title of ownership. As soon as the buyer makes a partial payment to the seller, the latter instructs the warehouse to release the amount of goods proportionate to the payment. This method is acceptable for both parties: the buyer knows that the goods are available at any moment. At the same time, he does not have to freeze his working capital, while the seller retains the ownership of the goods until the payment is received. The storage cost has to be agreed by the parties and should not in any case be higher than the storage cost in the seller’s country. In another example, company A plans to sell its product on a market in country B. To avoid the services of middlemen, company A registers a subsidiary com-
    • 42 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects pany in country B. The question is: how is it possible to keep the transaction under control while being outside country B? The answer is as follows: after the subsidiary company is registered, company A makes the following steps: hires a minimum number of employees (as a rule, one manager-secretary and one accountant); signs with them both the labour agreements and contracts of their responsibility against the home company; rents a storage space in country B and keeps the goods at the rented store; instructs the manager and the store to release each lot of the goods after it has been prepaid and the bank’s confirmation regarding the prepayment has been received. As an alternative to the schemes described above, a documentary collection could be used. Unfortunately, not all local banks and customers have a clear understanding regarding the terms and definitions of modern banking in- struments. Often, the bank meets with confusion and a misunderstanding of various export finance practices. Therefore banks should seek to share their knowledge with their customers and public at large. In summary, I would like to emphasize the following: the payment conditions in trade among transition economies when 100 per cent prepayment is demanded is abnormal; these conditions are prevalent because the banks in the transition countries are weak and the economic situation is unstable; the government-owned insurance institutions are not interested in covering the financial risks of small and medium-sized companies in international trade; exporters and importers are often not familiar with the terms and definitions of banking instruments. They need to be assisted and trained by banks.
    • Short-term Payment and Credit Arrangements as Instruments of Trade Finance 43 Winding up, let me express the belief that practical seminars targeting the banks’ customers will help improve the above-mentioned situation. In particular, the Baltic Transit Bank is planning to organize regularly a series of seminars on various relevant topics. In my view, such events promote closer ties between the bank and its clients, and help establish the basis for more productive cooperation. 3. Discussion Kenneth Owen (Hansabanka, Estonia) asked Beat Haenni (Trade Finance Consultant, Switzerland), whether in his opinion customers tended to contact the bank at late stages of contract negotiations. Beat Haenni agreed that many companies made the mistake of omitting the discussion of payment terms during contract negotiations. Ideally, the exporter, im- porter and their respective banks should discuss the export transaction together with the perspective that it is not being a one-off deal but a continuous business relationship. Unfortunately, this is not always the case and often it is difficult to determine the department in the company (e.g., sales, marketing or finance), which is responsible for defining the payment terms of a deal. Governments in western countries often organize trade missions to various developing countries where the exporters seek to expand the activities. Unfortunately, bankers, who potentially could provide assistance to exporters, are often underrepresented on such missions. Chambers of Commerce could serve as a useful platform for choosing the participants of trade delegations and ensuring the representation in those of both exporters and bankers. Kenneth Owen asked Dmitry Latishev (Baltic Tran- sit Bank, Latvia) about his bank’s experience in assessing risks when dealing with newly formed companies in transition economies, where traditional criteria such as credit history were difficult to use. Dmitry Latishev replied that every bank wishing to work successfully in transition economies should adopt
    • 44 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects the “know your customer” principle. Unfortunately, many financial institutions in these economies have not yet developed long-standing relationships with their clients because both the banks and their customers have been present on the market for only a few years. Clearly, newly emerged companies also lack lasting relationships with their trading partners abroad. Therefore, on the one hand, banks are willing to offer their services and use the available financial resources but on the other, they are of- ten unable to take on the risks of the client. This being said, during the last two or three years, the situation has improved. For example, many banks have moved away from the practice of demanding a 100 per cent coverage of funds under letters of credit. Unaware of the instruments offered by banks, however, companies often carry out their export transactions under primitive schemes and take on a considerable amount of risk. Another problem highlighted by Dmitry Latishev was the lack of trust between exporters and importers in the transition economies, which resulted in stagnating trade, particularly between the Baltic and CIS countries. And another major obstacle to better trade finance opportuni- ties is the lack of cooperation between the government- supported organizations (such as ECAs) from different countries. Anita Kurme (Multibanka, Latvia) shared the experi- ence of the Multibanka in the area of trade finance. This bank has been formed on the basis of the Latvian division of the Vneshekonombank of the Soviet Union, which before the beginning of economic transition was the only bank in the country that financed trade transactions with foreign countries. In Latvia, the newly established commercial banks have sought to do business in the area of trade finance. Unfortunately, they have often lacked sufficient know- how to offer to their customers. Due to its above- mentioned past experience, Multibanka has been able to fill this niche, providing its customers with a number of trade finance instruments. However, the customers themselves have had to be trained to use them. Anita Kurme confirmed that elevated risks in trade finance were often associated with the short credit history
    • Important features of Trade Finance in Transition Economies: Second half of the 1990s 45 of many clients. While this is a multi-faceted problem, she mentioned the language of documentation as an overlooked but often very important issue. For example, in financing trade with Russia western banks often do not have sufficient expertise to deal with documents that are prepared in Russian – this is where the Baltic banks have a distinct advantage over their western colleagues. In more general terms, recently Latvia has made con- siderable progress in developing trade finance facilities, which is illustrated by the rapid growth of documentary trade operations. Various seminars organized by western banks or financial institutions now focus on complex and advanced issues in trade financing. The professional qualification of transition bankers is now not inferior to that of their western colleagues. While the latter perhaps possess more extensive experience, transition bankers, due to the small size of their organi- zations, have to acquire an in-depth knowledge of every part of the business. In transition economies, even legal issues have to be sometimes dealt with by bankers, since lawyers do not have sufficient knowledge of all the instruments involved in trade finance operations. And with regard to some particular instruments, such as transferable letters of credit, Latvian bankers often demonstrate more experience than their western Europe- an colleagues. Anita Kurme also noted the importance of the Latvian Association of Commercial Banks and, in particular, its role in organizing regular meetings to discuss topical issues and problems in banking. These meetings are often attended by experts from adjacent sectors such as insurance and law firms, merchandising companies, etc. Such events help bankers meet with their colleagues and share their knowledge and experience. So far these events have proven to be a potent means of acquiring know-how in the various areas of the banking business. Veronika Shemyakina (Promsvyazbank, Russian Federation) emphasized that, in her view, bank risk remains a major problem in trade finance. More speci- fically, the lack of information about other banks, particularly in transition economies, results in stringent collateral requirements in inter-bank transactions, which,
    • 46 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects in turn, force banks to impose high collateral require- ments on their customers. As a possible solution to this problem, she proposed an acquisition by banks of interna- tionally accepted financial ratings, which can serve as a reliable indication of a bank’s creditworthiness and, therefore, help ease the collateral requirements. Arturs Akis (Vendomatic Ltd., Latvia) mentioned that in his company’s experience, failure to properly structure a letter of credit transaction has often become the major obstacle to concluding contracts with trading partners. He urged the bankers present at the seminar reflect on this problem and put forward some practical ways of overcoming it. Dmitry Latishev replied that companies should always seek advice from their bankers before concluding a deal. He used an example of a customer of the Baltic Transit Bank who had concluded a contract for the delivery of equipment to Latin America. A letter of credit was opened in favour of the exporter. Already the first point on the list of terms of the letter of credit asked for an invoice where exporter had to declare that all the infor- mation provided in the invoice was true and correct. The Latvian customer had missed this important point while preparing the invoice, and on the ground of such discrep- ancy the bank in Latin America refused to pay against the documents. This example shows that difficulties might arise even in standard situations of a letter of credit transaction, particularly when the importer imposes additional demands. Kenneth Owen noted that it was very important for the banker to travel together with the client and take part in negotiations in order to identify and possibly solve aris- ing problems. He referred to Hansabanka’s experience in financing the export of Lada cars to various parts of the world. Recently, a buyer was asked to open a letter of credit to purchase cars to Ukraine. The client was aware that the cars were pledged to Hansabanka as security and was worried that the bank would make a claim under the letter of credit but not release the cars, that it held as security. The only solution to these types of problem is to have a person-to-person discussion involving all the parties taking part in the transaction. Therefore, good bankers and account managers should be prepared
    • Short-term Payment and Credit Arrangements as Instruments of Trade Finance 47 to travel with their clients and meet their counterparts in order to settle the terms and conditions of the deal. Vladislav Fioshin (Baltic Transit Bank, Latvia) em- phasized that difficulties in financing trade with Russian companies often arose due to their lack of trust in Russian banks. They reject their services and prefer to involve western financial institutions instead. This, in his opinion, is a strange situation, taking into consideration the rela- tively large size of Russian banks and their good relation- ship with their colleagues in the Baltics. Jonas Placiakis (Lithuanian Export and Import Insurance, Lithuania) shared the relevant experience of Lithuanian exporters. He mentioned that the Lithuanian economy was very export oriented, with the yearly outflow of goods and services equivalent to around 30 per cent of GDP. Lithuania’s main export industries are textile and furniture, while the country’s principal trading partners are located in eastern Europe. Given the nature of the exported goods, they are usually sold on an open account basis. In order to assist Lithuanian exporters in obtaining financing, two years ago the Lithuanian Export Credit Agency developed a scheme under which it insured the exporter’s sales turnover. Having such an insurance, the company can obtain a bank credit line, from which the funds are available upon the presentation of a sales invoice. Such a scheme also provides an effective solution to the problem of high collaterals demanded by banks: the insurance provided by the Export Credit Agency effectively serves as collateral. Dmitry Latishev mentioned that many importers, including those from western countries, were reluctant to open letters of credit in favour of transition economies’ exporters. The usual quoted reasons for this are the lack of qualified personnel and the high cost of a letter of credit transaction. Also, western exporters often refuse to trade using letters of credit and insist on prepayment terms. Beat Haenni replied to that comment saying that in his view such an attitude reflected clear ignorance on the part of the western exporter. The demand for prepayment also means a complete lack of trust in the customer and its country. While there undoubtedly exist significant risks
    • 48 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects in trade with transition countries, these risks should be addressed not through a simple demand for prepayment but by forging closer links with the buyer and its bank to find common and mutually beneficial solutions. Payment terms can play a major role in a situation where exporters compete between each other. When this is the case, it is the importer’s task to bring the competi- tive idea into the market. Kenneth Owen suggested that while partial prepay- ment may be acceptable in certain situations, 100 per cent prepayment left the exporter with no real incentive to ship the contracted goods. In order to reach a more balanced solution (for example, prepayment of goods that are within the control of the freight-forwarding company), more detailed negotiations between the partners often prove to be helpful. He agreed that Baltic banks held a distinct advantage over their western colleagues as they were able to deal with documentation in Russian; for example Hansabanka has been advising credits for Deutschebank covering shipments by rail where all the rail bills were in Russian. Clearly, in this case local bankers could read, understand and check these documents far better than the documentary section of western banks. Dorota Cichocka (Kredit Bank S.A., Poland) support- ed Dmitry Latishev’s idea that customers in transition economies were often forced to accept prepayment terms. According to her estimates, over 90 per cent of foreign trade operations in Poland are settled on that basis. At the same time, she emphasized that her bank was able to offer various products addressed both to exporters and import- ers. All these products are based on letters of credits, where future inflows of cash on open LCs are discounted by the bank. The customer always has to contact the bank while negotiating the deal to be informed on the instru- ments acceptable for the transaction. Dorota Cichocka also mentioned that, in her view, Polish customers were better informed on the work of foreign export credit agencies such as COFACE and HERMES, than on services offered by their Polish counterpart. This ignorance often forces the banks to bear risks by themselves.
    • Short-term Payment and Credit Arrangements as Instruments of Trade Finance 49 Kenneth Owen underlined the importance of collabo- ration between transition economies banks in facilitating trade finance in the region. He referred to a Hansabanka client in Lithuania, who had been buying steel plate from Ukraine to supply it further to a Polish shipyard. Such a transaction involves dealing with risks relating to three distinct countries. While having been able to structure the risk on the first part of the deal, Hansabanka was not prepared to accept the risk of the Polish customer who demanded deferred payment terms for the steel plate it was buying. Hansabanka then used the services of its correspondent bank in Poland, which knew the customer and agreed to discount every invoice received and accepted by the shipyard for a period of 12 months. This example shows the possibility of mitigating the risk through cooperation with local banks, which have a better understanding of their home market. Ivan Fedak (SIA Fedak, Latvia) underlined a number of problems associated with export-import financing and bank-customer relationships in transition economies. In particular, when exporting to western countries where importers often ask for deferred payment, companies face a number of issues, which they find difficult to settle due to lack of experience. Equally problematic are transac- tions on deferred payment basis within Latvia, as the legal framework needs to be improved to allow creditors to collect overdue debts in a fast and efficient manner. Ivan Fedak also emphasized the difficulty of obtain- ing bank credits due to unreasonably high collateral requirements and escalated commission payments. In his view, banks need to adopt a more client-oriented approach and to make an effort to understand the needs of their customers. He suggested that banks create working groups consisting of experienced professionals that would carry out detailed analyses of clients’ needs on a case-by-case basis and also act as a consultant on legal and financial issues. Dmitry Latishev replied that many of the above- mentioned issues had been successfully tackled by Latvia’s leading financial institutions. Many banks have created corporate client departments to deal more closely with clients’ needs and problems. The most competitive banks in Latvia no longer demand excessive collaterals
    • 50 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects from companies. At the same time, it is not unusual for a client to demand a credit or financial guarantees worth over USD one million without committing any of his own funds – and no bank will agree with such terms. Dmitry Latishev also mentioned that factoring had been successfully used for trade both inside Latvia and for export operations to western countries and the CIS. Factoring operations are facilitated by the codes of practice developed by the two worldwide factoring associations, which bring together the leading companies in the area. Factoring is particularly appropriate for small- er transactions amounting to several hundred thousand United States dollars. This instrument allows deals to be structured in a mutually beneficial way: the importer can obtain deferred payment terms, while the exporter can benefit from more favourable conditions with respect to product price or quantity.
    • CHAPTER III MEDIUM AND LONG-TERM TRADE FINANCE: AVAILABLE SCHEMES AND PROBLEMS 1. Mr. Kenneth Owen, Head of Trade Finance Department, Hansabanka (Latvia) This presentation focuses on the following issues: (a) Forfeiting operations, (b) Creation of trade finance consortia (c) Development of a private insurance market (d) Cross-border leasing operations. (a) Forfeiting operations Forfeiting can be defined as an instrument in medium- and long-term trade finance where a bill of exchange or a promissory note is issued by a buyer. Such a bill of exchange or promissory note is a clear obligation to pay, and can be used in court as an evidence of debt. This debt instrument can be avalized or guaranteed by a bank or other financial institution. “Aval” is a commitment by a bank to pay under the debt; although under the UK law this term is not specifically mentioned, it is a commonly accepted security in banking practice. Most importantly, such notes or bills are sold or purchased on the forfeit market on a “without recourse” basis, i.e. the payment obligation lies fully on the primary party or the avalizer and not on any of the subsequent holders of the security. The first forfeiting transactions were undertaken by Swiss trading companies supplying grain to Russia over 50 years ago. At the moment forfeiting is used for 51
    • 52 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects transactions spanning periods of between 6 months and 5- 7 years for a variety of products, such as machinery, equipment, etc. The primary restriction on the time period is the availability of a long-term forward market for the currency of the transaction. Long-term deals are carried out predominantly in such currencies as the US dollar, Euro or pound sterling, for which the indicated forward market is available. Forfeiting can often be used in conjunction with other types of trade finance. For example, a recent financing package for Latvian Railways was 85 per cent financed under the United States Eximbank scheme and 15 per cent part financed through bills of exchange drawn on Latvian Railways and payable over a period of two years. In Latvia, bills of exchange legislation has been adopted enabling refinancing operations between the Central Bank and commercial banks. According to this legislation, banks are prohibited from discounting bills of exchange that have more than 180 days to maturity. Obviously this stipulation does not reflect properly the interests of the trade finance market, where imports of machinery and equipment are usually financed over longer time periods. In this context, let me suggest that the dialogue between the private sector and Governments regarding the regulation of financial services should continue. Legislation should be very clear and should correctly cover the types of instruments and transac- tions that commercial banks are trying to finance. Should this fail to happen, local banks may find them- selves at risk of losing their business to international banks, which do not operate under the same regulatory restrictions. In many cases the purchaser of a forfeiting instrument is not a bank but an investor from the country of origin. Most large banks produce rate sheets on a monthly or quarterly basis, which give a good indication of a maxi- mum time horizon and rate for a transaction in a particular country. This information is particularly valuable to exporters seeking to enter a new market with a product that needs long-term financing. As opposed to banks having forfeiting operations, forfeiting companies are usually not bound by the same
    • Medium and Long-term Trade Finance: Available Schemes and Problems 53 regulatory rules, and, hence, have different capital adequacy and provisioning requirements. This allows these companies to achieve higher yields due to lower transaction costs. Also, the specialist companies do not necessarily hold the security to maturity and often try to benefit from the movements of market interest rates applicable to the securities before maturity. In this respect, the forfeiting product can be seen not just as a mechanism for creating finance for long-term project financing, but also as a tool for capitalising on move- ments in the financial markets. (b) Trade finance consortia A trade finance consortium is defined as a partnership of two or three banks (or a “Club”), or of three or more banks (or a “Syndication”) which finances the business of a common client or a specific product type. The reasons for which banks choose to share business are threefold. First, is prudential risk management: when sharing banks are unlikely to use up their country “limits” for one deal or one client. Secondly, there exist sectoral, entity and country constraints imposed by regulatory authorities of the home jurisdiction. Finally, the third reason is the so- called “additional comfort” factor. This can be obtained through participation of a local bank, which brings local knowledge and expertise regarding the issues of rules, regulations, competition, etc. Therefore, creating partner- ships with local financial institutions becomes a very important part of complex trade finance transactions. In the near future we are likely to witness a conso- lidation of the banking market in transition economies, which will take place mainly through strategic alliances. International financial institutions should be attracted to local markets as partners to share the business and bring their expertise, financial muscle and cheap funding. In this respect, the role of the Central Bank is paramount, because it can and should initiate a legislative system that is uncomplicated, efficient and well suited for foreign banks. (c) Private insurance market The term “private insurance market” does not cover government-supported schemes or ECAs, but relates to
    • Medium and Long-term Trade Finance: Available Schemes and Problems 54 the operations of large insurance companies, underwriters and syndicates. For example, “Lloyds of London” is not an exchange, or an enterprise, or a corporation, but a market, where groups of companies or syndicates or indi- viduals gather and agree upon risks they are prepared to take. Insurance should not be regarded as competing with banking activities but rather as part of the financial “package”. An insurance company can share a percent- age of risk with a bank, thus leading to more attractive rates for customers and enhancing the credit facilities available. The insurance market covers insolvency, bankruptcy and liquidation as well as confiscation, ex- propriation and currency default. Very often, the bank or the exporter may be satisfied with the exposure on a country but may not trust the counterpart, or vice- versa. In these cases, insurance is an effective and often low-cost way to mitigate part of the risk. The regulato- ry authorities should find ways of recognising and rewarding prudent risk management (risk sharing) and risk insurance by banks and their clients. (d) Cross-border leasing operations In the final part of this presentation, we shall discuss current developments in cross-border leasing, a type of leasing whereby the ownership of the leased product remains outside the country of operation. In general, companies prefer to lease ‘externally’ for two basic reasons. The first reason is tax related – within certain countries there exist ‘tax holidays’ or tax allow- ances for the purchase of fixed assets, so an entity in such a country may wish to remain the owner of the asset. The second reason is related to foreign exchange risks, i.e. the purchase of the underlying asset may be in United States dollars requiring repayment in that currency. Therefore, the risk of restrictions on foreign currency transactions or of non-availability of foreign currency over the deferred payment period often makes it more suitable to retain ownership of the asset outside the country of use. At the same time, leasing is a very appropriate instru- ment for transition economies for two reasons. First, local entities often have little balance sheet value, and, there-
    • Medium and Long-term Trade Finance: Available Schemes and Problems 55 fore, struggle to obtain long-term bank financing to purchase equipment and machinery. Second, legislation in countries such as Estonia and Lithuania prevents banks from lending without collateral, making leasing (whereby the ownership remains with the lessor) a very attractive product. This situation is not uniform in all transition econo- mies, though. For example, Poland does not have very good leasing regulations, so the market has developed slowly. However, the Baltics could become a major cen- tre for leasing activities in the region, and could serve countries within the CIS with their leasing needs, i.e. the ownership of assets for use in other countries could be held in the Baltic States. To make progress in facilitating trade financing in transition economies, the latter should harmonize their legislation. In particular, the tax treatment of various business operators should be the same in all countries. Ending my presentation, let me express my belief that the dialogue between governments and the business commu- nity should continue and that legislation influencing the business environment should be developed in cooperation with the private sector. 2. Tomas Dvorak, Deputy Financial Director, SKODA Export Co. Ltd (Czech Republic) Skoda Export Ltd is a company that has been active worldwide for nearly 35 years. The reference list of Skoda Export includes approximately 100 power stations that Skoda either constructed or to which it supplied the equipment, as well as other products such as locomotives, trolley-buses, etc. Throughout its existence, Skoda Export has used various mechanisms to finance its operations. In the beginning, Skoda offered its customers long- term supplier credits, with the debtor being granted repayment terms of up to 10 years. The economic changes that took place in the region of central and eastern Europe made it impossible to continue this type of financing.
    • 56 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects As a result, Skoda Export has pursued closer coopera- tion with local banks and the Czech Export Credit Agency - EGAP. The company has also developed further its cooperation with foreign institutions, creating supplier consortia. Export sales of machinery and equipment often require complex financing schemes, which involve the participation of foreign banks. I would also like to say a few words about alternative mechanisms for financing long-term projects. Such instruments include BOO (build-own-operate) and BOT (build-operate-transfer) projects. Under BOO, the suppli- er, instead of delivering the equipment to a third party, is constructing his own plant, thus owning and operating it. Under BOT the plant is built and operated by the supplier who is paid out of the project revenues and after a certain, agreed period of time transfers the plant to the owner. Regarding the various risks relating to export transac- tions, I should underline the importance of political risk. For example, Skoda Export has concluded an agreement with the Government of Pakistan, which was cancelled after just two months due to the change of government in the country. Another example also relating to Pakistan illustrates the relevance of transfer risk. In that instance, Skoda Export supplied a large power station on the basis of a long-term supplier credit. All the instalments were paid up until the moment when Pakistan was denied credits due to nuclear testing. This has considerably worsened the possibility of receiving due payments in convertible currency. When alleviating country risk, Skoda Export has to take into consideration the exposure limits of various export credit agencies. Bank risk is also an important issue: for long-term projects lasting 5-10 years it is important to be confident in the financial standing of the client’s bank. For this reason, Skoda Export largely prefers to deal with leading and highly-rated financial institutions. Unfortunately, in many transition countries financial institutions are not strong enough to cover large transac- tion amounting to tens or hundreds of millions of USD. For this reason, from time to time Skoda Export insists on governmental guarantees of the buyer’s solvency. When
    • Medium and Long-term Trade Finance: Available Schemes and Problems 57 this type of security is not available, as is the case in some countries, this can be a serious obstacle on the path of mutual cooperation. Finally, I would like to emphasize the importance of adequate regulations in export transactions. In transition economies, it is often very difficult to accept and apply the local law for long-term transactions due to its inadequacy and/or the lack of stability. For this reason, trading partners often have to agree on the application of appropriate western legislation. 3. Discussion Beat Haenni noted that sometimes the debtor reacts negatively to the sale (forfeiting) of his notes because he may feel that he is losing control over the party he owes money to. The customer can also be discontented when the transaction is insured by the exporter, perceiving it as lack of trust in his own or his country’s creditworthiness. Kenneth Owen replied that the client should be informed before the deal is made that there is always a possibility of the debt being sold to a third party due to movements on the financial markets or changes in the bank’s financial strategy. Beat Haenni asked about the typical payment terms granted by Skoda Export. Tomas Dvorak (SKODA Exports CO. Ltd, Czech Republic) replied that a typical arrangement involved a 10-15 per cent advance payment, and around a 10 per cent payment during the imple- mentation of the project. The rest of the contract’s value is covered by a credit, which is granted either by Skoda Export itself or arranged with the cooperation of Skoda- affiliated banks or banks belonging to the export consor- tium. The duration of loans depends on the financial possibilities of ECAs and, in the case of power stations, typically does not exceed 10 years.
    • CHAPTER IV BANKS AS PARTNERS IN EXPORT FINANCE: THE EXPERIENCE OF TRANSITION ECONOMIES 1. Veronika Shemyakina, Head of Project Finance, International Business Department, Promsvyazbank (Russian Federation) I would like to introduce Promsvyazbank. The bank was established five years ago and was initially focused on servicing telecommunication companies. However, after the 1998 crisis, the bank recognized the necessity to offer its clients a wider range of services, including those related to international transactions. As a first step towards implementing international op- erating standards, Promsvyazbank invited international auditing companies such as Arthur Andersen and, subse- quently, KPMG to undertake an impartial audit. The sec- ond step involved the acquisition of an international financial rating from Thomson Financial Bankwatch. The bank has received CCC Senior Debt – Long-Term rating, LC-3 Short-Term Debt Rating, and an IC-D Intra- Country Issuer rating. Simultaneously, Promsvyazbank has invested consid- erable efforts into the enlargement of its correspondent bank network in western countries. As a result, Promsvyazbank has managed to offer some new products to its customers. In particular, when structuring new transactions involving L/Cs and, in particular partially covered L/Cs, it benefits from credit lines opened by western banks. 59
    • 60 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects One of the major problems impeding exporters’ access to trade finance in Russia is the high cost of capital on the domestic market. In particular, long-term financing is very expensive in Russia and, therefore, is unaffordable for many Russian companies. This forces local banks to seek cheaper funding on the international markets through participation in EBRD programmes or coopera- tion with foreign ECAs. Drawing on foreign sources can facilitate long-term financing of investment, in particular purchases of production equipment. On the banking side, participation in international cooperation helps local financial institutions to develop their structure, improve risk and liabilities management techniques, and assists in their further integration into international financial markets. 2. Meirambek Karazhigitov, Expert on International Financial Institutions, Kazkommertsbank (Kazakhstan) Let us start with a brief overview of the banking system of Kazakhstan. As everywhere in the CIS, Kazakh banking history is rooted in the very beginning of the 1990s when, after the collapse of the Soviet Union, commercial banks started mushrooming. Within the space of just two years, the number of banks reached 300. By 1998, however, this figure had decreased to 71 and in 1999 it fell further. According to the forecast of the Kazakhstan Central Bank, the consolidation of the banking sector will continue and the total number of banks should fall to 25 to 30, which will meet the demand for financial services. The decrease in the number of banks can be attributed to a programme launched by the National Bank of Kazakhstan about 3 years ago. Under this programme, ex- isting banks were classified into three groups. Group “A” included banks, which were complying with the inter- national standards established by the Basel Committee on Banking Supervision, group “B” – the banks, which were partially meeting these requirements and group “C” – the banks failing to meet these requirements.
    • Banks as Partners in Export Finance : the Experience of Transition Eocnomies 61 Banks in groups B and C were granted two years to restructure their activities to meet both the international and the local adequacy standards for financial insti- tutions. Banks failing to meet these requirements after the end of the term were to be merged, consolidated, deprived of their banking licence or transformed into credit partnerships. Out of the 51 banks currently operating, 8 major banks control around 65-70 per cent of the financial sector. This figure includes foreign banks such as ABN-AMRO, which started its operations in 1993, as well as Citibank, HSBC, Société Générale, as well as banks from Turkey and China, so that the intensity of competition in the sector is visibly strengthening. Along with the reform of the banking sector itself, a number of measures have aimed at strengthening the country’s financial sector in general. One very important step was the pension reform and the establishment of private pension funds. Now there exist 14 private pension funds in Kazakhstan, which are restricted by law in their investment activities and are investing a significant part of their resources into government bonds. In my opinion, the continuous demand for such securities by pension funds prevented the collapse of the Kazakhstan State debt market after the 1998 Russian financial crisis. At the present moment, banks in Kazakhstan are actively trying to attract deposits from the population: where, according to the National Bank’s estimates, as much as around one billion USD are still kept “under the mattresses”. In order to strengthen public confidence in the banking sector, the government has introduced two laws. The first law deals with the confidentiality of banking information. In particular, it restricts the access of tax and customs authorities to information relating to the accounts of physical persons and of corporations. Such information has to be disclosed only in case of court proceedings against such physical persons or corporations. Secondly, an insurance fund protecting individual savings has been established. The capital in this fund amounts to USD 70 million, and the banks, which have become members of this insurance fund, have to con-
    • 62 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects tribute to it as much as 0.15 per cent of their annual profits. Under this scheme, in case of a commercial bank’s failure, deposits of up to KZT (Kazakh Tenge) 200,000 would be reimbursed at 100 per cent, and those of up to 400,000 – at 80 per cent and so on. The major outcome of these initiatives has been the strengthening of the banking sector, which was one of the factors allowing the financial industry to survive through the Russian crisis. This being said, after the devaluation of the Russian rouble in August-September 1998, Kazakhstan has expe- rienced significant economic and financial difficulties. In particular, a greatly increased inflow of Russian goods has caused downward pressure on the national currency. After several months of market interventions in an at- tempt to defend the tenge, on 4 April 1999 the National Bank was forced to introduce a free floating regime for the national currency. This decision was accompanied by an announcement that depositors who had not withdrawn their funds before February 2000, would be compensated at the rate effective on the day before the introduction of the floating rate. Despite some criticism from the World Bank and the EBRD, this measure has helped to prevent a major collapse of the national currency. Let me now give a little bit more information on the Kazkommertsbank. Kazkommertsbank is a private bank established in 1990, and in terms of equity capital and capitalisation, is the largest in Kazakhstan. The control- ling stake is with the management of the bank, 32 per cent of the shares are held by the Bank of New York – nominal shareholders under the programme of ADRs and GDRs launched in July 1998 for the amount of 50 mission USD. Since 1997 the bank has raised funds five times on the in- ternational capital market, and in May 1998, its first cor- porate eurobonds were issued for the value of USD 100 million. Kazkommertsbank works actively with international financial institutions such as the EBRD, IFC, Dutch FMO, German DIEG, etc. The bank has 80 million USD worth of “blank” trade finance facilities from western banks – around 50 per cent of this volume can be utilised for trade finance. The bank’s client base consists mostly
    • Banks as Partners in Export Finance : the Experience of Transition Eocnomies 63 of private export-import companies, which work exclu- sively through letters of credit or letters of guarantee. As a matter of fact, the maximum amount of prepayment that Kazakh importing companies are allowed to make is 30 per cent of the value of the contract. 3. Discussion Iouri Adjoubei (UNECE secretariat) asked Veronika Shemyakina what in her view were the major problems experienced in the relations between Russian banks and their corporate customers, as well as partner banks, within the CIS. Veronika Shemyakina replied that the main problem was the lack of understanding of particular banking instruments by foreign traders. In Russia, each customer’s case is, in a way, unique, and often requires the structur- ing of complex transactions. For example, one recent transaction handled by Promsvyazbank involved as many as 10 participants. Many Russian exporting enterprises prefer to work on a 100 per cent prepayment basis. In such cases, foreign partners require performance bonds, which need to be confirmed by European banks. The outlook of most Russian exporters is short-term, and often a bank’s efforts to promote more advanced forms of settlement fall on deaf ears. Ivan Fedak enquired whether Kazkommertsbank used escrow account terms in trade finance transactions. Meirambek Karazhigitov (Kazkommertsbank, Ka- zakhstan) replied that, so far, the bank has used escrow account terms in only one transaction, involving the sale of caviar. In fact, this scheme has failed to acquire popularity with the bank’s customers and is used on a limited scale. Beat Haenni asked for more information regarding the Kazkommertsbank’s efforts to promote exports, in partic- ular in the sector of small and medium-sized enterprises. Meirambek Karazhigitov admitted that work with SMEs was one of the weak points of the bank’s activities, since around 70 per cent of the accounts in the bank were
    • 64 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects held by large corporate clients. Following advice from the EBRD, Kazkommertsbank has started programmes to at- tract smaller corporate clients. Kenneth Owen commented that the major export in- dustries of the CIS countries such as metal, oil and gas have been historically dominated by large enterprises. Therefore, the gestation and growth of SMEs takes a longer time and they are yet to emerge as the real back- bone of the economy. Moreover, existing strict govern- ment control over certain industries in the successor States of the Soviet Union does not encourage SMEs. For instance, in Uzbekistan, cotton production is still control- led through a central government scheme. In the alumin- ium industry of Russia, a number of companies operating independently (e.g., in Bratsk, Novosibirsk, etc.) were merged into one Russian-wide large aluminium holding. Michael Spivey (Eximbank, United States) referring to the experience of the United States’ economy, indicat- ed that in 1985 there were about 18,000 banks in the Unit- ed States, by 2000, this number had dropped to 8,000, and by the time the consolidation of the banking industry is complete there are expected to be less than 5,000 banks. While traditionally United States’ banks have been sepa- rate from insurance companies, securities houses, etc., we are now witnessing the creation of large financial con- glomerates. These companies often cannot respond to the challenges of smaller companies, notably in the area of trade finance. It is the Export-Import banks and non-bank lenders that can fill the existing gap. In particular, the already mentioned consolidation in the banking sector creates certain lacunae in particular ar- eas of the market. To fill those, the Eximbank has been trying to encourage smaller local banks, which have tra- ditionally relied on domestic credit and mortgage lending, to become more involved in the export financing busi- ness. To the same end, Eximbank has tried to promote co- operation with the so-called “asset-based” lenders such as John Deer Credit, GE Capital, etc. The issue, however, still remains a challenge, particularly in the area of small and medium-sized companies. Dmitry Latishev voiced concern that a lack of reliable information on potential customers in importing countries
    • Banks as Partners in Export Finance : the Experience of Transition Eocnomies 65 was a major obstacle to the growth of exports from tran- sition economies. To address this problem, he suggested to enhance cooperation between exporters and the trade (economic) departments of embassies. This type of coop- eration can be a potent means of obtaining relevant infor- mation both on a country and on individual customers within that country. The customer-associated risk relates to commercial risk, and should be dealt with through working closely with correspondent banks. Michael Spivey underlined that the United States Ex- imbank actively participated in trade missions on a gov- ernment-wide basis. At the same time, it also accompanies private company missions to individual countries. Information on the services offered by Ex- imbank was disseminated through information packages translated into foreign languages. With regard to Latvian buyers, for example, the information on Eximbank oper- ations would be translated into Latvian, which would help buyers interested in acquiring United States goods. Ex- imbank also regularly sends business development offic- ers to foreign countries. Finally, the United States Department of Commerce offers American traders a product called Agent Distributor Service which, for a fee of USD 250, provides any United States company with lists of qualified foreign buyers, agents and distributors of their product in a particular country. The Internet is bound to change the face of trade fi- nance and provides a unique opportunity for banks in emerging markets. For example, the Internet can offer newer banks a chance to embrace business opportunities in ways that may be not feasible for established banks.
    • CHAPTER V GOVERNMENT SUPPORT TO TRADE FINANCE: DIRECT FINANCING AND EXPORT PROMOTION SCHEMES 1. Alexandru Vrabie, Director, Bucharest Branch, Eximbank (Romania) On behalf of the Romanian Eximbank, I would like to thank the organizers of the seminar for giving the countries present an opportunity to express their opinions on current problems in trade finance. Let me briefly inform you of the objectives and major types of support provided to Romanian exporters by the Eximbank. The organization and functions of the Eximbank, as well as the mechanisms of foreign trade promotion through banking and insurance instruments are stipulated by the recently adopted “Eximbank Law”. The objective of our bank consists in providing effi- cient support to exports of Romanian products by issuing loans and insuring credits. This support is also lent to enterprises effecting deliveries abroad in countries belonging to zones of high political and commercial risk. The basic mechanism of financial support for the Romanian foreign trade was laid in 1992. In institutional terms, this mechanism includes the following elements: 1. The Inter-ministerial Committee for Guarantees and Credits to Foreign Trade, which conducts analyses, offers advice and acts as a decision- making body, and 2. Eximbank of Romania, which is a banking and insurance agency designated by the State to imple- ment supporting operations in the area of foreign trade. 67
    • 68 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects As much as 75 per cent of the Bank’s shares are held by the State Property Fund, with the rest being split between five Financial Investment Companies, which correspond to the country’s main geographical regions. Eximbank operates both in its own name and in the name of the State. The Bank enjoys modern management techniques aimed at promoting Romanian export produc- tion. Eximbank provides to customers the following services: guarantees to Romanian exporters; reimbursement of advances as well as guarantees to exporters participating in international biddings; importer guarantees to industries providing parts used in manufacturing sophisticated products and products with long production cycles which are for export;exemption from import duties, value- added tax and customs duties on imports comple- menting the production of complex exports and products with long production cycles; sovereign guarantees of the Romanian State, which are issued to foreign exporters of machinery and equipment aimed at the technological re-equipment or creation of new Romanian enterprises. Proposals regarding such guarantees are prepared by special directorates of Eximbank dealing with country risks, products, industries, etc. The final decision on these guarantees is taken by the Inter-ministerial Committee for Guarantees and Credits to Foreign Trade. In order to ensure a competitive environment for ex- porters similar to that in western Europe, a special “Inter- est Rate Stabilization Fund” has been established. The objective of this Fund is to balance high interest rates prevalent among Romanian commercial banks, which in- hibit the competitiveness of Romanian exports. The Fund reimburses up to 50 per cent of interest paid by Romanian exporters, under the condition that their exports are cost- efficient and the interest paid by the exporter exceeds 20 per cent per annum.
    • Government Support to Trade Finance: Direct Financing and Export Promotion Schemes 69 Regardless of the nature of their capital (State, private, or mixed, of foreign or Romanian origin), exporters ben- efit from risk coverage against non-payment in cases where the modalities of payment do not include insur- ance. This service is also extended to exporters conduct- ing sales to geographical areas with high political risk. The export risk insurance of the Eximbank plays an im- portant role in supporting the system of commercial banks and insurance companies, and contributes to the in- ternational expansion of the latter. Along the same lines, Eximbank is providing financial support for the acquisitions of equipment required to ex- pand export production capacity. To this end, the Minis- try of Finance has concluded a credit agreement to finance a “Project of Industrial Development”. According to this agreement, Eximbank is authorized to implement a credit line opened by the National Bank. This credit line, in its turn, is intended for on-lending funds extended by the World Bank. Here, Eximbank provides refinancing for commercial banks participating in the project. The Eximbank’s programme for small and medium- sized enterprises aims at providing direct financing to SMEs for investment projects as well as at refinancing through participating commercial banks. Financing is provided to individual companies which prove to be eli- gible according to certain criteria. In more general terms, the objective of this programme is to enhance the compet- itiveness of individual industrial sectors, create new jobs and strengthen the domestic market. Among other relevant operations, Eximbank also dis- counts commercial paper and provides guarantees on its own behalf when foreign banks extend financing to do- mestic economic agents. 2. Martin Drabek, Senior Director, Banking Section, Eximbank (Slovakia) I would like to outline a number of problems that the Slovak economy is facing. These problems have an im- portant influence on the accessibility of trade finance. Then, I will highlight the activities of the Slovak
    • 70 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Eximbank and describe the major services it provides to foreign traders. Regarding the first group of issues, the following problems are of relevance to trade finance: the lack of creditworthy projects/borrowers in the area of exports; high interest rates in previous years; recently they have drastically fallen leading to a loss of demand for the services of Eximbank on behalf of banks and borrowers; problems related to pre-shipment financing; these problems relate to the high loan default risk when the exporter is unable to comply with the contractu- al conditions; the lack of long-term funds and the reluctance to ac- cept longer-term risks; the high loan concentration and insufficient capital adequacy of many banks; the high proportion of classified loans in banks’ portfolios; the depressed capital market; the insolvency or lack of liquidity of a large number of companies. In general terms one can distinguish three groups of products within which Slovak exports are deemed to be competitive. These are: (1) intermediate or semi-finished products; the competitive advantage here is based on processed raw materials available domestically (wood processing, glass industry, production of cement, etc.); (2) high value added products (machinery, transporta- tion/vehicles, electrical engineering and electronics, chemicals, etc.); (3) end-user/consumer products with a comparative advantage of low labour costs (textile and clothing products). Unfortunately, Slovak exports are primarily composed of goods with low value added such as intermediate materials, energy, labour- and capital-intensive com- modities. According to the statistics available, the share of sophisticated, technologically-advanced products and
    • Government Support to Trade Finance: Direct Financing and Export Promotion Schemes 71 capital goods in overall exports has been increasing recently. At the same time, it remains insufficient. With regard to imports, the Slovak Republic depends heavily on purchases abroad of raw materials (particu- larly from Russia) and imports of machinery and electronics from the European Union and other OECD countries. In terms of its geographical destination, more than 90 per cent of exports go to OECD countries, with as many as 61 per cent going to EU States. Another impor- tant export area are the countries belonging to the Central European Free Trade Agreement (CEFTA). One can finally note the gradual reduction of trade volumes with the Czech Republic: its share in exports fell from one third in 1994 to 18 per cent in 2000. Over the last two years, the trade balance of Slovakia has improved with regard to almost every country or group of countries with the exception of Russia. In 1999, the overall deficit of foreign trade fell from SKK 80 mil- lion to SKK 45 million, which should be interpreted as a very positive development. The driving forces behind the recent improvements in the balance of trade are: an import surcharge, the depreciation of the Slovak crown against the USD, and the recent growth of import demand in other European economies, notably Germany. Despite an accelerated growth in Slovak exports over recent years, one can point to their still low per capita volume: Slovakia‘s USD 2,200 worth of exports per capita is significantly lower than Austria‘s USD 11,000 or Luxembourg‘s USD 30,000 per capita. Now, let me introduce the activities of the Slovak Eximbank. The Slovak Eximbank was founded in 1997 under a special law as a sui generis institution, acting as a ”one- stop shop“ for exporters, providing both funds and insurance cover. The mission of Eximbank can be defined as the “promotion of Slovak exports to overseas markets by providing export credit cover and funding to Slovak enterprises on terms commensurate with those offered by ECAs in OECD countries“.
    • 72 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Total assets of the Slovak Eximbank represent about USD 125 million and its equity stands at USD 70 million. The difference between the two figures mentioned above represents the State funds that have been entrusted to Ex- imbank – a subordinated debt, with no specific maturity attached to it. In 1999, the Bank’s net income after tax amounted to USD 3 million. Two major principles guide the opera- tions of the Eximbank. The first one is finding financing solutions to support creditworthy transactions while ob- serving the rule of prudent management. The second prin- ciple calls for transparency and consistent rules in the lending process in order to prevent favouritism, protect the bank‘s assets and make sure the taxpayer‘s money is used in an effective manner. Historically, the Eximbank was intended to become a major banking institution, with a projected headcount rising to 300. The management of the Bank chose direct financing as the principal activity but exercised limited due diligence and was unable to achieve appropriate risk mitigation. At the end of 1998, a new management was appointed, which implemented a programme of restruc- turing and streamlining of the organization. The Bank was considerably downsized, with the number of staff not exceeding 110 at the beginning of 2000. At the same time, the focus has been changed from di- rect lending to refinancing, the latter implying channel- ling funds through commercial banks via credit lines to exporters. There has also been a modification of refinanc- ing schemes enabling more efficient financial control, the introduction of new products and, finally, the promotion of high value-added exports. With regard to the product range offered by Eximbank to Slovak exporters, one should mention that approxi- mately USD 70 million are allocated to banking activities, which encompass the following products: refinancing facilities; small volume refinancing through the bill of exchange programme; bank guarantees and bonds;
    • Government Support to Trade Finance: Direct Financing and Export Promotion Schemes 73 At the same time, new products “in the pipeline” include: loans denominated in foreign currencies; forfeiting and factoring; project financing; import loans to support acquisition of state-of-the- art technology. More specifically, refinancing facilities are designed for larger manufacturers or exporters, with the minimum amount of the loan rising to USD 250 thousand (see Box VI). Financing is undertaken by a commercial bank through an on-lending scheme. The purpose of the funds is to provide short-term working capital financing, which includes the financing of export receivables and pre-ship- ment financing. These refinancing facilities are intended to ensure the viability of projects so that they are subject to meticulous scrutiny and review by the commercial banks. Box VI Slovak Eximbank: Re-financing facility funding 1 Commercial Bank 2 3 E XI M B AN K 4 Exporter Pre-shipment Receivables 5 1 Refinancing loan facility extended to a commercial bank (1 year revolving) 2. Funds on-lent to exporters (working capital financing) 3. Loan collateral 4. Eximbank´s recourse to end-user (exporter) in case of default by commercial bank 5. Use of funds
    • 74 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects The refinancing facilities scheme (see Diagram 3) is applied in order to mitigate the risk of Eximbank. There- fore, only financially sound banks are eligible for cooper- ation. All applicant banks are subject to careful examination, while the client banks already cooperating with Eximbank are subject to on-going monitoring and credit review. Eximbank also mitigates the credit risk ex- posure through recourse to the end user in case of com- mercial bank default. The Bank exercises due diligence and risk management, which implies putting ceilings on the credit lines to banks based on financial ratios, size of the bank, performance record and non-public informa- tion. The shortcomings of this system are that the cooper- ation with the private sector becomes a tedious and rather inflexible process. In terms of pricing of its products, the aim of Ex- imbank is to ensure that Slovak exporters can compete on level terms with exporters in other countries. Eximbank practises uniform pricing for banks, i.e. the interest rate charged to the commercial bank is pegged to the discount rate, currently 8.8 per cent, on which the commercial bank can add a margin of up to 3 per cent. To give incen- tives to exporters, Eximbank offers certain reductions or bonuses – for example a reduction of interest rate (over 60 per cent) for exporters of high value added products or manufacturers that produce predominantly for export. Another incentive applicable when getting insurance with Eximbank is the possibility for the exporter to partially offset the interest rate charge against the premium paid. Eximbank’s funding via the bill of exchange pro- gramme is targeted at small and medium-sized enterprises and is applicable for amounts not exceeding USD 250 thousand. The major purposes of this scheme are pre- shipment and export receivables’ financing, and the method of disbursement involves a commercial bank drawing a bill of exchange to its own order, which is then accepted by the exporter. The main advantages of the bill of exchange discounting scheme are simpler administra- tion, flexibility (tailoring conditions to export contract re- quirements) and the possibility of roll-overs. In addition to loans, Eximbank also provides bond and payment guarantees. The bonds in question are not debt instruments. They rather represent bid bonds, perform-
    • Government Support to Trade Finance: Direct Financing and Export Promotion Schemes 75 ance bonds, advance payment/refund bonds, retention money bonds and maintenance/quality bonds. I should also emphasize that payment guarantees are used on a limited scale as they are sometimes perceived as too risky. Re-financing through loans represents almost 90 per cent of the overall transaction volume of the Eximbank with the bill of exchange programme and guarantees rep- resenting 6 per cent and 5 per cent of the activities, re- spectively. The breakdown by territory of exports supported by Eximbank is consistent with the overall trade structure of Slovakia with the supported export sales destined pre- dominantly for EU and CEFTA countries. As was already mentioned, one of the products to be launched by Eximbank in the near future is project financ- ing, which represents the financing of capital investments undertaken by an economic unit. This type of financing implies that the project generates sufficient cash to cover its operational expenditures and to service the debt used for its financing. In the context of project financing, the Eximbank’s role will consist of: Assessment of the economic feasibility, viability and risks of projects financed by domestic and for- eign banks applying for State guarantees; Participation in syndicated export loans; Provision of comprehensive project financing for Slovak exporters through buyer credit; Export credit political risk coverage and provision of guarantees. Among the Bank’s strategic objectives for the future is to increase the share of top 100 exporters serviced by Ex- imbank (from 25 per cent to 50 per cent), and that of at- tracting additional funds, in particular, through the use of foreign exchange resources, forfeiting activities and im- port refinancing loans (see Box VII).
    • 76 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Box VII Strategic Objectives of the Slovak Eximbank: budgeting of banking activities Current Projection 1999 2000 2001 2002 2003 Per cent of total Slovak export supported 2.1 3.0 4.5 6.0 7.5 Top 100 25 30-35 35-40 45 45-50 No of exporter Other 30 50 100 150 250 Funding requirements In SKK 68 88 100 113 125 (USD million equivalent) In Foreign currency - 25 50 75 125 Export refin. loans 57 88 105 123 150 Allocation of resource SME loans 4 9 13 15 20 to products Guarantees 7 11 13 15 20 (USD million equivalent Forfeiting - 5 8 10 13 Import refin. loans - - 13 25 50 TOTAL: (USD million equivalent) The introduction of new products and conditions relat- ed to new products is hampered by the lack of flexibility of the current law, especially with regard to procedural matters. These constraints need to be eliminated by minor amendments slated for legislative approval. In 2001, an entirely new legislation is expected to be in- troduced. This would establish the Eximbank as a corporation, ensure the compliance of Eximbank opera- tions with EU requirements, enhance its ability to raise funds on international financial markets, provide a link to the State budget and, finally, enable it to issue guarantees in the name of the State. Among the current issues relevant to the work of the Eximbank, I should mention the interest rate conditions. Since the interest rate is pegged to the discount rate, the re- cent fall of the latter rendered Eximbank loans less attrac- tive for the exporters. Therefore, Eximbank will seek
    • Government Support to Trade Finance: Direct Financing and Export Promotion Schemes 77 approval from the Government to change the mechanism for setting up interest rates. For example, the introduction of a base rate consistently below market rates is feasible. In relation to sources of finance, Eximbank is in the proc- ess of raising foreign currency denominated debt to the value of EUR 25 million. In order to harmonize its procedures with EU stand- ards, the Eximbank intends to spin off its commercial or marketable insurance activities and redefine procedures within the bank to ensure greater flexibility. Finally, I would like to draw your attention to several factors which should contribute to the enhanced econom- ic growth of Slovakia. Emphasis should be made on imports of advanced so- phisticated technology which would contribute to the restructuring of the Slo- vak economy and the sustainable development of foreign trade. Another important factor is foreign direct invest- ment – there is evidence that higher FDI from multina- tional companies (such as Volkswagen or AssiDomän) contributes to the exchange of goods between countries. As far as import-intensive products are concerned, I do not think that Eximbank will in the future be less interest- ed in supporting such production since there is generally 92-95 cents of import costs for every USD of export revenue. 3. Discussion Alexandru Vrabie (Eximbank, Romania) was asked to give some figures showing the scope of the activities of the Eximbank in Romania. Alexandru Vrabie replied that the Bank had 2,000 cli- ents and each year as much as USD 100 million were available for various operations. Unfortunately, these funds are not fully utilized every year. The delay between the export shipment and the time when the money arrives at the exporter’s bank is rather long and lasts approxi- mately three months. To cover the associated risk, the Ex- imbank provides guarantees that the exporter will receive the reimbursement no later than a certain date.
    • 78 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects John Enemark (Den Danske Bank) asked about the rates the Eximbank offered to banks and clients in Roma- nia under its export-import support schemes. Alexandru Vrabie answered that the usual rate for ex- porters was one or two percentage points higher than the international rates offered to Eximbank. To other banks, funds are provided without interest. Beat Haenni highly appreciated the scope of Ex- imbank’s services to Romanian exporters, particularly those aimed at: compensating the high financing costs of exporters; promoting imports and closer cooperation with commercial banks; and encouraging cooperation between the World Bank and the banking system in Romania. He was interested to know whether all these activities were fully operational. Referring to Eximbank’s programme to support SMEs, he noted that many such companies had difficulties or reservations about accessing large organi- zations such as Export-Import banks; he asked how, in practice, Eximbank of Romania promoted itself within this part of the industry. Alexandru Vrabie confirmed that the referred to means of export and import promotion were fully opera- tional. He also informed the seminar that there were only two commercial banks under State control remaining in Romania, and both were to be privatized during the year. Under these conditions, it is very important to have a law on the Eximbank as it will be the only bank remaining un- der State control. At the same time, Eximbank maintains strong links with the commercial banking system. With reference to SME promotion, there were two ways of dealing with this issue: acting through regional branches and business centres, or by collaborating with small spe- cialized banks. Eximbank meets representatives of other banks on a monthly basis to discuss the opportunities which will open up within the next month. There also is a system of postal distribution of advertisements and infor- mation regarding the activities of the Eximbank particu- larly targeted to SMEs. Alexandru Vrabie also noted that the funds available at Eximbank were not fully utilized, the major reason for this being enterprise payment arrears to the State and oth- er suppliers, which create impediments to new borrowing.
    • Government Support to Trade Finance: Direct Financing and Export Promotion Schemes 79 Court proceedings related to enterprise indebtedness can last for up to several years. Under these circumstances, it is very difficult to find viable projects, which can eventu- ally become profitable and it is also problematic to fi- nance projects on a long-term basis. Veronika Shemyakina enquired as to whether the in- terest cover for the exporter was available to non-clients of the bank, and whether the money from the interest rate coverage funding went directly to the client or went through the client’s bank. Replying to the second part of the question, Alexan- dru Vrabie replied that the funds were transferred to the bank of the client. As for the first part of the question, he noted that it was the Inter-governmental commission which determined the projects to be subsidised in this way, Eximbank only implemented these decisions. Veronika Shemyakina enquired whether the Slovak Eximbank practised cooperation with banks and export- ers under framework loan agreements or whether it oper- ated exclusively on a case-by-case basis. Martin Drabek (Eximbank, Slovakia) replied that every loan under the refinancing scheme was examined on a case-by-case basis. Even when the commercial bank has a long-standing client there still remain risks (such as bankruptcy of the bank) so that every nomination has to be examined on the basis of strict economic criteria that are applied to both the project and the client. Michael Spivey asked whether the Slovak Eximbank specified the type of collateral the commercial bank need- ed to demand from clients in order for them to qualify for funding. Martin Drabek answered that the Eximbank provided best practice recommendations but was flexible on the type of collateral agreed with the bank on a case-by-case basis. Beat Haenni asked first, whether the Slovak Ex- imbank provided any insurance products, second, how the Eximbank encouraged applications from SMEs and third, how long it took to process an application from an exporter.
    • 80 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Martin Drabek replied to the first question that Ex- imbank provided insurance coverage for supplier and buyer credits against commercial, political and produc- tion risks. At the same time, direct funding by the Bank is not contingent on insurance, i.e. the provision of loans does not necessarily require insurance coverage by the Eximbank, although incentives to buy the insurance are provided.Martin Drabek agreed that often SMEs shy away from Eximbank financing. Recently, Eximbank has launched a programme aimed at popularizing its services among the SME sector. The above-mentioned bill of exchange programme targets SMEs and is car- ried out through commercial banks (this eliminates the danger of competition between the Eximbank and commercial banks). However, it is difficult for SMEs to find banks willing to provide financing, particularly in the case of a new company that can offer only limit- ed collateral. Typical turnaround time that is required for the Slovak Eximbank to process completed applications varies be- tween two hours and three days. However, and here Mar- tin Drabek agreed with Michael Spivey, producing all the documents required to complete the application can be a lengthy process. Kenneth Owen inquired on how the Eximbank was planning not to compete with the commercial banks on the forfeiting market. In Martin Drabek’s view the answer to this very im- portant question was still not quite clear, but a possible solution involved filling in the niches left by the commer- cial banks.
    • CHAPTER VI GOVERNMENT SUPPORT TO TRADE FINANCE: RISK INSURANCE AND GUARANTEES 1. Jonast Placiakis, Director General, Lithuanian Export and Import Insurance (Lithuania) To begin, let us review some basic facts regarding the integration of Lithuania into the world economy. The status of this integration is best reflected by the ratios of exports and imports to GDP which were, respectively, 28 and 45 percent in 1999. With such an open economy, any instability in foreign trade can significantly influence our country’s economic situation. That is one of the reasons why all the players in the domestic economy – be it from the State or the private sector – try to reduce export risks. Lithuanian Export and Import Insurance, which is under the National Export Credit Agency, was estab- lished in 1997 and is now covering the main part of commercial and political risk of Lithuanian exporters. The State is represented by the Ministry of Economy which has a controlling percentage of shares. The Agency offers supplier credit insurance, political risk insurance, insurance of investment abroad against political risk, and small and medium-sized business loan insurance. The insurance contracts issued by Lithuanian Export and Import Insurance are backed up by government guaran- tees. The assumed credit risks are reinsured with the largest, well-known reinsurance companies such as Munich Re and Cologne Re. Established two years ago, our national export credit agency achieved quite good results in 1999. The whole assumed risk portfolio amounted to USD 13.75 million on 1 January 2000 as compared with USD 0.36 million a year ago (an almost 40-fold increase). Over the same 81
    • 82 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects period, the share of the Lithuanian export credit insurance market accounted for by the Agency (i.e. direct insurance premiums underwritten) increased from less than 2 per cent to almost 44 per cent. During 1999, the company ex- tended credit limits to 402 foreign buyers from OECD and non-OECD countries such as Russia, Belarus, Ukraine, Latvia, Estonia and Slovenia. The covered ex- port turnover amounted to USD 75.8 million. Despite the growing volume of operations, the present model has revealed the following shortcomings: Legal relations between the Government and the Export Credit Agency (ECA) are not sufficiently defined; The insured risks are not divided into marketable and non-marketable risks; As opposed to common practice in other countries, the Agency does not offer medium- and long-term credit insurance; The Agency offers small and medium-size domes- tic business loan insurance (this is not characteristic of the activities of other export credit agencies). With the objective of encouraging export credit insur- ance with government participation, Lithuanian Export and Import Insurance has decided to revise and consider- ably modify the present model. The new features should be based on the significant experience accumulated by foreign ECAs, international legal conventions and our forecasts of future trends in world trade. A prerequisite for undertaking this restructuring is dividing the insured risks into marketable and non- marketable ones. The new scheme enables splitting of the private and the mandatory State parts of export credit insurance. This also forms a pre-condition for any possible partial privatisation of the company. The first step under the new scheme was the evaluation of the potential of export credit market. For this purpose, the Agency ordered market research on Lithuanian exporters, including an analysis of customs declarations and questioning of individual business operators. One of the questions put was as follows: “Do you agree with the
    • Government Support to Trade Finance: Risk Insurance and Guarantees 83 statement that insurance against non-payment risks is the most efficient way to decrease non-payment risks in export transactions?”. As many as 52 per cent of all respondents answered positively. In addition to the national export credit agency, there is a private credit insurance company operating on the Lithuanian market. For the time being, this private company focuses its activities mostly on the internal market, while the operations of Lithuanian Export and Import Insurance company are directed towards export promotion. In the future, the division of risks, which is the hall- mark of the new model, might also create opportunities for cooperation between the State-sponsored agency and a private company. On the one hand, the two public and private companies can compete in insuring marketable risk, and customers would benefit from this competition. On the other hand, the national State agency would cover non-marketable risk on the State account and with government guarantees. So the relationship between the two companies can be seen as one of partnership and complementarity, creating considerable benefit for both parties. I believe that Lithuanian Export and Import is on the right way in restructuring its activity and that alignment with internationally accepted principles of export financ- ing will allow more efficient servicing of the Lithuanian exporter. 2. Michael Spivey, Director of Business Development, Eximbank (United States) This is an overview of the United States’ Eximbank’s activities in the area of trade finance. The United States Eximbank is a government agency whose sole mission is to support short, medium and long- term financing for international customers of United States-made goods and services. In many cases, Eximbank financing is the most cost-effective option for purchasers of United States goods and services. The typical cost of financing by Eximbank would amount to
    • 84 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects LIBOR+1/2 per cent, i.e. to approximately 6.5 per cent. Eximbank can support financing not only in United States dollars, but in other convertible currencies such as Euros, French franks, Deutschmarks, etc. It provides financing for approximately USD 15 billion worth of exports annu- ally, and over its 66 year history it has supported exports worth over USD 400 billion. Essentially, three types of financing from the Ex- imbank are available: short-term financing covered by insurance, medium-term financing (for capital goods) which includes both medium-term insurance and guaran- tees, and long-term capital goods financing accommo- dated through long-term guarantees or direct loans. Short-term credit insurance enables United States exporters to offer short-term credit to their customers and in many cases allows exporters and importers to interact directly without the use of financial intermediaries. Such insurance is, therefore, an attractive substitute for cash-in- advance, letters of credit and bank financing. Short-term is defined by the Eximbank as a 180 days shorter financing. In certain cases related to exports of capital equipment, the Bank finances transactions for a period of up to 360 days under its short-term insurance. Most of the transactions are conducted on an invoice basis, so that no collateral is required and no promissory notes are being issued. Typical all-in cost of the credit financed by Eximbank averages 9 per cent or less per year. As a recent illustration of a typical short-term financ- ing transaction one can refer to an example of Entech Kereskedelmi Es Mernoki BT – a small commercial and engineering company based in Budapest. This company has received a USD 20,000 60-day open account credit from its United States supplier Cardinal Scale Manu- facturing. This credit financed the purchase of new weighting instruments and helped to expand the business of both companies. Referring to this example, one can contest the prevail- ing opinion that Eximbank and other ECAs support predominantly large transactions. In fact, 85 per cent of the deals financed by Eximbank are short-term small business transactions. Eximbank is interested in support- ing all types of United States exports sales. As an
    • Government Support to Trade Finance: Risk Insurance and Guarantees 85 example, in 1999 it supported a USD 250 worth delivery of textbooks to Nairobi. On the other extreme, Eximbank also financed a USD 2 billion multi-aircraft transaction with Saudi Arabia. This shows that Eximbank can accommodate very different needs. With respect to medium-term insurance and guaran- tees, I should indicate that the United States Eximbank’s policy covers 85 per cent of the importer’s bill, with the latter making a 15 per cent down payment to the exporter. The repayment terms for this programme are one to five years for deals under USD 10 million. In September 1999, for example, Eximbank guaranteed a USD 5.1 million medium-term loan to Latvian Railways (LDZ), which was issued by a New York-based Austrian bank. The five-year loan was used by LDZ to purchase state-of-the- art telecom equipment. This equipment allowed the Latvian Railway System to reach compliance with European Union transportation standards. The five-year loan was extended at an interest rate based on the USD LIBOR +0.3 per cent, i.e. 6.3 per cent. Eximbank has special incentives for environmental projects worth over USD 350,000, for which the maximum tenure is extended to seven years. The medium-term repayment terms are matched with the USD amount of the transaction, so that projects worth less than USD 80,000 can be financed for up to two years, those within the range of USD 80,000 – 175,000 for three years, those worth between USD 175,000 - 350,000 for four years, and projects exceeding by value USD 350,000 for five or seven years (in the case of an environmental project). Finally, to cover long-term financing needs, our bank provides direct loans and guarantees on loans made by commercial banks, the latter solution being largely pre- dominant. The guarantees are provided for transactions exceeding USD 10 million that have repayment terms of five to ten years. In some cases, such as exports of environmental products or aircrafts, the maximum term can be extended to 12 years. Under certain circumstances, Eximbank also allows the capitalization of interest during the construction period and it can finance up to 15 per cent of local costs.
    • 86 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects As an example of Eximbank’s activities in the area of long-term financing, a USD 30 million loan guarantee to finance the purchase of circulating fluidized bed (CFB) boilers in a power plant in Poland can be mentioned. The CFB boilers were used to upgrade two Turow Units in the power plant, and Eximbank provided USD 6.5 million in additional finance for local costs and capitalized interest. This transaction involved a repayment guarantee from Poland's Ministry of Finance. There are several limitations on Eximbank financing. For example, it cannot support the purchase of military equipment, although it does have a separate programme for financing exports of United States military goods, sponsored by the Ministry of Defence. Eximbank also cannot support transactions which do not have at least some United States content. Now, I would like to highlight some financial arrange- ments aimed at providing working capital for SMEs and various financing services the United States Eximbank provides in the area of export credit insurance. In 1983, the United States Eximbank established a guarantee for working capital which provides pre-export financing for exporters. It is primarily designed to provide funds to smaller businesses when they begin manufactur- ing goods for export. Needless to say, the availability of these funds is critical for exporters since one of their main challenges is the reluctance of banks in the United States to extend loans, especially to small businesses, when they are related to exports. It is deemed to be a high risk loan and without Eximbank’s guarantee most of these loans would never be issued. These are collateralized loans; the collateral that the lenders take represents the “accounts receivables” and se- curity interest in the export-related inventory. The United States Eximbank provides a 90 per cent guarantee to the lender, but, unlike, for example, the Slovak Eximbank, it does not fund the lender. Instead, Eximbank establishes underwriting parameters and allows the commercial banks to underwrite the credit, disperse the funds, obtain the security and monitor the credit. In essence, Eximbank provides the line of credit, and there are various levels of credit provided. There are approximately 150 participat-
    • Government Support to Trade Finance: Risk Insurance and Guarantees 87 ing lenders, 50 of which are active and use the programme on an on-going basis. Since 1983, Eximbank has supported approximately USD 6-7 billion worth of working capital guarantees. In 1999 alone, the Bank supported about USD half a billion and hopes to increase the volume to USD one billion per year, which should be achievable within two years. Reverting to the export credit insurance programme, it should be indicated that Eximbank began offering export credit insurance in 1961. It accounts for 85 per cent of all transactions conducted by the Bank. In 1999, the insur- ance coverage amounted to USD 3.7 billion, of which about one third was extended to the small business sector. As much as 90 per cent of this coverage was short-term. The insurance provides two types of financing: short-term and medium-term. Among short-term products, one can distinguish between one-buyer and multi-buyer types of policy. The latter is a type of turnover policy, which allows an exporter to export to several different buyers in Eximbank also offers a bank letter of credit insurance pol- icy, for example in the example of the Republic of Korea, the Bank insured banks for USD 5 billion. Eximbank in- surance covers both political and commercial risks; ap- proximately 90 per cent of all policies are issued on a comprehensive basis. Medium-term insurance is very similar to the guaran- tee programme and it covers 100 per cent although the Eximbank requires a 15 per cent down payment by the importer. Medium-term insurance allows one to five year financing for transactions under USD 10 million. 3. Mr. Louis Habib-Deloncle, Chairman/CEO, Assurance, Finance et Développement (AFD) (France) This presentation highlights the trends in trade finance insurance in the context of the changing patterns of world trade. It is particularly important to avoid addressing tomor- row’s problems of finance and insurance with solutions
    • 88 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects from yesterday. With this in mind, let me make a brief overview of trade insurance history during the twentieth century. At the beginning of the century when government- sponsored Export Credit Agencies did not exist, exports were covered by private insurance companies. Most of these collapsed in the 1930s, due mainly to bad relation- ships with banks. At the end of the Second World War, most countries decided to set up government agencies to support foreign trade. At that time foreign trade was mainly bilateral and Governments were taking care of sovereign financial relationships between themselves. The system of ECAs functioned very well until the mid 1970s. At the same time, it has created certain negative attitudes among industrial firms that based their export decisions entirely on the ECAs’ support. By this I mean that some industrial exporting firms considered a transaction completed as soon as the goods were shipped, and left all the payment risk to be taken by the government agencies. I find this attitude erroneous because, without any doubt, in reality the export transaction is finalized only when the payment for goods and services delivered is received from the importer, otherwise it turns into a gift to the importer’s country the cost of which is being covered by the domestic taxpayer. With the formation of the European Union, two rules came into force preventing government agencies from acting as they had done in the past. The first one is a reg- ulation prohibiting subsidies to exports, preventing ECAs from charging rates that are too low for export-supporting operations. The second rule demands that government agencies insure only viable operations. The latter was caused by considerable budgetary damages inflicted by the financial losses of leading ECAs (in 1991 COFACE alone lost Euros 2.5 billion and more recently HERMES has lost DEM 3 billion). Dramatic changes in the world of insurance and fi- nance were also triggered in 1982 by the world debt crisis. During the past 20 years world trade has grown rapid- ly. According to the World Bank, in 1985 the world trade turnover reached USD 2 800 billion. In 1999, this figure rose to around USD 7,000 billion representing a 2.5-fold
    • Government Support to Trade Finance: Risk Insurance and Guarantees 89 increase. Also, the forms of international trade and finance have multiplied. Various types of contracts nowadays include traditional export transactions, barter deals, investment with the import of raw materials to be resold abroad, bonds, etc. There are a huge variety of risks linked to these opera- tions: political, commercial and financial, all of which imply different situations and diversified solutions. Now and even more so in the future, no single entity would be able to provide a universal solution to a vast range of problems faced by exporters and investors. This means that our attitudes to risk have to change. When assessing the risk inherent in a transaction or a project, the first objective is to understand why this particular client company seeks to operate abroad. Clear- ly, bringing in the macro-economy, the decision to expand abroad means that the strength of a company is backed up by the economic strength of its country of origin. But why do exporters seek to insure their operations? Because the decision to export might involve considerable costs for the company. In order to minimize risks, the exporter will be looking for a continuous long- lasting relationship with clients abroad. This is the essence of the so-called business strategy. It is obvious that large multinational companies are pursing complex multi-national strategies, but even smaller industrial firms need to build business strategies for their foreign operations. Obviously, the exporter knows his business better than the insurer who is servicing the trade flow. This being said, the best way to establish good working relationships with a client is to agree from the beginning that the two parties work together and share the risk: insurers and insured are not rivals but partners interested in the successful performance of the contract. This type of approach is beneficial to everyone: both the insurer and the insured are interested in the transaction being carried out all the way to its completion, that is until the final payment is received. If such cooperation is not achieved, the insurer is forced systematically to pay against claims and insurance premiums are likely to go up, thus handi- capping exports and damaging the economy.
    • 90 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects The biggest challenge in terms of handling risks is faced by small exporters who are just starting their operations abroad. Here, in my view, Governments need to step in, providing not just financial support but also some basic information services regarding foreign markets, industries, buyers, etc. Subsequently, when these companies acquire sufficient experience, the market can solve most of their problems. The first concern of the exporter when choosing an insurer is that of insurer’s credibility. How can the latter be judged? Firstly, by capital and surplus figures on the insurer’s balance sheet. Secondly, by its good track record – i.e. the capacity of the insurer to provide solutions adapted to the needs of customers. Once the exporter and the insurer start working together, they need to chose the risk coverage for a trans- action. Here, the insurer takes the lead: if he assumes, for example, that a risk associated with a particular country is that of currency inconvertibility, he will ask the exporter to cover the transaction for that risk only. This means that there exists a diversified demand from the insured – and this is favorable for both the insured and the insurers. When the situation can deteriorate due to a single political decision or event, the insurer seeks to avoid an excessive concentrations of risks and reduce the probability of a total loss on transaction in the country. How do insurers select risks? First of all, in my view, the concept of country risk is no longer valid. A country is not a risk, but a bearer of risk. Country assessments are important on the macro- economic level, but at a micro level, in practice, one could find operations with acceptable risk levels in the so-called ‘bad countries’ and very risky operations in the so-called ‘good countries’. Second, with regard to political risks, one should note that risk selection becomes more and more complicated, because the political decision-making itself becomes more and more complicated. Political decisions are no longer made by a single entity (government), they are taken at various levels such as federal, municipal, etc. Hence, the need to assess risks in much more detail arises.
    • Government Support to Trade Finance: Risk Insurance and Guarantees 91 In its turn, this need requires working in partnerships with local insurers for mutual benefit. Information received from local insurance companies can contribute to finding better solutions for securing the interests of the client. Western insurance companies can assist their partners in emerging markets in developing a portfolio of services similar to that existing in the west. This is a type of partnership where both the information and the risks are shared in the form of re-insurance, etc. This scheme uses all the leverage that the market offers in order to provide the coverage. Hence, the next point: spreading the risk. This is being done using a variety of coverages but also using a variety of clients. And the final point – sharing the risk, especially for larger operations. There are possi- bilities of sharing the risks with the client (i.e. providing partial coverage), with the re-insurers and with other insurance companies, private or governmental. At various seminars and conferences, we have been working hard to promote rules within the European Union that would enable insurers to access the Central Banks’ data, which would provide valuable assistance to the development of export and finance. However, the analysis of a balance sheet is not sufficient in transition countries where links between economic and political players are very strong. Let me express my strong belief that the exporter must be the leader in this partnership, its driving force, with the insurance company backing it. However, in case of failure the insurance company must seek ways to recover the losses together with the client. That’s why the issues of confidentiality can be very important. In his relation- ship with the client, the insurer has to be sure to respect the three basic principles: full disclosure of the opera- tion’s details, due diligence (the exporter must protect the common interests), and cooperation for the recovery of losses. Be it an export transaction or an investment, it is essential to see whether the project is viable in the country of the buyer or the host country. Finally, I would like to emphasize that the private export credit insurance market that has been operating for only 20 years is still young. Nevertheless, its capacity is
    • 92 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects rapidly growing and already now, private insurance can provide trade operations’ coverage worth USD hundred million. In many cases it can offer a viable alternative to government-sponsored insurance. 4. Discussion Jonast Placiakis was asked to comment on possible circumstances and risks that encourage companies to draw on the services of the Lithuanian Export and Import Insurance (country risks, non-payment risk, etc.). Jonast Placiakis replied that the Lithuanian Export and Import Insurance has operated for only about one year and a half, and it was yet difficult to draw conclu- sions on the motivation of customers. However, the results of the company survey mentioned earlier indicated that as many as 52 per cent of respondents named export credit insurance as the most effective way to protect against risks. It is true that the quality of insurance should be judged by its claims payment. However, exporters should be prepared to pay more for insurance if they aspire to get more in the case of customer non-payment. An insurance policy is a product, which is difficult to sell in general, and only big marketing efforts coupled with intensive direct face-to-face negotiations with exporters can lead to good results. With regard to insurance for SMEs, the Lithuanian Export and Import Insurance fully covers long-term loans that are issued by banks. However, the existing model is not perfect in the sense that the banks have no incentives to participate in risk sharing, thus stepping aside from the evaluation of projects and issuing loans only under the guarantee of the insurance company. Jonast Placiakis expressed his strong conviction that the banks should share the burden of risk together with the insurers. Beat Haenni disagreed that export credit insurance was the best way to deal with risk. In fact, an insurer is in- suring the credit management of the company, i.e. the performance of the staff that is entrusted to manage the exposure of the company to such receivables. If one fol- lows the logic of relying on insurance, in a few years time insurers may face an increasing number of claims made
    • Government Support to Trade Finance: Risk Insurance and Guarantees 93 due to the failure of the exporters to manage their risk ex- posure. The general lack of know-how of risk assessment, which is typical, probably, for many companies in emerg- ing markets, contributes to this excessive reliance on in- surance. In any case, insurance should not dispense the company of carefully assessing the risks involved in an export transaction. Vladislav Fioshin asked Jonast Placiakis if the Lithuanian Export and Import Insurance made public the results of its company surveys and whether it provided recommendations on business strategy and development to companies. Jonast Placiakis replied that the results of company surveys were published and communicated during press conferences. As for recommendations, these are usually made during direct negotiations with clients. The quality of information remains the crucial factor in export credit insurance, since insurance is not a physical object such as a car or a factory, but rather the credit risk of a client as- sociated with operations abroad. In general, it is difficult to obtain information relating to importers in CIS coun- tries, and especially information on smaller buyers. Several participants put questions regarding the re- quirements of the United States Eximbank related to the financial standing of buyers. Michael Spivey noted that Eximbank, as an export credit agency, was neither an aid agency nor a grant agen- cy. Eximbank, therefore, expects re-payment and, in fact, its charter stipulates that it must have reasonable insur- ance of re-payment as a condition for its transactions. This implies, on a transaction basis, that Eximbank has credit standards that must be met. In a medium-term transaction, for example, Eximbank will request financial statements, credit reports and references, and will under- write the transaction just like other financial institutions, showing, however, a greater degree of flexibility, as is of- ten required in emerging markets. A good example of how Eximbank interacts in the world market is that of its exposure in the Republic of Korea. Prior to June 1997, it had almost no exposure. Af- ter the Asian crisis, while private banks and insurance companies fled the market, Eximbank stepped in on a
    • 94 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects short-term basis and provided USD 5 billion in short-term credits that assisted the Korean economy in that very crit- ical one-year period. With this reference, it is appropriate to mention that the Eximbank is an independent agency. Its board of directors is appointed by the United States President for a term and largely acts independently; it is not, therefore, a sub-agen- cy of any other department such as the Treasury or State departments. The decision to support South Korean buy- ers and banks was made by the Bank independently; at the same time, it was made in coordination with other gov- ernment entities of the United States and was part of a broader decision to support the economy of the Republic of Korea. The Bank believed in the economy of that coun- try and, while offering this substantial support, did not lose one dollar. It was a very positive experience in a very critical moment of the country’s economic crisis. Today the Republic of Korea is well on its way to a full recovery. The procedure to follow depends on the type of financ- ing which the importer is looking for. If a client is seeking short-term financing and is interested, for example, in purchasing a consumer good, the best way to access Ex- imbank is to contact the United States seller. Foreign buy- ers should encourage their United States sellers to contact Eximbank because, on a short-term basis, the latter are beneficiaries of the insurance and should be responsible for making the application for the insurance. It is conse- quently in the exporters’ interest to contact Eximbank or another insurance carrier. Although private insurance companies offer perhaps less expensive premiums, Ex- imbank has a tradition of carrying out transactions in var- ious countries, even if these are experiencing financial crises. In cases of medium and long-term transactions, Ex- imbank would issue a letter of interest, which is a non- binding expression of interest. It is typically issued to the United States exporter, but the buyer can also apply for one usually after he has decided which United States goods to buy and discussed the price and terms of financ- ing. An importer, therefore, might want to apply for a letter of interest somewhere in the early or intermediate stages of the transaction. Even in medium- and long-term deals, it is preferable to put the burden to apply for financ-
    • Government Support to Trade Finance: Risk Insurance and Guarantees 95 ing on the United States seller although, if he is unwilling to do so, the importer can apply as well. Dorota Cichocka enquired whether the exporter should fulfil certain requirements to be accepted by Ex- imbank. Michael Spivey replied that the only document required by the Bank was a sales invoice. There are also situations where the Bank asks the exporter to provide a promissory note or a security interest in the goods, but this is the exception and not the norm. Tomas Dvorak asked if there were any restrictions in the coverage of local costs in respect to long-term financ- ing. Michael Spivey answered that there were restrictions on the amount of local costs Eximbank could support: these should not exceed 15 per cent in cases of long-term or “environmental” transactions. There are no other re- strictions. Dmitry Latishev asked, as a first question, how long it took for Eximbank to make a decision regarding a project and, as second question, whether Eximbank had any specific credit lines available for individual countries. With respect to the first question, Michael Spivey noted that the time required to take a decision varied depending on the time scale of the transaction. For short-term trans- actions, the turnaround time is less then one week from the date the Eximbank receives a complete application. For medium-term transactions it is approximately 9 days from the time the complete application is received, whereas for long-term transactions it varies between 30 and 45 days. However, having the complete application is often a major challenge as elements such as a missing sig- nature or an incomplete or out-of-date financial statement often delay the transaction. Once the application is ac- cepted, it moves quickly, and hopefully the development of the Internet should contribute to processing applica- tions even faster. With reference to the second question, it should be mentioned that Eximbank does not have any funds allo- cated to a certain country. Transactions are usually approved on a “first come, first served” basis. The case of the Korean facility represents, in this sense, a special case but should be seen in a broader context; Eximbank did not have to get a special appropriation for that facility.
    • 96 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Beat Haenni commented that, having used both gov- ernment-sponsored and private credit risk insurance on many occasions, he came to the conclusion that the qual- ity of the insurance could be judged only when claims arose. He suggested that despite the rapid growth in insur- ance services in countries of transition it still remained to be seen how well the ECAs performed to promote exports and protect exporters from claims. At the same time, pro- cedures for application for insurance by SMEs needed to be simplified and facilitated. Michael Spivey agreed that the value of insurance could be seen only when claims arose. Moreover, any credit agency or private insurance is always tested in times of crises, such as the Latin American crisis of the 1980s or the Mexican crisis of 1994-95. As for Eximbank, in the working capital guarantee programme, it has denied less than 7 per cent of claims; in the programme’s 16-year history there have been 79 claims on the Bank, out of which 6 were denied. The rea- sons for denial were very serious violations of agree- ments. With respect to short-term insurance, the Bank’s denial rate amounted to about 10 per cent. With respect to medium-term insurance programme, there have been no denials. Regarding the problem of reaching out to small busi- nesses, Michael Spivey noted that it was a challenging task for the Bank to cover the United States and market its insurance with only 400 staff and a limited budget. For this reason, the Internet would become increasingly im- portant in the export insurance business to cover a large volume of small transactions. Within the next two years, Eximbank will begin accepting applications and even do- ing some of credit scoring via the Internet. At the moment the Bank is contracting with a hardware and software pro- vider to implement a credit scoring system. Some of the ECAs, in Canada or the United Kingdom, for example, are already successfully operating such systems. Dmitry Latishev underlined the fact that many com- panies in Latvia were looking for long-term financing to improve their technological basis. Local banks have diffi- culties in offering long-term financing due to the structure of deposits, which tend to be mainly short-term. In his
    • Government Support to Trade Finance: Risk Insurance and Guarantees 97 opinion, it would be beneficial if Eximbanks in developed countries could allocate specific credit lines to financial institutions in emerging markets, which would facilitate the financing of imports. Michael Spivey replied that Eximbank offered bank- to-bank facilities mostly on a medium-term basis in coun- tries such as Mexico and Brazil. The Bank is prepared to discuss this in more detail with any interested party. Martin Drabek enquired whether private insurance companies used country coverage limits to manage risk. Louis Habib-Deloncle replied that the answer to this question depends on how we understand the basic con- cept of an “event”, which is difficult to define unambigu- ously. For example, a United Nations resolution can have many indirect consequences for several countries. Should this be considered as a single event or rather should the event be treated in each case as a set of individual impli- cations of the resolution for each country concerned? AFD has fixed limits per risk and per policy, and has fixed cumulative limits per country. However, these limits are not aggregated, but are rather based on Possible Maxi- mum Loss (PML), a concept that has been tested in prac- tice over 15 years and has proved to be successful. This means that the excessive exposure accumulation on one country is no longer valid as a goal; the main goal of a company now is to avoid a total country loss. Beat Haenni asked Louis Habib-Deloncle to say a few words on the accessibility of private insurers for SMEs. In Louis Habib-Deloncle’s opinion the market is very flexible and client-oriented, including the specific needs of SMEs. Underwriters examine carefully the pecu- liarities of the client’s business – so that they can take de- cisions quickly. The second aspect is that the role of the broker is not only to place the risk, but to advise his client about the possibilities of coverage he may have and to help him structure his insurance programme with the best cost/quality ratio. Fortunately, there is a growing number of international brokers who can understand the risk and give proper advice to their customers. Iouri Adjoubei enquired, whether, in perspective, pri- vate insurers and State-supported agencies should be re- garded as competitors or complementary operations and,
    • 98 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects secondly, what factors determined the choice of an ex- porter between a private or a State insurance agency. Louis Habib-Deloncle replied that perceptions played an important role in these matters. Keeping in mind that ECAs were set up to promote national exports, they are acting more as export development agencies rather than export insurance agencies. This former role is very impor- tant; however there is a danger that, being associated with a government agency, the exporter may consider payment to be guaranteed. At the same time, consistent losses by ECAs are a bur- den on home taxpayers. Therefore, the time has come for ECAs to reconsider their role and mission and to evaluate their readiness to work on market terms. If both private and public insurers operate on equal terms, and there is no discrimination or distortion of competition, they can and should cooperate. The development of private insurance companies in transition economies is a very important factor that can provide to local foreign traders various possibilities for diversification and the management of risks existing on international markets. Louis Habib-Deloncle cast some criticism on the con- cept of ‘marketable’ and ‘non-marketable’ risks. During the last 15 years the private insurance market has demon- strated that it could accept any kind of risk, including po- litical as long as those risks were “insurable”. There are though risks that are very difficult or impossible to insure such as currency fluctuations over a long period of time. But the government agency will not accept to do this ei- ther. To repeat, regarding “insurable” risks, private insur- ers are ready to share any of those with the government agencies.
    • CHAPTER VII SUMMARY OF GENERAL DISCUSSION On behalf of the participants, Beat Haenni thanked the United Nations Economic Commission for Europe and the Baltic Transit Bank for organizing the seminar, which had discussed problems from various angles and very thoroughly. The aim of the seminar was to try to find so- lutions to problems hampering the financing of foreign trade in transition countries. The participants had looked at the problem from all the standpoints and stages of ex- port operations: the views of exporters, bankers and insur- ers all being covered. He then invited the participants to conclude the meeting by compiling a list of the most im- portant obstacles to efficient trade finance, which had been brought up during the two days of discussion. The following obstacles to efficient trade finance in transition economies were highlighted: Lack of information on banks that could be in- volved in an export transaction as guarantors Lack of experience and know-how regarding trade finance techniques in transition economy banks and companies, and inadequate training opportunities Reluctance of transition economies’ banks to take risks Lack of consistent and systematic policies in risk management by banks Lack of dialogue and cooperation with western partners in developing and implementing payment terms applicable in trade among developed econo- mies High cost of insurance for exporters from transition economies Government restrictions on the development of pri- vate insurance companies 99
    • 100 Eliminating obstacles to efficient Trade Finance in Transition Economies: practical aspects Insufficient recognition of exporters’ problems and inadequate support to exporters from the govern- ment Export Credit Agencies Lack of government support to Export Credit Agencies Lack of cooperation between banks, customers and Export Credit Agencies Limited human resources of Export Credit Agen- cies Inactivity of government-supported export promo- tion agencies. The participants formulated the following recommen- dations aimed at alleviating the above trade finance problems: To enhance their standing, financial institutions in transition economies should apply for ratings from independent international agencies (Thomson Fi- nancial Bankwatch, Moody’s, Standard & Poor’s). These ratings should concentrate more on individu- al companies rather than countries Banks in transition economies should more actively share information and successful experiences through their network and professional associations Governments should better define the roles and ob- jectives of Export Credit Agencies (ECAs) and grant them full faith and credit; this would facilitate raising loans by exporters Public exposure and accessibility of Export Credit Agencies should be increased through various means, the Internet, in particular Partners in western and emerging markets should develop effective means of transferring trade fi- nance know-how; Cooperation with IBRD and EBRD should be en- hanced, transition economies’ exporters should be encouraged to participate in TACIS and other EU- training seminars on trade finance.
    • Printed at United Nations, Geneva United Nations publication GE.01-31077–October 2001–2,445 Sales No. E.01.II.E.4 ECE/TRADE/267 ISBN 92-1-116772-8 ISSN 1020-7384