As a result of the on-going financial crisis in the Region, trade finance lines to Latin-American exporters and importers have been severely reduced during 2002 (facilities have not be rolled and tenors have been shortened). Lack of pre-export financing has particularly affected the export growth potential of several countries in the Region (e.g., Argentina, Uruguay, and to a somewhat lesser extent, Brazil), even in a situation where currencies have been drastically devalued, which has improved the price competitiveness of products and services.
International banks that have opted to reduce trade finance lines in the Region (mostly European banks) are institutions with many years of credit experience and history with Latin-American companies in the area of foreign trade. Given the increase in country risk in selected markets during the past few months, credit risk units at these banks have decided to decrease to the minimum possible the exposure of open trade line facilities without consideration of the quality of the underlying trade activities of the particular clients (corporations) in the Region.
Mitigation of the country risk in selected markets in the Region by AAA- rated multilateral institutions could create adequate incentives for international banks to re-open (at least partially) of their trade finance lines. IDB together with IFC (the MLAs), are currently working in the development phase on Trade Finance Facilities that could provide the neccesary comfort to international banks in the trade finance business.
The MLAs could use the full range of their existing financial products to mitigate the trade finance risks for international private banks so as to alleviate the current lack of funding availability for short-term trade finance. Authority would be requested to establish a time and amount limited program within the existing Private Sector Window (IDB only).
The risks in trade finance activities that will be covered fall into two categories
(a) Performance risk: risks that the exporter, after receiving a purchase order, will not be able to deliver the merchandise to the port of embarkation, or that the exporter after delivering the merchandise fails to make full payment of the trade finance line (these are traditionally handled via letters of credit, short-term notes, insurance, etc.).
(b) Country risk: risks associated with government decisions negatively affecting prompt payment and collection of trade receivables (i.e., transfer and convertibility, expropriation of funds, intervention in the financial system, etc.).
As the short-term approach is aimed at attacking the immediate crisis in availability of trade credit, the instruments should be widely available. MLAs programs should not discriminate in favor or against any firm based on size, sector or location (discrimination should be purely based on financial viability and risk/return indicators). Operations designed within the program must not be in conflict with the OECD guidelines for trade finance and the regulations of the WTO. Emphasis will be on short-term, self-liquidating transactions to avoid issues with potentially large subsidies to a small number of politically favored producers.
The program is to be catered, in principle, to financial institutions. The loans and guarantees will not assume the direct risk of the importer or the exporter and will only deal with the payment risk of the financial institution (who is better suited to deal with the importer/exporter credit risk).
In countries where the banking system is not experiencing a systemic crisis, the MLAs may offer A&B loans to qualified commercial banks. Since the MLAs would act as the lender of record, the preferred creditor status would be extended to investors underwriting the B portion of the transactions, thus mitigating the country risk component. The objective would be to protect existing lines of credit for short-term trade from international sources or induce reopening of such lines. Proceeds would be used for working capital needs associated primarily with pre-shipment imports of goods and services required for future exports. The catalytic impact for turning the tide on trade finance availability is expected to be significant.
/1 This option will include a full appraisal of the borrowing banks as the MLAs will be taking the full credit risk of the local banks.
Partial guarantees could be used to provide comfort to international banks (especially those involved with confirming letters of credit and other trade finance documentation) to cover both political risk [country risk] and commercial payment risk [credit risk] of transactions undertaken by issuing banks in Latin American countries where the MLAs operate. The guarantees will cover the commercial and political risk of non-payment by the issuing bank. The guarantees will not assume the direct risk of the importer or the exporter (only deals with the payment risk of the financial institution). The EBRD has had a successful experience using this model to foster international trade with Central and Eastern Europe as well as the CIS. The Program may need to be adapted to the current needs of financial institutions involved in trade finance activities in the Region.
In countries that do experience partial or total disruptions in their financial system (e.g., Argentina), a more complex approach will be required to mitigate the inherent risks. While local commercial banks and branches/subsidiaries of international banks still play an important role in terms of their business relationship with the export and import companies, they may not be creditworthy. Thus, a different structure is required to eliminate recourse to distressed banks.
The facility would be supported by a partial credit guarantee provided by MLAs. Foreign banks with branches or subsidiaries in distressed markets would provide funding to the offshore pass-through vehicle for trade financing which would enjoy the benefits of the MLAs preferred creditor status.
TF Facilities Options : Loan Guarantee Facilities (illustration for Argentina & Uruguay)
TF Facilities Option : Note Issuance Facility (illustration for Argentina & Uruguay)
Such a program will require to have someone who will look after the administration of it, i.e. major player in the international forfeiting business.
Other Initiatives : Exporters Insurance Company, EUIC
Private Sector Initiative (Captive Credit Insurance Company for particular markets -- i.e., Uruguay and Argentina)
Promote by a Bermuda based insurance company (Export Insurance Company Ltd.)
Proposed Credit Structure:
First Loss Participants (EUIC capital base -- exporters and local financial institutions equal to 5% of transaction)
Second Loss Participants (EIC parent company + MLAs guarantee equal to 45 % of transaction)
Third loss participants (MIGA and private insurers for political risk only equal to 50% of transaction)
Note : The Risk that needs to be analyzed in such a structure is reputational risk. If the captive insurance company finds itself in a situation wher it has to pay out a large claim (s) and its capital is wiped out, MLAs reputation is on the line to other policy holders, unless the insurance company is recapitalized to make outstanding policies it has with other clients worth something.
A/B loans to the private commercial banks to finance international trade
Guarantees for the confirmation of letters of credit issued by local commercial banks, guarantees for loans to commercial financial intermediaries and guarantees for the issuance of instruments whose proceeds will be used for trade finance
With government guarantees or government intervention
Reformulation of existing multisectoral credits or approval of new one credit/ guarantees for the purpose of financing international trade related working capital