This document provides an overview of key concepts in international trade and trade finance. It discusses economic perspectives on trade, including mercantilism, structuralism, and liberalism. It also covers basic economic principles such as comparative advantage. Additionally, it outlines various payment methods in international trade like letters of credit, documentary collections, and open accounts. Finally, it discusses US government export finance programs.

1. Trade Finance
Class Four

2. Economic Perspectives
• Mercantilism – National self interest (win‐
lose)
• Structuralism – inequalities in global
structure/Marxism (dependency theory)
• Liberalism – Market forces/democracy (win‐
win)

3. Basic Economic Principles
• David Ricardo
– Absolute Advantage
– Comparative Advantage
• Heckscher–Ohlin
– A capital‐abundant country will export the capital‐
intensive good
– labor‐abundant country will export the labor‐
intensive good

4. Example: Comparative Advantage
Think of two countries that both make cards and pencils and use the same amount
of time to make one unit of items.
Country one can make 4 pencils if they specialize just in pencils at the expense of
one card, but this country can also make ¼ of a card at the expense of one pencil.
If country two makes only pencils, it will make 2 pencils at the expense of 1 card. If
country two specializes only in cards, it will make ½ of a card at the expense of a
pencil.
Country one has a comparative advantage in pencils over country two (4 pencils to
2 pencils), whereas, country two has a comparative advantage in cards over
country one (½ of a card to ¼ of a card). In Ricardo's idea of comparative
advantage, these two countries should specialize in what they do best.
Source: http://en.wikipedia.org/wiki/Ricardian_economics

5. International Organizations
• Bretton‐Woods Institutions (created to provide
stability to the international monetary system)
– International Monetary Fund (IMF)
– International Bank for Reconstruction and Development
(IBRD) – Now the World Bank Group
• United Nations (replaced League of Nations)
• General Agreement of Tariffs and Trade (GATT) –
Now the World Trade Organization (1994 Uruguay
Round)

6. Balance of Payments
• Accounting record of all monetary
transactions (goods, services, and financial
assets) between a country’s residents and the
rest of the world during a given period of
time.
– Private transactions (individuals and business firms)
– Official transactions (government transactions)
• BOP = CA + KA = 0

7. BOP Account Categories
• Current Accounts
– Merchandise Trade
– Service Trade
– Services of Capital: Interest Incomes, Dividends
– Unilateral Current Transfers
• Capital Accounts
– U.S. private investments abroad
– Foreign private investments in the US
– Other investments/capital transactions
• Official Accounts
– (Changes in) US official reserve assets abroad: gold, SDRs, foreign currencies
– (Changes in) foreign official assets in the US

8. GNP Vs. GDP
• Gross National Product: Measures the output
generated by a country's enterprises (physically
located domestically and abroad).
• Gross Domestic Product: Measures the total output
produced within a country's borders ‐ whether
produced by that country's own firms or not.
GDP is more commonly used when measuring a
country’s economy.

9. Gross Domestic Product
GDP = C + I + G + (X—M)
GDP = Gross Domestic Product
C = private consumption
I = gross investment
G = government spending
X = Exports
M = Imports

10. Real Exchange Rates
• The purchasing power of a currency
relative to another
• Purchasing Power Parity (general
price level)
• Law of One Price (individual
commodities)
The following table, based on data from The Economist's 2004
calculations, shows the under (-) and over (+) valuation of the local
currency against the dollar in %, according to the Starbucks tall latte
index and the Big Mac index.

11. Monetary Policy
• Fixed Exchange Rate
• Floating Exchange Rate
• Expansionary
• Contractionary

12. Currency
• Appreciation vs. Depreciation
• Hard vs. Soft Currency
• Triangular Arbitrage

13. Black vs. Gray Markets
• Black market products are illegal (counterfeit)
and outside the official economy (not paying
taxes)
• Gray market products are not illegal but
violate written and/or unwritten agreements
(unauthorized distribution channels)

14. Global Trade Cycle

15. Trade Finance Benefits
• Optimize working capital
• Mitigate risks
• Reduce costs
• Simplify the trade process

16. Types of Risk

17. Financial Risk Levels
International
financial risks
grows as a
company moves
from indirect
exporting through
to overseas
manufacturing

18. Exporter/Importer Risk

19. Payment Methods
• Methods of Payment in International Trade
• Cash-in-Advance
• Letters of Credit
• Documentary Collections
• Open Account
• Consignment
• Export Working Capital Financing
• Government-Guaranteed Export Working Capital
Loan Programs
• Export Credit Insurance
• Export Factoring
• Forfaiting
• Government-Assisted Foreign Buyer Financing
• Government-Backed Agricultural Export Financing
• Foreign Exchange Risk Management

20. Cash in Advance
• No risk to seller, very high risk to buyer.
• Cost and ease of payment is low for both
parties
• Methods: wire transfer, credit cards and
checks

21. Export Finance Tools
• Letters of Credit:
– Commercial Letters of Credit
– Standby Letters of Credit
• Documentary Collections
• Financing:
– Direct Bank Financing
– Bankers’ Acceptances (BA)
– Trade Acceptances
– Ex‐Im Bank Working Capital Guarantee Program (WCGP)
– Private Insurance
– Private Export Funding Corporation (PEFCO)

22. Letters of Credit
• Involves banks as an active party
• Documents are exchanged for payment
• Banks make determination to pay
• Good for:
– New Buyers
– Mitigating certain risks
– Buyer financing options

23. Letter of Credit
• Standard credits
– Revocable vs. irrevocable
– Confirmed vs. unconfirmed
• Specialized credits
– Revolving
– Standby
• performance
• financial
– Transferable
– Back‐to‐back
– Assignment of Proceeds

24. L/C Issuance

25. L/C Payment

26. L/C Flow
5. Ship the Goods
1. Contract Signed
Buyer’s Bank
(Issuing Bank)
11. Release Documents
10. Make Payment
2. Apply for L/C
Importer
(Buyer)
4. Advise L/C
6. Submit Documents
Seller’s Bank
(Advising Bank)
(Confirms L/C)
Exporter
(Seller)
8. Payment / Acceptance
7. Send the Documents
9. Make Payment
3. Issue the L/C

27. Documentary Collection
• Banks facilitate, but not active parties
– Buyer credit issues remain
• Documents exchanged for payment
– Buyer makes determination to pay, not bank
• Good for:
– Smaller amounts
– Established relationships

28. Documentary Collections
• Documents Against Payment (D/P)
– Bank releases documents to the buyer/importer
only against a cash payment in a prescribed
currency
• Documents Against Acceptance (D/A)
– Bank releases the documents to the
buyer/importer against acceptance of a bill of
exchange (draft) guaranteeing payment at a later
date.

29. Bill of Exchange
• Sight Draft
– Payment effected when complying documents are
presented (documents must be correct)
– May or may not occur immediately
• Time Draft
– Payable at a future fixed date (e.g 30, 60, 90 days)
• Bankers Acceptance‐short term financing ‐30 to 180 days
• Deferred Payment‐Like an acceptance, but with no draft

30. Bankers Acceptance
• Draft must show:
– Tenor (90 days sight)
– Payee (ABC Company)
– Drawee (Bank One)
– Date
– Amount
– Signature
– Endorsement (on back)

31. Bankers Acceptance Advantages
• Creates U.S. receivable from U.S. Bank
– No foreign risk
• Sales tool
– Allows buyer to finance at U.S. rates; Buyer has choice of
terms (sight or time)
• Cost can be fixed prior to quote (no surprises)
• Cash management tool
– B/A is a negotiable instrument
– Can be used for funding/cash‐flow

32. Society for Worldwide Interbank
Financial Telecommunication
(SWIFT)
• Worldwide financial messaging network which
exchanges messages between banks and
other financial institutions; Promotes common
language for international financial
transactions
• Main format for L/C

33. Uniform Customs and Practice for
Documentary Credits (UCP)
• Private rules (not law) on the issuance & use
of L/Cs
• UCP 600: The latest revision by the ICC's
Commission on Banking Technique and
Practice
• eUCP: UCP supplement for electronic
commerce

34. Open Account
• Used in ongoing relationships between buyer
and seller where trust and creditworthiness is
established
• Seller might set credit limit for experienced
buyers
• Risk to seller is potentially very high, risk to
buyer is very low
• Costs are very low for both parties

35. Factoring
• Selling receivable to a third party for cash
• Requires detailed coordination, sometimes to
extremes (two negotiations vs. one)
• Can be either recourse or non‐recourse back
to seller
• Generally for receivables with 90 day or less
tenor (time left for loan repayment)

36. Forfaiting
• Selling receivable to a third party for cash
• Requires detailed coordination, sometimes to
extremes (two negotiations vs. one)
• Can be either recourse or non‐recourse back
to seller
• Generally requires foreign bank avalization
• Tenors typically range from 90 days to 7 years

37. Refinancing
• Seller paid at sight
• Refinancing transparent to seller
• Arranged as bank‐to‐bank or bank‐to‐buyer
• Terms are generally 30‐180 days

38. Consignment
• Delivery of merchandise from an exporter (the
consignor) to an agent (the consignee) under
agreement that the agent sell the
merchandise for the account of the exporter.
• The consignor retains title to the goods until
sold. The consignee sells the goods for
commission and remits the net proceeds to
the consignor.

39. Countertrade
• Exchanging goods or services which are paid
for, in whole or part, with other goods or
services, rather than with money
• Includes barter, buy‐back or compensation,
counter purchase, offset requirements, swap,
switch, or triangular trade, evidence or
clearing accounts

40. Payment Comparisons

41. USG Finance Programs
• Small Business Administration (SBA)
• Export‐Import (Ex‐Im) Bank of the United States
• Foreign Agricultural Service (FAS), USDA
– GSM 102
– GSM 103
• Trade Development Agency (TDA)
• Overseas Private Investment Corporation (OPIC)

42. USG Pre‐shipment Export Finance
• Ex‐Im Bank Working Capital Guarantee Program (WCGP)
– Working capital loans backed by Ex‐Im Bank guarantee (90% of loan
amount, including principal and interest). Enables U.S. exporters (large
and small) to facilitate the export of goods and services.
• SBA Export Working Capital Program (EWCP)
– Working capital loans for small businesses backed by SBA guarantee
(guarantees repayment of up to $1.5 million or 90% of loan amount,
whichever is less). Similar to the Ex‐Im Bank WCGP, however, no U.S.
content or military/defense product and service restrictions.

43. USG Post‐shipment Export Finance
• Short‐term: Accounts receivable insurance
– Up to 180 days
• Medium term: Financing
– Finance foreign buyers purchasing US capital equipment
– Up to 5 yrs
• Long term: Financing
– Buyer financing of very large object (aircrafts) and projects
– > 10 million USD
– > 5 yrs repayment terms

44. USG Restrictions
• ExIm Bank
– No military exports
– Foreign content (must be 51% U.S. content+)
– Restricted countries and “arms length”
– Economic impact (adverse impact analysis)
– Shipping (must ship on US registered vessels)
– Environmental impacts
• SBA
– Up to 500 employees (can vary by NAICS)
– No foreign content limitations or military sales
– Insurance requirements

45. Export Credit Insurance
• Also known as Foreign Receivables Insurance
• Offers the ability to eliminate most foreign
accounts receivable risk by obtaining insurance
against that risk (political & commercial)
• ExIm Bank: leading provider of insurance for
U.S. companies with at least 50% U.S. content
• Private Company option for those that don’t
meet the U.S. content requirements

46. Export Credit Insurance Applicability
• Recommended for use in conjunction with O/A
terms and export working capital financing
• Pros
– Reduces the risk of non‐payment by foreign buyers
– Offer open account terms safely in the global market
• Cons
– Cost of obtaining and maintaining an insurance policy
– Risk sharing in the form of a deductible (coverage is usually
below 100%)

47. Exchange Rates
• Spot exchange rate (current)
– Settlement is 1 or 2 business days from trade date.
• Forward exchange rate
– An exchange rate that is quoted and traded today
but for delivery and payment on a specific future
date.

48. Hedging
• “Insurance” to reduce FX exposure
• Derivatives
– Options
– Futures (forward contracts)

49. Transfer Pricing
• Charges made between related parties
• Tax implications (use “arms‐length” principle)
– Based on analysis of pricing in comparable
transactions between two or more unrelated
parties dealing at arm’s length

50. Trade Finance Resources
• Country Limitations Schedule
• Lenders List
– Export Working Capital Guarantee
• Licensed Insurance Brokers
– Export Credit Insurance
• International Credit Reports

51. Country Limitations Schedule

52. International Pricing
• Cost‐plus method vs. Marginal‐cost method
• Additional export expenses:
– Packaging
– Foreign market research
– Advertising/marketing
– Translation
– Consulting/legal fees
– Foreign distributor product information and training
– After‐sales service costs

53. International Credit Report
Providers (sampling)
• Dun & Bradstreet Information Services
• Coface North America
• Graydon Credit Management Services
• Kreller Group International
• Credit Risk Monitor
• Owens OnLine, Inc.
• Standard and Poor’s Compustat
• Veritas Credit

54. Export Tax Credit Programs
• Federal IC‐DISC
• Federal R&D
• State R&D