Topic 12

International trade finance

Text Book: Refer to Text Book: Chapter 16 (Page 505 to 523)

Subtitles
• Trade process
• Payment methods
• Documents
• Financing
A Typical Foreign Exchange Transaction
• Over the years (centuries, really), an elaborate process has evolved
for handling exports and imports.
• Figure 20.1 in your text book, illustrated on the next slide, shows this
process.

20-3
Letter of Credit
• A guarantee from the importer’s bank that it will act on behalf of the
importer and pay the exporter for the merchandise if all relevant
documents specified in the letter of credit are presented according to
the terms of the letter of credit.
• In essence, the importer’s bank is substituting its creditworthiness for that of
the importer.

20-4
Time Draft
• A time draft is a written order instructing the importer or his agent,
the importer’s bank, to pay the amount specified on its face on a
certain date.

20-5
Bill of Lading
• A bill of lading is a document issued by the common carrier specifying
that it has received the goods for shipment; it can serve as the title for
the goods.

20-6
Banker’s Acceptances
• The exporter’s bank presents the shipping documents and the time
draft to the importer’s bank.
• After taking the title for the goods via the bill of lading, the importer’s
bank accepts the time draft.
• At this point the banker’s acceptance is created.
• It is a negotiable money market instrument.
• A secondary market exists for banker’s acceptances.

20-7
Banker’s Acceptances
• Banker’s acceptances can be held to maturity by the exporter.
• The exporter can also sell them (at a discount) in the money market.
• Since the risks are similar, B/As trade at rates comparable to
certificates of deposit.

20-8
Steps in a Typical Trade Transaction
Forfaiting
• Forfaiting is a type of medium-term financing used to finance the sale
of capital goods.
• It involves the sale of promissory notes signed by the importer in favor
of the exporter.
• The forfait, usually a bank, buys the notes at a discount from face
value from the exporter.
• The exporter gets paid and does not have to carry the financing.

20-10
Government Assistance in Exporting
• For political reasons (having to do with mercantilism), most
developed countries offer competitive assistance to domestic
exporters.
• This assistance often takes the form of subsidized credit that can be
extended to exporters.
• Also, credit insurance programs that guarantee financing extended by
private financial institutions are common.

20-11
The Export-Import Bank and Affiliated
Organizations
• In 1934 the Eximbank of the United States was
founded as an independent government agency to
facilitate and finance U.S. export trade.

20-12
The Export-Import Bank and Affiliated
Organizations (continued)
• Eximbank’s purpose is to provide financing in
situations where private financial institutions are
unable or unwilling to because:
• The loan maturity is too long.
• The amount of the loan is too large.
• The loan risk is too great.
• The importing firm has difficulty in obtaining hard
currency.

20-13
Countertrade
• Countertrade is an umbrella term used to describe many different
types of transactions in “which the seller provides a buyer with goods
or services and promises in return to purchase goods or services from
the buyer.”
• Countertrade may or may not involve the use of currency, as in barter.

20-14
Forms of Countertrade: Barter
• Barter is the direct exchange of goods between traders and requires a
double coincidence of wants.
• A clearinghouse arrangement is a form of barter in which the traders
agree to buy a certain amount of goods from each other.
• They set up accounts with each other that are debited and credited as
needed. At the maturity of the arrangement, the parties settle up in cash or
merchandise.

20-15
Forms of Countertrade: Switch Trades and
Buy-Back Transactions

• A switch trade is the purchase by a third party of one

country’s clearing agreement balance for hard
currency.
• A buy-back transaction involves a technology transfer
via the sale of a manufacturing plant.
• The seller of the plant agrees to buy back some of the
output of the plant once it is constructed.

20-16
Forms of Countertrade: Counterpurchase Trade
Agreements and Offset Transactions
• A counterpurchase trade agreement is similar to a
buy-back transaction, but differs in that the output
that the seller of the plant agrees to buy is unrelated
to the plant.
• An offset transaction can be viewed as a
counterpurchase trade agreement involving the
aerospace/defense industry.

20-17
Disadvantages of Countertrade
• It is inefficient.
• Some claim that such transactions tamper with the fundamental
operation of free markets, and therefore resources will be used
inefficiently.
• Transactions that do not make use of money represent a huge step
backwards in economic development.

20-18
Advantages of Countertrade
• Countertrade conserves cash and hard currency.
• The improvement of trade imbalances, the maintenance of export
prices, enhanced economic development, increased employment,
technology transfer, market expansion, increased profitability, less
costly sourcing of supply reduction of surplus goods from inventory,
and the development of marketing expertise.

20-19
Generalizations about Countertrade
• There are advantages and disadvantages associated with
countertrade.
• It can benefit both parties and in some circumstances is the only
trade possible.
• Whether or not countertrade transactions are good or bad for the
global economy, it appears certain that they will increase in the near
future as world trade increases.

20-20
Summary
• Conducting international trade transactions is difficult in comparison to domestic
trades. Commercial and political risks enter into the equation, which are not
factors in domestic trade.
• A typical foreign trade transaction requires three basic documents: letter of
credit, time draft, and bill of lading.
• A time draft can become a negotiable money market
instrument called a banker’s acceptance.
• Forfaiting, in which a bank purchases at a discount from an importer a series of
promissory notes in favor of an exporter, is a medium-term form of trade
financing.

20-21
Summary (continued)
• The Export-Import Bank provides competitive assistance to U.S.
exporters through direct loans to foreign importers, loan
guarantees, and credit insurance to U.S. exporters.
• Countertrade transactions are gaining renewed prominence as a
means of conducting international trade transactions. There are
several types of countertrade
transactions, only some of which involve the use of money. In
each type, the seller provides the buyer with goods or services in
return for a reciprocal promise from the seller to purchase goods
or services from the buyer.

20-22