Trade & Supply Chain Finance 2011: Global Trade


By Anita Hawser

Global trade was affected over the course of 2011 by major disruptions such as the US sovereign rating downgrade, the Japanese earthquake and political upheaval in the Middle East and North Africa. Not only are companies managing the impact of these events on their supply chain, but they are also looking for new alternatives as existing trade finance capacity tightens.


Ahearn, Citi: Costlier trade to come

When the US sovereign long-term debt was downgraded by Standard & Poor’s in early August, global trade was already contending with the Japanese earthquake and tsunami in May and the ongoing political and social unrest throughout North Africa and the Middle East, which continues to simmer in countries such as Libya, Egypt and Syria. The downgrade, along with the ongoing European debt crisis, added extra friction to already-slowing global trade volumes.

In response to the uprisings in North Africa overall trade and trade finance volumes declined, says Michael Burkie, market development manager, treasury services, EMEA, BNY Mellon. However, he adds that it was not a “global trade event crisis.” The most recent major global trade setback was in 2009 when exports worldwide fell by 12%. The secondary market in trade also disappeared as banks’ confidence in one another nosedived and a number of monoline export credit insurers became more risk averse.

After the 2008–2009 financial crisis, joint public and private sector initiatives pumped significant amounts of liquidity into global trade and financial markets. In 2010, the World Trade Organization reported that world trade grew by a record-breaking 14.5%. But in April this year, the WTO warned that global trade was not out of the woods yet and that it would grow more modestly in 2011, at 6.5%. The WTO stated: “The short-term outlook was clouded by a number of significant risks factors, including rising food prices and unrest in major oil exporting countries. Adverse developments in any of these areas could potentially set back the economic recovery and limit the expansion of trade in the coming year.”

On the brink

A number of market events have occurred since the WTO published those comments. In early August, financial markets watched in disbelief as gridlock in the US Congress between Republicans and Democrats over spending cuts pushed the US to the brink of defaulting on its debt obligations. Both sides eventually ceded ground to reach agreement, but should no accord have been forthcoming global trade could have come to a standstill.

“The US economy is still one of the largest import economies on the planet,” says Burkie of BNY Mellon. And with US government spending cuts on the horizon, he says trade could still be impacted. “Early next year there is an opportunity to revisit the cuts. It hasn’t given the 100% top-to-bottom assurances that America typically would have given the marketplace.”

“If the world enters a double dip recession, that would impact trade insurance and political risk”

“The number of claims would go up” – Charles Berry, BPL Global

The export credit insurance market was not directly affected by the US sovereign downgrade, but Charles Berry of BPL Global, which provides political risk and trade credit insurance, says the insurance market is vulnerable to any economic events. “If the world enters a double dip recession, that would impact trade insurance and political risk,” he commented. “The number of claims would go up, as it always does in a recession.” He says monoline export credit insurers are not yet tightening their underwriting as much as they did in 2008 during the crisis. “But if it happens, monoline credit insurers are in a better position today than they were in 2008.”

European Debt Overhang

Concerns remain, however, about the impact of the debt overhang in the eurozone. John Ahearn, global head of trade finance, Citi Global Transaction Services, says banks are cutting back on their exposure to other banks in the eurozone. “One of the things we should be thinking about is how bad it is going to get,” says Ahearn. “We should be starting to lay some groundwork now if we need to inject capital into these specific markets.”

Ahearn says the issue of sovereign risk presents a more complex scenario than what trade banks faced in 2008. “The good news is that whatever is happening, it is happening at a slower pace, which gives us a chance to react. But I don’t think the financial community is reacting quickly enough.”

One issue that must be addressed, says Ahearn, is that European banks often deal in trade and commodities denominated in US dollars. “European banks are clambering for US dollar liquidity. However, the way the swaps market is working today, it is very expensive for them to swap euros to dollars.”

Improving Working Capital

With bank credit still scarce, particularly for smaller-to-mid-sized companies, corporates are focusing on how they can best utilize their working capital on a global basis. “Having learned during the 2008 recession how critical it is to ensure the health of their trading partners, many buyers and suppliers are collaborating around supply chain financing,” says Drew Hoffler, senior manager of financial solutions at system vendor Ariba. “More and more companies see supply chain financing as a new tool they have in their arsenal that can help them.”

In the past 12 months, Hoffler says the number of buyers using its cloud-based Ariba Discount Professional, which is a dynamic discounting solution that enables buyers to fund suppliers earlier in the trade cycle, increased 60%. Dynamic discounting is the practice of changing payment terms to speed up payment on a sliding scale: the earlier payment is made, the greater the discount given.

Companies that are not already doing so may be forced to improve their trade finance processes as a result of regulation, according to Rakesh Bhatia, global head of trade and supply chain, HSBC. He notes that in the bank’s biannual Trade Confidence Index traders have consistently highlighted that government and trade regulations remain a barrier to growth. For example, the impact of Basel III on global trade is still unclear.

Regulatory Squeeze

For the past 12 months, banks have argued that if capital requirements for trade finance are restrictive under Basel III, it may no longer be an attractive business. Trade banks and the International Chamber of Commerce in Paris have presented statistics to the Basel Committee to argue their case that trade is short-term and has a low rate of default, so should not be considered a high-risk activity—and therefore should not be subject to higher capital requirements. Those close to the discussions say that they appear to be moving in the right direction—toward lower capital requirements—but the outcome is still uncertain.

Bhatia says HSBC supports the rationale behind the need for banks to hold more capital, but under the new regulatory regime trade finance should be treated in a way that reflects its “true risk profile.”

Ahearn of Citi believes that Basel III will undoubtedly make trade more expensive. “Some of our clients are beginning to realize this and are asking us to take legal clauses out of documents that allow us to pass along regulatory price increases.” However, trying to model the impact Basel III will have on the business is somewhat of a guessing game right now, says Ahearn. “Banks don’t understand how much capital they need to apply to the business, how much of the balance sheet they will use and what the ramifications are of using that balance sheet.”

He says banks will need to find ways to make the trade business “capital light”, which means the model of booking a trade and then holding it on the bank’s balance sheet is unlikely to be sustainable. Export Credit Agencies are also concerned about the impact Basel III could have on them, as ECA-backed loans will no longer be zero risk weighted in terms of capital requirements.

Berry of BPL Global says if some banks’ capacity is constrained as a result of Basel III, trade could be financed by different sources of capital. According to Berry, “Other sources of capital, such as hedge funds and specialist private equity funds, continue to find opportunities in trade finance.”