New trade financing trends need enhanced SME support

MANILA, Philippines - The trade finance industry is undergoing a series of changes that may disadvantage small and medium enterprises in low-income countries, spelling the need for enhanced support from multilateral and regional development banks.

These developments are largely conditioned by the shifting patterns of trade and increased volatility of global financial markets.

The International Trade Center’s Business Briefing Trade Policy detailed these crucial developments in trade finance as tackled during the WTO Expert Group Meeting on Trade Finance last Oct. 22, 2010.

Large trading firms are now demanding more funded instruments than traditional unfunded instruments such as letters of credit.

This change in the business model intends to mitigate financial risks and respond to the new patterns of trade, characterized by transactions taking place within locally and globally integrated supply chains.

Traditional trade finance instruments are well suited to the traditional trade patterns wherein a product was produced by one firm in a country and exported to other countries.

However, with production process being carried out by different firms in different locations, innovative forms of trade financing, including value chain finance are now being offered by an increasing number of trade finance firms.

Multilateral and regional development banks, however, indicated that there is minuscule chance that small and medium-sized enterprises in low-income countries can take advantage of these new financing arrangements, particularly open account financing on affordable terms as they rely on state-of-the-art technology.

Open account refers to a mode of international payment whereby a seller ships the goods and all the shipping and commercial documentary requirements directly to a buyer who agrees to pay a seller’s invoice at a future date. As such, it is typically used between established and trusted companies.

To help small firms in low-income countries cope with these new financing trends, the International Finance Corporation, a member of the World Bank Group, is developing international supply chain financing products.

As with other emerging financing products, supply chain financing instruments rely on efficient technologies.

Further, commercial and regional development banks noted that too stringent regulations and regulatory asymmetries across countries may negatively impact the cost and availability of trade finance to the detriment of small traders.

The banks expressed concern during the WTO Expert Group Meeting on Trade Finance on future introduction of a leverage ratio and of the net stable funding as these would decrease the availability of export credit guarantees, affecting emerging economies where secondary markets for trade bills are limited.