The financial crisis that has engulfed the world economy since mid-2008 brought about a sharp fall in global trade. After growing at more than 6% since the 1990s, trade growth has been estimated to fall by 9% in 2009. This decline, although instigated by the sharp decline in global demand, has been exaggerated by a disruption in financial intermediation and the consequent fall in trade financing. Trade finance is a vital component of international financial flows, representing 80% of the $15 trillion global trade flows in 2008. However, the ongoing recession has created an estimated $100-300 billion shortfall in trade finance. The fall in the supply of trade finance contributed 10-15% of the decrease in world trade since the second half of 2008 (World Bank estimates). International financial strains have also created a simultaneous rise in the cost of trade credit.
Surveys of banks around the world have found that volumes of bank-financed trade credit are falling more significantly in emerging markets than in advanced economies. There is also evidence that financing both exports to and imports from emerging and developing Asian economies are being hit the hardest, as financing of imports from South- Asia, Korea, and China have decreased significantly. Bank- financed trade credit, being short term and quickly redeemable at par, was the easiest asset class for banks to cut at the time of heightened risk aversion. The strain on trade credit lines was created by the growing liquidity pressures, increased cost of funding, application of stricter credit criteria, capital allocation restrictions, reduced inter-bank lending, reduced country exposure and rise in counterparty risks (fear of default). The contraction was further fueled by the loss of critical market participants like Lehman Brothers and a drying up of the secondary market for short-term exposure.
Drying up of trade finance has affected international supply chains as constrained access to finance for global buyers has restricted their ability to provide finance along their value chains, including to exporters. Trade credit short-falls also generate negative externalities that could soon damage the wider economy as a whole. As importers and exporters are unable to borrow previously accessible and relatively low-cost foreign-currency-denominated working capital, they are forced to obtain spot foreign exchange to make necessary payments. This could lead to increase in demand in the foreign exchange market and may also reduce the supply of spot foreign exchange, thereby raising the probability of delayed receipts of foreign exchange earnings from exports.
Globally, a number of individual and collective initiatives have been taken to address the issue, aimed at increasing the volume of and improving access to trade finance (Table 1). However, even though markets are beginning to improve, the strain on trade credit persists, with smaller traders finding it particularly hard to obtain credit. A majority of banks anticipate the current pricing trends to continue in 2009, although a few banks note that spread increases may reverse once demand has picked up again and volumes may rise with the imminent consolidation of the banking sector.
Table 1: Measures to Address Trade Finance Issues
Source: WTO � Report of the TPRB, April 2009; IMF; G20 Global Plan for Recovery and Reform
It is vital to resolve the trade credit problems to prevent lack of capital from stifling trade when demand returns and growth resumes. The challenge is to rebuild trust between banks and persuade them to get back into lending. Targeted initiatives to support short-term pre and post-shipment export financing are needed. These initiatives must be designed to facilitate the resumption of private sector financing However, measures to support credit flows in general and implementation of macroeconomic and structural policies to address the underlying causes of the crisis will play the major role in restoring confidence and rebuilding trade credit lines.