Trade Finance During COVID-19 Era: Current and Prospective Challenges

Jan 05, 2022 - 05:40 AMAuthor - Kenneth Jackson

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It is no more a mystery that the dreadful COVID-19 has left a devastating impact on global economies. This pandemic has led to an estimated global GDP reduction of 3.4%, while global trade contraction has been affected by 10.9%. Having faced such an impact, the government has been trying to undertake and mobilize available tools to counter or ameliorate the pandemic's consequences. 

The government's foremost concern was maintaining trade flows and consequently trade finance, the nerve of international trade. 

After witnessing the past economic crisis, especially the great 2007-2009, the government has been more concerned about mobilizing export support programs. They were aware of how vulnerable trade finance is in times of economic crisis. 

Perhaps, the crisis arising as a result of the pandemic was way different insofar as it isn't a self-fulfilling phenomenon. Thus governments can't rely on past teaching and mandates to put in more effort to learn and uncover to mobilize the right tools, including export support programs.

What is happening in short-term trade financing?

Short-term finance options that usually have a payment period of fewer than four months are the most common trade finance products. These ST trade finances are also the most susceptible to such catastrophes, thus witnessing a surge in prices and decreased availability.

The ST trade finance has withstood sharp declines during the past crises, especially the 2007-2009 Great Recession, due to intensified pressures on private institutions' liquidity. Perhaps the liquidity of commercial banks isn't the substantial danger of COVID-19. Undoubtedly, capital buffers are more significant, and the financial system is broadly sensed as safer following a decade of tightening regulation. 

In reality, the TED spread, which is typically utilized as a comprehensive liquidity measure of ST trade financing, has been relatively low on average. Despite the surge of 1.46%, the TED spread showcased at the onset of the pandemic; it went back to pre-pandemic ranks and has been low ever since. 

Nevertheless, exporters have been facing impediments, like increased rejections in the application for trade credits, high risks, and increasing prices of ST while accessing ST financing in the private market. In contrast, the ECAs (Export Credit Agencies) sponsored by the government are witnessing an increase in short-term products demand. 
This shows that even though commercial lenders have adequate liquidity to proffer financial support to exporters, their diminishing risk appetite has limited their trade finance availability resulting in an increased reliance on government functioning via ECAs. 

What is happening in MLT export financing?

MLT export financing is typically utilized to fund capital equipment independently or as part of larger projects with longer repayment durations. This type of assistance normally takes the form of buyer credits, which allow overseas purchasers to get MLT finance to acquire exporters' goods and services. 

MLT funding has a far higher presence of the public sector, particularly ECAs and international organizations, over ST financing, owing to the issue of export credits that comply with the Protocol on Officially Supported Export Credits. 
Although private market MLT funding capacity has grown, private market funding sources remain limited and in part because these intricate operations are deemed volatile by the private sector in terms of size, configuration, and placement.

However, despite the seriousness of the crisis spurred by COVID-19, a much sharper inflection of the graphs could have been anticipated: a sharp decline as a byproduct of the supply and demand curve stress, followed by a substantial increase as exporters transition from project financing to government-backed aid as private finance prospects contract. As a result, preliminary patterns suggest that the crisis' influence on MLT export funding will be minimal.

Are the trends going forward?

Yes, some infrastructure has witnessed redirected support from the government despite the pandemic crisis. Perhaps this support is believed to weigh on the long-term cash flows of the exporters as they strive to conserve business volumes. As the crisis accelerated by COVID-19 persists, the pressures on buyers, which had turned resilient insofar, are anticipated to increase, particularly for actual trades. 

Besides, it is also articulated that if the pressure build-up leads to revocation of prospective projects, working on export programs might show less to no impact shortly. 

And if such a situation occurs, the government is mandated to look for diverse solutions to facilitate demand to prevent the deceleration of the trade economy. 

Recommended Read: Contribution Of International Trade To A Country’s Economy

Take-Aways

Macroeconomic indicators reveal that the COVID-19 has harshly affected the global economy and, more particularly, international trade. Nevertheless, data remains finite on the deck and on the kind of upheavals that have arisen, as complete data on trade finance does not persist. Thus governments need to conduct extensive research to uncover new tools to cater to the growing market demand. 

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