Trade Finance Facilities for Latin America

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Trade Finance Facilitiesfor Latin America

• Private Sector Support Strategy and Instruments
• As of April 2003

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Agenda

• I Background
• (a) Current Situation
• (b) Proposed Actions
• (c) Risk Mitigation
• (d) Conditions
• II Trade Finance Facilities (Options)
• (a) Loan Facilities
• (B) Guarantee Facilities
• III Other initiatives

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Background Current Situation

• As a result of the on-going financial crisis in
  the Region, trade finance lines to Latin-American
  exporters and importers have been severely
  reduced during 2002 (facilities have not be
  rolled and tenors have been shortened). Lack of
  pre-export financing has particularly affected
  the export growth potential of several countries
  in the Region (e.g., Argentina, Uruguay, and to a
  somewhat lesser extent, Brazil), even in a
  situation where currencies have been drastically
  devalued, which has improved the price
  competitiveness of products and services.
• International banks that have opted to reduce
  trade finance lines in the Region (mostly
  European banks) are institutions with many years
  of credit experience and history with
  Latin-American companies in the area of foreign
  trade. Given the increase in country risk in
  selected markets during the past few months,
  credit risk units at these banks have decided to
  decrease to the minimum possible the exposure of
  open trade line facilities without consideration
  of the quality of the underlying trade activities
  of the particular clients (corporations) in the
  Region.

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Background Proposed Actions

• Mitigation of the country risk in selected
  markets in the Region by AAA- rated multilateral
  institutions could create adequate incentives for
  international banks to re-open (at least
  partially) of their trade finance lines. IDB
  together with IFC (the MLAs), are currently
  working in the development phase on Trade Finance
  Facilities that could provide the neccesary
  comfort to international banks in the trade
  finance business.
• The MLAs could use the full range of their
  existing financial products to mitigate the trade
  finance risks for international private banks so
  as to alleviate the current lack of funding
  availability for short-term trade finance.
  Authority would be requested to establish a time
  and amount limited program within the existing
  Private Sector Window (IDB only).

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Background Risk Mitigation

• The risks in trade finance activities that will
  be covered fall into two categories
• (a) Performance risk risks that the exporter,
  after receiving a purchase order, will not be
  able to deliver the merchandise to the port of
  embarkation, or that the exporter after
  delivering the merchandise fails to make full
  payment of the trade finance line (these are
  traditionally handled via letters of credit,
  short-term notes, insurance, etc.).
• (b) Country risk risks associated with
  government decisions negatively affecting prompt
  payment and collection of trade receivables
  (i.e., transfer and convertibility, expropriation
  of funds, intervention in the financial system,
  etc.).

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Background Conditions

• As the short-term approach is aimed at attacking
  the immediate crisis in availability of trade
  credit, the instruments should be widely
  available. MLAs programs should not discriminate
  in favor or against any firm based on size,
  sector or location (discrimination should be
  purely based on financial viability and
  risk/return indicators). Operations designed
  within the program must not be in conflict with
  the OECD guidelines for trade finance and the
  regulations of the WTO. Emphasis will be on
  short-term, self-liquidating transactions to
  avoid issues with potentially large subsidies to
  a small number of politically favored producers.
• The program is to be catered, in principle, to
  financial institutions. The loans and guarantees
  will not assume the direct risk of the importer
  or the exporter and will only deal with the
  payment risk of the financial institution (who is
  better suited to deal with the importer/exporter
  credit risk).

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TF Facilities Options Loan Facilities

• Loan Facilities (A/B Loans)
• In countries where the banking system is not
  experiencing a systemic crisis, the MLAs may
  offer AB loans to qualified commercial banks.
  Since the MLAs would act as the lender of record,
  the preferred creditor status would be extended
  to investors underwriting the B portion of the
  transactions, thus mitigating the country risk
  component. The objective would be to protect
  existing lines of credit for short-term trade
  from international sources or induce reopening of
  such lines. Proceeds would be used for working
  capital needs associated primarily with
  pre-shipment imports of goods and services
  required for future exports. The catalytic
  impact for turning the tide on trade finance
  availability is expected to be significant.
• /1 This option will include a full appraisal of
  the borrowing banks as the MLAs will be taking
  the full credit risk of the local banks.

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TF Facilities Options Guarantee Facilities
(Political Risk Guarantees and Financial
Guarantees)

• Partial Guarantees can be an effective
  instrument for levering MLAs resources and could
  play an important role in mobilizing and
  facilitating needed funding for trade activities.
  
• The following are some examples (not completely
  developed) of the type of proposed structures
  that might use MLAs guarantees to support trade
  finance in the Region

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TF Facilities Options Guarantee Facilities
(Political Risk Guarantees and Financial
Guarantees)

• (1) Trade Facilitation Program (EBRD Model)
• Partial guarantees could be used to provide
  comfort to international banks (especially those
  involved with confirming letters of credit and
  other trade finance documentation) to cover both
  political risk country risk and commercial
  payment risk credit risk of transactions
  undertaken by issuing banks in Latin American
  countries where the MLAs operate. The guarantees
  will cover the commercial and political risk of
  non-payment by the issuing bank. The guarantees
  will not assume the direct risk of the importer
  or the exporter (only deals with the payment risk
  of the financial institution). The EBRD has had
  a successful experience using this model to
  foster international trade with Central and
  Eastern Europe as well as the CIS. The Program
  may need to be adapted to the current needs of
  financial institutions involved in trade finance
  activities in the Region.

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TF Facilities Options Guarantee Facilities
(Political Risk Guarantees and Financial
Guarantees)

• (2) Loan Guarantee Facility
• In countries that do experience partial or total
  disruptions in their financial system (e.g.,
  Argentina), a more complex approach will be
  required to mitigate the inherent risks. While
  local commercial banks and branches/subsidiaries
  of international banks still play an important
  role in terms of their business relationship with
  the export and import companies, they may not be
  creditworthy. Thus, a different structure is
  required to eliminate recourse to distressed
  banks.
• The facility would be supported by a partial
  credit guarantee provided by MLAs. Foreign banks
  with branches or subsidiaries in distressed
  markets would provide funding to the offshore
  pass-through vehicle for trade financing which
  would enjoy the benefits of the MLAs preferred
  creditor status.

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TF Facilities Options Loan Guarantee
Facilities (illustration for Argentina Uruguay)
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TF Facilities Options Guarantee Facilities
(Political Risk Guarantees and Financial
Guarantees)

• (3) Note Issuance Facility

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TF Facilities Option Note Issuance Facility
(illustration for Argentina Uruguay)

• Such a program will require to have someone who
  will look after the administration of it, i.e.
  major player in the international forfeiting
  business.

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Other Initiatives Exporters Insurance Company,
EUIC

• Private Sector Initiative (Captive Credit
  Insurance Company for particular markets -- i.e.,
  Uruguay and Argentina)
• Promote by a Bermuda based insurance company
  (Export Insurance Company Ltd.)
• Proposed Credit Structure
• First Loss Participants (EUIC capital base --
  exporters and local financial institutions equal
  to 5 of transaction)
• Second Loss Participants (EIC parent company
  MLAs guarantee equal to 45 of transaction)
• Third loss participants (MIGA and private
  insurers for political risk only equal to 50 of
  transaction)

Note The Risk that needs to be analyzed in such
a structure is reputational risk. If the captive
insurance company finds itself in a situation
wher it has to pay out a large claim (s) and its
capital is wiped out, MLAs reputation is on the
line to other policy holders, unless the
insurance company is recapitalized to make
outstanding policies it has with other clients
worth something.
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Trade Finance Policy Document(International
Trade Finance Reactivation Program,
CP-2532)Summary

• Without government guarantees
• A/B loans to the private commercial banks to
  finance international trade
• Guarantees for the confirmation of letters of
  credit issued by local commercial banks,
  guarantees for loans to commercial financial
  intermediaries and guarantees for the issuance of
  instruments whose proceeds will be used for trade
  finance
• With government guarantees or government
  intervention
• Reformulation of existing multisectoral credits
  or approval of new one credit/ guarantees for the
  purpose of financing international trade related
  working capital
• Longer-term measures
• Institutional Development
• Legal and Regulatory Framework Development