Was the Trade Boom partly driven by cheap credit?

Posted by: Michael Mandel on December 08

I was just reading a report by Capital Economics on a decline in Chinese exports. They wrote

….strains have been growing in the system of trade finance that underpins global trade. Industry sources report that 70% of China’s exports last year were financed by letter of credit which, anecdotal reports now suggest, banks are now less willing to issue or accept.

I wonder. When you buy stuff from the other side of the world, somebody has to finance the goods in transit. Could it be that cheap credit made it easier to outsource production to China?

TrackBack URL for this entry: http://blogs.businessweek.com/mt/mt-tb.cgi/

Reader Comments

nratlos

December 8, 2008 09:39 PM

I believe that many journalists view letters of credit as a special instrument only used in international trade. For one, letters of credit can and are used domestically and internationally. Also, the issuer of a letter of credit does not have to be a bank, in fact anybody can issue a promise to pay a beneficiary against presentation of certain documents.

If one sees letters of credit as just one financing option among many, it becomes clear that that easy access to money in general also benefits letters of credit in particular.

Trying to answer your question: the cost of financing for goods in transit are minimal compared to all other costs. I believe that the financing costs do not enter into decisions regarding outsourcing.

CompEng

December 9, 2008 09:20 AM

If financing goods shipments is cheap, expanding overseas is not. I believe the USBIC would say that cheap financing did help fuel the expansion of multi-national-companies in the places of cheapest labor, reading between the lines on their site. Certainly, venture capital and the rumored 30/70 split they prefer for US and overseas IT and other R&D played a role in the relative decline of silicon valley (although that's more soft IP).

LAO

December 9, 2008 01:46 PM

I have my doubts about a direct credit impact, since I haven't heard of any shortages due to stalled Asia exports. I have heard of attempts to renegotiate or refuse in-transit scrap going the other direction.

There may have been an indirect cheap credit impact when some U.S. companies were self-financing bigger infrastructure-type deals with various foreign entities, probably in order to leverage cheaper Asian labor or perhaps to help justify it. I doubt if any such deals would be taken on in the current environment.

Joe Cushing

December 9, 2008 03:37 PM

Is it the cheapness of it or the greater access to LOCs and the ease of selling BAs to MM funds at any price? Banks didn't even really do this a few decades ago. It's more about insurance than it is about credit. Insurance is the who purpose of a LOC. It allows the exporter to know it's going to get paid. Banks take on currency risk, political risk, sovereign risk, and credit risk, to make these loans. This protects the exporter. Sure cost is a factor but just springing into existence is a bigger factor.

Keith G

December 10, 2008 06:20 PM

Think micro economics - the investment in the supply line is a very large part of the decision of whether to supply from overseas or not for any given product. If somthing has low-value density the investment in the pipeline of goods will likely kill the outsourcing. An extra six weeks of inventory is a great deal of up-front investment. If the extra shipping and finance costs are greater than the offshore savings it will kill the offshore option. Also, finance costs of equipment and tooling is a significant factor for low-cost countries.

Sr Max Higgins

December 14, 2008 02:44 PM

Bank of America and Mr. Higgins missing $millions, It can happen to you, my fellow Americans


More info: http://mrhigginsbank.blogspot.com/

Thank you for your interest. This blog is no longer active.

 

About

Michael Mandel, BW's award-winning chief economist, provides his unique perspective on the hot economic issues of the day. From globalization to the future of work to the ups and downs of the financial markets, Mandel-named 2006 economic journalist of the year by the World Leadership Forum-offers cutting edge analysis and commentary.

BW Mall - Sponsored Links

Buy a link now!