Crisis of confidence hits global shipping

SYDNEY: The intensifying credit crisis has spread to international trade with reports emerging of banks refusing to honour letters of credit from other banks, said Moody's Economy.com's economist Matt Robinson.

"With reports of sellers' banks deciding they don't trust the financial institutions named in buyers' letters of credit have come alarming anecdotes of cargo ships being stuck in home ports.

"With ships not moving, stocks have been piling up and exporters have grown desperate for income from idle inventory. Importers of raw materials for production are also feeling the pinch as supplies dwindle," he said in a statement yesterday.

Robinson suggested that this could lead to price distortions as demand - despite being subdued by slowing economic conditions - outstripped supply as shipments were delayed, while consumers also faced potential supply shortages as shipments of foodstuffs and grain lay stranded overseas.

"Add this to the lower demand that Asian exporters already face and you start to see how much of a problem this credit fallout could be for the region if it persists," he said.

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Robinson said Japan recorded its first-ever seasonally adjusted monthly trade deficit in August, as demand for high-tech electronics and motor vehicles by US and European consumers plummeted.

He said South Korea had recorded a string of trade deficits this year - a sharp turnaround from historical results - while the trade ledger in neighbouring Taiwan had been in deficit for two of the past three months.

"Singapore has slipped into recession. Its monthly exports have fallen by double digits compared with shipments a year earlier. Declining commodity prices for some of Asia's key commodity exporters, including Malaysia and Indonesia, aren't helping their trade balances either.

"Meanwhile, growth of the giant Chinese economy has been humbled by the deteriorating external environment," Robinson said. "Most worrisome for Asia's export-oriented economies, global shipping has been hit as exporters and importers struggle to secure letters of credit," he said.

A letter of credit is a formal document guaranteeing payment by an issuing bank on behalf of a buyer (an importer) to a third party (the producer of the goods being produced) for a specific amount of money, provided certain conditions are met.

Letters of credit reflect the financial obligations generated through the contract of sale, and ensure that the exchange of funds occurs when the specified quality and quantity of goods have been satisfactorily delivered.

"With the credit crisis causing banks to shy away from lending to one another for much longer than overnight, there have been reports of banks refusing to honour letters of credit from other banks.

"Banks have also tightened lending conditions considerably by imposing more onerous requirements on importers and exporters before issuing letters of credit," Robinson said, adding that this seemingly esoteric issue could have serious implications for global trade.

"The whole global trade production line relies on letters of credit. No letters of credit, no transactions - and no transactions mean no international trade."

Source: The Edge Financial Daily