Column : No safety in finance

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: this amount looks small in terms of total trade, remember that a lot of this is short term in nature and keeps rolling.

Overall trade related credit increased from $4.1 trillion in 2004 to $44.6 trillion in 2008.

The WTO reports that there might have been a shortage of $25 billion in trade credit, arising out of both a shortage of liquidity and a rise in counterparty risk aversion. Trade financing is normally considered one of the safest lines of credit, due to its short term nature, its backing with documents and the underlying collateral of the consignments and the comfort of the bank issuing the LC. The credit freeze, however, had increased counterparty risks to the extent that many banks were reportedly refusing to honour LCs. At that point, no institution, global or domestic, was considered a safe credit risk.

This latter aspect has resulted in the collapse of many of the ancillary activities relating to the primary credit. Secondary markets in trade credits have also vanished, in line with the collapse of these markets based on other syndications. Anecdotal evidence suggests that costs of trade credit have sometimes risen six fold, making financing of exports completely unviable.

This current episode of the drying up of trade finance is not new. A very similar situation was observed during the Asian crisis, when trade credits to emerging markets had dried up. The paucity and delay in official response then had led to a prolonged stagnation of trade till early 2003. This lesson seems to have been learnt this time around.

Global multilateral lending and export credit agencies have responded to the current shortage. The International Finance Corporation has tripled the ceiling, to $3 billion, of the trade finance guarantees available under its Trade Finance Facilitation Program. National Export Credit Agencies have reportedly increased their business by more than 30 percent in 2008. Many national governments have also actively backed this increase. Global Dollar swap facilities opened by the Federal Reserve with some emerging market central banks has also served to ease some of the shortage.

As the World Bank notes, the global credit crisis is likely to affect private investments and capital flows hard, being the most cyclical and prone to risk aversion. A quick and relatively large Indian response, already on the anvil, in coordination with global measures, might serve to blunt some of the adverse impact.