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A. Overview

Commodity finance is a complex business, but a basic understanding of the actual techniques used in food financing is necessary for the purposes of policy formulation. Unfortunately, lack of such understanding may, and regularly does lead policy makers to take decisions that make finance for their country more expensive, or to formulate proposals for new international financing facilities that either hardly benefit food trade or actually distort it.

First, payment and financing mechanisms are two different things. Even if no finance is provided, international trade transactions carry significant risks for the commercial parties, and as a consequence, a range of payment mechanisms have been developed to help buyers and sellers deal with these risks, as described in Box 4.

It may be useful to reiterate that in all circumstances, food trade absorbs financing capacity - the major issue is whose capacity, and at what cost.

In simple terms, the international trading chain for bulk foods goes through the stages outlined in Figure 5.

Figure 5
The food trading chain, from a financing perspective


Upcountry collection

Port warehouse

Sea transport


Upcountry Warehouse


In developing countries a lack of pre-financing for food crops (as compared to the more traditional non-food export crops) is often a major bottleneck to increasing production. Traders who see a potential for the export of food crops may provide pre-financing to producers. For example, part of Viet Nam’s expansion of rice exports has been made possible in this manner, with traders providing seed, pesticides etc. and taking paddy in return.

Box 4
Principal payment methods

In international trade, because of the time it takes to transport goods over larger distances, there is generally a timing mismatch between the flow of goods, and that of money. Such a mismatch evidently creates credit risks. For example, if payment is made before the goods arrive, the goods may not be shipped, or the quality or other aspects of the goods may not conform to specifications, but if the goods are only paid once received by the buyer, the buyer may pay too little or too late. Various trade payment instruments have been developed to mitigate the risks for the trade parties, including those inherent in their countries of domicile. At the same time these same payment mechanisms can be also used as financing mechanisms for either buyer or seller.

The principal payment mechanisms for settling international trade transactions imply various levels of risk for buyers and sellers, and the level of the banks’ involvement (and consequent costs) differs. The following are the main payment methods:

  • Open account - Extended payment terms: the importer pays for goods over a period of time after reception. The buyer also normally issues a set of promissory notes upon shipment.

  • Open account, clean draft: the exporter expects payment from the importer on shipment or arrival.

  • Documents against acceptance - Time or date draft: the exporter makes the shipment, and presents draft and shipping documents to the bank, with instructions that the documents be only released to the importer once the letter acknowledges the draft.

  • Consignment (with retention of title): the exporter makes the shipment, and is paid when the importer sells the goods. The sales contract gives the exporter the right to repossess goods left unsold. This only works when the importer's country has good legal system allowing retention of title and easy repossession of goods.

  • Documents against payment, sight draft - cash against documents: the exporter, after shipment, sends the documents to the bank, with instructions that they only be released once the importer has paid the draft.

  • Cash against goods, shipment into bonded warehouse: shipment to the exporter’s or to an independent warehouse in the importer’s country. This method works well when there are many potential buyers.

  • Irrevocable letter of credit: payment is made to the exporter on presentation of proper documents. This can be costly, and the exporter has to prepare the documents carefully. He remains exposed to the importer’s country risk.

  • Confirmed irrevocable letter of credit: this is similar to the simple irrevocable letter of credit, but greatly reduces country risk.

  • Cash in advance: the importer pays before the goods are shipped.

Once the crop is produced, traders need to collect it, process it to a smaller or larger extent (in particular, the processing of oilseeds into vegetable oils can be expensive), and then collect enough (traditionally, by transporting the commodity to a port warehouse or tank facility) for a worthwhile export transaction. Once a sufficiently large quantity is gathered and a buyer has been found, the goods can be loaded onto a ship, and transported to the importing country, or the nearest port. Shipping can take two to eight weeks, and depending on the shipping modalities chosen, there can also be a considerable waiting time in the export port (e.g. wait for a regular liner vessel in order to ship a few containers of rice).

When the goods arrive, they are unloaded. Given the inefficiencies that still prevail in many developing countries’ ports, this may require the ship to wait a few days before offloading space is available. The goods are then stored in a customs-bonded warehouse, from where they may be transported to another customs-bonded warehouse (e.g. in a landlocked country), or immediately cleared through customs (which generally requires duties to be paid). The goods may require further processing (e.g. from wheat or maize into flour), and can then be transported to the warehouse(s) from which they are distributed. On sale, the importer may be paid cash, but it is not unlikely that at least part of the sales will be made on credit, forcing the importer to continue carrying the financing of the commodity.

Three months would be rather fast for this whole process from harvest to sale to, and receipt of payments from, the final customer. Six months would be more normal, and for crops that require large seasonal stocks, it can be even longer. International trade in the major bulk foods is worth over US$30 billion a year, creating an estimated financing need of US$10-20 billion. Lack of financing, or overly expensive financing, can have a major impact on food trade flows as well as on the prices finally paid by consumers.

These financing needs can in principle be met by the producer, the exporter, the importer, the final consumer, or outside financiers. It may happen that producers sell on extended payment terms - that is to say, the trader (exporter) receives the product, but pays only much later - or that the customer pays in advance for food ordered (a baby food company may open a letter of credit against which an importer can obtain finance to purchase the grains that the company needs). Such practices are relatively rare: it is more common that the producer asks to be paid before the actual delivery of his product, and the consumer asks to be allowed to pay only some time after delivery. Thus, the main providers of finance for international food trade are the sellers/exporters (often international trade houses), the buyers/importers and outside financiers.

Figure 6: Open account sales

This section presents three simple financing models (Figures 6-8), as an introduction to the description of actual financing mechanisms used in grain and oilseeds trade.. In Figure 6, the seller provides the finance, and sells on “open account” to the buyer. The trader arranges for delivery of the goods, and accepts deferred payment for them, allowing the buyer/importer to sell and be paid for them. In this model, the importer is entirely financed by the trader. This may seem risky, but this method is often used, largely because, as will be discussed below, there are various ways for the trader to lay off his risks in this form of finance, and even, to refinance himself cheaply.

Figure 7: The food trading chain, with standard Letter of Credit or “sight draft” payment by the buyer

In the second financing model (Figure 7), the buyer provides most of the financing for the food trade transaction. This is the standard method for financing much of the world’s food trade. The buyer is asked to open a letter of credit under which payment for the goods is made by the importer’s bank on behalf of the importer at the moment that the seller provides sufficient documentary proof that the shipment of the contracted commodities has indeed been made. Normally, this would be at the moment that the goods enter the ship for sea transport, but it could also be at the moment that the goods are, say, loaded onto a train to bring them to a port. Alternatively, the trader and importer can enter into a contract under which the importer commits to pay at the moment that he receives such documents.

In the third model (Figure 8), the bank provides finance against the collateral of the actual commodities that are being traded, leaving the trader and the importer to finance only the parts of the trading chain where the bank cannot control the goods (thus, leaving it up to the trader and the importer to finance up-country operations and the collection of payments due from the final buyers).

Figure 8: The food trading chain, with the bank financing against actual commodity stocks

Different banks are likely to finance the various parts of the chain. The trader may have a warehouse receipt finance arrangement with his own bank under which the bank immediately refinances any entry of goods into his port warehouse, allowing the trader to build up a sufficiently large volume for an efficient export transaction. Financing techniques for this range from packing credits to red clause letters of credit and some forms of Islamic finance[13]).

Once the goods are in international transport, they can be financed by another bank. This can either be an international bank which, in many cases, will become the actual owner of the commodities (normally, they sell them back to the trader on arrival at destination); or the importer’s bank, which holds the documents, enabling the importer to take delivery, until the goods have actually arrived, and against this security, allow the importer to pay only on their arrival.

Inside the importing country, a third bank (which may well be a local bank) can use warehouse receipt finance to keep control over the goods until they are actually delivered to the final buyer. This technique will be discussed in more detail in section G.

The description above is only the first “layer” of financing techniques. In practice, the “primary” providers of finance will refinance part of their activities, often in such a way that they lay off not only the financing burden, but also, all credit risk. For example, in open account sales, the seller will normally refinance the international part of his sale.

Figure 9: Refinancing an open account sale

There are a number of ways for the trader to refinance himself. In Figure 9, he obtains a confirmation from the buyer that he will pay within a certain period, on the draft (similar to an invoice) that the seller sends. With this confirmation, he can obtain immediate payment from his own bank or from a specialized financing company - perhaps with the financing company willing to “discount” the draft without recourse to the trader (that is to say, the trader gets a cash payment and it is the financing company’s problem to obtain the payment from the importer). This technique can also be adapted to deal with less creditworthy importers (e.g. by getting a bank guarantee on the importer’s confirmation). Other techniques are discussed below. Some government agencies, such as those in Pakistan and Thailand, give low-cost “packing” credits to food exporters so that they can ready the crops for the actual export.

Similarly, a buyer can obtain external finance to permit him to pay at the moment of shipment of the goods, and/or to enable him to sell to the final buyers on credit. Figure 10 describes some of the possibilities. The buyer’s bank may be willing to open a letter of credit without full cash collateral - which is to say that the bank will take a credit risk on the importer for the remainder. The bank will normally retain the shipping documents, without which the importer cannot take delivery, but it still takes a credit risk because if the importer fails to take delivery, the bank may have to sell the goods itself. After delivery to the importer’s warehouse, the goods can be kept under control of a collateral management company. This shifts the bank’s credit risk from the importer to the collateral manager, making the bank more willing to finance, say, 80 to 85 percent of the value of the goods The bank still runs a number of risks: the value of the goods may fall below the amount of the credit; the importer may default forcing the bank to sell the goods itself, potentially at a loss; the government may decide to seize the stocks; or civil strife or theft may lead to the goods’ disappearance or destruction. Once the importer finds a buyer for the goods, he can sell on credit to the buyer and commit the resulting sales receivables (or discount these receivables) in order to externalize most of the financial burden of providing such extended payment terms.

Figure 10: Reducing the importer's financial burden

The foregoing is a simplified description of financing possibilities. The actual techniques used are described in greater detail in the following sections.

B. Seller’s credit

Given their limited financial capacity and high local financing costs, food importers tend to have a strong preference for buying on deferred payment terms, such as the seller agreeing to be paid 60, 90 or 180 days after providing the goods (the seller will normally refinance these payment flows, as described below). This allows importers to sell the foodstuffs on the local market, and use the proceeds to reimburse the seller. The longer the payment terms, the better, particularly because this allows the buyer to make larger-volume purchases which can result in considerable savings in transport costs. The financing costs of these deferred payment sales are effectively hidden in the price of the product - the seller will charge a price equal to the “spot price” of the commodities (the price the importer would have to pay if he were able to pay cash), plus the interest charges that he is faced with, plus a risk premium, plus a profit margin. The implicit interest rates can easily be in the 20 percent range, except when the seller can benefit from credit insurance from his government.

The deferred payment can be arranged in the following ways:

Box 5
How to create trade paper that can be financed

Step 1: the seller prepares shipping documents and attaches to them “draft”, which is a demand for payment (an invoice, also called “bill of exchange” in international trade finance; he is said to “draw” the bill on the buyer, and hence the name “draft) specifying that payment(s) should be made by the buyer before a certain date. Often, a certain percentage of the value has to be paid “on sight”, and for the remainder the buyer has to accept to pay later, according to the specifications of the “time draft”. Sometimes, the draft is made “payable on demand”, in which case, the seller basically gives the buyer a revolving credit line.

Step 2: the seller sends these documents to the buyer’s bank. The bank will only release the documents when the buyer accepts the time draft, or invoice. Acceptance is through a written promise that he will pay at a specified future date.

The drafts sent by the seller are called “trade bills”. These can, by themselves, already become a financing instrument, through factoring. In factoring, the seller passes on all his trade bills to a factoring company, which gives him a certain cash value for these bills and then charges itself with collecting on them (this is further discussed in section F).

Once the trade bill has been accepted by the buyer, it becomes a “trader’s acceptance”. Trader’s acceptances can often be discounted (sold for less than the face value) by the seller to his own bank, or (if the buyer is a large, reputable company) on the forfeiting market (see section F).

If the “trader’s acceptance” is accepted (counter-guaranteed) by a bank (normally, the buyer’s own bank) it becomes a banker’s acceptance, whereby a bank gives an unconditional guarantee to pay. Banker’s acceptances are traded widely, and can be refinanced easily and at low cost.

Procedures with a promissory note are similar: on receiving the invoice, the buyer writes a promissory note, similar to a post-dated cheque, in favour of the seller. Like cheques, promissory notes can be endorsed by the beneficiary. Promissory notes can, in the case of large, reputable companies, be refinanced by the seller’s bank (by endorsement), but in most cases the seller will insist that the buyer’s bank provides his guarantee (called “aval”). An avalized note is “negotiable”, meaning that it can be easily traded and discounted - very much like banker’s acceptances.

The supplier normally lays off the burden of the seller’s finance, and indeed, in many cases also lays off the credit risk of the buyer (in many cases, the seller’s willingness to provide extended payment terms is determined by the availability of these refinancing and risk-shifting tools, and the costs thereof are from the start priced into the transaction).

The sellers have five principal techniques at their disposal:

1. They can arrange for an international bank to provide a “limited recourse loan”. This means that an international bank loan is put up alongside the food transaction, with the finance provided to the international trader, who, however, only has to reimburse the full loan if he is indeed paid by the importer (otherwise, he only carries, say, 20 percent of the loss, and the bank will carry the remainder). With the liberalization of food imports in most developing countries, this financing technique appears to have virtually disappeared.

2. They can borrow themselves to enable sale on deferred payment terms. Although for large trading companies, this may be a cheap source of finance, they will nevertheless want to avoid tying up their bank credit limits, which could restrict opportunities for other transactions. In any case, their on-lending to buyers will be constrained by their own credit policy. Trading companies operate very much like banks (and have little choice in this, because they depend so strongly on external finance), with credit ceilings for each country. Revising credit ceilings is slightly easier than in banks, but credit committees are still very vigilant. Three or four of the world’s largest trading companies are, however, able to raise funds directly on the capital market, from institutional investors, and they are therefore much less restricted in using their own finance for providing credit to their clients.

3. They can obtain a credit or credit insurance from an official agency, which provides cover for 90-95 percent of the risks of the credit. Official credits and credit insurance (which allows banks to exempt loans from country ceiling restrictions) are important in international food trade. Both the US and EC have a wide range of programmes, and a small number of food-exporting developing countries (such as Malaysia) also have programmes. Typically, these programmes shift the credit risk from the exporter to the export credit (insurance) agency, with only 5-10 percent of the risk still remaining with the exporter. It is often against such credits or credit insurance that exporters agree to sell on deferred payment terms. However, the possibilities are not limitless. Firstly, the procedures of these agencies (e.g. in the case of USDA’s GSM programme, described in the previous chapter) may require a reputable bank in the importer’s country to open a L/C, and that bank may require the importer to put up cash collateral against the L/C. Secondly, these agencies have particular budgets for their operations, often mandated by specific parliamentary budget approvals. Most agencies complained that in recent years they have had to reduce their services because of budget cuts.

4. They can refinance or discount the buyer’s payment obligations, using for that purpose the trade paper (in particular, promissory notes or time drafts) provided by the buyer. Box 3 describes, in simplified terms, the range of methods available for this.[14] Some of these refinancing methods are “with recourse” (which means that if the bank or other financing institution does not obtain reimbursement from the buyer, it can claim payment from the seller), others are “without recourse” (in which case he can only claim reimbursement from the seller under specific conditions linked to a seller’s lack of performance on the underlying trade contract). If the seller can discount buyers’ payment obligations without recourse, he effectively takes the buyers’ credit and country risks off his books, which, given the fact that, as mentioned above, trading companies all have country credit lines, opens up the possibility to do new business.

5. They can use structured finance, in particular warehouse receipt finance, to enable them to transfer financing needs and risks to a bank - this will be discussed in section H.

C. Usance and deferred Letters of Credit

Letters of credit can require payment by the importer “on sight”. Under “sight” letters of credit, the buyer is supposed to pay at the time that he receives the documents as specified in the letter of credit. With a usance or a deferred letter of credit, he is to pay at a future date, e.g. 30 or 120 days after the shipment date. A usance letter of credit requires a draft drawn on the issuing/paying bank for the amount of the invoice (the draft is, in this case, an unconditional order to the bank to make a payment in accordance to the specifications of the letter of credit). With a deferred letter of credit, no such draft is required (in some countries, there are high stamp duties on drafts so companies prefer to avoid them).

If the letter of credit is on sight, the importer is, in reality, already financing the import trade even before the goods have been shipped. Before opening a letter of credit, local banks generally require the importer to put up 20 to 110 percent of the value of the import transaction, often in the form of real estate. Some governments impose a minimum of 100 percent collateral. In the case of a simple “sight” letter of credit transaction, the importer will request the bank to open a letter of credit, tying up part of his capital in the process. The bank’s letter of credit may be acceptable to the foreign seller, or his export credit agency, or the seller may ask his own bank to confirm the letter of credit. Once a satisfactory letter of credit is in place, the seller arranges for shipment. By making the shipment, the seller will generate the documents required to be paid. He will present these documents to, say, the foreign bank, which makes the required payment, and claims this sum from the importer for immediate payment; on payment, the bank will provide the documents to the importer, who can use them to take delivery of the goods when they arrive.

In this phase, as the goods are still on the sea, the documents are likely to arrive several weeks before the goods. After arrival, the goods have to be offloaded, cleared through customs, perhaps processed, and then sold on the domestic market - in all, it may take another 4-12 weeks for the importer to be paid. During this time, he will be financing the goods, perhaps from his own working capital.

The importer would much prefer to pay for the letters of credit after he has already sold at least part of the imported goods - and this is possible with a so-called usance or deferred letters of credit. At a minimum, this would cover the period until arrival of the goods in the country (with very little risk for the bank, as it can keep the documents until full repayment of the loan by the importer), but ideally, it should provide the importer with enough time to process and sell the food.

For an exporter, accepting a usance or deferred letter of credit is no problem. Such letters of credit, as long as they have been issued by acceptable banks, can easily be discounted by the exporter with his own bank, or with the bank paying him the net present value of the letter of credit. Unfortunately, in practice most banks in the importing countries will insist on 100-110 percent collateral for such letters of credit (after all, once they have handed over the shipping documents to the importer, they have no recourse to the commodities any more). As food trade tends to be a low-margin business, few local traders have sufficient wealth to meet the banks’ collateral requirements.

D. Bank loans to importers

A bank can provide credit to a client in a number of forms:

A large client may also obtain a syndicated loan, that is to say a term loan from a group of banks, which may be for a longer period. In the past, when state companies had a monopoly on the import of food, they were often able to tap into the international syndicated loan market, and even issue trade paper -commercial paper- for sale in the international market.

Box 6
Local currency or hard-currency loans for importers?

Importers, if they have the choice, would generally prefer loans in hard currency, as local interest rates are often high. However, taking out hard currency loans exposes them to currency risks: between the time that they take out the loan, and the time that they sell the food on the open market at local prices, the local currency may have fallen and proceeds may no longer be sufficient to cover the hard currency debt. As food is politically sensitive, it is often difficult for the importers to increase food prices in local currency in line with the currency’s depreciation.

In rare cases, importers can hedge the exchange rate risk, but in many cases, this seems to be a risk that they, and their bankers, simply assume. A related risk is that of not being able to exchange local currency receipts into hard currency: if there is a scarcity of foreign exchange, it may be difficult, say, to obtain Central Bank permission for such an exchange. In some cases, local banks providing hard currency financing to local food importers have agreed to provide a guarantee that, as long as local currency is earned, they will convert it into hard currency at the published exchange rate. In this way they take the risk that such conversion proves impossible for some time.

Loans for importers form part of a bank’s country exposure. Banks have credit lines for each country with a specific ceiling; and often, separate ceilings for each industry within the country. Once the credit line is exhausted, it is difficult for a loan officer to get permission from the credit committee to provide new credit. Credit ceilings are normally set for fairly long periods, and only revised when there are specific conditions meriting its revision. Each loan has a risk weighting (country risk forms a large part of this), and banks generally target a “risk-adjusted rate of return” - the higher the risk, the larger the return should be. Although some of the few remaining state import agencies are still considered a sufficiently low risk to be an attractive client to an international bank, with some exceptions (such as large, monopoly-type flour mills) private importers are generally not considered sufficiently creditworthy to obtain international bank loans.

Thus, importers will have to rely mainly on local banks, and private importers can consider themselves lucky if they then have good access to credit. Food trade is risky, and most domestic banks are not keen to expose themselves to it. When the creditworthiness of the borrower is fair or poor, local banks would only lend on a secured basis, with the traditional security being real estate. Thus, “clean” (non-collateralized) lines of credit are difficult to obtain for commodity importers located in developing countries. Clean financing is generally limited to borrowers that can be regarded as “good credits” and, in any case, can be more expensive than for example warehouse receipt finance (discussed below).

E. Commercial paper

Companies can issue commercial paper for sale to institutional investors. These notes (which are promises to buy X amount of money at time Y, perhaps paying Z interest at certain dates) can be the cheapest form of finance for large, reputable companies. Companies that are not so may be able to obtain an aval on their notes, and obtain finance in this manner.

Both these forms of finance seem underexploited by developing country food companies, as far as NFIDCs and LDCs are concerned. Exceptions, though rare, are possible: in 2002 the food group Indoservices from Indonesia, not exactly a country with a good credit rating, was able to issue US$200 million worth of commercial paper on the international market.

F. Forfeiting

As discussed in section B, when the seller provides a credit to a buyer, it is likely that the transaction generates “trade paper”. This can be discounted on the factoring or forfeiting market, i.e. it is sold to banks or investors. Both are forms of receivables finance - that is, a financier pays a company cash upfront for the money owed to it by its customers.

Factoring is not much used for food trade finance. The forfeiting market is more important in international food trade. Forfeiting is the principal outlet for without-recourse discounting. In a forfeiting transaction, an exporter (seller) remits to a forfeiting company guaranteed debt (usually bills of exchange, promissory notes, banker's acceptances and bills of exchange, or other freely negotiable instruments, which are normally in a hard currency - US dollars, Euros and Swiss Francs are the major denominations) which results from a sale on credit. The forfeiting company pays him cash, upfront, the face value of the debt minus a discount (it should be noted that in practice, the normal mechanism is that a trading company receives, say, a 180-day letter of credit, and discounts this with his bank; the bank then sells this paper on the forfeiting market).

The discount represents the interest that the forfeiter discounts for the full credit period covered by the bills/notes in structuring a forfeiting deal. The discount rates are fixed and based on the London Interbank Offered Rate (LIBOR). In addition to the discount rate the forfeiter will charge a fee. Most of the paper traded in the forfeiting market is guaranteed by banks. The problem in this market is that it has only limited depth for each country, and when much paper from a country is offered, discounts increase fast, obliging the trader to build in a high price premium to compensate for this. Nevertheless, forfeiting possibilities are available, for example in most African countries.

From a buyer’s perspective, it can be interesting to explore with his suppliers the possibility of using forfeiting. Provided that under local regulations banks can provide an aval, this mechanism can significantly lower import financing costs through the use by the seller of short-term, fixed-rate financing. Moreover, the importer can obtain better conditions from his supplier by having a bank committing to the payment to the exporter at maturity. The costs can be lower because the time that the bank would be exposed to the buyer’s credit risk is less than in the case of a L/C (only from the arrival of documents until the maturity of the draft). Instead of using an aval, the importer can also obtain a bank guarantee or Stand-By letter of credit.

G. Counter trade and Bilateral Payment Agreements

Counter trade is an umbrella term for trade practices whereby the seller/exporter is contractually obliged, as a condition of his sale, to undertake a reciprocal commercial action which benefits the buyer/importer, or the importer’s country. Counter trade mechanisms range from barter (the exchange of goods) to buy-backs (an equipment provider is paid with the products that are produced with the equipment he provided). The most common forms of counter trade are counter purchase transactions. Here, the seller is granted normal payment terms but agrees at the same time to buy goods from the importer or from a company nominated by the importer (i.e. to utilize all or a percentage of the payment received to purchase products from the buyer's country); alternatively, he agrees to arrange for their purchase by a third party within a specific period of time, usually one to five years). The payment that he receives from the buyer is normally blocked on an escrow account until he meets the counter purchase obligations.

A Bilateral Payment Agreement (BPA), also called “account trade”, is a system of settlement of monetary obligations arising from trade between two states. Under this arrangement, appropriate authorities, normally the central banks, enter into an arrangement to pay each other or guarantee payments for imports undertaken by the corporate or individual citizens of the respective countries, for commodities to be agreed.

The central banks, or other foreign trade banks of the contracting states, set up “clearing accounts” which record the flow of mutual trade. At the end of each agreed time period (e.g. each three months), the balance is settled in the currency of the accounts (usually US dollars), or carried forward into a new agreement, or the countries resort to “switch trading” (which allows third parties to buy one country’s “trading credits”) to restore the account balance.

Designated local banks are appointed to handle the trade transactions, which are usually denominated in US dollars. The settlement between the central bank and the local banks are in local currency. Exchange rates for such BPA settlements are quoted and published by the central bank. The local banks are, however, free to negotiate exchange rates with their customers as they take responsibility for all arrangements with their clients.

The designated local banks of the BPA countries have to establish correspondence banking relationships between them. Generally, letters of credit are used for the transactions, and the central bank pays the exporter (through the local bank) once documents are prepared according to the terms and conditions of the letter of credit.

BPAs virtually eliminate credit risks for importers and exporters. Central banks assume the risks vis-à-vis the local banks, who in turn assume the risks on local companies. As long as exports take place according to the commercial contract, the exporter is assured of receiving payment in domestic currency. This implies also that exchange rate risks are eliminated. For importers, the existence of a BPA leads to easier access to banking facilities.

H. Warehouse receipt finance

Increasingly, traders are resorting to the use of structuring techniques to enable them to continue selling commodities to developing countries. One simple form is warehouse receipt finance, where the international trader will take control of the logistics chain, control the commodities while they move down the commodity chain, and only distribute the commodity from a point (warehouse) inside the country in small quantities, often against cash payment. The risk that the commodity is stolen from the warehouse, or effectively expropriated by the government, can be covered by insurance (including, for southern African and eastern countries, by the African Trade Insurance Agency,[15] a new World Bank-created sovereign risk insurer). Structuring adds costs, but it is often still cheaper than building in the risk premiums that would be necessary for non-structured sales.

Warehouse receipt finance is commonly used for food imports into Africa, both by international traders who use it as an instrument to alleviate payment conditions for their clients, and by banks financing the up-country storage and processing of imported food commodities. A simple form of this is also known as “consignment sale”, in which a trader or bank retains ownership of goods deposited in an up-country warehouse, but an importer acts as agent for the sale of the food.

I. Islamic finance

Islamic finance is mostly structured finance: the financiers, rather than taking a risk towards a borrower, take a risk on the transaction that they are financing. There are a range of techniques to finance food imports; the most common is mudabaha, in which, on the request of an importer, the bank buys the food commodities, paying cash, and immediately sells them on to the importer at deferred payment terms.

Islamic finance has been used for food imports into NFIDCs and LDCs. The Islamic Development Bank reported that during 2002, it financed imports of wheat into Egypt by the country’s Ministry of Supply; and grains into Tunisia, for the Ministry of Agriculture.

Islamic finance is also used by some trading companies, to refinance individual trading operations.

[13] United Nations Conference on Trade and Development. 2001. Potential applications of structured commodity financing techniques for banks in developing countries, UNCTAD/ITCD/COM/31. Geneva.
[14] UNCTAD’s Commodities Branch provides training materials on these issues.
[15] See its website:

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