The Bill of Exchange – an Instrument of Short-term Export Credit. Shipping on open account,documentary letters of credit anddocu-

Shipping on open account, documentary letters of credit and docu-

mentary collections are the methods by which banks facilitate payment.

We could also say that the banks supervise the transfer of money from

importers to exporters against the transfer of goods or services from ex-

porters to importers. They can do this, and facilitate short-term credit

(up to six months) at the same time, by using a medieval Italian inven-

tion – the Bill of Exchange.

The Bill or draft may be drawn on the importers or a bank. The drawee

(usually the bank which issued the credit) accepts the Bill against correct

documents. But whoever the drawee is, the value of the Bill is guaran-

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teed if it is accepted by a well-known bank. This means that that bank

will honor it when the Bill matures and take on the risk and work of col-

lecting payment plus the commission from the importers. The fact that

the Bill has a life or tenor of one or more months means that the import-

ers get credit for that period of time. At the same time the exporters may

obtain their money by selling the Bill on the discount market. The buyer

discounts it by paying the face value minus the discount which is the

interest on the Bill for the remainder of its life. At maturity, the holder

presents the Bill to the accepting house for payment. The interest is de-

termined partly by the status of the accepting house (bank) and partly on

the interest rates prevailing in the discount market at the time. A first-

class name means a lower rate, and a less well-known name produces

a higher rate. The higher the rate the greater the discount and the less

the value of the Bill in the market. Conversely, the better known the ac-

cepting house, the finer the rate and the smaller the discount. However

the exporters have to cost the discount into the total price of the export

contract. Banks can also provide short-term export finance by means

of overdrafts or loans to the exporters. The kind of security taken by the

bank may vary. The bank might even provide unsecured finance for an

established customer.

But from the point of view of the exporters, the problem with borrow-

ing their own national currency from their bank is that, by the time they

are paid by the importers, the value of the currency they are paid in may

have gone down. So they might receive less than the original price when

they come to change it into their own currency. They can overcome this

problem by taking out the loan in a foreign currency. Another possibil-

ity is to take out insurance against the risk of an adverse change in the

exchange rate. Leads and lags are early and late payments by importers.

Leads occur when importers decide to pay for goods earlier than the end

of the credit period, if they think the cost of their payment currency is

going to rise in terms of their own currency. Lags happen when import-

ers delay payment because the price of the payment currency is falling.

The later they pay, the less it will be in their own currency.

Factoring services are available to UK exporters for credit periods of

up to 120 days. Clearly the banking system is still used, as with all forms

of payment, and the status of the debtors (importers) and the debtors’

country is most important. Export credit may also be provided by non-

bank institutions. Export Merchants buy from exporters and become the

exporters themselves. This eliminates the exchange risk for the producer

and reduces the credit period. Export agents act as independent export

departments for the exporter. They do the work of exporting but do not

take any financial responsibility. Confirming houses are agents of im-

porters. They also eliminate the exchange risk for the exporter and re-

duce the credit period. They may open or confirm documentary letters

of credit on behalf of the importers and offer longer periods of credit.

They are paid interest for credit periods and commission by the importers.

1. What is the Bill of Exchange?

2. What is exchange risk?

3. What is the exchange rate?

4. What is the discount market?

5. What is a confirming house?

6. What are Documentary Letters of Credit?

7. What are export merchants?

8. What are leads and lags?

Text 5

Read the text and see if the writer’s ideas are the same as yours. Be ready to answer the

questions given below.