Trade is exchange of goods & services between two entities. The entities can be individuals, firms, companies or even nations / government agencies. The trade can be in the form of cash for goods, cash for services, goods for services or even goods for goods. The last one is known as barter and it even happen now. The location of these entities for the purpose of trade is immaterial, they can be located in the same city, same state, same country or even different countries. When they are located in the same country it is known as domestic trade and when they are located across borders of two nations it is international trade. The requirements of trading instruments, finance etc., will be different based on whether it is domestic or international.
Let us look at the process of trade between two entities. Let us take the assumption that these two entities are located in two different countries. That is we are talking about the trade across the borders.
The main limiting factors or entry barriers for trade can be any of the following
- Trade Customs & Practices
- Language
- National Laws
- Knowledge about the business entity
- Trade Terms (also known as Inco Terms)
The importer / exporter starts with a disadvantage. The need to understand what are the trading practices in the country with which they are going to deal, how much time is taken for transportation of goods, what are the documents required for domestic and foreign government customs departments, what will be the charges for transportation and more importantly the reliability of the counter party are necessary for success of a trade transaction.
Now a days a lot of information is available from the internet about the above points which can be used to a certain extent. There are websites which bring the buyers and sellers together and there are even website which specialize in acting as an exchange between the buyers and sellers of particular products. We can look at the examples like www.alibaba.com, B2B (business to business) portals like www.tradeindia.com, www.export-japan.com, exporters directories available on the net etc. There are even some websites like ebay which specialize in auctioning where an item can be put up for auction and the products can be sold. However these latter sites may not be of much use for serious exporters or importers as they in general deal with collection items like stamps etc.
Continuing with the difficulties in identifying a counter party, a visit to the country concerned will add further to the knowledge. However the most tricky part is getting details about the reliability of the counter party. This applies to both sides, what if the exporter sends junk instead of the goods purchased after getting the money? Or simply vanishes away after receiving money from the importer? Or what if the importer becomes bankrupt to release the good sent by exporter? Or disputes the quality of the goods and pays only after a long time or does not pay at all or again as above simple vanishes away with the goods? These are the incidents which are happening even today particularly with the increasing global trade. There are some agencies called rating agencies which provide the rating of the individuals, firms, companies in the developed countries like Dun & Bradstreet. However these ratings are optional and may not be available everywhere. What if we want to sell goods to a person in say Eritria or Mongolia thinking that there is good business opportunity there. Firstly it is very difficult to locate these countries in the world map and secondly we might be asking for too much if we look for a rating agency.
We can see how trade can still flow and what are the remedies / mitigants available for these concerns. To mitigate these possibilities and based on the trust the trading entities generally resort to the following methods
Advance Payment – Cash and Carry
Collections – Forward the documents through the bankers to other party’s
bankers for the trade proceeds
Letters of Credit – A trade finance instrument guaranteeing payment based on
documents submitted
Open Account – Consignment trading ie send the goods in consignments and
receive payments / proceeds
If you plot these available options on a scale of trust and risk it looks like this
From the view point of an exporter the above graph shows that they will be comfortable with the options of Advance Payments, Letters of Credit, Collections and Open Account in that order because of the risk involved. The choice will be reverse for an importer. It starts from Open account and goes towards Advance payments. The two instruments available in the middle viz., Collections and Letters of credit offer a little comfort to both the exporters and importers. Of these two, with a better structuring and controls incorporated the Letters of Credit offer a better choice for both importers and exporters and hence the predominance of this particular instrument in the world trade.
No comments:
Post a Comment