Global Financial Stability Paper

Global Financial Stability Paper

5

Countertrade

GlobalFinancial Stability Paper

Countertrade

Countertraderefers to commercial activities that are aimed at reciprocatingtrade. It mainly refers to trade commercial activities in theinternational trade where goods and services are paid using othergoods and services instead of the convectional money. The paymentusing goods and services in counter trade may be partial. When largeorganizations sell goods to customers abroad, the customers may paythem by providing other goods required by the multinational. In somecountries, countertrade is a requirement by law, which aims atpromoting exports to other countries (CIPS).

Thereare various types of countertrade. They type of counter trade isinfluenced by different factors which includes the type of goods andservices trades and the reasons for adopting counter trade. Theoldest and most common form of countertrade is barter trade. Beforethe money economy was invented, goods and services were trade forother goods and services. This form of countertrade was necessitatedby lack of currency that could be used in trade. This form ofcountertrade is also common in the modern international market. It isthe simplest form of countertrade where no money is involved in theexchange of goods and services. In some cases, when there is ashortage of currency, the regulators encourage business organizationsto adopt barter trade. Another common type of countertrade is buybacktrading. Buyback trading mainly occurs in turnkey projects where acompany is contracted by another company to install or build afacility. In this type of counter trade, a contract is agreed betweentwo companies where one company provides the means of delivering aparticular good or service in exchange of raw materials or otherproducts at a later date. This type of countertrade involves lengthytime scales which increases the risks involved (CIPS). For example, acompany may construct a plant on behalf of another company and agreeto take a particular output as payment for the construction cost.Another example is where a company installs a plant or facility foranother company to create market for the law materials used by thefacility or the plant.

Anothercommon type of countertrade is counter purchase. This occurs whenboth the buyer and the seller can buy and sell goods to each other.In this commercial agreement, the buyer agrees to buy goods from theseller. Usually, in counter purchase agreements goods are partiallypaid using cash. This value of counter purchase is usually a fractionof the value of goods exported or imported. Another type ofcountertrade is offset trading. Offset trading is trade agreementwhere a percentage of goods bought are paid using other goods. Offsettrading is common in goods or services that are closely related. Anexample of offset trading is where a country enters into an agreementwith another country to purchase some components or raw materials inexchange of the finished product. Other forms of counter tradeinclude compensation trade, switch trading and tolling. The nature ofthe agreement between the trading partners is usually determined bywhat necessitates the countertrade (CIPS).

Thereare several reasons that necessitate counter trades, especially ininternational trade. One of the main reasons why nations agree oncountertrade during bilateral talks is to promote trade even in caseswhere the markets are unable to pay for imports. This may be due toeconomic and financial problems such as non convertible currencies,insufficient hard currency, inadequate foreign exchange andinadequate commercial credit. Countertrade in the internationalmarket can also be necessitated by the need to protect domesticindustries or stimulate economic activities such as agriculture,manufacturing and mining by creating new markets abroad. Countertradecan also be used as an economic policy to balance internationaltrade. From a business organization point of view, countertrade canbe necessitated by the need to strengthen its market presence andcompetitive advantage. Although it is clear that majority ofcountries promote countertrade in international trade agreements, theextent of countertrade in the global commodity market can not beaccurately determined. Some international agencies and organizationssuch as the World Trade Organization have expressed concerns over theimpact of countertrade on free trade process. This is particularlyimportant when the extent and value of the countertrade is difficultto establish (CIPS).

Countertradehas an important impact on the banking industry in the United States,especially in relations to overseas expansion. The risks anduncertainties associated with countertrade agreements, especially inmega projects with lengthy time scale have impacts on the financialinstitutions. This is mainly because the financial institutionsabsorb the risks as the project financiers. However, financialinstitutions that are already involved in the financing of commercialactivities at the international level are better suited to benefitfrom countertrade commercial activities. For example, Americanfinancial institutions can significantly reduce the risks associatedwith their commercial activities in the developing world throughcountertrade as an alternative funding. Through overseas expansions,the banks will be able to expand their countertrade networks.Nonetheless, it is important to note that there are regulations thatlimit the extent to which financial institutions can be engaged intrading activities (Morschett, 2015).

References

CIPS(nd). Countertrade.Knowledge Summary,https://www.cips.org/Documents/Resources/Knowledge%20Summary/Countertrade.pdf

Morschett,D. et al (2015). Strategicinternational management,Wiesbaden: Springer Gabler.