As the US and Europe are still struggling to come to terms with the global financial crisis, Australia has recorded its highest ever trade surplus. Michael Turner reports.

While the US has posted consecutive months of huge budget deficits for May and June and the eurozone problems are still being felt across the continent, Australia has managed to secure its highest ever recorded trade surplus, proof perhaps that the nation is successfully exporting its way out of recession.

Australia posted an A$3.5bn (US$3.2bn) trade surplus for June, the highest ever recorded for the country. This follows a May surplus of A$1.65bn (US$1.38bn) and an A$1.12bn (US$1.02bn) April excess, after 13 months of being in the red.

“From Australia, we’re continuing to see strong business flows to the traditional key markets that we’re exporting to; China, India, South Korea, Indonesia, Vietnam and, to a lesser degree, Thailand. We’re also seeing a lot of volume going through to the Middle East,” Geoff Cox, general manager for supply chain finance at National Australia Bank (NAB), explains to GTR.

Cox has good reason to list China first. Tim Harcourt, chief economist at the state-run Australian Trade Commission (ATC), noted in an article that “the IMF estimates that China’s share of Australian exports, which has already increased from 15% in 2008 to 22% in 2009, is expected to take in one third of Australian exports by 2015”.

Key exports from Australia to Asia include hard commodities such as thermal and coking coal, gold, aluminium and copper; and soft commodities such as grains, meat and wool. However, it is iron ore that makes up a significant bulk of exports and the figures between Australia and China are impressive; of the A$30bn (US$27.4bn) of iron ore and concentrates exported from Australia in 2009, up to A$21.7bn (US$19.8bn) went to China.

“Iron ore exports are very important to the Australian economy. Australia’s wealth of resources and proximity to China helped to shield the Australian economy from the downturn in the US and EU. Australia is one of the largest iron ore exporting countries globally and shipments of iron ore and coal to China have pushed the trade balance to a surplus in recent times,” says Mark Evans, ANZ’s global head of trade and supply chain.

Financing Chinese appetite

Australian banks are responding to the demand in China. GTR reported in the July/August 2010 issue that NAB plans to get more people on the ground in China, and Westpac are doing the same, as Emmanuelle Alfieris, head of trade and Asia, transaction and client services, remarks: “Given the increasing level of business that Australian corporations are doing with rapidly expanding economies like China, including Hong Kong, and India, Westpac’s expansion will initially follow these trends to support our Australian clients through all types of financing arrangements.”

ANZ are also striving to gain a strong presence in China, as well as India and the Greater Mekong region, with the goal of becoming a super-regional bank that derives around 20% of earnings from Asia Pacific by 2012. Mark Whelan, managing director, institutional and commercial, Asia Pacific, Europe and America at ANZ, explains further: “We’re supporting flows into China and India, which we see as important over the long term. From a customer perspective, there are plenty of large multinationals in Asia who bank with us, but now we are focussing more on local and smaller corporates.”

The global economic downturn left ANZ in a strong position in Asia, as Whelan continues: “We were a bit fortunate in the global financial crisis as we were counter-cyclical investors in the region. When the banks from the US and the UK were pulling out of the region because of the crisis, we found that we could fill in the gap. We used that to our advantage to build a good customer base.”
The relationship beteen Australia and China grew stronger during the global recession, partly due to the trade flows that both countries strived to maintain. This meant that Australia weathered the crisis significantly better than economies in Europe and the Americas.

Furthermore, Australian banks have a good understanding of the type of financing that Asian clients want, which is different to European and US standards, as NAB’s Cox notes: “Typically, the Asian market is a very traditional market. It’s a lot less structured than the European market is used to. A lot of business is still undertaken through letters of credit and we expect that this will continue.”

This type of financing runs contrary to popular methods of structuring deals in Europe and the US, where less traditional trade finance products are commonly used such as revolving facilities and debt syndications.

Australian banks are keen to highlight that just because letters of credit are traditional, it does not mean that they aren’t interesting, as Westpac’s Alfieris adds: “Although on face value, transactions involving letters of credit may appear vanilla, it is interesting to note that the instrument itself can become a complex payment mechanism due to a number of factors such as appetite for bank or country risk, the contract complexity that underpins the sale and purchase, the attractiveness of Australian bank funding costs versus the buyer’s local market and potential balance sheet treatment of a payable or receivable.”

The unseen complexity of letter of credit transactions are echoed by Michael Hogan, NAB’s head of trade, Asia: “The deals themselves are not complex structures as such. One of the challenges from Australia’s perspective is the sheer bulk and challenges coming out through the size of the transactions. You’re not talking a couple of hundred thousand dollars; you’re talking tens of millions, and on a regular basis.

“So it really is the size of the appetite, how much you’re willing to take for these clients. They’re not super-structured, but the volume multiplied by their value makes for quite a challenging piece of business, so you have to find a balance of how much of that you hold yourself and how much of that you participate or share with other parties. That’s a challenge in its own right.”

Asia’s reliance on letters of credit means that the region has distilled the process and turned it into a streamlined, efficient system, as NAB’s Hogan attests: “Our operations team have the letter of credit documentation down to a fine art. These commodity products and flows are very familiar to us and as a result the documents can be turned around pretty quickly. This comes from knowing how both the flows and products are packaged and how they operate under the rules and regulations.”

By using products that they feel comfortable with and not relying on the debt-heavy products of the west, Asian companies have created a business environment where they retain a large source of capital and as such have the ability to self-finance its trade flows.

However, the interest in the region from US and European banks means that this will gradually change, as ANZ’s Whelan remarks: “Letters of credit will no doubt continue, but as the markets develop I see customers moving to more of an open account relationship. But, there are lots of different legal systems and jurisdictions in the region, and credit issues to consider, so I think that, to a degree, there will be impediments to the speed at which trade moves to open account.”

Agency support for exports

While the change will happen eventually, for now, Asia’s use of traditional trade finance products has had a knock-on effect on the Export Finance and Insurance Corporation (EFIC), Australia’s export credit agency (ECA) which has found less demand for their product in the Asian markets.

“Given Asia’s ability to finance much of its own demand and the specialised nature of Australia’s involvement with Asia, EFIC’s exposure to Asia is more limited than you might expect,” says Peter Field, executive director, business origination and portfolio management at the Australian ECA.

The credit agency has found that unlike European ECAs, exporters have been approaching them for more unusual needs. “Some European exporters see their ECAs as the first call for buyer credit to support their foreign clients. Australian exporters see EFIC as a solution for specialised needs, which tend to fall outside the trade flow,” Field continues. “Our activity in Asia has tended to follow the provisions of services more than assets, although we have supported both. Leighton (Holdings, a mining company that received EFIC financing for Indonesian expansion) is a good example, as while our financing assisted the acquisition of the mining fleet, this was not the Australian connection. We looked to the intellectual property, human resources and the technical inputs for Australian content.”

Fields’s recognition of the more atypical exports that Australia has been involved in has not been lost on the banks; one of the major non-traditional exports of Australia is education. In Australia, one in five university students are of Asian ethnicity, mostly Chinese.

This is something that Australian banks have been keeping a close watch over, as Chinese-speaking business graduates, fresh out of Australian universities, will make a strong addition to any bank that is serious about dealing with Asia.

Other institutions have noticed the importance of Australia’s role in providing quality higher education to Asian students. Sydney-based Bonnie Shek, director for Australia and New Zealand for the Hong Kong Trade Development Council, explains further to GTR: “With the increased amount of students, many of whom subsequently stay behind, immigrants and tourists from China, the trade relationship between Australia and Hong Kong/China is likely to get closer and tighter.”

“I have lived in Australia for the last 20 years, and Australia always talks about ‘engaging Asia’. It is only recently, and due to China, that they are getting serious. But again, the focus is very much on China and, to a certain extent, India.”

Beyond China

While the banks cannot deny that China is a main focus, many are also securing strong positions across Asia, with ANZ laying claim to being the only foreign bank with presence across all three of the Greater Mekong countries of Laos, Cambodia and Vietnam; Westpac boasting a Philippines representative office that has been open for just under 40 years; and NAB’s ongoing agribusiness with Indonesia.

Mark Borton, head of trade finance product at NAB, clarifies further: “Taking into account some of the conversations we’ve had with the trading companies and producers in Australia, I would distinguish between three market levels in Asia. Level one markets are China and India, these markets are growing rapidly and every client we talk to has got significant flows going into these two markets whether it’s hards or softs.

“The next level, just below level one, is Japan and Korea, which have big trade flows but are maybe not growing at the same rate as level one. These markets have relatively well-established relationships, especially in Japan.

“The third level would be Southeast Asian and Middle East markets, with Indonesia and Vietnam picking up in particular.”

Australian trade with Asia does not come without its problems, however, as its mix of developing financial systems and more established economies make it difficult to complete perfect due diligence on buyers, suppliers and trade regulations across jurisdictions.

Furthermore, there is not one recognised banking technology that is being used, with big players in the industry such as Swift, Misys and Bolero all vying to become the standard.

“Everyone wants to make processes more efficient, it’s obviously to their advantage, but it’s still a very fragmented market. The key providers are trying to make standards in the market but there’s no clear offering out there which is streets ahead and is accepted by everybody. There’s still a long way to go to get some convergence in the market and realising commercial benefits from some initiatives,” NAB’s Cox notes.

Regardless of the discrepancies of technology standards and difficulties in completing due diligence, trade between Australia and Asia looks set to continue in its strong form.

“It is very difficult to predict future demand for Australian resources such as iron ore. However, as the global economy continues to recover from the global financial crisis, the major export markets for Australian resources are forecast to experience growth, with Asia continuing to lead the way,” says ANZ’s Evans.

“Taking a simplistic view, China as our largest trading partner is expected to build, modernise and urbanise its infrastructure. China is not immune to the problems of the US and EU, but China is able to continue to spend and build essential infrastructure which will support growth once their overseas markets recover. This will continue to benefit the Australian economy.” GTR