GTR: What effect has the global economic downturn had on Indian trade with Europe?
ICICI: This recession has not spared any sector or market, and India is no exception.
World markets, particularly the US and Europe, play a major role in India’s export market. The downturn in these markets and hence reduced demand is the key reason for Indian exports falling 22%.
During 2008-09, growth of imports from the EU decelerated, while imports from Eastern Europe witnessed a turnaround. This could be due to the reduction in demand, mainly in textiles, handicrafts, gems and jewellery, and leather.
Asian countries – specifically economies less dependent on exports – are showing a faster recovery. This is visible in the case of India in the engineering sector, and to some extent commodities. The performance of commodities so far looks positive and should pick up in the coming months.
Barclays: Official government statistics indicate that trade flows between India and Europe witnessed 11.7% growth for exports from India to Europe and 7.9% growth for imports from Europe to India during the latest financial year (April 2008 to March 2009) compared to 2007-08.
The overall contribution of Europe to the total India trade flows for both exports and imports declined marginally over the same period. However, more recent data – comparing April-August 2009 with April-August 2008 – evidences a year-on-year decline of around 19% for exports and 32% for imports.
The primary sector impacted has been oil and petroleum, with further sharp reductions in precious gems and the jewellery sector. The recent increase in commodity prices, particularly in crude oil, is starting to create a modest recovery in this sector.
IDBI: The effect of the global economic downturn on Indian trade with Europe is threefold.
Firstly, Indian exports to Europe suffered due to the cancellation of orders and an elongation of realisation periods. Sectors affected are textiles and apparel, diamonds, steel and other commodities.
Secondly, credit availability for imports was hit due to suppliers not getting enough lines from their bankers to discount their export bills, and suppliers’ credit was replaced by buyers’ credit. Importers in India had to pay higher spreads due to the liquidity squeeze.
Thirdly, interbank lines from European banks were significantly choked from January until August 2009.
Indian imports from Europe, especially those of industrial machinery, spares and metals, suffered on account of the crisis of confidence.
Just before the beginning of the current meltdown, several manufacturers had scaled up their operations in anticipation of bigger orders and a change in the external environment, such as the dismantling of quota regime agreements in the textiles sector.
Several players in the textile belt of South India had invested heavily to counter competition from China.
However, the economic crisis and the subsequent cancellation of orders have affected industry morale. Some of the players in renewable energy also suffered due to this phenomenon.
During this period, however, imports related to infrastructure projects in India continued. Imports of transport-related equipment, of testing equipment in the energy sector and of steel and cement industry-related equipment have boomed.
RBS: The global economic crisis has impacted India-Europe with trade volumes. According to the European Commission, bilateral trade in goods during January-June 2009 stood at €25.19bn, about 18% lower than the €30.54bn in the corresponding period last year.
The impact has been most significant for Indian exports to Europe from the textiles and clothing, auto components and ancillaries, gems and jewellery, agricultural commodities, garments and apparel, and retailing industries.
The contraction in demand from Europe has led to fewer new orders, which then affects shipment volumes from India.
However, there are clear signs of revival, with exporters seeing better order books while maintaining prices at existing levels.
GTR: What deals are currently getting done to finance India-Europe trade?
RBS: Typical deals for India-Europe trade are export finance, including pre-shipment financing and import finance in foreign currency, for the import of goods and capital equipment.
There has been a noticeable trend for clients moving to letter of credit-backed business for some of the export legs, and also requesting that Indian banks confirm LCs.
As regards pricing, spreads increased considerably during the last quarter of 2008 as compared to the earlier periods after the economic crisis started.
However, since the beginning of 2009, the spreads have been falling gradually and though they have not yet reached pre-crisis levels, the expectation is that pricing is gradually progressing towards the same point.
ICICI: Shorter-term trade credits like buyers’ credit and export bill discounting continue to be key drivers in the trade finance sector.
Deals are seen in energy, metal and minerals and other segments like engineering and agriculture.
Buyers’ credit is originating from India pre-shipment finance and documentary credits are key trade finance products.
The financial crisis severely affected the access to trade finance for emerging market economies (EMEs), particularly widening spreads and terms. The spreads on trade finance increased from 100-150 basis points (bp) to around 400bp over Libor during the last quarter of 2008 until February 2009, with intensifying counterparty risks.
Because of difficult financing conditions prevailing in the international credit markets and increased risk aversion by the lending counterparties, disbursement of gross short-term trade credit to India was lower during 2008-09 as compared to the previous year.
Barclays: While Barclays has remained committed to lending through the recession, as with all major financial markets, there was an overall reduction in the level of credit that banks, both in India and Europe, were prepared to extend.
Therefore, with many banks remaining cautious of providing facilities for longer-term commitments, the trade finance market has migrated to shorter-dated, self-liquidating facilities, where the number of facilities and deal execution remains positive.
The fact that liquidity has been at a premium has resulted in upward pressure on the margins that a corporate can expect to pay for trade finance facilities. However, there is some evidence that this upward pressure is easing and in some cases reversing.
GTR: What has the government done to support exporters and facilitate trade finance? Is it working?
RBS: The government has played a pivotal role in providing the right stimulus to the economic revival.
A variety of measures have been undertaken both on the monetary side as well as the fiscal side to support cross-border trade flows and the linked financing requirements.
Some of the monetary measures that have helped in improving the availability of finance or reducing the cost of funding either directly or indirectly include reducing the statutory requirement for banks to hold funds as cash (cash reserve ratio – CRR) or as designated investments (SLR).
CRR has been reduced from 9% per year from September 2008 to the present level of 5.5% per year, and the SLR has been reduced from 25% to 24%.
In addition, the government has introduced interest rate subvention for export finance in rupees by banks to specified exporters such as those in the textiles, garments and leather industries. Here, the government subvents interest at 2% and 4% to make the export finance cheaper to that extent.
Furthermore, it has liberalised external commercial borrowing regulations for investment in the retail sector.
Fiscal measures include increased public spending in projects and infrastructure requirements, thereby pushing the demand levels for commodities and raw materials.
Barclays: In a bid to minimise the impact of the global economic slowdown on the Indian economy, the government unveiled a ‘multi-dimensional’ fiscal stimulus package to boost output across sectors and give an impetus to growth.
The measures include an additional planned expenditure of around US$40bn for the current fiscal year.
The government also announced a reduction in the level of excise duty, introducing an across-the-board cut of four percentage points in the ad-valorem central value added tax for the remaining part of the current fiscal year on all products other than petroleum and those where the current rate was below 4%.
Before the latest change, the three main ad-valorem excise rates applicable to non-petroleum products were 14%, 12% and 8%. This action is estimated to reduce excise duties by around US$2bn this year.
IDBI: The government has implemented a scheme for interest subvention in a sector-specific measure to help industries which operate on very thin margins.
The government has also extended or liberalised the mandatory period for realisation of export proceeds. On the import side, the government has relaxed the terms for availment of buyers’ credit by imports.
ICICI: India has been relatively less affected by the liquidity squeeze in international credit markets. Despite tightness in the overseas markets since September 2008, the disbursement of short-term credit to India has hovered around its monthly trend of just over US$3bn in the subsequent months.
This is indicative of the confidence enjoyed by the Indian importers in the international financial markets. The various policy initiatives taken by the government, in this regard, such as a hike in the all-in-cost ceiling for raising trade credit, enhancement of limit on overseas borrowings by banks, extending the line of credit as well as swap facility to the India Exim Bank have also helped in easing the pressure on trade financing.
GTR: How have banks active in Indian trade finance been affected by the downturn?
Barclays: In India, banks have adopted a cautious approach in lending to their clients with a tightening up of credit due diligence and the implementation of stricter covenants/facility terms including a requirement for additional security to back facilities.
This has primarily resulted in banks in India increasing their focus on those larger, well-established companies and clients in the corporate segment who have a strong underlying credit history and balance sheet.
There is some evidence that banks have sought to enhance corporate risk exposure profiles by requiring that underlying credit insurance is in place.
IDBI: Banks which are exposed to sectors like diamonds, textiles and pharmaceuticals are witnessing mounting overdues and in some cases credit defaults.
The export credit insurance agencies are stipulating more rigorous checks and stringent norms with reduced per party caps.
Selectively, banks are also offering restructuring packages based on their evaluation of the long-term viability of the projects.
RBS: Coupled with the lower economic activity, credit deteriorations and payment defaults have further impacted the level and structure of financing.
Besides the assessment of the exporter in India, the need to carefully assess the counterparty to each trade also increased, thereby increasing the need for credit enhancements through LC-backed transactions, counterparty risk covered by credit insurers, etc.
Hence, financing has been made available more to transactions where there are certain risk mitigants/credit enhancements.
However, the market also witnessed contraction by the credit insurance and factoring companies in their coverage of counterparty risks together with an increase in the premium rates charged.
As the availability of foreign currency funding has become scarce, there has been a shift to local currency financing by various banks to support the existing trade finance requirements of the clients.
Banks like RBS, which have a global presence, have utilised their network presence to leverage relationships/credit information on both sides of the transaction to manage the flow and financing more efficiently.
GTR: How do you see the next year shaping up for India-Europe trade and trade finance?
IDBI: There is good potential for India-Europe trade going forward. The sectors to watch will be infrastructure such as urban transport, airport and railway modernisation, rural telecommunication, healthcare, education, renewable energy, space exploration-related industry, automobiles, agriculture and processed food.
As India’s economy continues to do well, primarily riding on the government’s agenda in the infrastructure sector, deal ticket sizes for imports are set to rise significantly.
European banks will need to increase country limits and bank lines significantly to take advantage of this opportunity.
RBS: With the signs of revival clearly visible, trade flows between India and Europe are expected to be higher in 2010 as compared to 2009, and that shall in turn increase the velocity of transaction flow and the linked funding requirements.
Coupled with the general upswing in demand from Europe for Indian merchandise and services, the signing of the proposed Foreign Trade Agreement (FTA) between India and Europe would be a catalyst for exponential growth.
India and the EU have already moved into text-based discussions on all the chapters in the proposed trade agreement covering goods, services, investments, trade facilitation, public procurement, technical regulations, competition, intellectual property issues, etc, though there are a few pending issues that need to be resolved.
Seven rounds of discussions have already been held and the eighth round is expected to be in January 2010.
Barclays: With the economic situation improving across countries globally, we expect trade flows between India and Europe to grow substantially.
The availability of liquidity is a key element in any recovery and there are clear signs that this is returning albeit somewhat cautiously at present.
Barclays has a strong trade finance presence in both India and Europe and we will continue to leverage this presence to support our customers who use traditional trade instruments such as letters of credit and those who trade on open account terms.
Our focus will be on supporting our customers with risk mitigation, security of payment and the provision of working capital.
On a wider level, the European Parliament has asked the European Commission to conclude the Free Trade Agreement (FTA) with India by 2010.
According to the Federation of Indian Chambers of Commerce and Industry (Ficci), India’s trade with the EU has the potential to reach US$572bn by 2015 once the FTA is implemented.
