GTR asked representatives from the private and ECA markets to debate to what extent ECAs’ activities overlap with those of the private market insurers, and whether the two parties should compete with each other for the same business.


Part I: the private insurer (Charles Berry)

The market for medium and long-term (MLT) export credit insurance is changing. An area that used to be the preserve of the government export credit agencies (ECAs) is now a mixed market of ECAs and private insurers, often competing for the same business. However, the new mixed market for MLT export credit insurance is not well known to many exporters and financing banks, not least as some of the language surrounding the subject seems intended to cause confusion.

The ECAs no longer provide a level playing field

The OECD Consensus and EU rules on export credits set out to provide a level playing field for exporters and aim to ensure that competition is based on the price and quality of the exported goods, not on the terms of the export finance package. Laudable though this objective is, it is failing: finance terms are becoming a more important part of the competitive mix once more.

There are two main reasons for this. The first is “aggressive, unregulated financing from foreign competitors” in the words of US Eximbank’s recently released report. The report estimates that 15 years ago, 100% of official support for trade operated under the agreed international rules. Today, it estimates that figure has dropped to a mere 34%, driven mainly by the fact that significant new exporting countries like China and Russia have never been a party to the OECD Consensus.

The second reason is more subtle: the OECD Consensus was conceived in an era when its signatories by and large all had the same AAA credit rating. That is no longer the case. Even if its members stay within the terms of the agreement, a compliant officially supported financing from Hermes in Germany with its AAA rating will give the German exporter a competitive advantage over its Italian or Spanish rivals with equally compliant financing packages supported by their BBB-rated ECAs.

Because officially supported finance no longer provides a level playing field, and can confer advantage or disadvantage, exporters and their bankers are having once again to be more astute in their use of export credit support. In the era of the mixed market, that means they have to be astute at using both public and private sector export credit insurance.

The ECAs are making good money

In the last 20 years or so there has been a dramatic turnaround in the fortunes of the ECAs with the developed world ECAs becoming cash generating machines for their government owners.

According to figures released by the Berne Union in November 2012, its members generated over US$160bn of positive cash flow between 1997 and 2011. What is more, over the 30-year period to 2011, the Berne Union members’ overall loss ratio of claims net of recoveries as a percentage of premiums runs at about 10%, a remarkably low figure. Of course, over the last 20 years much of the short-term business has been written by their private sector members. However, we know from other published sources that the private sector members’ short-term businesses usually show loss ratios prior to expenses fluctuating around 40% to 50%. Such ratios are significantly worse than the Berne Union average, implying that the ECAs loss ratios are actually better than the already low Berne Union average.

We are not criticising the ECAs for supporting their export community and generating cash for their taxpayers at the same time. However, the robust financial performance of the ECAs in recent years is important background information for clients wanting to understand the emergence of the mixed market for MLT export credit insurance.

There are two private markets

The two private markets are, on the one hand, the short-term trade credit insurance market (STTCI) – dominated by the monoline private insurers like Euler Hermes, Atradius and Coface – and on the other hand, the private political risk insurance (PRI) market. Despite the fact that the special risks units of the monoline trade credit insurers participate in the PRI market, the two markets are quite separate.

Many of the pronouncements of the ECAs and their governments about the “private market” make no sense unless you understand that they are often referring only to the STTCI market, while ignoring the PRI market. That is why so much of what is said about the “private market” is half true.

For while it is broadly accurate to say that the ECAs do not compete with the “private market” if you refer only to the STTCI market, it is clearly wrong in relation to the PRI market. When ECAs say the “private market” has little involvement in comprehensive cover for MLT business, or that it withdrew cover from Greece during the recent financial crisis, they are once again referring to the STTCI market. Indeed, the main activity of the PRI market is MLT comprehensive cover, as we shall see, and PRI insurers did not withdraw from Greece; rather, they competed with the ECAs for the opportunities this created.

The PRI market is quite large

To promote better understanding of the PRI market, we have begun showing our own portfolio of private market business presented in the way the Berne Union presents that of its members. While our portfolio shows only part of the PRI market’s business, it is, according to our insurers, broadly typical of the PRI market as a whole.

The BPL Global portfolio of risk as at the beginning of February 2014 amounted to US$27.2bn of aggregate exposure. We are of course a broker, not an insurer or an ECA. However, if our portfolio had been written by an ECA, Figure 1 shows that it would be considered as respectable by size, if not large compared to some of the leading ECAs.
We estimate BPL Global has close to a 15% share of the private PRI market. This indicates that the private PRI market has about US$200bn of aggregate risk. Given that most exporters can access the whole of the private PRI market, but usually only one ECA, the private PRI market is too big to ignore.

Main activity of the PRI market is MLT business

The Berne Union’s private sector members have historically only had their activities reported as ST business or Investment Insurance, as they have only been allowed to participate in these committees.

Berne Union statistics on MLT business therefore only reflect the activities of the government ECAs.
Even though this may finally be about to change, the practice reflects the official belief that the private insurers are not really engaged in MLT business. In reality, as Figure 2 shows, the main activity of the private PRI market is MLT business. For the avoidance of doubt, the MLT category in our portfolio consists only of policies where the non-cancellable policy period exceeds two years. The Berne Union counts all business with credit periods over 12 months as MLT business.
Figure 2 also reveals that the PRI market’s name can cause confusion, as “PRI” to many means only investment insurance type business.

The ST and MLT business in our portfolio is all comprehensive non-payment cover, written on sovereign, government and private sector buyers and borrowers. Our main business is credit insurance, in other words. Furthermore, our non-payment policies are essentially just like the ECAs’ “guarantees”. Only 25% of our exposure and maybe 15% of our premium is on equity and lenders form and property-based “pure” political risk policies.

The PRI market is more focused on emerging markets than the ECAs

Popular belief has it that the ECAs are more exposed in emerging markets than the private market. Again, that is to confuse the STTCI market with the PRI market. Figure 3, showing our overall portfolio, broken down by country of risk, dispels this myth.
The country profile of our MLT book continues the emerging market theme. Figure 4 shows our top country exposures for MLT business compared to the Berne Union MLT business.
Five countries – Brazil, China, Russia, Turkey and Vietnam – appear on both the Berne Union and the BPL Global list. Yet, while the Berne Union’s top 10 is completed by USA, India, Saudi Arabia, Indonesia, and the UAE, ours features Angola, Azerbaijan, Croatia, Ghana and Tanzania. Furthermore, we have three countries from Sub-Saharan Africa in our top 10 (including Angola, heading our list). In contrast, the Berne Union has none. Who is more focused on the higher risk emerging markets when it comes to MLT business? It looks like the private PRI market.

The PRI market has more appetite for higher risk emerging markets than the ECAs

This view is supported by looking more closely at Africa, usually regarded as the continent with the highest risk profile. Figure 5 shows the proportion of various ECAs’ portfolios represented by African risk and compares it with the 20% of the BPL Global portfolio in Africa.

Over 75% of our African exposure is MLT non-payment risk, and our insurers say our portfolio is reflective of the PRI market as a whole. If this is the case, it certainly appears that the PRI market is writing a higher proportion of its business in Africa than the ECAs are. Indeed, BPL Global alone has a bigger exposure in African MLT risk – US$3.2bn – than most ECAs. Our overall exposure in Africa, including ST and investment insurance business, is about the same as US Exim’s.

We therefore seem to be witnessing a role reversal. Africa’s share in the ECAs’ portfolios is declining if US Exim is typical, as its African portfolio has steadily retreated over the last five years from 6.7% to its 2013 level of 4.9%. Meanwhile BPL Global’s business in Africa continues to grow, amounting to over US$2bn in the first half of calendar year 2014. Apart from placements in Egypt and Libya and a small amount in Morocco, the business has all been in Sub-Saharan Africa (with only a very small amount in South Africa or Botswana).

The PRI market is the market for “non-marketable” risk

“Marketable risk” is a confusing expression coined by the European Commission to denote the area of ST business that the EU-based ECAs are forbidden from writing. “Marketable risk” is not a great term even in the context of the STTCI market, the beneficiaries of this official restraint, as a significant portion of even their business falls outside the definition. In the context of the PRI market, the term is worse than meaningless: only 3% of BPL Global’s portfolio meets the definition of “marketable risk”, and a third of that is our short-term business in Greece, which has shown a dramatic increase since the STTCI market started withdrawing cover.

It suits the official narrative of the EU ECAs to say that they only write “non-marketable” risks: the expression implies they do not compete with the “private market”. However, once you realise that the PRI market, is the market for “non-marketable” risks, you realise that the ECAs are today selling a fiction.

Should the ECAs compete or retreat?

Faced with the advance of the PRI market should the ECAs retreat to those remaining areas of the MLT business that genuinely remain free from private market competition, or should they stay and compete?
The simple answer is that they should stay and compete. The reason is capacity.

The private market’s main constraint is aggregate country capacity. If the private market has, say, US$5bn of aggregate exposure in a country, prices for risks which are normally perfectly acceptable for the market will start to rise. By the time the aggregate exposure in a market is heading towards US$10bn in the aggregate, private insurers will have closed up shop in the country and will be turning normally acceptable risks away, purely for portfolio and capacity reasons.

While the exact amount of the PRI markets aggregate capacity in each country is difficult to gauge, we can be precise in saying that the number is small in relation to the total demand for MLT export credit insurance. The Berne Union’s ECA members have nearly US$40bn of MLT exposure in Russia, for instance – it will be decades before the PRI market will deploy that level of capacity.

Consider the mixed market in the context of Petrobras’ MLT export credit risk needs. Private insurers have been falling over themselves to write MLT risk on Petrobras. However, the PRI market’s few billion of aggregate capacity for Petrobras itself, and even its aggregate limit for all Brazilian-based risk, is paltry compared to the likely demand from the market, as Petrobras moves forward with its reportedly US$200bn-plus programme to develop its offshore energy business. So despite the intense price competition we have seen in the PRI market for Petrobras MLT exposure, we still need ECA involvement.
Once the need for both public and private sector capacity is understood, even for risks for which there is a market, it becomes clear that individual transactions should be allocated by normal market mechanisms. Both public and private sector insurers should independently make their offers for all of or part of an individual loan or contract, and let the client choose the best alternative.

In this competitive marketplace, we don’t believe that the PRI market insurers should complain about unfair government competition, so long as the ECAs stay within the OECD guidelines. By bringing capacity and stability to the MLT market, the ECAs are simply performing the same role as the government performs in other areas of the commercial insurance market where capacity is tight, whether it is for terrorism risk after 9/11 or flood risk in the UK at the moment.

Risk sharing should be a competitive process, not a co-operative one

The mixed market inevitably raises the question of co-operation between the ECAs and the private insurers.
If co-operation just meant risk sharing it would be fine. The issue is not risk sharing itself, but whether risk sharing should be client-led or insurer-led. This is important as it is all about pricing.

In the private subscription market, risk sharing is led by the client acting through its broker. It is a competitive process, not a co-operative one. Each insurer separately speaks only to the client, not to each other, about the pricing and terms of its portion of the risk. The insurers must compete for the leadership of, or a participation in, the placement. This process properly performed ensures that the necessary capacity is assembled at the lowest available price. The process maintains competition, the only way of ensuring that insurers take more risk for less premium.

If risk sharing was insurer-led in the private market, with the insurers meeting together and agreeing the price and terms on which they would jointly offer the necessary aggregate capacity, they would inevitably agree to take less risk for more premium. This type of “co-operation”, if allowed, would inevitably work against the interest of the client. It will therefore damage the interests of clients if the ECAs are allowed to bring their co-operative practices into the mixed market. Put simply, a “co-operative” approach to risk sharing means higher prices.Competition is the only way to protect the clients’ interests. No one should be surprised that the competitive PRI market has more appetite for higher risk countries in Africa than the co-operative ECAs.


Part II: the ECA (Paul Croucher)

Paul Croucher, head of trade finance and insurance solutions at UK Export Finance, says that companies benefit when ECAs step into market gaps.

Export credit agencies (ECAs) and their private market counterparts have always rubbed shoulders with one another, given that they share customers and operate in overlapping markets. Their complementarity can be seen in a range of risk-sharing, co-operation and reinsurance agreements, but the role of the public sector ECAs remains specific: to support trade and investment in those cases where the capacity provided by the private insurance market is insufficient.

Given the traditional remit of UK Export Finance (UKEF) and our peer ECAs in offering long-term capacity of out to 15 years and further, and the very large aggregate capacity available across global ECAs, it is indisputable that exporters and project developers will turn naturally to the public sector market when seeking support for medium to long-term (MLT) project finance. This leadership paradigm was perfectly illustrated in mid-2013, when UKEF took a major role in a massive US$12.5bn lending package that was secured for the US$19.3bn Sadara petrochemical plant in Saudi Arabia. This transaction involved ECAs from six countries providing a huge US$8.5bn in financing and guarantee facilities to the two sponsors, Saudi Aramco and Dow Chemical.

Such a transaction lays far beyond the capabilities of the private sector, where the cumulative theoretical maximum capacity for a single project risk is just over US$2bn, according to the Gallagher London CPRI Market Update for January 2014. However ECAs are also acting effectively at the other end of the market, where they are mandated to step in and cover short-term trade risk, under the regime operated by the European Commission, if short-term trade credit insurance is not available in sufficient quantity from private sector underwriters.

The unsettled nature of many markets since the 2008 financial crisis has opened up this area to UKEF and other ECAs. When it was declared under EU Short Term Communication that Greece was not a “marketable risk”, even though it is an OECD rich list country, UKEF was able, exceptionally, to offer cover. Our provision of additional capacity was appreciated not only by exporters, but by private market brokers and insurers, who were able to refer clients to a source of cover capacity.

The Greece and Saudi Arabian examples, laying at either end of the tenor range, illustrate perfectly that a mixed market – of public and private insurers – works rather well. Private insurers continue to compete with each other for certain risks, to the great benefit of exporters and investors, which are able to choose the providers offering the most attractive pricing and other terms of interest. And for those markets where private insurers lack appetite, ECAs can often step in with the capacity that enables exporters to trade, and thus makes for a stable market.

Responsible risk-taking

This is not to say that UKEF does not take its responsibilities to the taxpayer very seriously. We judge our risks, and prudently manage our exposures and country limits, but we are not risk averse, and this can be seen in us insuring exports to markets as challenging as Egypt, Libya, Iraq and Greece. UKEF’s remit is unambiguous: to step in with support which increases the UK’s exports and makes Great Britain more competitive, if and when private insurance markets are unavailable for cover.

Hence we are delighted that the re-introduction of several short-term products some two years ago by our Trade Finance and Insurance Solutions team has already helped, or committed to help, over 170 companies – many of them smaller and medium-sized businesses – to fulfil export contracts worth almost £1bn. The products include our Bond Support Scheme, which provides partial guarantees to banks in support of UK exports, as well as our Export Working Capital Scheme, which assists UK exporters in gaining access to working capital finance in respect of specific export contracts.

We deployed the bonding scheme in Libya in 2012, when there was no private market cover as a result of the Arab Spring events. The London-based design and engineering company Houlder had won a three-year contract to project manage the construction of a floating storage and offloading vessel. Potentially short of working capital, Houlder examined its options and turned to UKEF, which mobilised three products to manage the risks involved, protect its cash flow and give it enough working capital to fund the contract. UKEF used its Bond Support Scheme to guarantee 80% of Houlder’s bonds and the company’s bank guaranteed the remaining 20%. Once the bonds were issued, UKEF issued two Bond Insurance Policies for the advance payment and performance bonds. UKEF also put in place an Export Insurance Policy (EXIP) covering the company for 95% of the amount Houlder deemed to be at risk of non-payment. The solution enabled a British exporter to trade in a market where private credit insurance cover was unavailable.

EXIPs protect an exporter against the risk of non-payment under an export contract or of being unable to recover the costs of delivering the contract. They can cover up to 95% of the costs of fulfilling an export contract, and are suited to unstable or emerging markets for which private sector insurers may not have the risk appetite.

EXIPs have been deployed by UKEF to back some £150mn-worth of export contracts. For example, the Staffordshire-based JCB, the world’s third largest manufacturer of construction equipment, used an EXIP in 2012 when it proved difficult to access private credit insurance to cover a new trading relationship with a distributor in a new market in North Africa. JCB offered sympathetic trade credit terms, but was unable to insure this contract under its private sector whole turnover policy, which led its insurance broker, Aon, to approach UKEF for help from the EXIP scheme. As a result, JCB has been sending monthly shipments of machinery to North Africa on an open account basis for over 18 months.

Greek risk

Greece is another market where EXIPs have supported UK exports. The Gloucester-based GR Lane, which had been selling around £700,000-worth of herbal remedies and vitamins annually to its Greek buyer for around 20 years, ran into a situation where its private insurance provider decided that the faltering Greek economy had become too risky and declined further cover. After its £1mn policy for the contract was reduced to £750,000 in 2011 and withdrawn in 2012, GR Lane approached UKEF, which helped the company to apply for an EXIP which offered cover of up to £570,000 against the Greek buyer being unable to pay. The cover started in December 2012 and GR Lane pays the premiums every time it sends an order to Greece. This arrangement will continue until private sector insurers consider Greece to be a good risk once more.

There are several other areas where UKEF can prove an invaluable source of complementary cover. One would be a scenario where an important contract proves too small for private underwriters to assume risk. In March 2012, for instance, the London-based manufacturer Flexal Springs won a £33,546 contract to supply springs to its biggest Indian customer, a large aerospace company. While the contract marked the largest yet for Flexal Springs with the customer, it proved to be too small for the company’s usual insurance provider to consider, so UKEF was approached for help. It insured 95% of the contract’s value for a period of seven months after delivery of the springs via an EXIP, removing the vendor’s cashflow concerns.

Conversely, companies whose first few export orders are relatively large in comparison to their domestic books can also be turned away by private sector underwriters, due to the concentration risks. UKEF welcomes approaches for cover in such situations, as one of its targets is to grow the export credit insurance market.

Dovetailed approach

UKEF has witnessed a notable increase in demand for its export credit cover since the height of the credit crisis in 2008/09. In addition to a new product suite covering both the short-term and MLT markets, our response has included a greater push in marketing our expertise, both through the auspices of our sister body, UKTI, and via a doubling of our regional export advisers, with advice internationally available through UKTI’s advisory network in 107 markets.

The intention, as ever, remains to push our products in those areas where a proper insurance market has not emerged. It has been noticeable during the last five years that private markets have responded similarly to the recovery in world trade, and are growing in capacity and writing a growing level of business. Of course both public and private sector players have their own obligor and country limits, and there will continue to be co-operation in this respect, via reinsurance and other forms of technical collaboration. As global trade and investment continues to re-establish itself on a growth path, there is a substantial alignment of interest which keeps the relationship strong for both parties, while each pursues their own natural area of remit.