International exchanges of goods and services are typically conducted with currencies, the value of which is settled by the four legs of trust, demand, supply, and risk. If any of these legs are weakening, substitute exchange methods emerge, based on precious metals, commodities or even cigarettes. In light of economic and financial volatility in the U.S., Europe and parts of Asia, we may again be heading for such substitutions in the global market.
Countertrade is the use of goods, services, and other non-monetary resources as payment. Recent discussions with the Global Offset and Countertrade Association indicate that countertrade is on the rise due to government and company requirements.
Governments are concerned about the influence of large transactions on their country’s balance of payments. They increasingly demand ‘offsets’ which are designed to reduce such influence. For example, in order to help pay for the acquisition of military airplanes, a country may demand that the seller of the planes encourages tourism to the country – as done by Egypt. Concern is also growing about structural trade deficits. Governments and companies make countertrade a condition for importers. For example, Zaire and Italy exchanged scrap iron for 12 locomotives. China traded Russia 212 railway trucks full of mango juice in exchange for a passenger jet.
We like to think that only the free market sets prices. However, government influence and international necessity often build result in significant barriers to international exchanges. Countertrade agreements have shown that an exchange of goods for goods can overcome currency problems. Historically, countertrade was used by soft currency countries, particularly in times of the Soviet Union. It has begun to rise again since the 2008-2009 financial crisis, bridging currency gaps and helping to reduce vast inventories. On a global scale, countertrade capability provides firms with a competitive edge. It keeps transactions alive and reduces the fear of high currency volatility. Many firms just want to carry on their business, rather than become currency speculators.
Companies know that an acceptance of non-cash payments can affect product values negatively. But as an alternative to no trade at all, countertrade looks better every day. Take the realities of a recent countertrade deal between Argentina and South Korea. Argentina reported a trade deficit of $6 billion in 2010, driven in part by high automotive imports. Argentinean imports from the South Korean car company Hyundai alone amounted to $91 million with consumer demand for cars growing. Historically, the government handled such situations by simply refusing more imports. But international agreements and negotiations have sharply reduced this option.
The Financial Times reports that Argentinean Hyundai distributors will utilize countertrade to compensate for the negative effects of car imports from Korea. They will stimulate the Argentinean sales of agricultural goods, specifically peanuts, wine, and soy flour to South Korea. Economic hardship is not the only incentive to countertrade. Bilateralism plays a large role in the acceptance of a countertrade offer. A country may encourage its companies to accede to barter requests from foreign trade partners and allies. The link between business and politics encourages such accommodation, even though doing so may be inconvenient. In the future, trading partners may reciprocate.
After decades of dormancy, countertrade is on track to again become a vital part of the global market. In a world of economic hardship, parsimony, and growing currency uncertainty, countertrade emerges as a viable solution for market and political shortcomings. Companies are well advised to re-cast their strategy to reflect countertrade expectations and requirements. On the outreach side, new marketing and financing packages need to be prepared in order to remain ahead of the competition. Internally, personnel needs to be hired and trained, to initiate such transactions, supervise them and see them through to long term completion. Banks need to prepare for countertrade based financing and get ready to help clients use countertrade.
In sum, we all need to get out of the headlight of currency weaknesses and changes, and prepare for the resulting shifts in the conduct of international business.
Check out this recent guest opinion article by James Grant, editor of Grant’s Interest Rate Observer, in the Washington Post on the possibility of having a gold standard. Are you in favor of the gold standard? Yes or no, why? Let us know what you think in the comments below.