Trade finance is a special form of finance and credit that is directly related to international trade. In most cases, a seller requires a purchaser to prepay for the goods prior to being shipped. However, when items are being shipped internationally, there is a lot more risk and the purchaser may want to reduce that risk by having the seller provide valid documentation that the goods have been shipped prior to payment being rendered. This is where banks and finance comes into play.
How Trade Finance Works
Given the example above, both the purchaser and the seller would need to open a trade finance account at a bank that specializes in international trade. The purchaser would then go to their bank and ask them to provide a letter of credit to the seller’s bank, which would provide for payment upon presentation of a certified document, such as a bill of lading. The seller’s bank would most likely make a loan to the seller on the basis of this letter of credit.
There are many other aspects of trade finance as well, including documentary collection, trade credit insurance, export factoring, and forfeiting. In many countries, trade finance is supported by the government, since it is usually in the government’s best interest to ensure that international trade transactions are processed smoothly and successfully.
Who Needs It?
Basically, anyone who plans on conducting international trade, such as the buying and selling of goods, needs to look into a trade finance account. Secure trade finance depends on verifiable and secure tracking of physical items and other events in the supply chain, and only a bank that is specialized in this can process the financing as certain transaction events occur in the process.
You don’t want to pay a seller and not receive the goods, and a seller doesn’t want to ship goods and not be paid. Furthermore, there could be issues along the transport of the goods from the seller to the buyer, which also need to be monitored and insured. It is complicated, but a good bank can help navigate the process.