Trade Finance and Trade Collapse during the Global Financial Crisis: Evidence from the Republic of Korea

Abstract

(ProQuest: ... denotes formulae omitted.)I. IntroductionAs soon as the Global Financial Crisis of 2008-09 broke out, economists, policy makers and the leaders of the world economy expressed concerns about the adverse effects of financial contraction on world trade, and called for coordinated efforts to prevent a drying-up of trade finance. The G-20 quickly convened and agreed on the need to expand trade finance liquidity, and national governments and international agencies set up programs to supply additional liquidity to finance trade transactions.Despite these efforts, world trade volume contracted 10.7 percent during 2009, while world GDP contracted 0.6 percent according to the International Monetary Fund (2010). The disproportionately large contraction of trade during the Global Financial Crisis is named the Great Trade Collapse, and many studies attempt to offer explanations. Now there seems to have developed a consensus that most of the fall in trade can be explained by demand contraction caused by the Global Financial Crisis. The recession hit especially hard the demand for consumer durables, manufactured intermediate goods and capital goods, and world trade is concentrated on these kinds of goods.1 However, some observers still find this observation inadequate for explaining trade collapse far larger than GDP contraction. The fall in trade is bigger than most econometric and CGE models would predict, and they argue that there must be supply-side causes, such as a shortage of trade finance or a breakdown of supply chains.Now we have a large body of literature that examines the role of trade finance during the trade collapse of 2009. Many econometric studies present evidence that trade finance played a significant role in causing trade collapse (Amiti and Weinstein, 2011, Chor and Manova, 2012 and Bricongne et ah, 2012), while there are others that disagree (Levchenko, Lewis and Tesar, 2010 and Behrens, Corcos and Mion, 2010). In contrast, informal studies using survey results or direct data on trade finance tend to find the limited role of trade finance in the Great Trade Collapse. For example, many chapters summarized in the World Bank volume edited by Chauffour and Malouche (2011) express this kind of skepticism. We need more country-based studies to obtain a comprehensive picture on the role of trade finance in the trade collapse.This paper examines the role of trade finance in the trade collapse of 2009 from the perspective of the Korean economy. We use two approaches. Firstly, we make a casual observation on aggregate data to find an indication that trade finance affected trade volume during the crisis. Korea has relatively rich data on trade finance and trade credit. The Bank of Korea publishes aggregate data on foreign trade loans, which are loans extended by commercial banks to exporters for the purpose of providing working capital. The Bank also publishes aggregate data on cross-border accounts receivable and payable of private firms, allowing us to track the volume of inter-firm trade credit. The Financial Supervisory Service of Korea reports two sets of data on trade finance: documentary bills purchased by commercial banks and domestic import usances. We find that the aggregate data do not strongly support the view that trade finance played an active role in causing the trade collapse. The measures of trade finance and the value of trade concurrently dropped, but the ratio of trade finance over trade was stable, and in some cases increased during the crisis period. The aggregate data are consistent with the hypothesis that trade collapse caused trade finance contraction, rather than the other way round.The second approach of this paper is an econometric examination using firm-level data. Using quarterly data on listed firms in Korea, we conduct panel estimations to test whether exporters with more dependence on external finance or with more reliance on inter-firm trade credit were more vulnerable to the crisis. …