A letter of credit as an instrument to mitigate risks and improve the efficiency of foreign trade transaction

Abstract

Letters of credit refer to effective and secure financial instruments for securing payments in international trade. Certain practical aspects of using letters of credit for international sales transactions are considered herein. The main purpose of this study is to analyze the practice of using documentary letters of credit in foreign trade, and to determine effective ways to improve letter of credit (L/C) payment methods for importers/exporters. Relevant empirical research methods are applied herein, as well as indicator techniques and secondary analysis of the results of a global survey of experts in international trade financing. This study allows to make the following conclusions: • In international practice, commercial L/Cs are most widely used in foreign trade transactions. • However, their volume in international payments has decreased for the last year. Most experts believe that the main reason for such decline is a decrease in foreign trade turnover. • Unlike countries with developed financial markets, the share of payments using L/Cs remains rather small in Russia, and it amounts to about 0.15% of the total volume of payment transactions in the banking system. • At the same time, over the past 5 years there has been a twofold increase in the volume of payments, in value terms, with the use of L/Cs. This study allows identifying the main problems that retard improving L/C payment methods for foreign trade transactions, namely: low availability of L/Cs for small and medium-sized businesses; cost and complexity of compliance with regulatory requirements, including Basel III; growing global risks. In the author's opinion, the blockchain technology may become one of the promising ways for improving L/C payment methods for international transactions. This technique may help to solve one of the main problems in global trade - the huge document flow while conducting transactions between several entities. The use of this technology will save time and money for customers, and it may ultimately transform trade finance for the benefit of businesses around the world. © 2018