February 6, 2006	Monday	Muharram 7, 1427

Exporters as well as regulators of foreign exchange will have to work hard to gradually adopt the proposed market based mode of payment, i.e., the ‘open account’. There is no denying the fact that the process of deregulating the economy does not end at one particular point. The foreign trade sector has always been considered a dynamic sector.

IN her first informal briefing to the press recently, the new State Bank Governor Dr Shamshad Akhtar, stated that she would continue the policy of reforms launched by her predecessor. At the same time, the strategy would be examined at different stages to see if they were still valid and they would have to be changed, if the situation demanded, she added.

The five strategic objectives apart from management strategies cited in the latest SBP Annual Report included: (i) Ensuring soundness of the financial system;(ii) broadening of access of financial services to all segments of society;(iii) maintaining price stability with growth; (iv) exchange rate stability and reserve management, and lastly, (v) the strengthening of the payment system.

The work on long-term strategic plan was started in 2000 immediately after assuming the charge of the SBP governorship by Dr Ishrat Husain with a view to provide a vision and plans of the functional and organizational status of the central bank.

A separate ‘strategic planning unit’ was set up in the bank to facilitate and institutionalize the strategic planning process and a medium term strategic plan 2005-2010 was developed through extensive consultation with internal and external stakeholders.

The brief statement of the Governor Dr Shamshad reflects her pragmatic approach to maintain the continuity of reforms programme in the SBP in particular and also in the overall financial sector of the country.

During the past six years, the SBP has made major strides in modernizing and strengthening the capability of the institution to perform its supervisory and regulatory role.

As a result of the implementation of the financial reform agenda the financial institutions under the regulatory domain of SBP are far more healthy and stable compared with their conditions in the pre-reform era.

The overwhelming domination of the private sector banks has helped to develop a highly competitive environment in the banking industry. For their survival, it became imperative for banks to adopt innovation and hi-tech know-how in designing their different products to facilitate transactions and adjust their risk profile.

The latest SBP Annual Report stated that the performance of the private sector banks during FY05 could be gauged from increase in the volume of credit and also through the increasing trend in diversified deployment of credit largely to SME and consumer financing which were stated to be highly risky than the corporate sector.

Another noteworthy dimension of the banking business was the improvement in their asset quality as reflected by the decline in net NPL (non- performing loans) ratio to net advances ratio during FY05.

In order to further strengthen the market-based financial sector this is time to initiate radical changes in the payment and settlement system in the sphere of foreign trade.

Under the existing Foreign Exchange Rules the prescribed mode of payment for imports and for exports of commodities to the international markets is through opening of irrevocable letter of credit (L/C).

The text -book definition is that L/Cs are written undertakings issued by the importer’s commercial bank in favour of the seller/exporter (the beneficiary) at the request and in accordance with the instructions of the buyer (the applicant), to effect payment up to a stated amount within prescribed time limit and against stipulated documents.

Since the procedure of conducting foreign trade and its payment system varied from country to country the International Chamber of Commerce (ICC) in consultation with all the member countries including Pakistan has prescribed comprehensive rules for payment system of foreign trade in a publication called ‘uniform customs and practice (UCP-500) for ‘documentary credit’.

Another publication, namely International Standard Banking Practice (ISBP) has been issued by the ICC Banking Commission which is used by commercial banks for proper examination of documents submitted by the importer/exporter as required under the documentary credits (credits) rules.

Under the mode of export finance through documentary credit, the exporters in developing countries including Pakistan seem to be quite comfortable as the risk of non-payment by buyer is mitigated by a conditional bank guarantee for payment to the beneficiary. Since all the ‘credits’ are irrevocable terms of payment or other conditions laid down in shipping and or financial documents attached with the credit cannot be amended or revoked without the prior and written approval of the concerned parties.

Apart from exporters, governments in developing countries like Pakistan, too, has been preferring to conduct foreign trade through ‘credit’ as the export receipts were guaranteed and they were the major source of building foreign exchange reserves in the country.

On the contrary, in developed countries the perception of the exporters / importers and also the commercial banks about ‘credit’ has been changing at a faster rate. Their contention is that under the UCP 500 Rules, financial institutions using the documentary credit know that as long as documentation is compliant, reimbursement is guaranteed. The applicant i.e., the importer bears the risk of any ambiguity in its instructions to issue or amend a ‘credit’.

In USA and the EU markets, the importers who happen to be the major buyer of merchandise from developing countries including Pakistan are more inclined to do business on ‘open account’ (O/A) basis as they consider this method is cheaper and relatively easy to handle compared with the transactions backed by ‘credit’.

Under the O/A mode of payment goods are shipped to the importer, and the relative documents are also sent directly to the importer. The importer agrees to pay at an agreed date. Obviously under this payment system exporter is fully exposed to the risk of non- payment by the importer as no tangible form of security is available as was in the case of ‘credit’ mode of payment.

Here comes the role of Export Credit Insurance which has been gaining worldwide recognition, both by banks and the firms dealing in foreign trade. All types of risks, commercial (non-payment by the buyer) and non-commercial (country risk) are covered by the internationally renowned and reputable credit insurance companies which have a large net-work of their agents and subsidiaries across the globe.

Apart from the US and European based credit insurance companies, an affiliate of Islamic Development Bank namely the Islamic Corporation for Insurance and Investment and Export Credit (ICIEC) has been in the credit insurance business since 1992. The ICIEC provides export credit insurance to exporters of OIC member countries who are exporting to both member and non- member countries.

In Pakistan, exporters as well as regulators of foreign exchange will have to work hard to adopt gradually the proposed market based mode of payment i.e. ‘open account’. There is no denying the fact that the process of deregulating the economy does not end at one particular point.

The foreign trade sector has always been considered a dynamic sector. It is the duty of the regulating authorities in the present case, the MoF and the SBP, who are the authors and the custodian of the foreign exchange rules, to examine as to how far these outdated rules are in conformity with the requirement of rapidly changing world.

The legacy of subsidies in different forms has not been only an undue burden on the national exchequer that has also been acting as a deterrent in the process of diversification of our foreign trade.

For instance, under the Export Finance Scheme (EFS), an exporter is eligible to avail concessionary finance only against an irrevocable L/C, because the existing Foreign Exchange Rules do not authorize banks to even accept application form which is not backed by an irrevocable L/C.

Exporters are therefore constrained to do business only against one mode of financing and that is irrevocable L/C. In the existing WTO environment the foreign trade can survive when both regulators and exporter/importers are ready to assume risks and go with the wind.

While the efforts to upgrade the quality of exports should continue as the quality product always fetch a better price in the market, exporters should also be allowed and supported by regulators to interact with those foreign clients, as well who are desirous to do business on other mode of financing other than the traditional mode based on irrevocable L/C.

For the purpose of smooth flow of foreign trade, concerned regulators should make necessary amendments in the relevant Foreign Exchange Rules to accommodate export finance on ‘open account’ basis after taking due safeguards to protect the foreign exchange.