COUNTERTRADING

Countertrading refers to a category of international trade in which an exporter agrees to accept payment in the form of goods or services. There are many forms of countertrading, ranging from simple barter agreements to complex offset deals that involve the exporter agreeing to compensatory practices with respect to the buyer. Countertrading commonly takes place between private companies in developed nations and the governments of developing countries, although countertrading also occurs between developed nations. It has become popular as a means of financing international trade to reduce risks or overcome problems associated with various national currencies.

TYPES OF COUNTERTRADE
TRANSACTIONS

Barter involves the exchange of goods or services of equal value without the use of currency. If the exchange does not take place simultaneously, then some financing is usually involved. Although bartering is the oldest and simplest form of countertrading, it is not often used in modem corporate countertrading. It is difficult to structure and inefficient, because it requires matching needs between buyers and sellers. In some cases a barter may be accepted by an exporter as substitute payment when financing arrangements fall through. The exporter may use the services of a trading company to find a market for the bartered goods if it has no need for them.

Variations on the simple barter include the closed-end barter, which involves finding a third party who will purchase the goods as part of the agreement. In a deferred barter, there is a delay between the two shipments of goods or performances of services. When barters do occur, they are usually for one-time, spot transactions and are covered under one contract. They typically include some form of financing to cover delays in shipments and differences in the value of the goods or services being exchanged. Countries that are attempting to increase their hard currency earnings may impose restrictions, such as higher export tariffs, designed to reduce barters and other countertrading in marketable commodities.

Buybacks are a more complicated form of countertrading that involve two separate contracts. Buybacks typically take place between a private corporation from a developed country and the government (or government agency) of a developing nation. Under the first contract of a buyback arrangement, the exporting private corporation agrees to provide a production facility or other type of capital goods to the developing nation. Then, under the second contract, the developing nation repays the exporting private corporation with output produced at the facility or derived from the originally exported capital goods. The exporter, in effect, buys back the output of the facility it has constructed.

Buybacks are used to finance direct investment in developing countries. They are popular because they meet the needs and objectives of both parties. From the developing country's viewpoint, buybacks expand the country's export base, provide employment, and help it meet its goals for industrialization and development. From the point of view of a private corporation, the buyback may help it gain a market presence in the country and provide it with a source of products it can use or sell. If the particular output of the facility is not needed by the corporation, it can involve a third party to help it meet its countertrade obligations.

Buyback agreements often extend beyond the simple exchange of capital goods or production facilities and their related output. In order to win the contract for a specific facility, the private corporation may agree to provide the developing nation with a variety of other types of assistance, including loans, technology transfer, personnel training, plant operation, and joint ventures. Such arrangements can be attractive to corporations for a variety of strategic and marketing reasons.

A compensation trade is one in which an exporter and importer agree to make reciprocal purchases of specific goods. The exchange is covered under a single contract. It may or may not take place simultaneously. Each delivery is invoiced in an agreed currency, with payments going either to the supplier or to a clearing account. A third party may be involved to fulfill the purchase commitment of one of the parties.

Two countries that enter into cooperation contract agree to continuous purchases of goods and services from each other. The master agreement may include a series of buyback subcontracts, under which the exporter is paid with products derived from the original export. Another variation of a cooperation contract involves the sale of technical expertise to a joint venture by the exporter, who is then repaid by sales from the joint venture.

A counterpurchase involves two linked transactions that are covered by two separate contracts. Under one of the contracts, the sale of goods between an exporter and importer is negotiated and paid for in a specified currency. The second contract obligates the exporter to purchase goods from the importer at a specified value over a period of time. Unlike buybacks, counterpurchases involve hard currency.

The primary contract usually takes the form of a standard export contract without making reference to any counterpurchase obligations. The secondary contract then binds the exporter to counterpurchase goods from the importer and usually contains provisions designed to protect the exporter. These provisions may allow the exporter to transfer its counterpurchase obligations to a third party. The secondary contract also would typically contain a clause that specifies if the primary sale is canceled, then the exporter is freed from any counterpurchase obligations. A side agreement called a protocol typically links the two contracts.

Offsets originally referred to compensatory transactions involving military equipment and aircraft. Offsets may also involve large civilian transactions. They are a common form of countertrade between two industrialized nations. Offsets may involve a range of compensatory practices that the exporter of military equipment must perform in order to realize the sale of the goods involved.

There are two types of offset deals, direct and indirect. Under a direct offset, the exporter agrees to perform compensatory practices directly related to the product being exported. These practices may include the coproduction or subcontracting of all or part of the goods in the buyer's country. Licensed production is another compensatory practice that involves the overseas production of goods based on the transfer of technical information under arrangements made between a U.S. manufacturer and a foreign government or producer. Technology transfer may also be a part of the offset agreement, taking a variety of forms ranging from research and development conducted abroad to technical assistance provided to a subsidiary or joint venture in the buyer country.

With an indirect offset agreement, the compensatory practices required of the exporter are not related to the goods originally sold abroad. Indirect offsets may involve counterpurchases or buybacks involving unrelated products. They may require the exporter to use or promote the buyer country's services in other areas, such as tourism and travel.

Offset agreements are used by buyer nations to increase employment. Such arrangements also help them achieve their goals in the areas of industrial and export development. Offset trade typically occurs between two governments or between a private corporation and a government.

A switch trade (also known as a switch deal) involves a third party to a countertrade agreement who agrees to assume the countertrade obligations of one of the parties. For example, an exporter may have agreed to counterpurchase goods for which it has no use, simply for the sake of completing the original sale. The exporter may switch its obligation to pay the importer to a third party, who is known as a switch trader, who then acquires the goods from the importer at a discount. The switch trader then sells the goods for hard currency, which is used to meet the exporter's payment obligation to the original importer. Under such agreements the size of the switch trader's discount depends on the importer's need for hard currency.

HISTORY OF MODERN
COUNTERTRADING

Throughout history countertrading and barter occurred whenever there was a shortage of money, or before money even existed. In modern times, countertrading arose as a means of conducting international trade when money was scarce, currencies couldn't be converted, or they were subject to inflationary and deflationary swings in value. In Germany between the two World Wars and after World War II, money was scarce and countertrading and barter became a way of conducting international trade. Eastern European countries followed Germany's lead and employed countertrading to overcome the problems of their own nonconvertible currencies. It was a practice that was favored by the centrally planned Eastern European economies. In the 1990s Eastern Europe and the countries of the former Soviet Union began countertrading with Western nations to overcome difficulties associated with their currencies.

Countertrading became more important in international trade in the 1970s as a result of the oil price increases. It expanded greatly in the 1980s and by the middle of the decade had spread to nearly every country of the world. In the United States military offsets were the most common form of countertrading, accounting for an estimated 80 percent of all U.S. countertrade in 1984. It is difficult to estimate how much international trade is accounted for by countertrading because many deals are made confidentially or in secret. In 1985 it may have accounted for 10 percent of all international trade. During the second half of that decade, interest in countertrading softened as oil prices fell and the international business climate improved. At that time oil was the most countertraded of all the commodities.

COUNTERTRADING IN THE 1990s

Countertrading is firmly established as a method of financing international trade. For developing countries that have hard currency shortages or whose national currencies are not readily convertible to other types of foreign exchange, countertrading offers a means of financing imports. By marketing their import potential to companies in developed nations, developing countries also benefit by finding new export markets.

Suppliers in developed countries who are willing to countertrade have found that it provides them with a competitive edge. By being flexible in the type of payment they are willing to receive, companies that are willing and able to countertrade have a stronger position in competitive bidding for projects involving emerging markets in developing countries. Many such companies are eager to find outlets for their products in emerging markets such as China and Mexico.

Emerging markets in developing countries typically experience swings in the values of their currencies, and they often have strict currency and import controls. Such countries often have to allocate their foreign exchange resources according to a prioritized list of projects and products they wish to import. Countertrading provides a way around such controls. In the case of low-priority imports, suppliers are more likely to win a contract if they are willing to accept some form of countertrade instead of hard currency. Countertrading can also protect supplier corporations from swings in currency values.

In the case of Eastern Europe and the countries of the former Soviet Union, countertrading has played an important role in their international trade in the 1990s. Many of these countries have incovertible currencies, making it difficult to conduct international trade without some form of countertrading. In Russia, for example, the country's banking system has been unable to provide traditional export financing. The most popular form of countertrade with Russia has been buybacks, in which exporters have accepted payment in the form of products derived from the original export.

One of the most publicized countertrades involved Pepsico and the Soviet Union. In exchange for bottles of Pepsi, the company received profits in Stolichnaya vodka and oceangoing freighters and tankers. As part of the deal Pepsico provided the necessary technology as well as new labels and packaging.

While the U.S. government does not officially promote countertrading, official interest in countertrading grew in the 1990s. The Financial Services and Countertrade Division at the U.S. Department of Commerce provides advice to business firms interested in countertrading. The Business Information Service for the Newly Independent States at the U.S. Department of Commerce is a source of information on countertrading with the countries of the former Soviet Union.

Historically, countertrading has expanded when international economies have been sluggish. A global scarcity of hard currency contributed to the growth of countertrading in the 1990s. One expert estimated that countertrading accounted for 40 percent of the world economy in the mid 1990s.