Trade Finance

The Case for a Partnership Between Trade Credit Insurers and the U.S. Government

Lack of support for the trade credit industry means eliminating a safety net that keeps many businesses going.

A lifeguard on a beach, a spare tire in the trunk, and a bicycle helmet. What do these three things have in common? If you were to ask me, I’d say these are things that keep us protected if something were to go wrong. We might not think about or even appreciate them on a daily basis, but we are certainly grateful they are around when we need them. For many of us, their very presence gives us the comfort to carry on swimming, driving, and riding our bikes, when we otherwise might think twice.

Trade credit insurance (TCI) is, to the global economy, one of those silent protectors. We can even go as far as calling it the silent engine of the economy. TCI is used to protect a company’s accounts receivable against customers unable to pay due to insolvency, nonpayment, political risk, or some combination of the three. It can also be leveraged with financial institutions to provide increased cash flow and funding solutions.

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Globally, TCI supports nearly $3 trillion in trade each year. In the United States, tens of thousands of companies use credit insurance to support their trading operations, with $600 billion in business-to-business transactions covered each year. It is particularly useful to small and medium-size businesses, where just one major non-payment event can place their stability in grave danger.

In the United States, small and medium-size businesses comprise more than 60% of TCI customers. For these companies, credit insurance is an integral part of their credit management strategy. Doug Konop, CFO at Pacific Northwest lumber wholesaler Specialty Forest Products, says:  “I look at credit insurance as a strategic advantage, not only for our company but for our industry as a whole. Recovery is only going to go quicker if everyone extends more credit.”

Economic Uncertainty

Credit insurers continuously monitor the creditworthiness of the companies they insure, analyzing key factors including debt, liquidity, country, and sector risks. As economic parameters change, credit limits are regularly adjusted — upward and downward — as a normal part of the credit monitoring process. In the face of the COVID-19 crisis, as in other times of economic uncertainty throughout history, credit insurers will reduce credit limits in high-risk sectors or stop covering those sectors altogether. Companies will be limited in their ability to safely offer terms or have adequate cash flow, and liquidity in the U.S. supply chain will be significantly reduced.

Governments around the world have taken action to support TCI’s key role in the supply chain. In Europe, nations like France have partnered with TCI providers and offered reimbursement to insurers for payments to suppliers whose buyers have defaulted. In Canada, the government has expanded powers of Export Development Canada (their export credit agency) that will enable it to provide emergency liquidity for companies through private credit insurers. Government-supported schemes are under development in more than 20 other countries, including Germany, Denmark, Belgium, and the Netherlands.

In the United States, though, no such protective action has been taken, and that poses a major threat to the economy in a time when it is already facing unparalleled challenges.

Failure to Support TCI

Lack of support for the industry means eliminating a safety net that keeps many businesses going. If a widget maker in the U.S. knows he needs to sell 1,000 widgets to function but is unsure if his company will receive payment, he may choose to shutter his business and lay off his employees — only adding to rapidly rising unemployment levels and falling corporate gross domestic product. This prevents a U.S. business from competing with a similar widget-maker in Germany, who continues to sell her product knowing her receivables are backed by both her TCI provider and the federal government.

It’s important to note that TCI is a critical part of the credit system in the United States. TCI coverage provides an inexpensive fail-safe to financial institutions. Much like when a mortgage or auto lender is named as an insured on your homeowner’s or auto policy, a lender can be named as a loss payee on a TCI policy issued to a small or medium-size business. This coverage allows the lender to make additional loans on better terms.

Essentially, credit insurers are providing banks the cover they need to insure the advances that they’re making against the receivables of their customers. When TCI coverage is reduced, those banks, in part, stop lending the money that keeps these businesses running and the U.S. supply chain supported.

Credit insurance also provides an important source of capital. Coverage from an AA-rated credit insurer makes a business’s receivables more valuable. Banks will typically advance 70% to 80% toward domestic receivables and often won’t advance anything toward foreign receivables.

When covered by TCI, banks will loan up to the 90% indemnity amount due to the carrier bearing the risk of the asset. On a $1 million line of credit, that means a business has access to as much as $100,000 more working capital — funds that can make the difference between laying off workers or continued growth. Overall, TCI enables U.S. companies to borrow approximately $34 billion against domestic and foreign receivables.

On average over the past 20 years, trade receivables have accounted for about 17% of all nonfinancial assets on the balance sheets of U.S. businesses. While trade credit insurance is important on a global scale, it is just as significant when it comes to the U.S. economy: In the U.S., 81% of TCI covers domestic transactions — underscoring the importance of the industry to bolster liquidity and capital in the supply chain.

Supporting Trade Credit

Supporting trade credit insurance means protecting businesses and jobs in a time of crisis. I am not alone in this belief, which is why I have joined industry leaders including Scott Ettien, EVP of financial solutions and global head of trade credit at Willis Towers Watson, and key groups, including the International Trade and Forfaiting Association (ITFA), to bring to light the importance of trade credit insurance and its role.

We believe that government support for trade credit insurance is vital to the continuity of economic activity. Similar to the efforts deployed in 2008 and 2009 to mobilize sufficient flows of trade, countries around the world are now developing government-backed schemes that enable credit insurers to continue providing coverage to businesses during the COVID-19 pandemic. It is our hope that the United States government will partner with TCI leaders to develop a program to help businesses survive and preserve corporate GDP as we exit this extraordinary health and economic crisis.

James Daly is CEO of Euler Hermes Americas.