Trade Credit versus Trade Finance – Is there a difference?

This is a confusing area and unfortunately many in the industry use these terms interchangeably. As theBank for International Settlementsdescribes in their paper “Trade finance: developments and issues”:

the term “trade finance” is generally reserved for bank products that are specifically linked to underlying international trade transactions (exports or imports). As such, a working capital loan not specifically tied to trade is generally not included in this definition. Trade finance products typically carry short-term maturities, though trade in capital goods may be supported by longer-term credits.

Banks support international trade through a wide range of products that help their customers manage their international payments and associated risks, and provide needed working capital. These include products like Letters of Credit, specific trade loans tied to letters of credit, supply chain finance, factoring, invoice discounting, etc.

Trade Credit isinter-firm trade creditbetween buyers and sellers. Banks tend to refer to this as open account transactions, where goods are shipped in advance of payment, andcash-in-advance transactions, where payment is made before shipment.

Most companies may not realize that by providing goods and services to Buyers, their payment terms provide a form of a loan to the Buyers. This loan, or Trade Credit, can be the largest user of capital for most businesses.Customer demand for trade credit requires sellers to provide free and flexible funding for their customers. This is called “Giving customers a free loan!”

Who funds this trade?Banks are the main third party source of financing for corporate trade, but intermediate roughly 15% to 20% of trade credit. Our analysis has shown most of trade credit is not intermediated directly and remains on corporate balance sheets (in the form of trade receivables).

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