What are the various forms of countertrade?

Countertrade is inherently an ad hoc activity - practice varies according to local regulations and requirements, the nature of the goods to be exported and the current priorities of the parties involved. Also, the terms used to describe the main modes of trading vary, often interchangeably causing confusion. However, the most common forms of countertrade and the terms most usually applied are as follows:

Offset

Offset has traditionally been used by governments around the world when they have made major purchases of military goods but is becoming increasingly common in other sectors. There are two distinct types:

  1. direct offset: here the supplier agrees to incorporate materials, components or sub-assemblies which are procured from the importing country. In some large contracts, successful bidders may be required to establish local production. Direct offset has been particularly common for trade in defence systems and aircraft.
  2. indirect offset: here the purchaser requires suppliers to enter into long term industrial (and other) co-operation and investment but these are unconnnected to the supply contract and may be either defence related or in the civil scctor.
The overall objective of offset either direct or indirect in the defence sector is generally to promote import substitution and to minimise the balance of payments deficit for military purchases by develojiing an indigenous industrial defence capability.

The objective of stimulating civil investments is to increase, diversify and support the industrial base. These investments may be in manufacturing ventures, infrastructure, or training, and may be totally different in nature to the original sale (e.g. investment in a chipboard factory might be used to offset the sale of aeroengines).

Counterpurchase

In a counterpurchase agreement,a foreign supplier undertakes to purchase goods and services from the purchasing country as a condition of securing the order. There will be a contract for the principal supply, paid on normal cash or credit terms - and there will be a separate agreement to cover the counterpurchased goods (also bought on normal cash or credit terms). The counterpurchase agreement can vary from a general declaration oF intent, to a binding contract specifying the goods and services to be supplied, the markets in which they may be sold, and the penalties for non-performance. The value of the counterpurchase undertaking may vary in value between 10% and 100% (or more) of the original export order.

Counterpurchase is generally imposed for two reasons: first, to stimulate exports and second, to alleviate the balance of payment deficit resultinig from imported goods.

Tolling

Manufacturers in regions such as the Former Soviet Union may sometimes be unable to service customers because they lack the foreign exchange to buy raw materials. In a tolling deal, a supplier himself provides the raw material (steel ingots, say) and hires capacity of the factory to turn it into finished goods (e.g. steel tubes). These are then bought by a final customcr who pays the supplier in cash - throughout the process the supplier retains ownership of the material as it is processed by the factory.

Barter

In a barter deal, goods are exchanged for goods - the principal export is paid for with goods (or services) from the importing market. A single contract covers both flows and in the simpler case, no cash is involved. In practice, however, the supply of the principal export is often released only when the sale of the bartered goods has generated sufficient cash.

Barter is often the main means of trading in subsistence economies and in cross border trade in undeveloped regions of the world. More developed markets use it in international trade where they have commodities to offer. which are accessible to world markets. Barter may also be introduced into existing contracts to recover debts i.e. when the original payment terms have failed.

Buyback

Here, suppliers of capital plant or equipment agree to be paid by the future output of the investment concerned. For example exporters of equipment for a chemical plant may be repaid with part of the resulting output from the factory. This practice is most common with exports of process plant, mining equipment and similar orders. Buyback arrangements tend to be much longer term and for larger amounts than counterpurchase or barter deals.

Switch Trading

Imbalances in long term bilateral trading agreements sometimes lead to the accurmulation of uncleared credit surpluses in one or other country, For example, Brazil at one time had a large credit surplus with Poland. These surpluses can sometimes be tapped by third countries so that, for example UK exports to Brazil could be financed from the sale of Polish goods to the UK or elsewhere. Such transactions are known as ‘switch' or ‘swap' deals because they typically involve switching the documentation (and destination) of goods on the high seas.

Whilst there are various forms of countertrade, deals seldom fit these categories precisely. It is not unusual for a large export deal to involve several countertrade arrangements - for example, some long term buyback plus counterpurchase or barter to finance initial down payments.

Who countertrades and why: some recent trends

There are four main reasons why countertrade is used:

  1. to enable trade to take place in markets which are unable to pay for imports. This can occur as a result of a non-convertible currency, a lack of commercial credit or a shortage of foreign exchange;
  2. to protecr or stimulate the output of domestic industries (including agriculture and mineral extraction) and to help find new export markets
  3. as a reflection of political and economic policies which seek to plan and balance overseas trade
  4. to gain a competitive advantage over competing suppliers.