A Theory of Domestic and International Trade Finance
Emerging Market Finance: New Challenges and Opportunities
ISBN: 978-1-83982-059-5, eISBN: 978-1-83982-058-8
Publication date: 28 September 2020
Abstract
This chapter provides a theory model of trade finance to explain the “great trade collapse.” The model shows that, first, the riskiness of international transactions rises relative to domestic transactions during economic downturns; and second, the exclusive use of a letter of credit in international transactions exacerbates a collapse in trade during a financial crisis. The basic model considers banks’ optimal screening decisions in the presence of counterparty default risks. In equilibrium, banks will maintain a higher precision screening test for domestic firms and a lower precision screening test for foreign firms, which constitutes the main mechanism of the model.
Keywords
Acknowledgements
Acknowledgments
The author especially grateful to Don Davis, Amit Khandelwal, and David Weinstein for their constant encouragement, and thank to Pol Antràs, Mariana Colacelli, Alexander McQuoid, Marge Miller, Mika Saito, Tim Schmidt-Eisenlohr, Yoichi Sugita, Eric Verhoogen, Jon Vogel, Anna Watson, and seminar participants at various institutions for their very helpful comments.
Citation
Ahn, J. (2020), "A Theory of Domestic and International Trade Finance", Jeon, B.N. and Wu, J. (Ed.) Emerging Market Finance: New Challenges and Opportunities (International Finance Review, Vol. 21), Emerald Publishing Limited, Leeds, pp. 203-229. https://doi.org/10.1108/S1569-376720200000021012
Publisher
:Emerald Publishing Limited
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