Possible Advantages of Clearing Arrangements

A key argument often advanced in support of establishing a regional clearing facility is that the working balances in convertible currencies held by each country could be reduced, since convertible currencies would be used only for settlement of net balances at the end of each settlement period. However, the possible saving is frequently exaggerated. The argument is valid to the extent that deficits with one country or group of countries are offset by surpluses with others. Still, as already noted, trade in the Eastern and Southern African region tends to be unbalanced, with certain countries having substantial trade surpluses not with just one or a few of their regional trading partners but with nearly all of them. As may be seen in Table 9, the ratio of compensable trade to total intraregional trade varies considerably among countries, and averages 34 per cent for the region as a whole. Thus, roughly two thirds of intraregional trade could not be compensated under a clearing facility, given the unbalanced trade patterns in the region, and would continue to be settled in convertible currencies.²⁴

Table 9.

Preferential Trade Area Countries: Trade Turnover, Compensable Trade, and Net Balance to Settle, 1979

(In millions of U.S. dollars)

Source: Table 3.

¹Compensable trade is defined as two times the value of exports or imports, whichever is lower, and represents trade flows that cancel each other and do not require settlement in convertible currencies.

²Sum of the absolute values of deficits and surpluses.

³The sum of regional trade surpluses is less than the sum of trade deficits because imports are reported CIF and exports are reported FOB and because of timing differences.

Table 9.

Preferential Trade Area Countries: Trade Turnover, Compensable Trade, and Net Balance to Settle, 1979

(In millions of U.S. dollars)

Country		Total Regional Trade (Exports Plus Imports)	Compensable Trade1	Net Trade Balance to Settle
Angola		5.6	0.8	−4.8
Botswana		12.0	9.6	−2.4
Comoros		4.4	1.2	−3.2
Djibouti		34.3	13.8	−20.5
Ethiopia		38.2	20.4	17.8
Kenya		180.9	33.6	147.3
Lesotho		—	—	—
Madagascar		6.5	6.0	−0.5
Malawi		17.6	16.8	−0.8
Mauritius		21.8	9.4	−12.4
Mozambique		28.4	18.2	−10.2
Seychelles		8.3	0.6	−7.7
Somalia		23.2	1.6	−21.6
Swaziland		3.6	2.8	0.8
Tanzania		72.6	40.6	32.0
Uganda		130.3	7.2	−123.1
Zambia		56.1	36.0	−20.1
	Total	643.8	218.6	425.22
			Of which:
			Net surpluses	197.9
			Net deficits	227.33

Source: Table 3.

¹Compensable trade is defined as two times the value of exports or imports, whichever is lower, and represents trade flows that cancel each other and do not require settlement in convertible currencies.

²Sum of the absolute values of deficits and surpluses.

³The sum of regional trade surpluses is less than the sum of trade deficits because imports are reported CIF and exports are reported FOB and because of timing differences.

View Table

Table 9.

Preferential Trade Area Countries: Trade Turnover, Compensable Trade, and Net Balance to Settle, 1979

(In millions of U.S. dollars)

Country		Total Regional Trade (Exports Plus Imports)	Compensable Trade1	Net Trade Balance to Settle
Angola		5.6	0.8	−4.8
Botswana		12.0	9.6	−2.4
Comoros		4.4	1.2	−3.2
Djibouti		34.3	13.8	−20.5
Ethiopia		38.2	20.4	17.8
Kenya		180.9	33.6	147.3
Lesotho		—	—	—
Madagascar		6.5	6.0	−0.5
Malawi		17.6	16.8	−0.8
Mauritius		21.8	9.4	−12.4
Mozambique		28.4	18.2	−10.2
Seychelles		8.3	0.6	−7.7
Somalia		23.2	1.6	−21.6
Swaziland		3.6	2.8	0.8
Tanzania		72.6	40.6	32.0
Uganda		130.3	7.2	−123.1
Zambia		56.1	36.0	−20.1
	Total	643.8	218.6	425.22
			Of which:
			Net surpluses	197.9
			Net deficits	227.33

Source: Table 3.

¹Compensable trade is defined as two times the value of exports or imports, whichever is lower, and represents trade flows that cancel each other and do not require settlement in convertible currencies.

²Sum of the absolute values of deficits and surpluses.

³The sum of regional trade surpluses is less than the sum of trade deficits because imports are reported CIF and exports are reported FOB and because of timing differences.

The size of the possible saving of convertible currency balances is related also to the share of intraregional trade in total trade. In the Eastern and Southern African region, this proportion is quite low (less than 4 per cent in 1979). In addition, working balances held in convertible currencies for trade settlement purposes are only a small portion of a country’s total foreign exchange reserves, and a fractional reduction in these is unlikely to reduce the need to hold foreign reserves. For these reasons, the beneficial impact of a multilateral clearing scheme on convertible currency working balances will probably be minimal. Moreover, the clearing facility would not reduce the need to hold foreign exchange reserves for balance of payments reasons—that is, it would not affect the balance between overall foreign exchange receipts and payments over a period, but only the timing of some receipts and payments within that period.

Another argument advanced for a regional clearing arrangement is the saving in the cost of effecting intraregional settlements that would accrue to individual traders. A saving arises from a reduction in the number of conversions. As already noted, the invoicing of intraregional trade in convertible currencies such as the U.S. dollar requires traders to bear the cost of conversion from the importer’s currency to U.S. dollars, and from U.S. dollars to the exporter’s currency. If trade under a clearing arrangement were invoiced in either trading partner’s currency, the cost of conversion at one end would be saved. The cost of conversion, however, is not a significant proportion of the value of the underlying payment. Another saving concerns fees and commissions (other than the exchange spread) charged by banks. According to information the staff team obtained in the field, bank fees and commissions generally are not higher for intraregional settlements than for other payments. On the whole, there are unlikely to be very significant direct savings in transaction costs under a clearing facility. Apart from this, there might conceivably be an indirect benefit if a clearing facility induced greater confidence among traders in the regional payments system and thereby indirectly encouraged them to shift away from settlements under letters of credit to other, some-what less costly methods of payment (such as settlements under clean bills for collection).

A related argument sometimes advanced is that settlements under regional clearing arrangements would avoid payment of certain charges and commissions to banks in London or New York. The staff team was unable to identify any specific charges on individual intraregional transactions (apart from the conversion charges already mentioned) that are levied by New York or London banks in their dealings with their own branches, subsidiaries, of correspondents in the region, even when the invoicing and settlement take place through New York or London in convertible currencies. The bank services most frequently used for effecting intraregional payments involve the payment of charges to banks located in the region itself. Occasionally, special services performed by a foreign bank for a regional bank with which it does not have a correspondent relationship involve a special charge. An example of such charges would be the small charge levied for transferring funds from the account of the paying bank to the account of the receiving bank. However, as already noted, most intraregional settlements are likely to be undertaken by correspondent banks under standing arrangements. Another charge payable to nonregional banks may be for letters of credit confirmed by them.

A further argument for the creation of a regional clearing facility is that it would promote the use of regional currencies. As already mentioned, this could result in some saving in the cost of settlements. If, however, channeling of transactions through a clearing facility were not mandatory, use of regional currencies would depend on whether traders became more confident about receiving payments on time. This, in turn, is related to the efficiency of the clearing mechanism itself, as well as the policies pursued to promote confidence in the currencies of each trading country.

Possible Difficulties

As already noted, most countries in the region maintain exchange and trade restrictions, although their severity varies. Most payments restrictions in the region are, however, nondiscriminatory. Two countries maintain no exchange controls. A regional clearing facility that entailed the introduction of payments restrictions or discriminatory currency arrangements would not find general acceptance in the region. Such restriction or discrimination might arise, for example, if channeling of transactions through the facility were mandatory in countries with no exchange control. Similarly, payments systems might become more restrictive, and therefore hamper and distort trade, if the facility led to the buildup of inconvertible foreign assets. However, these difficulties could be avoided by making the new facility flexible and not obliging traders to channel transactions through it. The parallel existence of more than one channel for effecting intraregional settlements would avoid undue rigidity in making payments. A liberal and open clearing arrangement would also benefit other countries, especially those in balance of payments difficulties, as it would help ensure that trade flows did not get distorted in such a way as to lead to their importation of costly or poor quality goods produced within the region.

It is sometimes mentioned that channeling of regional trade through a clearing arrangement could have an adverse effect on the availability of financing to regional banks from banks abroad, such as the lines of credit or overdraft facilities that may be obtained from banks with which compensating foreign exchange balances are maintained. This argument does not, however, appear to have general validity, as no banker interviewed appeared to be concerned about the loss of financial accommodation in New York or London, given the low volume of intraregional trade. A related point concerns the availability of external trade credit to a regional importer. To the extent that a clearing facility remained simply an alternative method of channeling settlements, rather than a means for influencing the direction of trade, it would not necessarily reduce available trade financing for the bulk of the region’s trade, which would continue to be with traditional trading partners outside the region. A clearing arrangement would not preclude the establishment of a separate regional export financing and/or credit insurance facility, the absence of which is often cited as an obstacle to intraregional trade expansion.

A point that has a bearing on the attractiveness of a clearing facility proposal is that net creditors in a multilateral system tend to have reservations about accepting very long settlement periods. At the same time, it is in the interest of net debtors to seek to extend the settlement period. However, it is obvious that a clearing facility cannot serve as an instrument of balance of payments financing and that the provision of medium-term credit must be considered separately from the clearing facility itself. In some regions, multilateral clearing facilities are associated with credit facilities designed to help finance net debtor positions. The Caribbean Community (CARICOM) Multilateral Clearing Facility enables a member to defer settlement of up to 50 per cent of its net debtor position to the following settlement period. Under the Multilateral Financial Assistance Agreement among 12 Latin American countries (known as the Santo Domingo Agreement), a member may draw upon lines of credit made available by other members up to an amount not exceeding its deficit with partner countries in the clearing system in the previous settlement period. In both cases, other criteria—including fixed limits on each participant’s credit limits—are also applied. However, the establishment of a credit facility does not presuppose the existence of a clearing scheme; for example, the balance of payments credit facilities of the Arab Monetary Fund and of the Andean Reserve Fund do not involve the operation of any multilateral clearing system.

A specific concern that has arisen recently is that unfamiliarity with the procedures and mechanisms involved in channeling transactions through a clearing facility could result in delays, which would tend to undermine the facility’s objective of promoting intraregional trade and payments. In this context, careful study of the experience of the West African Clearing House, which encountered certain delays, could be helpful in enabling PTA countries to devise efficient and easily understandable procedures. Furthermore, as already mentioned, voluntary channeling through the new facility would, in effect, help ensure that any unavoidable delays in processing payments did not hamper trade.

Coverage

Participation should be based on the principle that inclusion of natural regional trading partners in a broad-based facility would help ensure its success. The specific country composition of participation would, of course, be a matter of negotiation and national choice. However, countries with either virtually nonexistent or highly imbalanced intraregional trade are unlikely to benefit significantly from participation. Also, a number of African countries that are not included among the “Eastern and Southern African states” have relatively important trading links with countries currently participating in the PTA negotiations. The benefits of including them in a clearing facility should be considered.²⁶

Given the virtual nonexistence of intraregional transactions other than for trade and related freight, insurance, transport, etc., capital transactions could be excluded from the scope of the facility. Among the trade and trade-related transactions to be covered, exceptions should be as few as possible. In some regional clearing facilities, payments related to the supply of petroleum and petroleum products are excluded from the scope of regional clearing.

Although it might appear that mandatory channeling of payments through the clearing scheme would promote maximum use of the facility, allowing voluntary use by traders would probably prove more advantageous. By retaining alternative methods of settlement, the authorities would help to ensure wider acceptance of the new facility among traders, since the facility would have to provide a channel for settlements that was at least as efficient as the present system or it would not be used. Also, an optional facility would be less likely to disrupt intraregional payments in its initial stages. Phasing out of any existing arrangements contrary to the objectives of the new facility would also be easier under a flexible system.

Unit of Account and Exchange Rate Guarantees

The clearing facility would post debit and credit items to reflect transactions among participants in a unit of account acceptable to the parties concerned. Both the Asian Clearing Union and the West African Clearing House use a unit of account based on the SDR that seems suitable for a relatively diverse group of countries whose currencies are pegged to different currencies or baskets of currencies. The unit of account in the CARICOM Multilateral Clearing Facility and the Central American Clearing House is based on the U.S. dollar, to which participants’ currencies are generally pegged. Procedures could be worked out for possible changes in the unit of account if these were warranted.

As regards invoicing, two alternatives are available—(1) mandatory invoicing in the unit of account, or (2) invoicing in either the unit of account or in one of the trading partners’ currencies, at the option of the traders. The first method of invoicing would simplify the clearing house’s bookkeeping but would also require traders and banks to be thoroughly familiar with the unit of account being used. The second alternative would avoid possible discouragement of traders but would also necessitate reaching a detailed agreement on the valuation of invoices denominated in regional currencies in terms of the unit of account for compensation and settlement purposes.

As each participating country would retain the freedom to determine its own exchange rate and pegging policy, the arrangement should contain provisions safeguarding each country’s claims on the others in the event of an exchange rate adjustment by one country vis-a-vis the unit of account. The general principle should be that in the event of an exchange rate adjustment, all outstanding claims would be settled among participants at the previous exchange rate. Provisions would also have to be worked out for determining what constituted an exchange rate adjustment, since with the different pegging practices used for different regional currencies, some day-to-day fluctuations in cross exchange rates between regional currencies would be inevitable. In the long run, adoption of a common currency or basket for pegging the region’s currencies would be helpful in promoting exchange rate stability between the regional currencies while simplifying the accounting involved in clearing operations.

Channeling Procedures

In a typical transaction, the exporter would be reimbursed by his bank upon presentation of valid documentation. Subsequently, the exporter’s bank would obtain reimbursement from its central bank, which, in turn, would receive a credit from the clearing facility. The account of the importer’s central bank would be debited in the same amount. The latter would be reimbursed by the importer’s commercial bank and, ultimately, by the importer himself. It would be essential to work out precise procedures as to the timing and sequence of notifications involved in this process, in order to ensure that the exporter was paid in local currency at least as promptly under the clearing arrangement as under normal commercial practice. The responsibility of the parties to the transaction in the event of failure of the importer or his bank to reimburse the central bank in the importing country and related procedures for reversing the transactions in the clearing facility’s books would also need to be spelled out.

At the end of an agreed settlement period, the debit and credit positions of each of the participating countries would be offset and the clearing facility would strike the net position of each participant vis-a-vis the others. Settlement of net positions would initially be made at relatively short intervals, such as one month. As experience was gained, the settlement period would be gradually lengthened. A short settlement period would be desirable initially, since it would encourage wider country coverage.

Interim Credit Limits

In most clearing arrangements, limits are placed on each participant’s net debtor positions and net creditor positions. The purpose of the limits is to enable only settlements up to those amounts to be postponed to the end of the interim period between settlement dates. If, between two settlement dates, a participant’s net debtor position exceeds the previously agreed limit, that country is required to pay the excess in convertible currencies to the net creditors in the system in proportion to their creditor positions. If, on the other hand, a participant’s net creditor position exceeds a certain limit during the interim period, it has the right to request or to receive payment of the excess by the net debtors in proportion to their debtor positions. It may be desirable to deal with the eventuality that at certain times between settlement dates, creditors may have the right to obtain payment of excess over net creditor limits, but the corresponding debtor positions may be apportioned in such a way as to remain below the net debtor limit of each debtor participant. This could be done by setting up a special fund in the name of the clearing facility to meet such demands of net creditors. In any event, on each settlement date, all net positions would be settled. If it were desired to introduce a bilateral or multilateral credit facility in conjunction with the clearing arrangement, provision could be made, for example, for the net debtor position of a country seeking financial accommodation to be settled by drawing down a medium-term line of credit negotiated separately for this purpose.

The net debtor and creditor limits may be determined as absolute amounts negotiated among the participants, or as percentages of actual or estimated intraregional trade flows. The latter method of fixing limits should be preferred, since it would result in automatic periodic revision when warranted by new information or shifts in trade flows.

The purposes of the facility might also be served by omitting the interim credit limits altogether, since it could be argued that with a settlement period of about one month, net positions could not, in any case, become greatly unbalanced. The administrative burden of making too frequent calculations of net positions could also thereby be avoided.

Other Features

In order to generate confidence among members of the trading community and banks, it might be helpful to include provisions whereby individual payments channeled through the clearing facility were backed by the guarantee of the central bank or the government of the participating country. Other substantive provisions of the facility would encompass: (i) payment of interest to participants with net creditor positions; (ii) definition of acceptable instruments for channeling payments through the scheme; (iii) steps to be taken in case of default by an importer, a bank, or a central bank; (iv) means of ensuring consistency with existing international obligations of participants, such as the Fund’s Articles of Agreement; and (v) choice of a central bank to perform the clearing function.