In which countries are Standby Letters of Credit (SBLC’s) used, and why specifically in these countries?
A Standby Letter of Credit, SBLC, is used in almost every country in the world, however they are mainly used to replace Demand Guarantees (URDG 758) in the far east and the USA, whilst Europe favour the separation of the Letter of Credit (a means of payment) and a Guarantee (a security for a payment), whilst the SBLC acts as both.
It is a globally used financial instrument. A SBLC underpins international trade. However, it must be remembered in some countries SBLC’s may be deemed worthless. Before moving on, we should define a Standby Letter of Credit.
A standby letter of credit is a bank instrument used for trade finance. It is a payment of last resort. It represents a contract between a buyer and a seller. The buyer is the provider of the standby letter of credit. The seller is the beneficiary of the standby letter of credit. The seller is therefore protected if the buyer does not honour their fiduciary duty.
Why are some SBLC’s Deemed Worthless?
Worthless may seem a touch harsh. However, some banks do not have the balance sheet to cover payments on SBLC’s. Other considerations maybe political or monetary policy. It can be taken for granted that SBLC’s issued in G7 and some G20 countries are worth the stated value. The G7 are the seven top economies in the world.
For more information of members of the Guarantee and G20, please see The G7 and G20 in the Global Governance Landscape document.
The reason that G7 SBLC’s are valued so highly is that their banks have a high credit rating. The countries have a high sovereign risk rating. This means that the indigenous banks are considered good for their commitments.
However, some countries have a low sovereign risk rating. Consequently, their banks have low or no credit ratings. Therefore, any SBLC’s issued by these banks are considered not good for their commitments.
Who will Accept a Standby Letter of Credit from a Bank with a Low or No Credit Rating
On average no seller in their right mind would accept a SBLC with a low credit rating. There is of course a way around this problem. Many banks with low credit ratings have correspondent banks. Many of these correspondent banks have high credit ratings.
The bank issuing the SBLC can ask the correspondent bank to CONFIRM the SBLC. This means that the correspondent bank will pay a claim if the issuing bank fails to pay. Alternatively, the issuing bank can ask the correspondent bank to issue the SBLC on their behalf. The issuing bank must have sufficient funds on account with the correspondent bank.
Global Overview of SBLC’s
It has been established that SBLC’s are used in most countries of the world. The global network of banks ensures that International Trade is supported through SBLC’s. We have established how countries and banks with bad credit ratings can still issue SBLC’s. It is all about international trade. This is specifically why most countries utilise and allow SBLC’s.