Carriers will benefit from underwriting and exposure management strategies tailored to local markets as cultural approaches to credit and the perceived risk vary across the region
Use of credit insurance in the Asia-Pacific region has grown significantly as more businesses seek protection from buyers that fail to pay.
Growth has been driven by two parallel trends in the region’s trade practices. One trend is the growth of global supply chains, where various components of a product are often manufactured by different firms and where products or their components are frequently bought and sold by one firm to another multiple times in the course of production and assembly. These hand-offs, frequently crossing international borders, each entail a risk the buyer will not pay the supplier.
Traditionally in the Asia-Pacific region, this risk of non-payment was mitigated by the use of letters of credit, whereby a bank effectively provides a guarantee of payment to the supplier for goods sold and delivered to the buyer. However, a second trend in Asia-Pacific trade has been a reduction in the use of letters of credit in favour of less secure methods of payment.
This development stems from several factors, including a desire to reduce costs and processing time, a desire to free up working capital that had previously been pledged to banks as collateral and a desire to align more closely with US and European trade practices, which already rely less heavily on letters of credit in many sectors.
The combination of the increased number of hand-offs between firms and the reduced reliance on letters of credit led to and was facilitated by the expansion of alternative methods of credit risk mitigation, including credit insurance.
Other than letters of credit, payment methods used between buyers and sellers of intermediate goods include promissory notes, bills of exchange and open account trading based on commercial invoices.
While promissory notes and bills of exchange may lack the bank guarantee provided by a letter of credit, they are considered more secure than open account invoices because they include the buyer’s acknowledgement of the debt, and can be enforced independently of the underlying sales contract.
Credit insurance, which most often covers open account trading, is a form of credit risk protection first developed in Europe, which has since spread around the world. It includes a broad spectrum of services that can be bundled together, including risk management for customers, credit control on behalf of policyholders, risk mitigation, claims and debt collection. It works by insuring the policyholder against the risk of a buyer failing to pay, and is used by businesses of all sizes to protect both international and domestic trade.
Trade sectors in which the purchase of credit insurance is relatively common include electronics, chemicals, food and beverage, textiles and apparel, construction, motor components and commodities.
Policies are usually subscribed for periods of 12 months and are intended to cover all the accounts receivable invoices arising from sales made by the policyholder to approved customers, or buyers, during the year.
Asia-Pacific is a highly diverse and dynamic region that increasingly drives the world’s GDP growth. Regulatory environments, insolvency frameworks and financial disclosure vary widely across the region. Nevertheless, a competitive market for credit insurance is now well established, with multiple insurance companies offering a wide range of products.
Some of the largest carriers include government export credit agencies such as Sinosure (China), ECGC (India) and Nexi (Japan). These agencies are mandated to facilitate their country’s exports by mitigating the risks of trading internationally and thereby to support their domestic economies and employment. Commercial insurers are also active, including monoline carriers such as Euler Hermes, Atradius and Coface, as well as multi-line Property Casualty insurers like AIG, QBE and Markel.
In many countries multinational credit insurers work in partnership with local insurers to serve their policyholders.
The Covid-19 pandemic drew unprecedented attention to the critical role supply chains play in the global economy, as well as to the products and services that enable these chains to function smoothly, including credit insurance.
Global merchandise trade fell more than 5% in 2020, according to the World Trade Organization. No region was left untouched and some sectors, including construction, travel and hospitality, suffered higher insolvencies in Asia.
Merchandise trade has since rebounded, and credit insurers appear to have weathered the storm. But increased commodity prices and freight rates, together with shortages of certain goods, may indicate continued imbalances and a risk environment that has not yet fully recovered.
While cultural approaches to credit and perceived risk vary across Asia-Pacific, all businesses throughout the region would benefit from coherent credit management strategies.
For many businesses, credit insurance can be an important tool in such strategies, and growth in the use of this coverage in the region seems set to continue.
by Ed Brittenham, Political Risk and Trade Credit Consultant, for Insurance Day, first published on 8 October 2021: Focus: Supply chain pressures drive growth of credit risk insurance market in Asia