Tuesday, October 6, 2015

23 Things they don’t tell you about capitalism – „This book is not an anti-capitalist manifesto.”

This book is not an anti-capitalist manifesto.” – writes Ha-Joon Chang in the introduction to his book. “Being critical of free-market ideology is not the same as being against capitalism. […] My criticism is of a particular version of capitalism that has dominated the world in the last three decades, that is, free-market capitalism.”

Even though it is pretty one-sided in criticizing our today’s economic system, the book contains some interesting thoughts other than those that you usually read in the financial press. Here are the “things” that I found most interesting:

Markets need (not) to be free.

The author says that, in reality, a completely free market doesn’t exist. As a matter of fact, every market has some rules and boundaries that restrict freedom of choice. For example, any modern economy needs to accept that slavery or child labor are no more allowed and firms also need to respect at least some level of environmental regulation.

As a consequence, the question is not “Are you for or against free markets?” but “How free should markets be?”.

Shareholders own companies. Therefore, companies should (not only) be run in their interests.

Ha-Joon writes that shareholders are often short-term investors and, thus, interested short-term profits. In the interest of the economy as a whole as well as the firm, long-term profits should be sought instead.

It is true that shareholders are not the only stakeholder. Others, such as customers, the state, or the employees, should also be considered. However, it still seems logical to me that the people putting their money at risk (i.e. the shareholders), have a paramount importance.

Taming inflation has (not) laid the basis for greater long-term prosperity because it (does not) provides more economic stability which is, in turn, necessary to enhance long-term investment.

Inflation may have been tamed, but the world economy has still become considerably shakier. The author emphasizes that inflation is only one of the indicators of economic stability. Others, such as the number of banking crisis and unemployment, remain important.

Our obsession with inflation should end.”

We are (not) in a post-industrial age where most people work in services and most outputs are services.

Ha-Joon writes that the industrial sector is still important, even though he acknowledges that many more people today work in services than in manufacturing. Three reasons for that:

  • Services are not tradable and, therefore, cannot generate growth through exports.
  • The service sector depends on the manufacturing sector because it often serves it.
  • Manufacturing experiences faster productivity growth than services do. In other words, replacing a factory by a machine is easier than replacing an elderly care nurse.

Government should (not) give the maximum degree of freedom to business.

First, the author argues that what is good for the individual firm is not necessarily good for the industry as a whole. For example, protecting natural resources and the quality of a labor force may be irrelevant for the individual firm but are mandatory if the business wants to succeed long-term.

The second argument of the author was more surprising for me: Government regulation works, not because the government has superior knowledge, but because it restricts choices and thus the complexity of the problems at hand.

We need regulation exactly because we are not smart enough.”

Financial markets need to become less, not more, efficient.

Today, high frequency traders (or, rather, their computers) decide in milliseconds where to invest and divest.

Even though he wrote the book before the hype around HFT began, Ha-Joon Chang provides an interesting thought here, writing that the real economy needs patient capital for long-term investments, not short-term investors.

A final quote

Economics does not seem very relevant for economic management in the real world.”

This statement proves that Ha-Joon Chang’s book is not like usual main-stream books about our economy. I would recommend reading it, even though you don’t necessarily need to adhere to its entire content.


Ha-Joon Chang – 23 Things they don’t tell you about capitalism – 2011

Thursday, September 3, 2015

New Development Bank – Five Questions about the BRICS Development Bank

On July 21, 2015, the BRICS have officially launched the New Development Bank (NDB) in Shanghai, where its future headquarters will be situated.

Yang Xiong (Shanghai Mayor) / Lou Jiwei (Chinese Finance Minister) / KV Kamath (NDB President)

Here are the five main questions about the NDB:

Who has set up the NDB and why?

Founding parties are the BRICS (Brazil, Russia, India, China, and South Africa). This is why the NDB is also referred to as the “BRICS Development Bank”. The bank shall both reflect and increase the economic cooperation among the BRICS.

What does the NDB?

The NDB supports infrastructure and sustainable development projects in BRICS and other emerging economies and developing countries. It can support public and private projects. As such, the bank complements existing efforts of multilateral and regional financial institutions for global growth and development.

In terms of financial instruments, the bank intends to grant loans, guarantees, and equity participations. In addition, it can cooperate with international organizations and provide technical assistance for infrastructure and sustainable development projects.

Besides, the NDB can do special operations using special funds, whatever that means…

How much capital will the NDB carry?

The NDB will have a 100 BUSD capital cushion. This is impressive, isn’t it?

Look at the above graph: Only 10 BUSD is actually paid for in cash. Callable shares (40 BUSD) can only be called upon if and when the NDB needs those funds to meet its obligations. Other Initial Authorized Capital has not been subscribed yet at all.

Thus, we are actually talking about 10 BUSD in cash. But when will these funds actually be paid? Take a look at the graph below.

We actually end up with 10 BUSD in cash by 2022 only.

How is the NDB organized?

The bank possesses full international personality. In non-commercial matters, it also enjoys immunity.

Internally, its Board of Governors decides on important issues regarding the NDB itself (change of capital stock, change of agreement, distribution of net income, and the like). The Board of Directors conducts the bank’s general operations such as business strategy, accounting, and budgeting. The President (and its Vice President) is the chief of the operating stuff and, as such, hires and fires stuff, heads the credit and investment committee, etc.

Where does the name “New Development Bank” come from?

I found the name of the NDB strange. Is it a new kind of bank? Or will the bank implement a new kind of development? Actually, I don't know where the name comes from and what it means and can only speculate. My guess is that the development bank is “new” simply because we love everything that is new...


Thursday, August 27, 2015

Standby Letters of Credit, ISP 98, and a few words about legal definitions

What is a standby letter of credit?

A standby letter of credit (or simply “standby” in trade finance jargon) is an irrevocable, independent, documentary, and binding undertaking when issued and need not so state.”

This nice and official definition is a bit complex. In addition, the most important element is missing: Undertaking to do what?

  • With “undertaking”, we mean the undertaking to pay a certain amount of money. This undertaking is usually issued by a bank to support a payment obligation of its client.
  • Irrevocable” signifies the Issuer cannot cancel it.
  • Independent” indicates that the standby does not depend on the issuer’s ability to obtain reimbursement from the applicant or on the underlying transaction.
  • Documentary” means that the standby depends on the presentation and examination of documents.

Standby letters of credit come from the United States where they are most widely used. In Europe, we usually issue guarantees instead.

Standby schema

Additional parties can complement this basic schema:

  • A Confirmer adds, upon the issuer’s request, its confirmation to honor the standby.
  • A Presenter presents a claim on behalf of a Beneficiary or nominated person.
  • An Advisor checks the apparent authenticity of messages in accordance with standby letter of credit practice.
  • A Nominated Person can receive a presentation of a standby and act as Confirmer or Issuer but is not obliged to do so.

What are ISP 98?

ISP stands for “International Standby Practices”. 98 refers to the year where the International Chamber of Commerce (ICC) has approved the ISP. The rules intend to simplify, standardize, and streamline the drafting of standbys. They reflect generally accepted practice, custom, and usage of standby letters of credit.

The ISP 98 apply to any independent undertaking (whatever its name) that refers to them.

Types of standbys

  • A performance standby supports an obligation to perform other than to pay money.
  • An advance payment standby supports an obligation to account for an advance payment made by the beneficiary to the applicant.
  • A bid bond / tender standby supports an obligation of the applicant to execute a contract if the applicant is awarded a bid.
  • A counter standby supports the issuance of a separate standby or other undertaking by the beneficiary of the counter standby.
  • A financial standby supports an obligation to pay money.
  • A direct pay standby supports payment of an underlying payment obligation typically in connection with a financial standby but without regard to a default.
  • An insurance standby supports an insurance or reinsurance obligation of the applicant.
  • A commercial standby supports the obligation of an applicant to pay for goods or services in the event of non-payment by other methods.

Main features of standbys

  • By default, the issuer honors a standby at sight. However, the parties can also expressly agree on deferred payment.
  • A presentation must be made in paper form unless another medium is fixed. Documents must be presented in their original form. (ISP 98, when the Internet was still in its infancy!!)
  • Partial presentations are possible unless expressly prohibited by the standby. The same applies to multiple presentations.
  • A presentation must be made at the right time (= on or before the expiry date) and location. If no location is fixed, the location of the Confirmer applies.
  • Transfer of a standby means that the Beneficiary will shift the benefit of a standby to a third party. By default, a standby is not transferable. Indeed, any transfer of a standby requires the consent of the Issuer or Nominated Person. The only exception is that the applicable law itself does not require such consent.
  • Upon expiration, the Beneficiary of a standby can ask the Issuer to extend it or, if the Issuer does not accept, to pay the amount available under it. This is commonly referred to as “extend or pay”.

A final word about legal definitions

Here is my favorite definition of the ISP 98:

A or B” means “A or B or both”; “either A or B” means “A or B, but not both”; and “A and B” means “both A and B”.

You can think a long time about it. But in the end, isn’t that pretty obvious? Why do legal people have to complicate artificially normally pretty straightforward language? There has certainly been lots of litigation about the roles that various parties assume in standbys. But does this type of definition really help avoiding future disputes? I doubt.


ICC International Standby Practices – ISP 98

Tuesday, July 21, 2015

Hope for Trade and Foreign Investment – SMART K-SURE

Korean firms are the driving force behind the Korean economy and K-SURE is always there for them in their endeavor to spread their wings toward global trade.”

What K-SURE does.

Established in July 1992, the Korea Trade Insurance Corporation (K-SURE) is the country's official export credit agency under the Ministry of Trade, Industry, and Energy.

The mission of its 490 employees is to boost national competitiveness through promoting trade (export and imports) and overseas investment by Korean enterprises.

As is often the case for ECAs, K-SURE's operations are backed by a national Trade Insurance Fund. Any profits of the fund shall be reserved in full. Losses shall be covered either through reserve amounts or, if not sufficient, through government indemnifications.



The business is increasing.

Over the past years, insurance premium income has increased steadily. Recently, reinsurance activity has increased, but still at a very low scale. Nevertheless, total operating income decreases, basically due to a declining recoveries income.

K-SURE makes losses.

According to Art. 4 of the Korean Trade Insurance Act, insurance premia should be set to maintain the balance of earnings and expense of the trade insurance business. This doesn't seem to work out very well, if you consider that K-SURE is constantly making losses.

As you can expect from any subsidized activity, such losses are compensated for by higher contributions (namely from the Korean Government).

K-SURE's Risk Management Scheme

Let's finish with another great example of why I love organizational design, especially in public administrations:

Risk is analyzed, reviewed, managed, and underwritten by divisions, departments, and committees. Luckily, there is an audit office that keeps an eye on all this...


Thursday, June 18, 2015

ICC Uniform Rules for Demand Guarantees (URDG 758) – In Guarantees we trust…

Business is all about long-term and trust. At least, this is how textbooks and annual reports present the topic. The practice is, oftentimes, different. And because business partners don’t trust each-other, we need third parties they can trust. This is why bank guarantees exist. They can ensure that contracts are performed and payments made.

Because distrust is so widespread in business – sorry... – because bank guarantees are used very often, the International Chamber of Commerce (ICC) has published, back in 1992, Uniform Rules for Demand Guarantees (called first URDG 458 and, since 2010, URDG 758).

What is a guarantee?

A guarantee is a “signed undertaking, however named or prescribed, providing for payment on presentation of a complying demand”. In short: “I will pay if you ask me to do so”.

The reference “however named or prescribed” says that the content prevails over the form. In other words, you can call your guarantee whatever you like as long as it contains a payment obligation vs. a complying demand.

Clear drafting is the linchpin of a successful international demand guarantee practice.”

Why are guarantees called “demand” guarantees?

It is not because there is a huge demand for their issuance. Rather, the reason is that the Beneficiary can demand payment immediately, independent of the underlying relationship. At this stage, we are faced with an obvious contradiction:

On the one hand, demand guarantees usually refer to the underlying relationship and calling a guarantee requires the Beneficiary to indicate in what respect the applicant is in breach of the underlying relationship.

On the other hand, the Guarantor has to honor the guarantee, no matter what the underlying relationship is about.

It’s a bit like annual appraisal sessions: Your boss has to ask for your view on the approval even though the decision about your fate has already been taken a long time ago…

When do URDG 758 apply?

They apply when you refer to them. Full stop. However, any specific agreement between the parties always prevails.

URDG 758 Schéma

Basic schema

Detailed schema

The life of a demand guarantee


The instruction of a bank to issue a guarantee should be clear and precise and avoid excessive detail. It should clarify

  • Applicant
  • Beneficiary
  • Guarantor
  • Amount and currency (A variation of the guarantee amount is possible if the guarantee provides for it.)
  • Expiry (This refers to the time before which a presentation must be made. It can be described by a date or event.)
  • Party liable for payment of any charges


A guarantee is irrevocable on issue even if it does not say so specifically. Once issued, the Guarantor is not obliged to accept amendments of the guarantee.


Transferring a guarantee means making it available to a new Beneficiary. Under ICC rules, the guarantee must explicitly mention such possibility and the Guarantor must consent to the new Beneficiary. By contrast, transferring a counter guarantee is, by default, impossible.


In theory, calling a guarantee should not depend on conditions other than a date or a lapse of a period. In practice, this may be different, namely as regards the provision of documents that indicate compliance with the above conditions.

When the Beneficiary wants to call a guarantee, he must do so at the place of issuance or any other specified place, indicating in what respect the Applicant is in breach of the underlying relationship. Partial and multiple demands are possible; details obviously depend on the guarantee.

The Guarantor informs the Instructing Party about the demand for payment. However, it cannot prevent such payment as, again, the guarantee is on first demand.

Extend or pay

Extend or pay is a kind of institutionalized blackmail: The Beneficiary asks the Guarantor either to extend its validity or to pay under the guarantee. As opposed to blackmail under criminal Law, extend or pay requests are perfectly legal under ICC URDG 758. It is important to point out that the Instructing Party cannot influence on the decision of the Guarantor.

Reducing / Expiring / Terminating

The parties can reduce the principal of a guarantee by

  • (partially) paying the underlying claim;
  • providing for reduction under specific circumstances (so called variation.);
  • a (partial) release on the part of the Beneficiary.

A guarantee expires when

  • the underlying claim has been paid entirely;
  • the Beneficiary declares a total release;
  • the expiry date (by default 3 years) has been reached.

The theory of guarantees is not difficult to understand. However, the practice can become quickly very tricky: The first reason is that every guarantee is drafted differently. Second, when a guarantee is called, the relationships are usually controversial which creates a huge potential for conflicts.


ICC Uniform Rules for Demand Guarantees (URDG 758)

Wednesday, May 20, 2015

Financial Inclusion – Selling cars on an island without roads

Financial inclusion is the delivery of financial services to all the people in a fair, transparent, and equitable manner at affordable cost.”
Indian Banks’ Association

Let me try another definition: Financial inclusion is like selling cars and accessories to poor people in cities without roads. The strategy seems compelling to carmakers looking for new customers. But will the idea fly? Can your new customers pay for your cars? Will they like your cars without the possibility to drive them?

My definition shows why financial inclusion is interesting for banks today: Not only is the financial sector shrinking and desperately needing new markets. Banks also need a new image too and this is where helping the poor can be of utmost importance. To revert to my example: People will like you if you provide them with cars.

But my definition also shows where the impediments to financial inclusion lie. You need the infrastructure for people to use your car; otherwise, it will be useless for your client.

Technology – A prerequisite for financial inclusion

Without a payment system, one cannot use money. Traditionally, building a payment system was expensive – too expensive to serve poor customers who cannot pay for such an infrastructure. This is where new technology comes into play. A typical set up could look like that:

  • You hold an account with a bank or a mobile phone / internet provider that you can credit by depositing cash with retail agents. E-money in such account is outside the official banking system. Therefore, it is usually not considered as a deposit, covered by any deposit insurance.
  • Through a POT (= point of transactions) device or your mobile phone (sms, application, etc.) you advise the bank or provider to transfer some money to another person, also holding an account with that firm.

Such system might not necessarily be constantly connected to the core banking system. In other words, transactions could be registered only in specific intervals (for example on a daily basis).

However, financial inclusion technology should go beyond just enabling transactions. As the Indian Banks’ Association suggests, it should “capture more insightful and rich customer information”. Big data is the buzzword here.

Technology should also be interoperable. Basically, you must be able to reach the person you want to pay through the system. Otherwise, this will not work out.

Technology – A guarantee for profitability

A common concern of any “bottom of the pyramid” business strategy is that the poor can’t pay enough to make your business viable. Again, technology is the answer here, making banks more efficient and financial inclusion cheaper.

Technology actually creates value by transforming business processes and industry structures.”
Indian Banks’ Association

Financial inclusion – Finance at its best

With financial inclusion, banks can ameliorate our society and heal the wounds of the 2008/09 financial crisis:

  • Access to financial services such as micro credit allows individuals and small companies to innovate and create jobs.
  • Mobile banking increases the financial security for people living in unsafe regions where it is difficult to hold cash.
  • Financial inclusion allows the poor to develop a credit history, thus making it easier for banks to make credit decisions.
  • Electronic banking saves the cost of printing and safely transporting cash.
  • Financial inclusion techniques increase the efficiency of banks, lower transaction costs, and reduce the number of bank branches. This is not only true for developing, but also for developed markets.

There are clear benefits of financial inclusion at the individual and macro level – even though the macro effects are difficult to quantify.”
Institute of International Finance

Regulating financial inclusion – New business, same topics

Imagine you want to try a new recipe when cooking for your family. Here, you will always find lots of people explaining you why your recipe cannot taste good or might even be dangerous for your kids. In finance, it’s the same: Any time something new comes up, regulators are never far away. In case of financial inclusion, the regulator is usually a central bank, a banking supervisory agency, or a finance ministry.

Here is what we have to pay attention to when it comes to financial inclusion:

  • We need uniformed KYC rules.
  • We need to combat cybercrime and money laundering.
  • We need standards for secure data storage and transmission.
  • We need to protect financially illiterate people.
  • We need to protect the financial system, as financially illiterate customers (or financial institutions lending them money) can create credit bubbles and bad loans.

Interestingly, the degree of regulation seems to depend on the institution that carries it out and not only on the underlying activity:

This is especially true for regulatory power for corrective and remedial action and standards for internal risk management policies.

Financial inclusion risks – The difficulty of paying, getting repaid, and operating the business

Financial inclusion involves the same risk as any other lending activity. However, three specific types of risk stand out:

  • Operational risk is an important factor because microcredit institutions act, time and again, in environments with poor or unreliable infrastructure.
  • Even though a typical micro-finance instrument is short-term and small in size, credit risk is still a major risk. The first reason is that clients assume follow-on loans and virtually link repayment to such follow-on loans. Secondly, micro-finance loans are usually unsecured.
  • Clients’ expectations of follow-on loans effectively transform short-term assets into long-term assets. This triggers substantial liquidity risk in the micro-finance space. In addition, microfinance institutions often refinance through local banks which are, in turn, exposed to potential liquidity shortfalls.

Is financial inclusion just another temporary hot topic dedicated to disappear over time? One thing seems clear: It’s more than just a philanthropic action taken by banks to ameliorate public relations. When combined with new technology, it might effectively force even developed markets to transform from traditional retail banking with physical client contact to more efficient digital ways of communicating with clients.


Wednesday, April 15, 2015

SWIFT – Cool IT company or boring cooperative?

SWIFT is a rather cool name, at least it sounds cool. Before you get excited, let me take you back to earth again: SWIFT stands for “Society for Worldwide Interbank Financial Communication”. Now, the name sounds immediately a bit less cool, no?

On top of this definition, the Belgium company is located 15 km south-east of Brussels, in a village called La Hulpe, near the Forêt de Soignes.

So, how can I get you interested in reading this post? Consider the following:

SWIFT is at the heart of the global financial system. Without SWIFT’s 22 million daily messages, there would simply be no financial system!

What does SWIFT?

Founded in 1973, SWIFT is a Belgium co-operative founded and held by its 10,800 members of the financial services industry. SWIFT ensures that banks can talk to each-other, in total confidentiality and integrity. Most well known are payment messages, which ensure that you can pay someone else by debiting your and crediting his bank account.

Here is how Art. 3 of the company’s Articles of Association describes its activity:

The object of the Company is for the collective benefit of the Shareholders of the Company, the study, creation, utilization and operation of the means necessary for the telecommunication, transmission and routing of private, confidential and proprietary financial messages.”

SWIFT only offers the means for telecommunication to its members. However, it is neither responsible for the content nor does it hold itself any financial assets or manages accounts on behalf of customers.

Now you could be tempted to see SWIFT as a simple telecommunications company that provides a sort of GMAIL account for banks. This would, nonetheless, be a bit too restrictive. SWIFT also sets standard messages for specific financial products such as collections, cash letters, documentary credits, and guarantees.

Additional SWIFT products include business intelligence such as trade finance data as well as compliance services such as KYC, Anti-money Laundering (AML), and sanctions.

SWIFT in figures

22 million messages are currently send through SWIFT each day. Compared to currently 196 billion Email messages send per day, this seems ridiculous. But 22 million is still a huge number – roughly 260 messages per second.

More than 90 % of SWIFT messages relate to payments and securities. Treasury, trade, and system messages only play a minor role.

SWIFT’s main market is Europe, Middle East, and Africa. The Americas are second, followed by Asia Pacific.

Regulation of SWIFT

As the above figures show, without SWIFT, the global financial system would not work. Hence, there is a clear necessity to regulate SWIFT. But how can you regulate such a global financial communications provider which is neither a payment nor a settlement system?

Under an arrangement with the central banks of the G-10 countries, the National Bank of Belgium acts as lead overseer of SWIFT. The main objectives of this oversight are security, operational liability, business continuity, and resilience of the SWIFT infrastructure. SWIFT’s main risk is obviously operational, i.e. the risk that deficiencies in information systems or internal controls, human errors, and management failures cause or exacerbate other types of risk.

In 2012, the regulatory framework has been reviewed and a SWIFT Oversight Forum has been established, through which information sharing on SWIFT oversight activities was expanded to a larger group of central banks. The issues discussed can include all topics related to systemic risk, confidentiality, integrity, availability and company strategy.

Some SWIFT Quotes

Personally, I have mixed feelings about SWIFT. On the one hand, its messages look like souvenirs of the pre-computer age, containing administrative boxes ranging from MT 400 to MT 700. On the other, it is an organization that dealt with real-time messaging services long before we even heard about internet or Email. Not so boring after all…


  • SWIFT Annual Report 2013