Question

You work for a company selling medicines to a buyer in Malta.
The Maltese buyer has a letter of credit from his bank payable in USD, however your employer is not confident that the

bank will be able to pay in this currency.
Does your employer still have transfer risk with this letter of credit? Yes or No – If yes, how?

Answer 1

Even with the letter of credit, the transfer risk still exists.

Transfer risk arises here from three possible ways -

1. Country risk or Political risk - Since Malta is a small island nation, the risk of current governement issue restrictions on the foreign currency transfers always exisits. If there is any such rule severly impairs this contract between the bank issuing LOC and the exporter (your employer) here. The small nations, if they depend on external borrowing heavily, and over a period of time, if they can not honour the external debt payments, they impose these kind of restrictions on the foreign currency transfers, and re-negotiate the debt terms. So, the Country risk is always there.

Another slight possibility is, if the international community bans the transfers and payments to and from certain countries,basically in the form of sanctions, then also the transfer rik arises. Though Malta is not prone to these Geo-political risks, countries like Libya, Sudan has faced such risks in the past.

2. Exchange risk - If your employers native currency is not USD, and if USD depreciates against the employers native currency then also the transfer risk arised. As the LOC issuing bank might pay USD at a later date, and till that point of time, the transfer risk will be there in the form of exchange rate risk is there.

3. Credit risk of the bank - If the LOC issuing bank is not financially healthy, then the bank might not able to pay the money. dBring financial crisis of 2008, lot of small banks across the world, have gone bankrupt or could not able to service the clinets due to run-on the bank kind of situations.