The dramatic collapse of trade during the global financial crisis of 2008-9 was remarkable. That imports fall when a country endures a financial crisis and a recession is not surprising. What grabbed the attention of economists and policymakers was the magnitude of the collapse and the fact that it was much larger than the fall in world GDP and demand. Researchers have investigated the potential roles of compositional effects, supply chains, financial frictions, and trade finance in explaining this collapse (see for instance the chapters in Baldwin 2009).
Our recent research (Berman et al. 2012) emphasises one element that has not been stressed, i.e. time to ship. We argue that this plays an important role in the way trade reacts to crises, and has more general implications for the impact of financial frictions and risk on international trade1.
Time to ship
Time to ship is a key dimension in which international trade differs from intranational trade. Shipping internationally takes more time and varies enormously across destinations.
- A shipment takes one day from Rotterdam to Copenhagen.
- It takes 28 days to go from Rotterdam to Hong Kong.
This is without taking into account the time to load and unload the boat and the time taken by customs and other administrative procedures. Djankov et al. (2006) found that for a sample of 180 countries the median amount of time it takes from the moment the goods are ready to ship from the factory until the goods are loaded on a ship is 21 days.
Evidence from the recent and past crises
In our research we find that the fall in international trade caused by financial crises is magnified by the time needed to ship goods between the origin and the destination country. This amplification effect is observed at the aggregate level on a large panel of countries over the period 1950-2009 and at the micro-level on French firms over the period 1995-2005. It is very robust, and survives alternative specifications, samples and inclusion of additional controls, including distance. Importantly, it is observed both on the 2008-9 crisis and on past financial crises.
Our methodology relies on a gravity-like estimation, where we estimate the effect of crises on bilateral imports while controlling for 'natural' determinants of trade, such as different measures of geography and trade policy. Controlling for changes in GDP, we find that a financial crisis in a country reduces its imports by around 5%2. This average effect, however, masks a lot of heterogeneity. For short time-to-ship destinations, trade remains virtually unchanged. But as it increases, the negative response of trade becomes statistically and economically more significant.
This result is illustrated in Figure 1. We plot the deviation of bilateral trade from its 'natural level' during banking crises in the importer country for different pairs of countries defined according to the time needed to ship goods from the origin country3. While the effect is statistically insignificant for low time-to-ship origins4, it becomes negative and large for country pairs characterised by trade partners more than 18 days away, which is a bit below the average in our sample. For the most remote country pairs, on the other hand, imports drop by more than 12% during banking crises5.
Figure 1. Effect of banking crises on bilateral trade
The economic logic: Time as a financial friction
What drives this time-to-ship magnification of shocks on trade?
- In 'normal' circumstances, time to load and ship implies a transport cost that depends on distance, the value and the weight of the good transported.
Of course, even in normal times there is an opportunity cost to time that can be measured broadly by the cost of capital.
- During a financial crisis, time to ship widens exposure to financial mishap in the importing firm and thus raises the chance of non-payment.
Long delays are never good but they can be especially bad when the financial health of the buyer is up in the air.
- Crucially, time to ship does not in this case simply represent an extra cost – it increases the elasticity of exports to the expected cost of default.
Time to ship therefore magnifies the negative effect of financial crises on trade. The reason is that exporters react to the increased probability of default by raising their export price and reducing their export volumes and values, the more so the longer the time to ship. In such a framework, the probability to exit and cease exporting is higher in a country that experiences a financial crisis and this effect is again amplified by time to ship. Using French data, we find that French exporters raise their price to destinations that are hit by a financial crisis. We also find, consistent with the theoretical mechanism we focus on, that the probability of an exporter to exit the destination market increases when it experiences a financial crisis and that this is amplified for destinations with longer time to ship.
Importantly, in our aggregate as well as firm-level regressions, when we include both time to ship and geographic distance as competing variables, only time to ship is found to have an effect on the way trade responds to crises. This suggests that the mechanism that we uncover is indeed due to the role of time as a financial friction rather than to the role of, say, transport costs increasing with distance.
Risk, time, and trade
Our results are based on financial crises, but the mechanism we have in mind has broader implications in terms of how financial frictions and risk, at the aggregate and at the individual level, affect trade patterns. The effect of financial frictions on economic activity is notoriously difficult to measure, and this has put some doubt on their relevance. Theory predicts that due to time to ship, financial frictions should leave specific footprints on international trade during a financial crisis. That we find such footprints suggests that financial frictions do matter after all.
Do our results justify some policy intervention? If one considers that some insurance markets are missing or incomplete, especially in developing countries, export guarantee schemes may be justified. However, to go further in that direction, one would need to know more on the exact nature of the financial market failures that are at work in international trade.
Amiti, Mary and David E Weinstein (2011), “Exports and Financial Shocks," Quarterly Journal of Economics, 126(4), 1841-1877.
Antras, Pol and Fritz Foley (2011), “Poultry in Motion: A Study of International Trade Finance Practices," NBER Working Paper 17091.
Baldwin. R. (2009) The Great Trade Collapse: Causes, consequences and prospects, a VoxEU.org Publication.
Bourgeon, P, J-C Bricongne and G Gaulier (2012), “Financing time to trade”, CES Working paper 2012.16.
Berman, N, J De Sousa, P Martin and T Mayer (2012), “Time to ship during financial crises”, CEPR Discussion Paper 8684.
Djankov, S, C Freund and C S Pham (2010), "Trading on Time," The Review of Economics and Statistics, MIT Press, vol. 92(1), pages 166-173, February.
Schmidt-Eisenlohr, Tim (2011), “Towards a Theory of Trade Finance ," CESifo WP 3414.
1 Recent research discussing the role of time to ship as a financial friction includes Amiti and Weinstein (2011), Antras and Foley (2011), Bourgeon et al. (2012) and Schmidt-Eisenlohr (2011).
2 This negative effect is doubled if we omit the GDPs from the estimation, suggesting that demand-side effects account for half of the drop in international trade during financial crises.
3 The coefficients shown in this figure are based on aggregate data on bilateral trade and banking crises over the 1950-2009 period. The specification is the same as in Table 1, column (3) of Berman et al. (2012), but we estimate it on five different samples defined by the quintiles of our time-to-ship variable.
4 Note that this does not mean that financial crises have no effect on bilateral trade in these countries, but rather that there is no effect beyond what can be explained by our control variables (in particular GDP).
5 This result is consistent with Levchenko et al. (2011) who find that the fall of US imports (but not exports) during the recent financial crisis was larger with countries with longer time to ship, and that sectors with higher shares of imports shipped by ocean (relative to air shipping) experienced larger drops.