Article

by Kim Christensen

UCP 600 was approved at the meeting of the ICC Banking Commission held in late October 2006. This was not really the end of the work, but the beginning. Many things remain to be done - training, changing of websites and brochures, all very specific tasks to ensure a smooth implementation of the new rules.

However, there are also other areas where, in my view, the L/C world should dedicate some time. That is the focus of this article.

New challenges

With or without the UCP 600, the documentary credit instrument is facing challenges it never faced before. Globalization has placed the documentary credit in a totally new context. On the one hand, we see unpredictable clashes of civilizations; on the other, companies' home markets are expanding, resulting in a move towards new and lighter payment instruments. At the same time, electronic developments related to the documentary credit have finally found a foundation from which to expand. The electronic documentary credit may not be growing in the way many commentators predicted, but it is growing nonetheless.

This means UCP 600 has been born into a different world from that of its predecessor, UCP 500. And even though the demise of the documentary credit has been predicted many times, this is the moment to focus our energy so that there will be a secure future for this vital instrument of trade.

The role of ICC

While the role of ICC as the protector of the documentary credit is becoming more and more important, the current structure of ICC has its limitations. ICC is bound by the fact that the UCP are a set of rules that can effectively be overruled by wording in the specific credit. This is logical, but the downside is that it is very hard to "guide" documentary credit users as to what is and is not fruitful - or rather what is good and bad banking practice. At the same time the decision making process is rendered difficult, because ICC follows the "principle of consensus"1, i.e., decisions are generally made based on a majority view of ICC national committees.

To help the documentary credit navigate future obstacles, it is vital that we help users (not least, banks) to avoid bad practice. For example, it may be that a certain clause in a credit does not violate the UCP as such, but it still may go against the very nature of the documentary credit, thereby making users reluctant to use the instrument.

In this respect, one should keep in mind the purpose of the UCP: to facilitate trade between buyers and sellers2. So even though the rules are drafted by bankers, they have little value if they are not useful to the trading parties as well.

Suggestion

One way to improve practice and to anticipate important future trends could be to establish an independent trade finance think tank. The purpose of such a body would be to help ensure that the documentary credit is attractive to the trading parties and that it has its natural place in the trading environment now and in the future. In practical terms, its tasks could (amongst other things) include:

- acting as a "watch dog", being able, on its own initiative, to comment on trends, new practices, good and bad clauses, etc.;

- publishing suggestions and discussion papers on topics of mutual interest to the banking industry as well as related industries, thereby helping to anticipate the changes necessary to keep the documentary credit current and viable.

It would be easier for such an independent body to speak freely than it is for the ICC Banking Commission. On the other hand, working under the ICC umbrella it could still be a strong positive force, stimulating the banking industry to take a stand or to at least discuss issues raised by the think tank.

The topics

Which topics should a think tank consider? These are limited only by the imagination. Some examples:

- Innovation. This would not be limited to electronic development. It could help focus on the fact that the documentary credit can be flexible, even without building complicated systems, thereby changing the perception in the market of the possibilities for utilizing the instrument. One example comes to mind - the issuance of L/Cs by non-banks. Some traders say they feel comfortable working with the documentary credit instrument, which gives them a number of advantages, but also feel they do not really need an obligation from an issuing bank. They may still need the features of document examination and financing and an instrument to manage the payment flow3.

- Commenting on specific clauses in documentary credits but putting them into perspective. This means illustrating the consequences of such clauses, having the vision and strength to determine whether or not the clause in question is good or bad banking practice. Take one example: TA.608, query 64: This involved credit wording saying "In case of discrepancies we shall accept the documents for collection and as such we shall be relieved from our liability under Art. 14." The question then was whether or not the issuing bank could be criticized for this. As far as I can understand, the Banking Commission agreed to simply say "yes". A think tank might take this one step further with arguments and examples illustrating why such a clause is not helpful, hopefully to highlight the potential problems in such a way that banks would refuse to advise/handle such documentary credits in the future.

- Providing good examples, indicating, for instance, that certain wording is a good way to word a credit, to help the beneficiary or to minimize the risks of a legal dispute arising.

- Commenting on the Opinions, Decisions, etc. from the Banking Commission by, for example, putting selected Opinions into perspective and discussing whether or not they point in the right direction. Take an example where this could be useful: TA.6165: This was a case covering a direct collection. In its conclusion, the Banking Commission said: "However, this case highlights the problem inherent in direct collections where they are sent to a collecting bank that is not necessarily established to handle such transactions." In this case the Banking Commission indicated that something could have been done better, without being precise. A think tank, on the other hand, could guide banks by saying that with regard to a "regular" collection, you should only send it to a bank you know, but if you allow your customer to choose any bank, the risk is greater. Accordingly, if you do not know the bank, the same "compliance checks" should be carried out whether it is a regular or a direct collection.

Mandate and membership

As for the mandate, a think tank would need only the space and voice to present its views and arguments, and by doing so it could aid efforts to take the documentary credit instrument safely into the future.

Who should participate in such a think tank? No doubt the banking industry should be represented, but it would also be vital to include other industries, e.g., transport, insurance and law, and not the least (if at all possible) buyers and sellers who use the documentary credit as a tool in their daily jobs.

Conclusion

Even though the documentary credit has a history going back to the late 18th century6, it still has a lot to offer. It meets the needs of the trading parties in a far better way than other existing alternatives. So if there are problems, often these lie, not with the documentary credit itself, but with the way it is perceived by the parties that use it. A trade finance think tank could modify and expand this perception and make the documentary credit considerably more attractive. It would, in effect, be a lobby for good banking practice, for both today and tomorrow.

Kim Christensen is TF Business & Product Specialist in Nordea in Denmark and a member of the ICC Banking Commission. His email is kim.christensen@nordea.com

1. This was e.g. reflected in the UCP 600 revision. The Chairman of the Drafting Group, Gary Collyer, stated in DCInsight Vol 12 No 4: "I should point out that only the initial draft of each article represented the views of the Drafting Group. Thereafter, drafting was completed based on the consensus viewpoint expressed by the national committees in their comments."

2. My own interpretation.

3. This is described in more detail in the article "The Lego LC", published in "Global Trade Review", Volume 4, Issue 4.

4. Approved at the ICC Banking Commission meeting, 24 October 2006.

5. Ibid.

6. Reinhard Längerich, "Documentary Credits in Practice", page 23 (Published by Nordea, 2000).