China is reportedly mulling further controls over letters of credit (L/Cs), which the authorities reckon remain a cause of volatility in commodity markets.

Chinese buyers have been importing commodities to secure cheap financing by using L/Cs to buy commodities, notably copper, and then using this as collateral for a bank loan.

Early measures

The authorities began curbing the use of trade finance to obtain cheap credit last year when Beijing banned the resale of L/Cs.

This move had the effect of stopping a single L/C being used repeatedly to raise money.

Negative impacts

Reports from China suggest that the measure has not had the desired impact, and the authorities could order banks to shorten L/C tenors or reduce the ratio of loans tied to collateral.

Cutting L/C durations would have a direct impact on the practice of using trade finance to raise cheap credit.

However, analysts fear that it could also impact adversely on businesses that genuinely rely on competitive L/C terms.

This article represents the views of the author and not necessarily those of the ICC or any of the other partners in DC-PRO.