EAST EUROPEAN COUNTERTRADE: THE TREND TOWARD BILATERALISM IN TRADE WITH THE WEST

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• Document Creation Date: December 22, 2016
• Document Release Date: February 17, 2011
• Sequence Number: 5
• Publication Date: April 1, 1985
• Content Type: REPORT

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Directorate of Seer-et
Intelligence
in Trade With the West
Ar
East European Countertrade:
The Trend Toward Bilateralism
An Intelligence Assessment
EUR 85-10065
April 1985
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Directorate of Sew
Intelligence
East European Countertrade:
The Trend Toward Bilateralism
in Trade With the West
An Intelligence Assessment
This paper was prepared by
Office of European Analysis. Comments and queries
are welcome and may be directed to the Chief,
East/West Regional Economics Branch, EURA,F-
Secret
EUR 85-10065
April 1985
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Summary
Information available
as oft February 1985
was used in this report.
in Trade With the West
East European Countertrade:
The Trend Toward Bilateralism
impact of financial problems and soft export markets.
Eastern Europe's' trade with the West 2 has been marked in the 1980s by an
increase in countertrade-transactions in which the exporter accepts goods or
services from the importer as payment. The USSR and Eastern Europe have long
used countertrade to increase import capacity by circumventing the problems of
poor export competitiveness and lack of hard currency and to facilitate planning by
reducing uncertainty in trading relations with the West. In the early 1980s, the East
Europeans stepped up their demands for countertrade in an effort to limit the
countertrade now accounts for about 30
percent of trade with the West for the financially strapped East European countries
(Poland, Romania, and Yugoslavia) and for 10 to 20 percent of trade for the other
countries. the shares could run as high as
40 to 50 percent for the most active countertrading countries, but we believe these
estimates are somewhat inflated. Nonetheless, countertrade is comparatively more
important in Eastern Europe's trade with the West than it is in total world trade.
Countertrade proved a useful expedient during the region's 1981-83 financial crisis.
It was one of several options available to the East Europeans to deal with their
financial problems and was attractive because it resulted in less economic burden
than administrative controls on imports and domestic austerity measures. The hard
currency outlays saved by countertrade transactions may have equaled as much as a
third of the region's debt service costs and helped moderate reductions in Western
imports. Countertrade also helped limit the decline in East European exports caused
by soft markets in Western Europe.
While helpful in a period of financial stress, we believe countertrade will do more
harm than good to Eastern Europe's trade performance in the long run. Using
Western suppliers as an outlet for otherwise unsaleable goods weakens incentives to
some East European trade officials contend that long-term reliance on countertrade
tends to perpetuate uncompetitive production, shelters Eastern enterprises from
valuable marketing experience, and damages the image of Eastern goods. In our
view, linking exports to the willingness of Western partners to accept countertrade is
a less promising basis for achieving strong export gains than working to meet market
upgrade the quality and efficiency of production.
requirements for price and quality.
Yugoslavia.
iii Secret
EUR 85-10065
April 1985
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While many East European officials recognize that countertrade is a poor solution
to the region's export problems, in our judgment, the East Europeans will continue
to rely heavily on countertrade to sell to the West:
? Chronic problems with hard currency exports will probably worsen as a result of
the growing technological edge the West has over Eastern Europe, stiffer com-
petition from the more industrialized LDCs, and tougher Soviet demands for
better quality goods from Eastern Europe.
? Planning and foreign trade bureaucracies in Eastern Europe still favor counter-
trade because of its compatibility with intra-Bloc trading mechanisms. Only
Hungary seems committed to fundamental reforms that may weaken the institu-
tional bias for countertrade.
? Businessmen anxious for sales seem ready to accept countertrade as one of the
costs of competing in Eastern Europe. Many Western banks and firms have a
vested interest in promoting countertrade because of investments made in trading
companies that specialize in countertrade with both LDCs and the Soviet Bloc.
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Contents
Development of East-West Countertrade
1
Responding to Financial Crisis
Impact on Trade With the West
7
Implications for Eastern Europe
10
Countertrade Policies of the East European Countries
15
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The term "countertrade " refers to any transaction in
which the exporter commits himself to take products
from the importer or importer's country in full or
partial payment for his deliveries. This can happen in
a variety of ways, but the terminology used to
describe the various forms of countertrade is incon-
sistent and often confused. In general, four main
types of countertrade occur in East-West commerce:
barter, counterpurchase, buy-backs, and offsets. F_
Barter
In straightforward barter, goods are exchanged di-
rectly between the Eastern and Western partners
without exchange of cash, pricing of goods, or financ-
ing. Barters are difficult to conclude because of
problems in finding a party that will receive one type
of goods and simultaneously deliver another and in
determining their relative value. In some cases, the
contract may limit the Western partner's purchase
commitment to only a portion of his sale with the
balance paid in cash. It is generally difficult, howev-
er, for the East Europeans to obtain financing for the
cash payment because Western banks and credit
insurers oppose making the repayment of credit con-
tingent upon the Western supplier's purchase of East-
ern goods. Because of a variety of complications,
barter has become much less common in East-West
trade than it was in the immediate postwar period. F
Counterpurchase
Counterpurchase has become the predominant coun-
tertrade variant in East European trade with the
West because it circumvents some of the limitations
of barter. Counterpurchase involves two separate but
linked contracts, each involving cash payment for
goods. One contract involves the sale of goods to the
Eastern side; the other involves the Western expor-
ter's commitment to buy (or have a third party buy)
products from the importer up to and even exceeding
the amount of the original sale within a stipulated
period (usually one to three years). A major advan-
tage to the Western seller is that he is paid at once in
convertible currency and lenders are more willing to
provide credit because payment of the export contract
is not contingent upon counterdeliveries.
Buy-Back
In buy-back deals-sometimes referred to as com-
pensation-the Western firm supplies technology,
equipment, and even entire plants in return for goods
produced using the plant or equipment (resultant
products). In contrast to counterpurchase, which in-
volves repayment in nonresultant products, buy-back
deals generally involve very large sales, extend over a
long period of time, and require substantial bridge
financing to cover the time lag between delivery of
equipment and resultant production. Buy-back is less
common than counterpurchase because Western firms
generally are looking for raw materials, which are in
short supply in Eastern Europe.
Offset
Offset is a system by which the Western exporter
incorporates goods from the Eastern partner in the
product he sells. Like buy-back, offset transactions
are more long term and are more closely linked to
industrial cooperation than to the commercial prac-
tices of counterpurchase and barter.
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OUVIrrt
East European Countertrade:
The Trend Toward Bilateralism
in Trade With the West
Countertrade has been a fixture of East European
trade with the West since World War II. Over this
period it has evolved from simple barter to complicat-
ed deals involving several parties. East-West counter-
trade began to attract attention during the 1970s
when East European countries tried to stem rising
hard currency trade deficits by pressing Western
suppliers to take Eastern goods in return. Severe
financial problems in the early 1980s caused most
East European regimes to increase demands on West-
ern suppliers to accept countertrade. These arrange-
ments provided some shortrun gains during a period
of financial stress, but over the longer term we believe
that reliance on countertrade will hinder improvement
in the region's export competitiveness.
This paper will contrast the shortrun gains with the
longer term problems associated with increased bilat-
eralism in trade with the West. It will review briefly
the evolution of countertrade prior to the region's
financial crisis in the 1980s and will examine in more
detail its role in helping Eastern Europe adjust to
reductions in Western credit. This paper will consider
the outlook for East-West countertrade, for alterna-
tives to such trading arrangements, and for the impli-
cations of these trade policies for Eastern Europe.
Countertrade, primarily barter arrangements, played
an important role in European trade in the immediate
postwar years when the rebuilding economies of East-
ern and Western Europe lacked the convertible cur-
rency needed to conduct normal commerce. The use
of countertrade diminished within Western Europe as
the region's economies strengthened, particularly af-
ter 1958 when West European currencies became
fully convertible. The USSR and Eastern Europe,
however, continued to rely on simple forms of counter-
trade in dealing with the West because they lacked
hard currency and trade credits and because counter-
trade was compatible with intra-Bloc trading mecha-
A surge in East-West trade in the 1970s increased the
complexity of countertrade, especially through the
conclusion of long-term buy-back deals. As the Soviet
Bloc became more dependent on Western imports, the
regimes used countertrade as a way to adjust their
foreign trade planning to uncertain Western markets.
By establishing specific Western purchase commit-
ments extending over a long period of time, central
planners aimed to moderate fluctuations in exports,
facilitate the formulation of long-range trade plans,
ensure adequate earnings to repay Western credits,
and provide for increased import capacity.
the USSR (see figure 2).
Most of the large buy-back deals concluded in the
1970s involved Soviet purchases of Western machin-
ery and equipment on credit for the development of
the USSR's energy and raw material sectors (see
figure 1). Western suppliers found such arrangements
attractive because they promised large machinery
sales at a time of soft markets in the West and
repayment through long-term deliveries of energy and
raw materials at favorable prices that the firms could
use in production or readily sell. Eastern Europe
concluded fewer long-term deals because-except for
Poland-the region could not offer significant
amounts of energy or raw materials for countertrade.
East European buy-back deals generally involved
deliveries of chemicals and machinery (see table 1),
but these arrangements covered a smaller amount of
the region's capital goods imports than in the case of
only about 10 percent of
Eastern Europe's trade with the West was conducted
through bilateral channels in the early 1970s. Easy
access to Western financing limited the need to match
imports with offsetting exports, but it also laid the
basis for growing financial problems, which eventual-
ly led to an upswing in East European demands for
countertrade. The East Europeans anticipated that
imported Western technology would generate the
additional exports needed for debt repayment. Sys-
temic inefficiencies, poor marketing skills, quality
nisms.
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control problems, and, in the West, recession and
protectionism curtailed strong gains in sales. As hard
currency trade deficits and debt mounted by the mid-
1970s, most regimes intensified demands on Western
suppliers to take goods, especially machinery and
consumer goods, as payment.
While attracted to deals offering energy and raw
materials at discount prices, Western firms generally
had limited interest in countertrade involving East
European manufactured goods. These products often
were low in quality or difficult to sell in the West
because of import restrictions; otherwise, the East
Europeans probably would have marketed them under
more conventional arrangements. Western firms-
willing to accept countertrade as the price of making a
sale-faced the problem of disposing of Eastern
counterdeliveries. West German, French, Austrian,
and Italian companies were the most willing to negoti-
ate countertrade deals with Eastern Europe. A sizable
subindustry of firms developed-notably in Austria-
to act as middlemen in buying and selling counter-
trade goods. Although facilitating deals, these so-
called switch traders made countertrade more costly
and complex than conventional trade. These difficul-
ties posed major obstacles to small firms; consequent-
ly, large multinational corporations that could more
easily absorb or dispose of Eastern goods through
their extensive supply networks and diverse operations
became the dominant participants in countertrade
with Eastern Europe.
Even with renewed East European interest in counter-
trade, these trading arrangements apparently still
accounted for a comparatively small share of East-
West trade by the late 1970s. Although East Europe-
an buyers often demanded that counterpurchases
cover as much as 50 percent of an import contract, the
OECD concluded that countertrade in the late 1970s
accounted for no more than 15 to 20 percent of total
hard currency trade in countries where it was most
widely practiced (Romania, Poland, and Bulgaria) and
for less than 10 percent in other countries.
The collapse of Eastern Europe's creditworthiness in
the early 1980s resulted in a sharp cutback in credit to
the region. With the exception of Czechoslovakia and
Bulgaria, the regimes all but exhausted hard currency
Figure 1
Eastern Europe-USSR:
Buy-Back Deals With
the West, 1969-80
Billion US $
Bulgaria Czecho- East Hungary Poland Romania USSR
slovakia Germany
reserves in trying to meet debt service payments that
could no longer be financed through more borrowings.
Lack of cash and credits left the East Europeans with
little choice but to reverse the decadelong trend of
large hard currency trade deficits through cuts in
imports and concerted efforts to boost exports.
East European economic managers, in our view, had
four options to improve their balance of trade:
? Administrative controls on imports.
? Adjustment policies to reduce domestic demand for
imports and to free up more production for exports.
? Systemic reforms to provide incentives for exports
and to improve the efficiency and quality of
production.
? Commercial policies to boost exports through ag-
gressive price cutting, countertrade, and industrial
cooperation.
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Table I
Large East European Buy-Back Deals
With the West in the 1970s
W
estern
Country
F
Western
Supplier
East
European
Country
rance
W
Technip
Bulgaria
est
Germany
J
Friedrich
Uhde
East
Germany
apan
F
Toyo
Engineering,
Mitsui
East
Germany
rance
U
i
Citroen
East
Germany
n
ted
States
F
Steiger
Hungary
rance
Citroen
Romania
United
Kingdom
Petrocarbon
Development
Ltd.
Poland
Belgium
Unknown
Poland
Year East European Imports
Signed
1975 Ethylene plant
1976
Import Value East European Exports Planned East European Outcome and Comments
(millio
US $
n
) Export Value
(million US $)
50 Machinery and engi- NA
neering goods, petro-
chemicals
Polyvinyl chloride complex 451 Polyvinyl chloride and NA
and related equipment soda lye
1977 Two petrochemical plants 450 Petrochemicals NA
1978 Turnkey plant
1976
1977
330 Transaxle units and NA
parts (300,000 per
year)
Technology and parts for 80 Tractor axles 20
tractor manufacturing
Design, engineering, and 170 "Olcit" cars
parts for automobiles
Exports to equal 30 percent of
output over eight to 10 years;
project apparently working as
planned.
Most of the chemicals Japan
received probably were sold to
third countries via trading
houses.
In 1982 France imported
$12 million worth of parts, in-
creased to $20 million in 1983.
Has worked out well. Steiger
has purchased more axles than
called for in the agreement.
Half of annual The French have not accepted
production any of the cars because of fail-
1975 Polyvinyl chloride 400 Polyvinyl chloride NA
and chlorite plants
1975
Coal-mining equipment 335 1.5 million tons of coal 335
per year for 10 to 15
years
Austria Voest Alpine Poland 1975 Steel products
West
Germany
West German Poland
Consortium
Equipment for expanding
Poland's copper industry
125
40,000 tons of copper
800 to 1,000 over
The Poles used most of the
credits for these projects to
cover financial obligations.
Poland, nonetheless, has export-
ed coal, copper, and chemicals
to the Western firms despite
strike disruptions in 1980 and
1981.
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Figure 2
Planned East European and Soviet
Exports to the West Under the
Buy-Back Arrangements Signed, 1969-80
Note scale changes
Other M Consumer goods Chemicals
From the perspective of planning and foreign trade
bureaucracies, adoption of more aggressive commer-
cial policies seemed an attractive strategy to counter
the swift contraction of trade credits because they
promised the quickest payoff with the least cost.
Import cuts and restraints on demand-primarily on
investment-were unavoidable, but the regimes want-
ed to minimize such measures out of political concern
over the popular reaction to austerity. The payoff
from systemic reform would have been too slow and
uncertain to be much help in a period of financial
crisis. Moreover, vested interests in party, govern-
ment, and enterprise management probably would
have watered down reform programs.
Of the various commercial policies considered,
countertrade was more promising than price cutting
or industrial cooperation. The scope for aggressive
price cutting was limited by the threat of antidumping
actions by Western countries. Western firms general-
ly have not been enthusiastic about entering into
industrial cooperation arrangements with Eastern Eu-
rope, and the returns take several years to be realized.
Faced with an immediate financial crunch, the East
Europeans had little choice but to press suppliers even
harder to accept payment in goods. Western firms
looking to sell to Eastern Europe recognized that they
had to meet these conditions given the region's severe
financial problems.
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At the onset of the East European financial crisis,
only Romania mandated the use of countertrade for
hard currency imports. Most of the other countries
increased reliance on countertrade without making it
an explicit requirement. Although the regimes varied
considerabl in the t e of arrangements they pre-
ferred, 7 reported several
trends:
? Most countries increased the share of their import
costs that they tried to cover through counter-
deliveries (see table 2).
? The lack of hard currency compelled many regimes
to demand countertrade for priority imports that
they had previously purchased for cash. In late
1984, a Polish firm had a tentative agreement with
a US company to purchase $6 million worth of
badly needed X-ray equipment and film. In return,
the US firm agreed to purchase $10 million worth of
coal and chemicals.
? The goods offered as counterdeliveries became even
less attractive. There was a movement away from
agricultural commodities, energy, and semifinished
goods-which are somewhat easier for Western
firms to resell or to use in their own production-
toward machinery, which entails problems in quali-
ty, service, and spare parts (see figure 3). Because of
the pressing need for cash, foreign trade organiza-
tions tried to sell more marketable goods for hard
currency while attempting to offer less desirable
goods in countertrade deals.
The countries that suffered the most severe financial
problems gave the most attention to countertrade:
? In 1980, Romania's President Ceausescu an-
nounced that all foreign trade organizations must
link planned imports of machinery and equipment
and all nonplanned imports to counterpurchases of
Romanian machinery and equipment. Bucharest
subsequently pressed holders of overdue supplier
credits to accept goods in lieu of cash.
? Although Poland demanded relatively small
countertrade ratios for imports going to key export
sectors, in most other sectors the ratios rose to
between 60 and 90 percent,
Polish enterprises, however, often
failed to enforce their demands because shortages of
goods limited barter with Western companies.
Table 2
Countertrade Ratios Demanded
by East European Buyers, a
1976, 1980, and 1983
Romania
30 to 40
50 to 70
60 to 80
Poland
25 to 30
20 to 50
60 to 90
Yugoslavia
30
40 to 60
60 to 80
East Germany
20 to 40
20 to 50
50 to 75
0
15 to 50
30 to 50
Bulgaria
40 to 50
40 to 60
40 to 60
Czechoslovakia
30 to 40
15 to 50
35 to 50
a The ratios in this table reflect typical maximum countertrade
demands made by East European buyers. Western suppliers can
usually lower these requirements in contract negotiations, particu-
larly for higher priority imports.
Source: Surveys of Western businessmen reported by Business
Eastern Europe.
? In 1982, Yugoslavia adopted legislation requiring
$103 worth of counterpurchases for every $100
worth of imports of raw materials, semifinished
goods, and consumer goods in short supply. Yugo-
slav firms were allowed to offer higher quality goods
to meet these needs while less desirable goods were
to be used in countertrade to purchase capital
equipment. In this way, the authorities promoted
imports of goods needed for production and con-
sumption at the expense of investment goods.
The sudden unavailability of credits and weak West-
ern markets in the early 1980s led both East Germany
and Hungary to begin insisting on counterpurchase
deals. Prior to the credit crisis, Hungary generally
opposed the use of countertrade while East Germany
focused mainly on long-term buy-back deals linked to
the construction of complete plants. In addition to
counterpurchase deals, the East Germans have earned
substantial hard currency in recent years by acting, in
effect, as middlemen in multiparty barter-switch
deals. Items the East Germans have resold for cash
include oil, metals, and raw materials obtained
through barter with developing countries, as well as
goods obtained on clearing account from West Ger-
many.
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Figure 3
USSR-Eastern Europe: Change in
Catagories of Goods Offered in
Countertrade, 1976 and 1982
Percent
Fuel Engineered and capital
Chemical
Food
trade with the West since the late 1970s, but reliable
data on its magnitude are impossible to find. Pub-
lished statistics do not distinguish countertrade from
conventional trade.
ome recent estimates
asserted that 40 to 50 percent-an
possibly even more-of East European imports from
nonsocialist countries are tied to countertrade.
this may be reasonably accurate
for trade in captial goods (particularly for countries
facing the most severe hard currency shortages), but it
probably is too high for total trade.
probably accounts for 20 to 30 percent of the region's
trade with nonsocialist countries, that is, $15-20
billion annually of which $10-15 billion is with the
developed West. There are, however, important dif-
ferences among countries:
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? Romanian officials have stated in the press that
countertrade accounts for 30 percent of the
country's $5 billion in trade with the West, well 25X1
short of Bucharest's goal.
? According to embassy reporting, Polish trade offi-
cials recently told Western executives that counter-
trade accounts for 8 to 10 percent of Poland's total
trade, equivalent to about 25 to 30 percent of its
$6.4 billion trade with the West.
Because of their reasonably strong financial positions,
neither Czechoslovakia nor Bulgaria had to adopt
substantially tougher policies on countertrade in re-
sponse to the credit crisis. The Bulgarians have long
sought buy-back and offset deals to modernize their
industry and expand hard currency export capacity
but with meager results. Bulgaria has had more
success in negotiating arrangements in which it pro-
vides construction and engineering services in return
for Western machinery and equipment used in joint
ventures in developing countries. Czechoslovak buyers
often raise the possibility of countertrade in negotia-
tions with Western firms, but generally do not insist
on such arrangements except in the case of large
purchases and low priority imports.
? Yugoslavia announced in the press that the counter-
trade variant established by 1982 legislation ac-
counted for about 15 percent of its $14.3 billion
hard currency trade in 1983; we estimate conven-
tional countertrade probably accounted for an addi-
tional 5 to 10 percent.
? The other East European countries have not report-
ed comparable statistics, but,
Measuring the impact of tougher East European
demands for countertrade is difficult.F_
counter-
trade has increased its share of Eastern Europe's
we estimate that the
countertrade shares for East Germany and Bulgaria
are on the order of 15 to 20 percent and no more
than 10 percent for Hungary and Czechoslovakia.
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Based on OECD and GATT studies, we estimate
countertrade accounted for nearly 6 percent of inter-
national trade in 1983.' Even for LDCs, where coun-
tertrade has attracted much attention in the past few
years, only about 10 percent of total imports-and 4
percent of imports from industrial countries-were
linked to countertrade deals. Total world countertrade
deals are estimated by the OECD to have totaled
approximately $95 billion in 1983.
An important measure of countertrade's importance
to Eastern Europe is the extent to which it helped ease
financial constraints during the 1981-83 credit
crunch. If we assume that 20 percent of imports were
paid for by countertrade arrangements, this would
have saved on hard currency outlays that could be
used instead to cover almost 30 percent of the region's
debt service during this period. The absence of coun-
tertrade would have resulted in an average annual
reduction in imports of 18 percent instead of the 11-
percent average annual cut actually made over the
three years. These measures overstate countertrade's
significance because some counterexports presumably
could have been sold without linkage to imports.
Nonetheless, countertrade played a useful role in
helping these countries deal with their external finan-
cial crisis.
Countertrade probably also helped limit the decline in
East European hard currency exports in 1981-83
caused by soft markets in Western Europe. Perhaps
paradoxically, depressed conditions in the West may
have strengthened the hand of the East Europeans
because Western firms anxious for sales were more
amenable to countertrade requirements. According to
Western business press many
firms took countertrade goods they might have reject-
ed under more normal circumstances, including items
that could only be sold for scrap. While Western
suppliers would try to negotiate the most favorable
prices possible for their deliveries and counterpur-
chases, many firms were prepared to accept some
reduction in normal earnings to enter or maintain
their position in East European markets.
Western chemical firms were accepting a growing
volume of Romanian chemicals as payment on over-
due supplier loans and to preserve established com-
mercial ties. This may explain the growth in Roma-
nia's chemical sales to the OECD in recent years
when many of its other exports have declined.
Countertrade may have contributed to the surprising-
ly strong growth in East Germany's exports. 0
the general-
ly better quality of East German manufactured and
consumer goods has made counterpurchase deals
more feasible than with other East European coun-
tries. Resales of oil and other commodities obtained
through barter deals, however, have probably played a
more important role in boosting East German exports
to the West.
Although countertrade apparently has contributed to
export growth for Yugoslavia, we believe it has
worked against Belgrade's efforts to restore financial
health because Yugoslav enterprises have used coun-
tertrade to circumvent regulations designed to build
up the country's foreign exchange reserves. In conven-
tional trade, a Yugoslav firm had to surrender 60
percent of the proceeds from hard currency exports to
the Yugoslav National Bank, compared with only 20
to 40 percent in countertrade. Because of this incen-
tive, Yugoslav firms often exported goods in counter-
trade deals that otherwise could have been sold
directly for cash. This evasion of foreign exchange
regulations contributed to Belgrade's failure to re-
build its depleted hard currency reserves in 1983 and
complicated negotiations on Yugoslavia's 1984 refi-
nancing agreement with Western banks.
Most East European countries claim that they do not
want to increase their use of countertrade,
saw would prefer not to barter exports for imports.
The Poles claimed that continuing shortages of ex-
portable goods limit their ability to use countertrade.
Instead the Poles want to obtain imports on credit and
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Countertrade Deals:
The Good, The Bad,
and The Romanians
Negotiating a countertrade deal with an East Euro-
pean buyer is filled with pitfalls for a Western firm.
Western businessmen are at a disadvantage because
they cannot be sure of the quantity, price, and quality
of goods they must purchase. The East European side
knows the exact goods it wants to purchase, the price,
and the countertrade ratio it will require. Eastern
negotiators will often wait until just before signing
contracts to bring up countertrade demands in order
to prevent the Western partner from raising his price
to cover the cost of disposing of countertrade goods.
The East European side will generally try to impose
tight restraints on the list of goods available for
counterpurchase, the time limit for Western pur-
chase, and potential resale markets. The East Euro-
pean objective is to require the purchase of less
marketable goods with little delay and to prevent the
Western firm from reselling in established markets.
The Eastern side will generally try to guarantee
Western counterpurchases by demanding a sizable
penalty clause covering nonfulfillment of contract. F_
Faced with these difficulties, many companies try to
negotiate price discounts and other concessions in
lieu of countertrade obligations. Nonetheless, some
companies, particularly chemical firms and commod-
ity traders, are able to profit from both the import
and export contracts of countertrade transactions
because they can more readily use or resell basic
products from Eastern Europe. West European com-
panies generally are in a better position to accept
countertrade than US firms because some electrical
components, clothing, textiles, shoes, and household
items offered by the East Europeans meet West
European standards. In addition, West European
firms can more readily accept chemicals, steel, and
cement, which have comparatively high transporta-
tion costs, because of the shorter distances involved.
Japanese trading companies also are better able to
negotiate successful countertrade deals than US
firms. The Japanese can rely on extensive marketing
networks in East Asia to dispose of East European
goods, often by bartering the East European products
for goods from third countries.
Even when a firm carefully negotiates a deal, it can
still end up losing money. Many Western suppliers
have been ready to make counterpurchases in good
faith only to find that the East European side cannot
or will not supply goods originally listed as available
for counterexport. This leaves the Western firm with
the choice of either taking worthless goods in pay-
ment or paying a penalty-which can run up to 100
percent of the contract-for nonfulfillment of
contract.
Western businessmen
have the most trouble negotiating satisfactory coun-
tertrade terms with the Romanians. Romanian for- 25X1
eign trade organizations are notorious for reneging on
the promised quality of counterexports. According to
press reports, Japanese firms trapped into purchasing
Romanian goods have found one solution to the cost
of countertrade with Bucharest. They simply request
delivery of the heaviest Romanian machinery avail-
able so that they can sell it immediately as scrap.
export for cash to generate the funds needed to meet
debt service requirements.
Belgrade is discouraging the use of
countertrade by reducing the amount of hard curren-
cy export earnings from conventional trade that a
Yugoslav firm must surrender to the National Bank.
some easing in
demands for countertrade from East German,
Czechoslovak, and Hungarian buyers as their ability
to borrow from Western banks has improved.
Only Romania seems committed to pressing for more
countertrade. In his recent speech to the Romanian
party congress, President Ceausescu endorsed coun-
tertrade as a means to expand economic relations with
the West. But even Romanian foreign trade officials
have acknowledged that the push for more counter-
trade would be balanced by an effort to receive
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payment in cash for Romanian exports. Deputy For-
eign Trade Minister Stanciu told the Western press
that, while Bucharest wants to increase countertrade
deals, most exports will not be tied to imports because
the Romanians also want to pay back their hard
currency debt in the next few years.
Despite apparent reluctance to increase countertrade,
we believe that it will continue to play an important
role because Eastern Europe is likely to face increas-
ing difficulties in exporting to the West. Reductions in
investment and imports of Western capital goods in
recent years have widened the technological gap
between Eastern Europe and the West. The East
Europeans also are facing stiffer competition from the
more industrialized LDCs in Western markets. Grow-
ing Soviet demands for better quality East European
goods in return for deliveries of energy and raw
materials may reduce the amount of East European
goods available for sale in the West. We expect that
the combination of these factors will compel the East
Europeans to continue pressing Western suppliers to
take less attractive goods as payment.
The East Europeans are unlikely to give up counter-
trade because it is a long-established way of doing
business. With the possible exception of Hungary,
East European foreign trade organizations continue to
favor countertrade because they perceive that it
promises stability and facilitates planning. Moreover,
West European businessmen, in particular, seem to
accept countertrade as a necessary evil. Since West-
ern firms expect that the East Europeans will remain
strapped for cash, we believe businessmen anxious for
sales will accept countertrade as one of the costs of
competing in Eastern Europe and will even initiate
countertrade offers in the hope of clinching deals.
Many Western banks and companies also have a
vested interest in promoting countertrade because
they have made significant investments in divisions or
companies that specialize in countertrade with both
LDCs and the Soviet Bloc. Even though Western
governments generally disapprove of state-mandated
countertrade because it reduces the efficiency of
world trade, governments are reluctant to interfere
with the activities of domestic exporters.
Countertrade with developing countries, particularly
switch trading involving Western firms, LDCs, and
Communist countries, seems likely to grow. Switch
Western Governments:
Searching for a
Consensus on Countertrade
Caught between theoretical objections and the reality
of business, OECD governments have struggled for
nearly a decade to establish a position on East-West
countertrade. Since 1977 the OECD and the EC have
debated the issue and ordered studies, but progress
toward a Western consensus has been extremely slow.
Most governments want to establish ground rules
with the Soviet Bloc that would make it easier for
Western firms to deal with Eastern demands. Some
governments, however, are concerned that a code of
conduct would imply official endorsement of state-
mandated countertrade as a normal practice. The
USSR and Eastern Europe have persistently pressed
for such official endorsement but have balked at
Western efforts to discuss the commercial problems
posed by their practices in CSCE sessions and the
United Nation's Economic Commission for Europe.
The Soviet Bloc has argued that some countertrade
deals-notably buy-back arrangements-contribute
to the growth of East-West trade while counterpur-
chase and barter deals are a response to "discrimina-
tory" Western restrictions on their exports.
transactions were fairly common in the 1950s, but
declined in number and importance as LDCs and
CEMA countries began conducting more of their
trade in hard currencies. This practice, however, is
enjoying a revival as a result of the financial problems
encountered by both developing countries and Eastern
Europe. According to press a
growing number of multinational firms and Western
banks trying to make new sales or collect on old debts
are proposing various types of switch trade arrange-
ments to the East Europeans and LDCs.
Countertrade has been a useful expedient during a
period of financial problems and soft export markets
in the West, but we believe it may do more harm than
good to Eastern Europe's trade performance in the
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long run. In our view, this is particularly true of
counterpurchase and barter deals. Longer term rela-
tionships with Western firms through buy-back and
offset deals and other forms of industrial cooperation
offer better prospects for obtaining modern technol-
ogy and marketing skills needed to be competitive in
the West.
Western businessmen and even some East European
economic officials argue that reliance on countertrade
tends to perpetuate uncompetitive production, shelters
Eastern enterprises from valuable marketing experi-
ence, and damages the image of East European goods.
When Western firms looking for sales accept goods
that the East Europeans may not be able to export
otherwise, the East Europeans have little incentive for
innovation or improvement in the quality of their
production and marketing. In our view, linking ex-
ports to the willingness of Western partners to accept
countertrade is a less promising basis for achieving
strong gains in sales than working to meet market
requirements for price and quality.
When the East Europeans sell marketable goods
through countertrade, they may often receive less for
their exports than they would in normal trade. Since
Western businessmen find countertrade transactions
more costly and complex to arrange than conventional
deals, they often raise the price of their goods or
demand discounts on the price of East European
counterdeliveries.
Western firms may often agree to coun-
tertrade because they can make a profit on disposing
of the counterdeliveries-a gain the East Europeans
could capture with better knowledge of the market. A
Western firm, for example, recently bartered agro-
chemicals with a Czechoslovak foreign trade organi-
zation because it could sell them to a French company
for a higher price than the Czechoslovaks demanded.
the most beneficial direction of development for coun-
tertrade would be an increase in industrial coopera-
tion. Longer term arrangements that go beyond a one-
time sale or purchase of goods offer better possibilities
for improving East European export performance
because sustained contact with Western firms can
provide a continuing flow of technology, technical and
marketing skills, incentives to maintain quality stan-
dards, and stable markets. Cheap Eastern labor and
improved access to CEMA markets are the principal
attractions to the Western partner. Industrial cooper-
ation arrangements can include buy-back and offset
deals, subcontracting where the Eastern partner is a
regular supplier of components, joint research and
development, coproduction where each partner makes
some components that contribute to the other's final
product, and joint marketing in either partner's mar-
ket or in a third country. Certain East European
countries are even interested in establishing joint
ventures with equity of both partners either in Eastern
Europe or in the West.
Over the past few years, the East Europeans have
taken steps to make cooperation and joint ventures
more attractive to Western businesses:
? Hungary, whose 1972 legislation authorizing for-
eign equity participation in joint ventures had at-
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rized the creation of duty-free zones. Mixed
companies in duty-free zones would be exempt from
import duties and certain wage and benefit regula-
tions if they export the end product.
? Bulgaria introduced a joint venture law in 1980 and
has been pursuing cooperative relationships in elec-
tronics and the automotive sector with Western
(particularly Japanese) firms.
? Yugoslavia has been revising its joint venture legis-
lation in a bid to attract more foreign capital
without increasing its debt and to obtain the help of
Western firms in developing stronger export indus-
tries and promoting import substitution.
? Although long reluctant to enter into industrial
cooperation arrangements with Western firms, the
East Germans agreed in 1984 to supply diesel
engines to Volkswagen beginning in 1988 in return
for a production line, truck chassis, and trucks.
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The OECD estimates that countertrade accounts for
as much as 30 percent of trade between the Soviet
Bloc and the LDCs. The OECD apparently includes
in its estimate goods exchanged through bilateral
clearing accounts in addition to transactions involv-
ing linked export and import contracts-the typical
countertrade deal with firms from developed coun-
tries. Bilateral clearing trade probably accounts for
most East European-LDC countertrade; nonetheless,
barter transactions and switch deals involving several
countries and firms are common between the regions
and have grown in importance as a result of the
financial problems faced by both Eastern Europe and
the Third World.
Romania is the most aggressive East European coun-
try in trying to arrange countertrade deals with
LDCs. Most of these efforts are directed at bartering
oilfield equipment, machinery, and chemicals for
petroleum from oil producing countries. The other
East European countries also seek out opportunities
to swap finished goods for oil, food products, and raw
materials from developing countries. While the East
Europeans generally will use the LDC imports as
industrial inputs or additions to consumer supplies,
in recent years several countries-notably East Ger-
many-have resold bartered LDC goods for hard
currency to help ease liquidity problems. Many pro-
posed deals are never completed, however, because
the LDC cannot identify any East European items
that it wishes to import, or the East European
partner fails to deliver acceptable goods on time. F_
An important aspect of East European-LDC counter-
trade is the use of switch trades to acquire Western
goods or repay hard currency debts with bilateral
clearing account balances.
Clearing account balances between Eastern Europe
and the LDCs are not directly convertible into cash
but represent purchasing power for goods mant4fac-
tured in the countries subscribing to the clearing
agreement. The agreement may provide that the
country with a surplus in bilateral trade can turn
over its balance to a third party. The third party, in
turn, can use the surplus to acquire goods from the
deficit country and-through a series of transac-
tions-convert these goods into hard currency.
A West German firm, for example, delivers $470,000
worth of machinery to Romania (see figure 4). Roma-
nia, which has a bilateral clearing surplus with
Morocco, pays the West German firm in Moroccan
clearing dollars. The Romanians discount the clear-
ing currency by 6 percent, giving the West Germans a
500,000 clearing-dollar credit. The West German
firm, unable to use the clearing currency, contacts a
switch trader who in turn locates a Dutch firm
interested in buying from Morocco. The switch trader
purchases the clearing dollars from the West German
firm for $470,000 and sells the balance to the Dutch
firm for $475,000. The Dutch firm uses the clearing
balance to import from Morocco. As a result of this
transaction, the Romanians obtain Western goods
without using hard currency while eliminating a
clearing account surplus with Morocco.
Because of problems in collecting on credits from
both LDCs and East European countries, Western
companies and even some banks have been trying to
use switch trades to liquidate their claims. A firm
holding a claim on an East European country, for
example, will try to arrange a purchase from an LDC
that has a clearing deficit with the same East Euro-
pean country. The firm will then either use or resell
the LDC import and liquidate its claim on the East
European country, while the LDC's clearing deficit is
reduced. Arranging such deals obviously is compli-
cated, and the rate of success appears low relative to
the effort invested.
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.~ccicL
Figure 4
Flow of Good and Money in an LDC-East European Switch Deal
$470,000 MA CHINER Y
WEST
GERMAN
FIRM
$500,000 CLEARING CURRENCY
srs00
'0019
$500,000 CLEARING CURR,"Cy
DUTCH
FIRM
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Although the East Europeans extol the virtues of
industrial cooperation, achievements to date have
been limited. concluded that less
than 10 percent of East-West trade has resulted from
such agreements. Even Hungary, which together with
Poland has been in the forefront of cooperation deals,
has estimated that these arrangements account for
only 6 to 7 percent of its exports to the West.
The new East European initiatives are unlikely to
change the attitude of Western businesses significant-
ly and permit the development of useful alternatives
to current countertrade practices. Western firms con-
tinue to regard investment in East European joint
ventures as risky. Despite its newly liberalized joint
venture regulations and generally good reputation
with Western business, Hungary so far has attracted
only one duty-free-zone joint venture. While Western
businessmen are somewhat more interested in cooper-
ative arrangements, they still view Eastern proposals
with caution, according to press articles. Western
companies are skeptical that they can rely on Eastern
partners to meet contract deadlines and quality stan-
dards. East European regimes can easily impose
administrative measures that can add costs and un-
dermine a Western firm's rights in a cooperation
agreement. Moreover, in many cases, the partners'
interests eventually clash, particularly when the East
Europeans want to push exports to hard currency
markets while the Western side wants to use a
cooperative deal to enter the CEMA market.
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Appendix
Countertrade Policies of the
East European Countries
The countries that suffered the most severe financial
problems and consequent decline in hard currency
trade-Romania, Poland, and Yugoslavia-have giv-
en the most emphasis to countertrade. East Germany
and Hungary, which rarely demanded counterpur-
chases during the 1970s, became more aggressive in
dealing with Western suppliers when their financial
positions weakened in 1981-82. Although Bulgaria
has not encountered severe financial problems over
the past three years, Sofia regularly exerts pressure on
Western suppliers to accept countertrade. Czechoslo-
vakia did not alter its commercial policies significant-
ly, reflecting its good financial health and relatively
low priority on hard currency imports.
Romania has tried to enforce the toughest counter-
trade demands. In December 1980 the government
issued a decree requiring all foreign trade organiza-
tions to link planned imports of machinery and equip-
ment and all nonplanned imports to counterpurchases
of Romanian machinery and equipment or, in excep-
tional cases, to purchases from other sectors. When
Romania went into arrears on its foreign debt, Bucha-
rest told holders of overdue supplier credits that they
had to accept goods in lieu of cash if they wanted
repayment in the near future.
The Romanian Government claims that countertrade
is a response to import restrictions imposed by West-
ern countries on Romanian products. Bucharest has
offered to exempt from countertrade requirements
any country that liberalizes restrictions on Romanian
exports. In 1982 Romania made a deal with the
European Community (EC) to relax its demands. The
EC liberalized some import restrictions on Romanian
goods, but EC members are still encountering high
countertrade demands from Romanian buyers.
Despite the severity of Poland's financial crisis, the
trend toward countertrade seems less pronounced
than in Romania. Western suppliers of goods such as
electronic components and agricultural chemicals
used in export industries face small countertrade
ratios. In most other sectors, however, the ratios have
increased to between 60 and 90 percent. Because of
their cash shortage, the Poles have joined the Roma-
nians in trying to arrange straight barters or barter-
like deals that require minimal cash payments. Such
transactions are particularly awkward for Western
firms, but the Poles-unlike the Romanians-occa-
sionally will offer marketable items such as coal and
raw materials for barter.
Polish enterprises often are unable to enforce their
demands because shortages of goods restrict what can
be traded with Western companies. Some Western
suppliers have made the best of a difficult situation by
reversing the countertrade process through advance
purchases. The Western partner buys Polish goods on
the strength of the Polish firm's commitment to buy
something from the Western importer within a stipu-
lated period. The Western company has greater con-
trol over the quality of the goods received, and the
proceeds from the sale of the Polish products are kept
in the West to ensure that hard currency is available
the new rules
complicated foreign trade management, leading to
complaints from industries requiring Western ma-
chinery and other imported inputs. In a speech to
economic managers in 1981, President Ceausescu
defended the policy as part of his plan to eliminate
Romania's foreign debt. "Without the principle of
compensation, nothing can be imported. We have
taken the decision to allow no further increase in our
foreign debt and to reduce it from this year onward.
We shall import no more unless we have the where-
withal to pay and unless the compensation we require
is forthcoming from the firms concerned."
to cover later sales to the Polish firm.
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Because of Yugoslavia's decentralized system of eco-
nomic management, legislation on countertrade re-
quirements adopted by federal authorities often has
had little impact on foreign trade practices. At least
through 1982, the republics held most of the authority
for conducting foreign trade. Enterprises in republics
that were net hard currency earners and whose banks
had good access to Western credit markets paid much
less heed to official guidelines on countertrade than
enterprises from poorer regions.
Even with this diversity, Yugoslav demands grew
more stringent as the country's financial position
deteriorated. Between 1978 and 1982, businessmen
reported that counterpurchase requirements-usually
on imports over authorized quotas-rose from 30
percent for all goods to 60 percent for machinery and
spare parts, 80 percent for raw material and semifin-
ished goods, and 100 percent for all other goods. In an
effort to balance trade bilaterally, Belgrade required
after 1980 that counterexports must be sold to the
country supplying the initial imports.
In 1982 Belgrade adopted new legislation on the use
of countertrade for importing raw materials, semifin-
ished goods, and consumer goods in short supply:
? Yugoslav firms purchasing such items had to re-
quire $103 of counterpurchases for every $100
worth of imports.
? The Western supplier had to purchase the Yugoslav
goods in advance of his own delivery.
? Only newly developed Yugoslav goods or those
subject to Western import restrictions could be
offered as counterdeliveries.
Yugoslav authorities reasoned that this policy would
generate an excess of exports over imports, would
reduce the need for trade credit as a result of advance
purchases, and would open up new markets for Yugo-
slav goods. By reserving more desirable goods for
countertrade arrangements, the authorities hoped to
promote imports of goods needed for current produc-
tion and consumption at the expense of imports of
machinery and equipment. This was consistent with
Belgrade's overall plan to reduce investment. By
having access to better quality exportables, Yugoslav
enterprises presumably would be more aggressive and
successful in linking imports to exports.
Before the credit squeeze of the 1980s, East Germany
did not often demand counterpurchases for imports of
consumer goods, semifinished products, or machinery.
East Berlin's use of countertrade centered mainly on
buy-back deals for the construction of complete
plants, particularly in the chemical industry. The
sudden unavailability of Western credits in 1982 and
weak Western markets escalated East German de-
mands for counterpurchases to pay for semifinished
products and consumer goods. More important than
counterpurchases, however, was East Germany's role
as a middleman in multiparty countertrade deals.
East Germany's Intrac trading organization, which
specializes in the international trade of oil and nonfer-
rous metals, helped East Berlin weather the financial
squeeze by functioning as a barter-switch trader.
Intrac generated substantial hard currency earnings
by reselling for cash the oil, metals, and raw materials
obtained in barter deals with developing countries as
well as goods obtained on clearing account from West
Germany.
Hungary has made the least use of countertrade
among the East European countries and has even
criticized certain types of countertrade. In 1977, the
Ministry of Foreign Trade expressed opposition to
demands for counterpurchases in cases where the
Hungarian enterprise would try to press on Western
partners poor quality goods that it could not sell or for
which it has no marketing organization. Countertrade
was permissible only in cases where the Western firm
would be the end user or where it had an established
marketing organization. The Hungarians wanted
long-term commercially based arrangements rather
than one-time sales that could undermine the reputa-
tion of Hungarian goods.
Before 1983 Hungarian foreign trade enterprises did
not require counterpurchases for planned imports for
which hard currency had been allocated. (Unplanned
imports required 100 percent countertrade.) Accord-
ing to the business press, in early 1983, because of
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Hungary's severe hard currency problems, foreign
trade enterprises began pressing for more counter-
trade arrangements with Western suppliers. Western
businessmen reported that Hungarian buyers began
demanding counterpurchases covering 30 to 50 per-
cent of imports.
Until financial problems escalated countertrade de-
mands from Romania, Poland, and Yugoslavia, Bul-
garia generally sought the highest level of counter-
trade among the East European countries. The poor
quality of Bulgarian manufactured goods and Sofia's
decision in the late 1970s to reduce its hard currency
debt compelled foreign trade enterprises to demand
40 percent to 60 percent counterpurchase ratios from
Western firms, even for priority imports. The Bulgari-
ans tried to stress long-term cooperation through buy-
back agreements rather than one-time counterpur-
chase deals. But lack of Western interest in Bulgarian
goods-except for some food products and petrochem-
icals-limited the number of major countertrade
agreements with Western firms. Sofia had some
success in penetrating Third World markets through
joint ventures with Western firms in which the Bul-
garians provided construction and engineering ser-
vices in return for Western machinery and equipment
Czechoslovakia lagged behind most of the other East
European countries in using countertrade during the
1970s because it believed its goods were competitive
on Western markets. Because of Prague's reasonably
strong hard currency position, the regional debt crisis
did not result in much change in Czechoslovakia's
commercial practices. Western businessmen have re-
ported some Czechoslovak demand for counterpur-
chases, but on the whole Prague has preferred to
impose sharp cutbacks in imports and to press suppli-
ers for financing to offset the decline in bank credits.
used in the projects.
Thanks to its relatively strong financial position and
low level of dependence on hard currency trade,
Bulgaria did not have to toughen its countertrade
policies during the East European credit crunch. The
Bulgarians, however, have continued to seek buy-back
and offset deals in order to modernize their industry
and expand their hard currency export capacity. Sofia
has been particularly active in trying to develop
cooperative deals with Western firms that would
establish a manufacturing base for finished goods or
components in the electronics and automobile indus-
tries. The Bulgarians have also continued to pursue
arrangements in which they can provide services in
return for Western participation in joint ventures in
developing countries.
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