Ex-Im Bank financing for US manufacturing
The Export-Import Bank of the United States is moving forward with plans to finance construction of new US factories and expansion of existing factories that, in each case, will produce some goods for export.
The program’s parameters are still being worked out, but the bank has indicated financing availability will depend on two criteria: “export nexus” and jobs created.
The export nexus will be measured as the percentage of production projected to be exported. The qualifying percentage for small businesses, minority- or women-owned businesses, projects in “transformational export areas” and climate-related transactions is 15%. Other projects will require 25% of output to be destined for export.
The amount of Ex-Im financing to be made available for individual projects will be scaled based on the number of US jobs projected to be supported, both during construction and over the life of Ex-Im’s financing. Each job year (where one job year equals one job for one year) allows for up to $189,242 in financing — an interesting criterion since it gives credit for more jobs the longer the term of the Ex-Im Bank loan, providing the borrower and lender an unusual shared interest in a longer maturity. This will presumably be subject to normal commercial leverage ratios for similar financings (similar except for the export dependency of projected revenues).
The statutory requirement of “a reasonable assurance of repayment” will also need to be met.
Some details of the new initiative are in an April news release by the bank on its “Make More in America Initiative.” The initiative follows up on Executive Order 14017 that President Biden issued on February 24, 2021, about strengthening America’s supply chains.
Senator Pat Toomey (R-Pennsylvania), the ranking member of the Senate Banking Committee (which is Ex-Im Bank’s oversight committee), condemned the bank’s announcement, declaring its decision is “worse than mission creep.” That depends, of course, on what one considers to be the bank’s mission. That mission has expanded over the years.
This is not Ex-Im Bank’s first domestic financing program. The bank’s motto — “Jobs Through Exports” — has already been interpreted more broadly than merely its traditional demand-side support through financing foreign purchases of US goods. Ex-Im Bank has also recognized and tried to address domestic financing constraints on the supply side of potential US exports.
As discussed below, borrowing against sales into emerging markets injects a degree of credit risk that is beyond the comfort zone of most banks. Ex-Im undertook to meet this challenge through its “working capital guarantee program,” which provides short-term loans to domestic businesses to fund the cost of raw materials for products destined to be exported, with the loans repayable from the proceeds of overseas sales.
Ex-Im Bank also developed a “supply chain finance guarantee program,” which guarantees banks against non-payment by foreign customers of accounts receivable purchased by the banks from US exporters. This program enables exporters to receive, at a discount, quick payment of their invoices.
In each of these programs, like the new manufacturing plant finance program, Ex-Im Bank’s financing for US borrowers encourages exports, albeit indirectly.
Two distinct policy objectives have supported the idea of Ex-Im Bank in the decades since it was established in 1934 — market failure and leveling the playing field.
The market failure argument is that emerging market debt markets are imperfect. In particular, debt tends to be available only for relatively short terms. Short-term lending won’t work for financing the acquisition of capital goods whose cost may need to be amortized over many years of operation. The loan maturity needs to extend through at least a substantial portion of the useful life of the equipment. Such debt is not available locally. Export credit agencies, like the US Ex-Im Bank, offer the long-term financing that the local debt markets cannot.
Senator Toomey’s assertion of mission creep is tied to his observation that the US has as sophisticated a bank and capital market finance sector as any country on the planet, so there is no market failure here for Ex-Im Bank to address. But that fails to recognize the challenges faced by export-oriented manufacturing.
At least in cases in which projected revenues depend importantly on exports to lower-credit regions, domestic lenders will discount such revenues when considering financing such facilities and reduce the available leverage and perhaps decline to finance the sales or to support the project entirely.
An additional, and perhaps more dominant, defense of Ex-Im Bank’s support of US businesses is to ”level the playing field” — that is, to assure domestic suppliers that their potential offshore customers can benefit from financing terms as attractive as those available to their purchases of goods from
competing foreign suppliers supported by their respective export credit agencies.
That leveling has been substantially achieved through widespread adoption by leading ECAs (specifically, Australia, Canada, the European Union, Japan, Korea, New Zealand, Norway, Switzerland, Turkey, the United Kingdom and the United States) of the OECD’s “Arrangement on Officially Supported Export Credits.” The arrangement was a collective response to the cut-throat competition among ECAs that characterized the first decades of Ex-Im Bank’s operations.
Some ECAs aggressively supported bids by their national producers with uneconomic terms such as principal amounts exceeding the cost of the goods being financed, minimal (if any) interest rates (regardless of the apparent risk), and maturities that exceeded the useful life of the goods being financed.
A competing bidder’s ECA needed to match those terms or stand by while the business was lost to a competitor for reasons unrelated to the quality or price of the relevant product. Competition among ECAs worked less to achieve a level playing field than to contribute to a slippery slope of uneconomic financing terms. Among other issues, this competition was costly for the ECAs.
In 1971, leading ECAs from the largest OECD countries responded by establishing the arrangement, which is, in effect, a cartel that, as it has evolved, reflects agreement on three points.
The first is that ECA financing would not exceed 85% of the cost of the goods being financed, with an additional allowance for the local costs incurred in installing the exported equipment.
Second, interest rates had to be at least 100 basis points above the rates required for similar-maturity bonds issued by the government of the relevant country.
Third, the maturity of the loan would be restricted according to the nature of the financed goods, with shorter terms required for high-income countries. Permitted maturities are 8.5 years for most sales into high-income countries and 10 years for other countries, with longer terms permitted for specific industries, such as 12 years for new aircraft or coal-fired power plants and 14 years for project financings generally, but up to 18 years for renewable energy or nuclear projects.
While the OECD arrangement is non-binding, adherents agree to notify the other members if they are considering offering non-compliant financing terms, giving competing ECAs an opportunity to support their nation’s bidders with matching terms. Such notices are infrequent, and adherence to the arrangement’s terms is taken seriously by the world’s ECAs, including by some that have not formally signed on to the arrangement.
Over the 50 years since its adoption, the arrangement has succeeded in generally providing a level playing field, encouraging winning business based on price and quality, and not via competing subsidies. But it has not succeeded in every respect.
When foreign manufacturers propose sales to prospective US customers supported with financing offered by their national ECAs, any US manufacturers competing for that business have no corresponding ECA support to offer. The customer may have access to the full field of US credit markets, but that plus better pricing or quality may still lose to the foreign bid. All else equal, the sale will go to the foreign supplier, and any potential employment that would have arisen from domestic manufacture of that equipment will be lost.
Arguably Ex-Im Bank’s mission should include leveling the playing field at home as well as abroad, although so far the bank has declined to do so.
On one occasion, Ex-Im Bank was approached to support a domestic turbine manufacturer in competition with a European supplier supported by ECA terms sufficiently aggressive to require notification to the other arrangement participants. Ex-Im Bank issued a letter of interest asserting that there was “no policy impediment” to Ex-Im Bank matching the foreign ECA’s financing terms. However, in due course Ex-Im Bank found an impediment and ultimately did not approve the requested financing.
Foreign investment into the United States has not been a particularly dominant activity, but it is growing. With that growth, US manufacturers are disadvantaged relative to foreign manufacturers in benefiting from that trend where the foreign manufacturers are supported by their respective ECAs. This is a good time for Ex-Im Bank to reconsider being open to supporting US jobs by leveling the playing field at home.
A related opportunity arises where a foreign company acquires goods in the US and contributes those goods as an equity investment in a US-based enterprise. From the perspective of national income accounting, such a transaction creates a claim on foreign currency and enhances overseas demand for US dollars, which has the same economic consequence as an export. From an economic perspective, the purchase is an export whether the goods acquired in the US are — or are not — ever transported out of the country. From this perspective, such purchases by foreign investors into the United States should qualify for Ex-Im Bank financing even absent direct competition from a foreign ECA.
When prospective investors are calculating the pros and cons of investing in the US, availability of Ex-Im Bank financing for equipment that could be procured from local manufacturers could sway their ranking of options in favor of the United States. To date, Ex-Im has not considered such transactions as qualifying for its support. US manufacturing would benefit if that practice were reconsidered.
Jobs Through Import Avoidance
The Biden administration’s request to Ex-Im Bank goes further than just promoting exports.
It is aimed at kick-starting domestic manufacturing capacity in order to reduce dependency on certain imported critical goods, potentially raising further cries of mission creep.
Senator Toomey may be correct in calling this “mission creep” since it goes beyond promoting exports. But that creep may well serve the national interest.
Unlike many countries, the United States lacks a domestic development bank to support construction of infrastructure and other developmental facilities. The void has been partially filled with federal programs such as the Department of Transportation’s TIFIA program to finance transportation infrastructure and the Environmental Protection Agency’s WIFIA program to finance water infrastructure. No such program is available to support strategically important manufacturing.
The White House has recognized an important, possibly critical, national need and, after reviewing the tools in its arsenal, has identified Ex-Im Bank as well equipped, with the necessary legal capacity and staff expertise to fill that void.
The White House statement makes it clear enough that more than just jobs are involved when it states that Ex-Im Bank “is well positioned to address this issue, supporting jobs in America along the way” — that is, job creation is welcome, but subsidiary to other national objectives, such as kick-starting domestic manufacturing capacity in strategic industries, thereby reducing dependency on foreign sources.
Supporting jobs by encouraging exports is one thing. Doing so by discouraging imports is another. Economists tend to disfavor protectionism.
Import substitution strategies promote high cost, inefficient domestic production. Prior to its 1991 pro-market conversion, Albania imported as little as possible, but consumption was meager and the quality of domestic goods was reliably poor. The key argument for protecting domestic producers from competing imports, aside from serving special interests, has been to support an “infant industry” — arguing that, where a country is potentially an efficient producer of a good, but needs to achieve critical mass to achieve those efficiencies, blocking foreign competition for the period required for the industry to establish itself can lead to an overall economic improvement (for that country, at least).
That appears to be at least part of what the Biden administration has in mind. If only given a chance to catch up with foreign producers, US companies will be able to produce as efficiently as anyone. While there is no active barrier to imports in the program, there is a degree of subsidy, through financing on terms not otherwise available, to kick-start a domestic manufacturing capacity in a range of areas in which the US relies substantially on imported goods.
National security offers another motivation for protecting a domestic industry.
Currently electronic goods, including products on the cutting edge of a clean energy future, are overwhelmingly produced in Asia. China controls the refining of roughly 90% of the rare earths required in the production of computers, cell phones, wind turbines, batteries and electric vehicles. Taiwan dominates the production of semi-conductors.
Loss of reliable access to such materials and products could severely adversely affect the quality of American life. Some subsidy of a domestic capacity might be well invested. This is part of the administration’s motivation and Ex-Im Bank’s focus.
The bank’s public announcement of the program notes that its new initiative will apply “especially in sectors critical to national security.” That goal clearly goes well beyond “jobs through exports.” But Ex-Im Bank’s mission has already “crept” forward over the years in response to overseas challenges, as demonstrated by the introduction of the working capital and supply-chain-finance guarantee programs. The bank’s goals are always subject to policy objectives arising from a changing global debt market, and so adjustments to its goals and, reflecting that, its programs, is warranted. Its mission may be creeping, but the more important issue may be whether it has crept far enough.