How trade credits foster exporting

Internationally active firms rely intensively on trade credits even though they are considered particularly expensive. This phenomenon has been little explored so far. Our analysis focusses on cash-in-advance financing. With the help of a theoretical model, we show that firms intensively use cash-in-advance because it serves as a quality signal that reduces the high uncertainty related to international transactions. Specifically, cash-in-advance provided from a foreign buyer to an exporter can alleviate adverse selection and the risk of moral hazard. Thus, exporting becomes more profitable which allows less productive firms to start exporting. We use unique survey data on German enterprises from the Business Environment and Enterprise Performance Survey to test the effect of cash-in-advance financing on firms’ exporting participation. Accounting for endogeneity, we find that cash-in-advance has a positive impact on the firms’ probability to export. Moreover, our results suggest that this effect is particularly strong for less productive firms. Copyright Kiel Institute 2015