Over the recent years, trade finance has started the tumultuous journey of entering into financial technology (fintech); realising the efficiency savings in attempting to cut costs, simplify the supply chain and automate trade finance. But the commoditization of trade finance and emergency of ‘trade tech’ has been far from easy, and has significant challenges. This piece looks at some of the breakthroughs and challenges of injecting fintech into trade finance space.
The challenges of trade finance
Trade finance is a fairly complex process involving many intermediaries, financiers on both the buy and the sell side, and is generally an area with little technological innovation. In addition, trade finance is largely a paper based operation, and structuring finance through Letters of Credit and Bills of Lading are generally time consuming and cumbersome.
Settlement of payments for both the exporter and the importer can take several months when operating in multiple jurisdictions, and the opacity of confirming transactions, or the passing of goods from one party to another can get complex and lead to oversights.
Intermediaries also include non-financial institutions such as insurers, freight forwarders, customs agents and inspectors. The Organisation of Economic Cooperation and Development estimates that the ‘hidden’ costs of trade finance account for around 15%, or USD $100bn per year, a significant revenue loss for many businesses.
Knowing your customer (and knowing your goods) is also a rising pain of trade finance. Understanding the flow of money across jurisdictions is important from a regulatory and fraud perspective, and having paper records makes it hard to track transactions end to end.
Blockchain and trade finance
The Blockchain could help alleviate some of the risks and simplify some of the above challenges. The blockchain has been identified by the European Banking Association as a potential disruptor and transformative tool to overcome many of the pain points in trade finance today. In summary, the two biggest opportunities around blockchain in trade finance are trade data sharing and the financing of trade.
The sharing of data and automation of processes could help reduce human error and ensure that just one copy of documents such as Bills of Lading or Letters of Credit exist at any one time and cannot be overwritten unless all parties agree. In doing so, real time changes can be made quickly, and can be standardised across all markets.
Currently, a consortium of banks, including Societe Generale, HSDC and Deutsche Bank, are collaborating to fight money laundering and sharing data on a blockchain platform which streamlines the processes of trade finance by mapping out the end to end supply chain of a transaction and tracking international trade transactions. In doing so, the trade chain is digitised and can help counter terrorism financing and money laundering.
Further to this, the blockchain could be used as an escrow style service, meaning guarantee of payment between the buyer and the seller can be triggered automatically once the conditions of the contract are fulfilled (e.g. goods are delivered).
Cautious optimism for fintech in trade
For those looking to export goods at lower cost, with faster payments supported by blockchain technology, the end goal is certainly in sight, but right now, we still have a fair way to go.
The inherent complexity around trading internationally and complying to regulation in different markets, as well as the need for all markets to adopt blockchain technology is currently a blocker in becoming a widespread, common use case. Trade finance involves many third parties, is a risky business, and although there have been many successful tests for the application of blockchain in trade finance, requires continued rigorous testing before it goes mainstream.