GovernanceRegulationThe ripple effects of strenuous international regulation: What this means for the trade finance gap, SMEs and AI

The ripple effects of strenuous international regulation: What this means for the trade finance gap, SMEs and AI

As much as 90% of trade finance is supplied by 13 banks, but international regulation can reduce these banks' ability to offer trade finance to some companies. Some argue that AI could assist the dissipation of trade finance issues.

Offering trade finance is a major challenge, 87% of banks have revealed, due to counter-terrorism and international regulation, proving detrimental to small and medium-sized enterprises (SMEs).

The annual ICC Global Survey interviewed  251 banks in 91 countries. It found the two are correlated as banks must invest a huge amount of resource into compliance across jurisdictions subsequently incurring a huge internal cost that they only feel valuable for their large clients.

“Here we see an example of well-meaning regulation having unintended consequences in the real economy,” said Chris Southworth, the ICC’s UK secretary general.

“While innovation and digital trade continue to support financial inclusion for SMEs by providing new ways of delivery finance to business, a more proportionate regulatory regime for the treatment of low-risk trade finance would unlock more resource to fund trade, which will benefit the global economy,” argues Southworth.

Arancha Gonzolez, executive director, international trade center, argues within the report that while MSMEs are the engines of growth and job creation in developing countries, the lack of trade finance access is keeping them from seizing the opportunities presented by international markets.

Gonzolez suggests that governments, international organizations and technology providers should consolidate with banks and regulators to minimize and close the trade finance gap.

The trade finance gap

Trade finance is the term used within commercial/investment banks where cross-border transactions are financed, according to Trade Finance Global.

MSMEs report that they struggle to gain access to trade finance. Banks says the reason for this is due to heavy and somewhat confusing regulation.

The respondents of the ICC report suggest there are often inconsistent regulatory requirements and expectations – hence the level of investment required. There are numerous interpretations across policies that also makes the process difficult.

However, nearly three-quarters of surveyed banks presented an optimistic outlook for the next 12 months with respect to trade finance growth.

The Global Treasurer spoke exclusively to Olivier Paul, head of policy, ICC Banking Commission, to get his opinion on whether banks may just offer trade finance to a wider range of larger enterprises instead of filtering down to SMEs.

“The survey shows that 40% of banks reported an increase in trade credit lines for MSMEs, which is just short of the 46% that reported increasing lines for MNCs (multi-national organizations),” argues Paul

“This suggests greater attention to trade based on global supply chains, and also indicates that an increase in trade finance over the next year should be of benefit to all that are seeking funding,”he adds.

Half of MSME requests for trade financing are rejected and in more than 70% of the cases they seek no alternative financing because it is not available – argues Roberto Azevedo, world trade organization, director general.

When asked whether he believes there is a market for other funding methods, Paul replied:“In the long-term, we can expect new players to come in to help address this funding need. Looking 3-5 years ahead, almost half of the respondents saw an opportunity in attracting non-bank capital to create net new financing capacity.”

Regarding the reasons the trade financing applications are rejected, the main reasons that Paul suggests were due to “limitations on credit line availability and unacceptable risk profiles.”

Standardized cross-border regulation is one solution that could tackle this issue, according to Paul.

“The concerns arise from the huge increase in resources banks must invest to ensure compliance with a wide range of often inconsistent regulatory requirements and expectations across jurisdictions,” he says.

“A more standardized approach to regulation across borders and more clarity in their implementation is necessary,” Paul adds.

AI and broader data collection – an alternative to help close the gap

A new predictive credit model for trade finance has been put forward by Tradeteq that is argued to improve access for SME’s.

The Altman Z-score, a traditional credit scoring model is no longer sufficient in considering all variables. Michael Boguslavsky, head of AI, tradeteq spoke exclusively to The Global Treasurer to suggest new ways AI can overcome the trade finance gap.

It has been reported that half of MSME requests for trade finance are rejected by banks – do you think AI will improve this statistic due to proposed new credit scoring?

“AI enables flexible credit scoring that can consider data from many separate sources. This flexibility allows it to evaluate and potentially recognize credit quality of a more diverse set of companies than the traditional models.

“It also opens the market to non-bank investors, helping bring new capital from investors who differ from banks in their risk appetites and constraints.”

 

The annual Global Survey ICC report argues that the key reason for the trade finance constraints is due to lender requirements having to comply with a multitude of international regulations, they suggest this has led to a reduction in their ability to offer trade finance, particularly to SME’s. With the new AI system of a more informed credit score – do you feel this is addressing the wider issue?

“While complying with some regulations is compulsory for all market participants, other regulations are specific to banks.

“There’s no reason why all of trade finance should be financed from taxpayer-guaranteed bank balance sheets – AI credit analytics opens the market to new investors,” commented Mr Bogulsavsky.

 

Regarding the new credit scoring AI system – do you feel there will be a reluctance to use a new model in comparison to more traditional models such as the Altman Z-score?

“Incumbent models are always favored by institutional inertia. However, AI credit scoring’s ability to consider diverse sources of public and private information sets it apart and allows for much more reliable and timely scoring. A frequently raised issue of model interpretability can be also solved with modern AI models.”

 

What the rest of 2018 will bring for the trade finance gap remains to be seen. Will AI be the launch-pad that SMEs so desperately need?

 

 

 

Related Articles

GDPR: Expect consumers to punish lax organizations

Regulation GDPR: Expect consumers to punish lax organizations

7m Laura Noble
Dodd-Frank rollback: What we know so far

Regulation Dodd-Frank rollback: What we know so far

7m Laura Noble
US sanctions on North Korean goods ramp up slavery compliance

Governance US sanctions on North Korean goods ramp up slavery compliance

7m Donna Westerman
Technology, MiFID II and 2027: The changing face of the post-trade industry

Regulation Technology, MiFID II and 2027: The changing face of the post-trade industry

8m Thomas Zeeb
IBOR replacement: a major change significantly affecting corporate treasurers

Governance IBOR replacement: a major change significantly affecting corporate treasurers

8m Sven Göggel
Bringing cryptocurrency to the front line  

Payments Bringing cryptocurrency to the front line  

9m Karen Vickers
Open Banking and data protection: Friends or foes?

Compliance Open Banking and data protection: Friends or foes?

9m Oana Dolea
PSD2 'most interesting' when combined with social media or government data

Banking PSD2 'most interesting' when combined with social media or government data

9m Victoria Beckett