Trade finance is the lifeblood of small businesses across the globe. According to the ICC Global Survey 2018, up to 80% of all global trade is made possible by some form of credit, guarantee or insurance product. That’s why it’s hardly surprising trade finance now accounts for more than $9 trillion worth of transactions per year, and demand for trade finance is expected to grow exponentially over the next five years.
Trade finance, which is sometimes referred to as supply chain and export finance, is a crucial tool with which business owners can free up trapped working capital in order to reinvest cash in their business and offer more competitive rates to would-be clients. It also empowers companies to benefit from economies of scale, mitigate various credit risks, improve supplier relationships and bolster supply chain efficiencies.
Simply put: trade finance enables companies of all shapes and sizes to fulfil bigger and better contracts, import goods and develop new growth opportunities.
Yet as central banks across the globe begin to hike historically rock bottom interest rates and lending becomes more expensive, a lot of established financial institutions are pulling out of developing markets and restricting access to traditional trade finance products. This has created a worldwide trade finance gap of around $1.5 trillion – disproportionately affecting smaller traders and creating enormous demand for tech-led finance alternatives.
Fortunately, a number of enterprising fintechs and incumbent financial institutions are leading the charge to try and bridge this emerging trade finance gap by utilising big data, AI and distributed ledger technology in order to bring a number of new supply chain and export finance products to market. Over 60% of banks report they’re currently in the process of digitalising their traditional trade finance solutions, and 15% of institutions surveyed by the ICC said they see the transformative potential in giving trade finance a technological upgrade.
Bearing that in mind, it’s fair to say the future of trade finance is undeniably driven by tech – and assuming these innovative new solutions come to fruition, the opportunities for small businesses will be virtually limitless.
Harnessing the power of blockchain
Ever since the meteoric rise of Bitcoin and its rival cryptocurrencies, developers have been working at break-neck speed to apply distributed ledger technology across a broad set of products and industries – and while some applications are a bit less practical than others, the trade finance sector is on par to benefit greatly from blockchain technology.
Although trade finance is the fire that fuels a vast majority of the global transactions, many of the current systems being used to facilitate trade finance are siloed and costly. Generally speaking, traditional trade finance products are highly manual for providers, cause a lack of visibility and aren’t always terribly efficient.
According to researchers at the Boston Consulting Group, a single transaction between a small number of parties can involve around 5,000 data field interactions and 100 pages worth of documents. These data fields and documents are often then reused and duplicated, leading to countless errors, discrepancies and wasted manual effort that could delay a single transaction for up to four weeks. In turn, the ability of companies to scale and expand is inevitably hindered.
Blockchain should be able to remove a lot of these barriers.
By deploying distributed ledger technology in the trade finance space, suppliers benefit from smart contracts that have the ability to automatically trigger a number of predefined commercial actions while simultaneously mitigating costly human errors and cutting processing times by 60%. Blockchain-powered trade finance also has the ability to axe the number of operational staff required by banks to scrutinise data – in some cases removing the need for intermediaries altogether so that transactions can be completed directly between relevant parties.
Because distributed ledger technology is recorded sequentially and indefinitely, trade finance products incorporating blockchain also benefit from enhanced traceability and auditability. Using blockchain, each trade finance transaction comes hand-in-hand with its own, permanent audit trail that is easy to trace and fully transparent. This not only reduces risk levels and regulatory compliance costs, but it also ensures better security thanks to independently verified cryptography.
Industry leader IBM is already facilitating blockchain-powered trade finance transactions through its Blockchain for Trade Finance platform, while a number of banks across the globe are currently in the process of investing in distributed ledger technology as a top digital priority. Meanwhile, where banks are unprepared to craft their own solutions, they are instead opting to invest in startups piloting bolt-on trade finance apps.
While full, industry-wide blockchain integration seems inevitable, it’s worth pointing out there are several obstacles blocking a wider rollout. In order to maximise the value of distributed ledger technology within trade finance, a larger proportion of trading parties must first subscribe to this model. Platforms need to be standardised to ensure the interoperability of various systems, and regulators have got to catch up in order to guarantee that digitised smart contracts are given identical legal weight across various jurisdictions.
AI and machine learning
While a number of fintechs and incumbents are choosing to focus on the potential of blockchain, trade finance providers are also working to modernise the sector by using the power of robotic process automation and machine learning .
One of the most formidable barriers standing in between small businesses and trade finance solutions is often the inflexibility of financial institutions when it comes to processing applications and assessing credit scores. According to ICC research, around half of all trade finance requests made by micro, small and medium-sized enterprises are rejected. Worse yet, financial institutions are 2.5 times more likely to reject trade finance applications from female entrepreneurs – despite their statistically proven financial sufficiency.
AI could help to streamline the application process and create a more inclusive trade finance environment by drastically improving credit-scoring functionality amongst providers.
Banks and trade finance suppliers that rely on linear credit-scoring models like the Altman Z-score simply don’t have enough data in order to produce a fair representation of a small company’s ability to handle short-term debt. By introducing machine learning, providers can now identify a number of crucial insights from big data sources that traditional credit-scoring methods simply can’t hope to achieve.
Geographical, socio-economic area classifications, census data and distributed ledger-based data sources can all be automatically compiled and combined in order to create a holistic and more accurate representation of a company’s true credit score.
Likewise, AI-powered robotic process automation enables rules-based tasks to be 100% automated and streamlined – subsequently applying sound judgements based upon self-learning algorithms. In turn, trade finance providers should be able to extend products to a wider number of individuals faster and more efficiently than ever before.
The wheels are already in motion. Earlier this year, Citi announced plans for a new joint venture with EY and SAS to develop an AI-based risk analytics scoring engine designed to streamline the decision-making process. A syndicate of Lloyds Banking Group has made a similar move, working alongside startup Previse to launch a new AI-powered insurance product designed to insure the instant payment of business to business invoices against dilution risk.
At the end of the day, demand for trade finance products is growing rapidly. Global supply chains are becoming more complex, and organisations of all shapes and size are increasingly turning to trade finance providers in order to facilitate transactions and mitigate emerging risks. Yet far too many small businesses are being turned away due to cumbersome processes, inflexibility and a lack of data clarity.
By utilising increased digitalisation, distributed ledger technology and artificial intelligence, new product offerings have the power to remove these barriers and create a more inclusive sector. Best of all, many of these changes are already underway. Make no mistake: a lot is going to be happening in the trade finance sector over the next five years – and nearly all of it is going to be tech-led.