The trade finance industry has emerged as a key focus area for realizing the efficiencies of blockchain technology. Blockchain has the potential to disrupt the trade landscape by making it easier to reduce disputes and fraud to provide delivery and payment certainty, enable transparency of trade asset movement, and facilitate the flow of trade receivables.
The result: increased collaboration, automation and oversight in trade transactions. This white paper (the first of a five-part series) examines blockchain’s benefits across three areas of trade finance: payment method automation, trade asset tokenization and payment instrument digitization.
Trade finance by banks and other financial institutions is a vital function in international commerce, as it provides delivery and payment assurance to buyers and sellers, and it helps close the trade cycle funding gap for these parties. The growth and sustenance of the $16 trillion international trade market depends on the easy availability and robustness of financing mechanisms. For this reason, trade finance is often described as the fuel for global commerce. However, trade participants can be vulnerable to business risks and uncertainties stemming from several factors, including process inefficiencies, variance and fluidity in trade regulations and requirements across geographies, and the operational and logistical complexities that arise when a large number of entities interact. A recent survey by the International Chamber of Commerce reports an increasing trend in litigation and fraud related to trade financing over the last few years. Recent examples of trade and receivable financing fraud include the $1.1 billion lawsuit against Citigroup resulting from financing falsified receivables, and the loss of hundreds of millions of dollars to various banks in the Qingdao port metal financing fraud involving multiple invoices secured against the same collateral.
For banks, these obstacles can increase both risk and costs, leading to unfavorable financing terms, especially for small businesses. It is estimated that almost 60% of trade finance applications globally from small and medium-size enterprises (SMEs) are rejected by banks. A recent survey by Asian Development Bank puts the total value of unmet trade financing demand at a whopping USD$1.6 trillion. Another study of informal enterprises by International Finance Corp. estimates the financing gap for global micro, small and medium-size enterprises at USD$2.6 trillion. These risks and inefficiencies have limited the size of the trade finance market, which currently stands at $4 trillion to $5 trillion, adversely affecting growth in global commerce.
A better connected, highly automated and far more open infrastructure that will enable more efficient trade finance solutions for customers is the new goal for businesses. However, this can be achieved through the creation of trusted and permissioned interactions between corporations, B2B networks, service providers and other financial institutions.
The introduction of ‘smart contracts’ also allows businesses to automatically trigger commercial actions based on defined criteria. Once again, this will further boost efficiency by streamlining processes, removing time and the cost of transacting.
An indelible audit trail also provides improved traceability; one of the main benefits of blockchain in trade finance. The new verification levels automatically check assets for authenticity. As a result, businesses can reduce both fraud and compliance costs by ensuring that each transaction is recorded sequentially and indefinitely.
From a security perspective, blockchain allows simple, secured share trade-related data between different financial institutions. Each transaction is verified within the network using independently verified complex cryptography.
By adding some much-needed commercial transparency to the mix, old problems such as delays, and sharing data between parties are replaced with unprecedented levels of trust. Words such authenticity, transparency, and simplicity are rapidly becoming the new language in the trade finance market.