Decision-makers in most major economies are on the horns of a dilemma in which they are raising interest rates to curb inflation while simultaneously trying not to tip their country into recession by dampening demand too far. And there are no signs that the two major fuels of this fire, the COVID-19 pandemic and Russia’s invasion of Ukraine, are going away any time soon.
So, it could be argued, there’s never been a better time to grease the wheels of the financial ecosystem that facilitates the movement of goods and services around the world. But there are major sticking points to overcome and perhaps chief among them is access to trade finance.
An Asian Development Bank study concluded that there was a $1.7trillion gap in trade finance availability in 2020. At the time, that represented 10 per cent of global trade and the shortfall is likely to have worsened since then, due to the pandemic and the global economic downturn. The issue is particularly challenging for micro, small and medium size enterprises (MSMEs) of which four out of 10 will be rejected for finance, according to market analyst McKinsey. And MSMEs matter: they account for more than 95 per cent of all firms, up to 70 per cent of all employment, and are playing an increasingly important role in global trade.
Indeed, in its recent report on the global trade ecosystem, McKinsey states: “Against a backdrop of increasing digitisation of financial and commercial services, trade finance has been relatively slow to modernise its decades-old processes.” It continued: “Multinational corporations have begun to leverage digital technologies that promise improved supply-chain efficiency and transparency, establishing new digital networks to facilitate trade and finance.
But MSMEs, with their fragmented nature and limited scale, find it difficult to capitalise on such opportunities. Resolving this issue is critical for all participants in the global trade finance system.”
The cavalry is on its way?
One signpost to the potential answer might lie in a new partnership between Contour, a Singapore-based worldwide trade digital network, and Finastra, a global provider of financial software applications and marketplaces. By combining Finastra’s Fusion Trade Innovation software with Contour the two providers can claim to link the two key components of digital trade finance – a deeply integrated core banking platform for internal processes and an external, decentralised network for bank and corporate customer communication with the aim of improving speed and efficiency, reducing costs, and, vitally, improving trade finance accessibility to those beleaguered MSMEs. Such interoperability is much-needed for an ecosystem where ‘digital islands’ have been created by certain sectors recently going at it alone but where paperwork still plays a key role in many transactions, according to Michael Vrontamitis, lead industry principal of Finastra’s lending business unit.
“Digitising the trade ecosystem is going to have a huge impact on financial institutions (FIs), and there are a number of reasons why,” he explains.
“The first is operational cost. Today, banks deal with a lot of paper. By digitising transactions, you can eliminate a lot of the associated costs. “The other key benefit is the ability to make credit decisions. So, today, data is difficult to access. If it’s available in a digital format, then FIs can use that data to build credit models, and make better credit decisions. And that benefits them in terms of being able to hold less capital and increase their profitability.” Joshua Kroeker, chief product officer at Contour, agrees that banks are increasingly looking for ‘common solutions’ to allow them to do business more effectively and efficiently, and he reveals that using decentralised technology was the key enabler in developing its network.
“For banks running operations centres, efficiency, of course, is important. They want to lower their cost to serve so they can offer their products and services to a wider range of corporates, even at lower transaction values,” he says. “If you’re working with a different solution for every country, or a different solution for every group of customers, it’s not very efficient, and you’re not going to drive down that cost to serve. So, banks are looking for common solutions to launch across their networks, and to all the markets around the world. But building a global network for trade, where all the data is going to sit in one place, is not acceptable in 2022, which is why we’re using a blockchain that allows the data to be decentralised.
“Every bank and every corporate has the ability to choose where their data is: they can host it, they can control it, it can be in a country of their choice, to meet their regulatory obligations. Because all the data isn’t sitting in one place, they don’t have that big systemic risk. In this way, decentralised networks have allowed us to build a common network for the first time.” And digital solutions like these are also key to improving the accessibility to trade finance for MSMEs. “Because there is so much process and cost involved in providing paper-based products, banks are reluctant to provide them to a wide range of customers,” explains Kroeker. “They’ll probably only give them to customers where there’s a large enough transaction to make it worth their while. By digitising it, you can reduce those barriers and start to make these products a lot more accessible.”
Driving down processing time and cost
Security, of course, is an integral factor in any digital transaction, and that brings an added layer of complexity to the world of global trade. For his part, Vrontamitis advocates a transparent system where every entity in the supply chain has a digital legal identifier.
“That allows banks to onboard faster, and it allows suppliers to be onboarded faster once they’ve signed a contract with the buyer, so that they can execute the contract earlier, and be paid earlier,” he argues. “It has huge benefits for all participants in the supply chain by getting that digital ecosystem working, but it really starts with the legal entity identifier.”
Meanwhile, Kroeker pushes the case for a digital version of the traditional letter of credit system, which Contour has developed on its network. “What we want to do is provide all of the benefits, all of the risk mitigation of the letter of credit, but without all that process and paper,” he explains. “We move away from messages, we move away from disconnected systems, we move away from courier bags, full of paper, and put all of that on to one connected network for both banks and corporates. And the benefit of that is really driving down the process. We’ve had corporates say it reduces their overall process by 90 per cent.” But what does the partnership mean for Finastra and Contour and their clients?
Vrontamitis points to how the connector it has developed avoids the need for its client banks to have to build their own interfaces to join Contour’s network, radically simplifying the process for them. For Kroeker it’s all about scale for an organisation that only came into being in 2017 but has big ambitions.
“By integrating into solutions like Finastra, you’re making that adoption curve a lot flatter,” he emphasises. “We can now bring in a bank and they don’t need to learn a new system, they don’t need to educate their staff on how to set up their users, or how to manage risk within their internal processes. They can use their existing trusted provider – Finastra in this case – but still connect to the Contour network. That combination of a trusted process that they’re comfortable with, and new functions, new features and more efficiency, really is going to help us grow adoption in a big way.”
He adds: “Companies like Finastra also have a corporate channel and we’re really excited to start exploring how we can embed and integrate the Contour offering into that, as well as with other bank corporate channels around the world. All of a sudden, people will just start using Contour without having to make a big decision to switch, so we become the pipes that will power the future of trade finance digitisation.”
McKinsey forecasts that an improved global trade finance ecosystem could create many of the 600 million new jobs needed by 2030 to absorb a growing global workforce. It could also bring the world closer to achieving the goal of financial inclusion for MSMEs, which is particularly needed in developing economies.
So, the quicker those Contour pipes are flowing, the better.
This article was first published in Fintech Finance News.