Blockchain in the Trade Finance
/ Credit Insurance Market
Orginal article published in the Captive Insurance Company Reports from IRMI (www.imri.com)
Editor’s Note: In the continuing effort to keep captive professionals up to date with the latest issues, we present a thorough, interesting, and well-written piece on blockchain technology by Oliver Belin, a thought leader in supply chain finance. Even if you are not familiar with this rapidly advancing technology, and how it will affect captives, this piece will give you great insight. Mr. Belin can be reached at firstname.lastname@example.org.
Since the beginning of trade, market participants rely on three key factors: logistics, credit, and payments. In today’s market, there are well-established solutions to address these three factors to provide financing and insure the associated credit risk, manage and process invoices, document the transfer of goods, and execute succeeding payments. However, the current technology supporting trade finance is no longer fit for purpose due to increased regulatory oversight and operational costs to support global trade growth in terms of size and reach.
Traditionally, commercial banks and credit insurers mainly focus on selective numbers of large corporate clients and occasionally mid-market companies with their trade finance offering. As it stands today, this limited profile of viable trade finance customers means a limited customer base. There is a huge potential for banks with an untapped customer base to increase trade volumes and reduce overall costs. In addition, current trade finance solutions offer poor customer experience with complex, mostly paper-based processes with information exchanged among many different parties requiring a high degree of coordination, time, and efforts.
Today, setting up a trade finance solution for a client is associated with relatively high costs in terms of due diligence, implementations with multiple platforms, onboarding, and compliance, as well as collaboration with other financial institutions and data providers. Furthermore, financial institutions still face the regulatory burden and mandatory elements of fraud prevention and anti-money laundering, even if the transaction is backed by credit insurance.
However, many of these challenges within the status quo of trade finance are being addressed with the introduction of distributed ledger technology and newly developed infrastructure for trade finance. The market recognizes that, for the first time in history, we have both the opportunity and the tools available to significantly grow trade finance in both the scope of solutions and the scale on which they are offered. As such, there are fundamental improvements and benefits that can be achieved for the entire trade ecosystem and the creation and deployment of entirely new business models for global trade. This requires breaking out from traditional boundaries within the banks and credit insurance offerings and thinking across the wider landscape.
Blockchain or Distributed Ledger Technology
A paradigm shift needs to happen to achieve this, with the first step being the opening of previously closed systems. This requires an open, automated, and transparent platform for implementing, executing, and managing trade finance solutions. With this new platform, the different parties don’t have to rely on complex integration, collaboration, and costly due diligence to trust each other. The platform should be able to work with existing solutions through automated communication channels, application programming interface (API), or by using light and modular applications based on specific rules engines leveraging distributed ledger technology.
By using distributed ledger technology as the underlying core data infrastructure, we can ensure the following.
Besides that, blockchain and APIs allow the trade ecosystem to introduce and enhance data along the supply chain transaction. This data can come from logistic providers providing transparency when goods have been picked up, shipped, and delivered without violating contractual terms or service providers providing electronic invoicing information. Adding new data streams increases transparency of trade finance transactions in real time, further combining data from the physical and financial supply chain. This allows reducing the requirement for trust by minimizing counterparty credit and performance risk, offering new trade finance solutions with new trigger points and overall better services for the customer.
The Technology Providers
To capitalize on this opportunity, a new consortium of technology providers—banks, credit insurance, data, and service providers— are required to collaborate and to break down old silos that limited the potential. To achieve the necessary scale, these participants need to adopt the new open available trade finance applications, distributed ledger technology, and APIs to help with the increased regulatory oversight and to reduce operational costs.
The good news is that such a consortium has already been set up. Currently, R3, TradeIX, and over a dozen financial institutions—such as Commerzbank, BNP Paribas, ING, Wells Fargo, Royal Bank of Scotland, and Barclays— are developing an open account trade finance platform powered by distributed ledger technology. The platform will allow financial institutions to automate pre- and post-shipment financing and credit risk mitigation for corporate customers and their trading parties based on R3’s distributed ledger infrastructure named Corda. The aim is to simplify trade, improve visibility into trade flows, reduce operational costs, and provide better access to credit and risk mitigation services throughout the supply chain life cycle.
Recently, TradeIX also partnered up with global insurer AIG and Standard Chartered Bank to enable trade finance transactions for companies, using the blockchain-enabled platform from TradeIX. In September, they successfully completed their first blockchain-enabled trade finance transaction. The transaction enables the seller, a global logistics company, to help its customers extend their payment terms while the logistics provider maintains their receivables at current terms. The financing is offered by Standard Chartered with credit risk mitigation provided by AIG.
These developments and implementations are the first steps in the disruption of the trade finance market and point to future delivery mechanisms. This has become a new opportunity, and the transformation is happening now. The only question is how fast banks, credit insurers, and service providers are embracing these new solutions and collaborations to enhance evolving trade finance ecosystem.
CICR comment: Make no mistake: this technology is coming to captives and very soon