The world as it was at the end of 2019, compared to the world at the end of 2020, has become a very different creature. It is hard to fathom how such an inconsequential event in Wuhan has had such huge implications for everyone everywhere. Trade finance, an industry that is reliant in so many ways on people being in their workplaces, has had a spotlight shined on its vulnerabilities and archaic practices. And so too, has it lagged behind other sectors in adopting new technologies. But the emergence of COVID-19 may well end up forcing its hand. It does seem however, there is a technology waiting in the shadows, primed to spring forward and bring trade finance kicking and screaming into the twenty-first century.
The world over, governments have been shutting down there countries in order to prevent the spread of coronavirus. The World Trade Organization made an estimation in early April 2020 (and reported on by the London Institute of Banking & Finance) that between 13% and 32% of mercantile trade would be closed down globally. Since then, as lockdowns have eased and vaccination programs have ramped up, it will soon be time to take stock of the damage caused by the pandemic.
The Old Ways
Paper has been at the heart of trade and trade finance since long into the history of civilisation. Inventories, signatures, and letters of credit are but a few of the documents that have driven trade, especially across international boundaries and borders. Before the emergence first of digitisation and then digitalisation, there was simply no alternative. This relied on physical documentation in the physical world. Multiple authorisations on a given document meant transporting said document to each signatory. As time has passed, populations have expanded from provincial pockets to become cosmopolitan international partners and once this had begun, paper, clearly, was no longer cutting the mustard. The ways and means by which documents were transported has indeed evolved, and this helped ease the problem for a time. However, with the evolution of transport came the evolution of the transporting of goods, and the pace and ubiquity of trade deals leapt forward. Once again, paper documentation and communication were found to be inadequate at best, and paper-use limped onward.
The rise of the internet has seen the rise too, of eDocumentation. Manifestly, the ability to send data has revolutionized all manner of industries, and even the otherwise resistant trade finance sector has been strong-armed into modernizing its processes, at least to a certain degree. The pandemic though, has been somewhat of a double-edged sword for the sector. By removing employees from their places of work, the coronavirus set in motion the implementation of systems and processes that are independent of paper. Nonetheless, lockdowns do not discriminate, therefore anyone with the expertise to weigh in on the transition from paper to digital had also been removed from the workplace.
Despite the progress made by visionaries and entrepreneurs, or the leaps forward forced on the sector by biological pathogens, there are still entities in the trade finance chain that insist on paper for legal and regulatory reasons. This is acutely constraining in trade finance as a fragmented paper trail is no paper trail at all. It must begin from the beginning and end at the end. The trade finance chain then, becomes weighed down by the need for wet ink at any step in the process, even if digital and paper can run parallel throughout. Furthermore, this is without giving over much more space on the page to other reasons why paper is yesterday’s technology: time and cost to prepare documents, accuracy, and the potential to commit crime.
No One Holds the Keys
The Economic Times reported recently that 15 banks are joining forces to bring to bear a new trade finance system that uses technology known as blockchain (as shown in figure 1). These banks intend to use the blockchain technology when processing inland letters of credit (LCs) and is the first domestic initiative of its kind. In essence, the project aims to speed up transactions, verify data, and eliminate the risk of fraud. The company itself will be called – perhaps not too imaginitively - Indian Banks’ Blockchain Co Pvt Ltd (IBBIC). Each partner will own a 6.66% stake in the company. Overall, the group consists of 10 banks from the private sector, another four from the public sector, and Standard Chartered as a foreign lender and shareholder. The venture is anticipated to be in place and operational within a year with the hope that more banks will join in later on.
Figure 1: Blockchain-based initiative involving 15 banks.
Blockchain technology itself is essentially the digital ecryption of information that is then made available to everyone with a vested interest, but, cannot be changed. The information is a conglomerate of data that is owned by all in a ledger but is protected by the encryption. Any transaction that takes place (informational or monetary for instance) is recorded in every copy of the ledger held by the participants, and becomes a permanent record. It is the technology that lies behind all legitimate cryptocurrencies, including the exalted bitcoin. What blockchain achieves that is so attractive is decentalization. No one holds the keys. Everyone becomes a user and the digital cryptography holds the infrastructure in place. Two parties can transact with one another without the need for any third party to oversee the covenant. The information from the transaction is then available to all.
Changing the Game
Blockchain technology will reduce costs in the long term, automate and generate error-free documentation, and make the transfer of such documents much faster. In turn, the whole process will become more transparent, and, will be able to generate data that can then be analysed so as to gain insights into the wider sector. Blockchain too, will add synchronicity to the whole system. Where authorisation is needed on assorted documents, they can be distributed over a network to all relevant parties where oversight and signatures can be obtained concurrently. Digital endorsements can be collected by the decentralised network and processed simultaneously.
What’s more, participants can have the choice of agreeing to specific terms and conditions when they join the network, and through this, ‘smart contracts’ can be created where all the participants – through the terms and conditions – can automate their agreement by concensus. Once again, greater syncronicity and speed are realized. All of this will be achieved in a secure environment that is powerfully encrypted, robust, and highly resistant to bad actors. The adoption of blockchain technology is already spreading at pace within the trade finance sector, and according to Trade Finance Global, well known blockchain consortiums that are at work transforming the industry are we.trade, Marco Polo, Contour, Komgo, India Trade Connect, and eTrade Connect. The list of organizations venturing into blockchain technology seems to be growing by the day.
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