Sealing the Deal: The Rise of Blockchain-Powered Trade Finance Platforms
Despite being developed by governments and banks, these blockchain-based solutions promise to create opportunities for many.
Although they don’t hold the same disruptive promise of radical decentralization as do their permissionless counterparts, private blockchains that governments and corporations run are still capable of transforming entire sectors of the world economy. Global trade has long been viewed as one of the most conspicuous areas for instrumental application of distributed ledger technology (DLT), with both trade finance and supply chains relying on antiquated, unreliable systems of record keeping and trust management.
The recent news that Hong Kong’s financial regulator and a conglomerate of banks are poised to roll out a blockchain trade finance platform next month is yet another instance of incumbent actors summoning DLT to address the international trade’s woes — if not one of the most ambitious to date. While some reports estimate the whole trade finance market at $9 trillion, a survey by the Asian Development Bank suggests there is an additional $1.5 trillion of unmet demand for such services worldwide. Closing this gap will require sweeping changes in the ways global supply chains operate, but the potential payoffs are huge.
Paper trails and locked capital
Financing cross-border commerce is a delicate business. In order to supply liquidity, banks need to maintain trust in all parties involved in a transaction, which engenders the need for onerous auditing of paper trails. When transactions encompass multiple jurisdictions and dozens of organizations along the supply chain, the task of sifting through the paperwork can become gargantuan even for resource-rich financial institutions. Not only does the complexity of accounting slow the operations down in dramatic ways, but it also becomes an insurmountable barrier of entry for smaller firms that lack the resources for compliance.
The foundational trade-finance service that banks offer to parties involved in international commerce is the provision of letters of credit. Those are guarantees from one bank to another — covering the period of shipping the product — that the payment for the goods will occur as soon as they arrive at their destination. For the issuing bank, producing such a letter means assuming risks on behalf of an exporter, meaning there is the need to establish trust. The bank has to know that the contractor is in possession of the goods it is about to ship and also has to know that these same goods have not already been pledged to another bank — another incarnation of a double-spending problem.
Small and medium-size enterprises (SMEs) often have a hard time proving their creditworthiness to financial organizations. The default way to go is to file a port-issued document called a bill of lading, which banks are oftentimes reluctant to accept for not being able to verify them.
Needless to say, a system this clunky also presents fertile soil for fraud, as it becomes nearly impossible to take stock of all the resources involved. On top of that, documentation-related slowdowns lead to solid chunks of capital being locked in supply chains for months. A 2016 study by Ernst & Young found that 2,000 of the largest companies in the U.S. and Europe had $1.2 trillion of working capital tied up — an amount that, if managed more efficiently, could give the global economy an impressive boost.
The Hong Kong Monetary Authority and its partner banks are looking to address these deficiencies by introducing a blockchain-powered trade finance solution. Given the technology’s capacity to maintain immutable records that track which entities are in possession of what goods at a given moment in time, it looks like a promising way out of the inefficiency loop. Digitizing the records and moving them into an interoperable system available to a diverse set of lenders could potentially reduce the amount of time and resources needed to settle transactions multifold. Some of the transactions that normally take 10 business days to settle are now expected to be processed within 24 hours.
The introduction of algorithmically-ensured trust should help exporters and shippers establish their creditworthiness at little to no cost, resulting in many SMEs being able to finally enter the market. OneConnect, the fintech arm of a Chinese conglomerate Ping An Group, which is responsible for the technical side of the project, has specifically underscored this aspect of the platform’s functionality. According to the firm, the system will be capable of logging a wide array of company data, so that lenders can take prompt — yet well-informed — decisions.
Transparency of trade finance transactions and detailed information on every step of the supply chain will ensure that borrowers ask for the exact amount of resources they need to perform a particular deal, thus eliminating one of the most widespread fraud schemes.
The growing market
Hong Kong’s emerging trade finance solution may be set to grow into the largest of its kind, but it is certainly not the first to draw global attention. In April 2017, Taiwan-based electronics manufacturer Foxconn announced a partnership with Chinese financial services provider Dianrong to launch Chained Finance, a platform designed to handle supply-chain transactions. The pilot facilitated $6.5 million in loans for several participating companies, but soon the project disappeared from the spotlight.
All other high-profile. blockchain-powered trade finance enterprises invariably have the same three letters to them: IBM. The tech giant has heavily invested in its blockchain-as-a-service arm, and now the time seems to have come to reap the fruits that come in a form of B2B blockchain market dominance.
In Europe, a consortium of leading banks — HSBC, Deutsche Bank, UniCredit, Rabobank, KBC, Natixis, Nordea, Santander and Société Générale — is harnessing the IBM’s blockchain solutions to put up a platform called We.Trade, which will focus on carrying out trade deals between European SMEs. The first batch of transactions was successfully executed on the platform in early July. Currently available in 11 European countries, We.Trade is bracing for the commercial launch later this summer.
Over in the jewelry business, an industry-specific, supply-chain solution is ready to kick in. TrustChain is also an IBM-powered, consortium-operated platform that will verify the precious items’ provenance by tracking their trajectories from the mine to retail store.
Finally, there is Batavia. Unlike We.Trade or TrustChain, it is not confined to a particular region or industry. With the ambition of becoming an open ecosystem for all of the global trade, it promises to streamline the process of financing transactions for all the parties involved. Once all the stakeholders digitally sign off on their parts of the deal, they trigger the execution of a smart payment that closes the trade agreement. Even though there is no definitive timeline for Batavia’s commercial launch, the first pilot transactions have already been executed on its blockchain, suggesting that the platform has already reached an advanced stage of development.