Monday, 11 December 2023

Renewed impetus helps accelerate industry-wide trade digitalisation efforts but interoperability remains key hurdle

5 min read

By Siddharth Chandani

Pressure on margins from increased competition and compliance requirements is forcing the industry to recalibrate its trade finance offerings. While institutions know that trade digitalisation is important for the future of the business, success relies heavily on deeper coordination and collaboration between the myriad participants in the trade finance ecosystem and technology enablers

The ongoing slowdown in global trade, exacerbated by the US-China trade tension, has reduced transaction volume, increased competition and eroded margins in the trade finance business. This may have inadvertently accelerated banks’ quest to reduce costs and improve profitability.

Moreover, customers’ growing demand for shorter processing time, greater visibility and automation in order to integrate with their internal processes, coupled with the need to mitigate the growing risk from trade-based fraud and anti-money laundering and sanction violations have driven financial institutions to explore and implement appropriate digital trade solutions.

However, the drive to digitalise trade transactions is neither new nor recent. Efforts to do so through the digitisation of trade documents and processes and the implementation of electronic document transmission and presentment systems have been around for at least the last couple of decades through solution providers such as Bolero and essDOCS. While they have had some success at the institutional level operating somewhat private and closed systems, wider industry level adoption has so far been elusive because of the lack of common and interoperable platforms that connect all the counterparties in a trade transaction.

The closest that the banking industry has so far come to an industry wide digital trade finance solution is SWIFT’s Trade Services Utility (TSU) based Bank Payment Obligation (BPO) which utilises its data matching platform. However, adoption has been slow because it is essentially a new payment and financing solution that sits between the traditional documentary credit and open account and would require corporate customers to substantially change the existing processes and systems they use for their trade transactions.

Despite increasing interest from institutions to explore solutions which enable paperless trade financing, these efforts remain largely siloed. Lack of skills and scale on the part of smaller corporates and the small and medium enterprises (SMEs), and complex legacy practices create significant barriers for institutions to gain critical mass despite the potential.

Today’s trade landscape stands further challenged on interplay of several factors- particularly, tariff escalation and the associated shifts in supply chains, tighter anti-money laundering (AML) regulations, and emergence of new technology along with alternate finance providers. These present both threats and fresh opportunities, if tapped correctly. To overcome current inefficient and largely paper-based trade processes, multiple stakeholders are cooperating to apply new technologies to create the necessary infrastructure for digitising trade transactions. Government as well as regional economic groupings are coming together to create single window trade facilitation systems that will provide basic digital infrastructure for the creation, capture, transmission and presentment of necessary trade documents.


Key roadblocks in digitising end-to-end trade

The complexity of multiple legal and jurisdictional requirements compounded by the number of counterparties involved in a transaction make trade finance arguably one of the toughest financial products to digitalise. Existence of many parties - buyers, sellers, banks, custom authorities, freight forwarders and insurance agency among others means there are as many sets of documents per trade transaction. Documents are issued by various entities with different levels of capabilities and technological sophistication, and all may not see benefits of digitisation. Hence, the existence of varied parties across multiple legal and geographical jurisdictions compound industry’s shift to achieve large scale digitalisation.

Li-Sar Oon, Asia Pacific Head of Trade Finance Product Management at Deutsche Bank, views these challenges as a function of resource availability. “Apart from convincing each party to adopt similar standards, prioritisation regarding which specific function should be digitised first and the associated resource availability- particularly for smaller organisations, is significant”. As for the implication for banks, client protection and compliance with relevant regulations remains a key priority, she highlights.

The equation for cross-border trade becomes even complex as more parties with constantly changing relationships, operating under distinctive regulatory environments are added. In the end, all links in the transaction chain must participate in the same ecosystem, failing which may result in partial digitisation. “To successfully digitise a trade flow, one would need to get all the parties involved onto one or linked ecosystems - ecosystems that not only need to be cross border but would also need to cater to the unique requirements of that trade flow”, opines Rakshith Kundha, Head, Trade and Supply Chain, SE Asia and India at Bank of America Merrill Lynch (BAML).

Next set of challenges come from embracing an open approach to innovation. This involves working with partners- including bank and non-bank players to leverage each other’s experience, expertise, knowledge and network.

However, before an institution takes the leap for external collaboration, it is important to get their own house in order, i.e., invest in appropriate channels. As trivial as it may sound, digitisation of trade finance begins with an efficient organisation to do front-end processing of trade loan application, as most trade documents are not natively digital.

The second step involves applying technology such as optimal character recognition (OCR), which converts text from trade documents into digital format, on which Artificial Intelligence (AI) and robotics is applied, largely to automate and accelerate compliance checking. The issue of scale comes into play at this stage as some institutions find their trade businesses to be too small to justify the technology investment.

Third and final stage involves collaboration to sustain the whole process. Despite notable commitment to investment, trade finance at this stage continues to be isolated and limited, and thus failing to achieve scale. “Challenges and complexities around digitising trade occurs across three stages, first stage- efficiency, second stage- client journey and third- bringing together the ecosystem through APIs”, outlines Agnes Joly, Head of Trade Services for Global Transaction Banking at Societe Generale. She notes that scattered banking information systems and lack of common standard on cross-border transactions as key barriers to digitising end-to-end trade transactions.

All in all, most of the ecosystems still have a long way to go before they reach critical mass such that they create a network effect for other parties to join.


Private platform initiatives hold promise but face significant hurdles

Improving digital delivery is not only key to client satisfaction, but also aids banks in reducing operational costs, manage regulatory risks and respond to dynamic market conditions, better. Proliferation of digital platforms across trade and supply chain finance sector is bound to grow as global value chains become more knowledge-intensive. While the implementation of OCR technology is well understood as it is not highly dependent on other players in the trade ecosystem, likewise cannot be said for wider platform initiatives.

Though it is clear that they have an important role to play in automating letter of credit transactions, streamlining border procedures, eliminating costs related to intermediaries and reducing fraudulent behaviour, it is yet unclear whether they can bring the scalability needed to handle the rapid growth in volumes. Excitement around blockchain technology has helped several platforms to get started on specific trade flows, but none are closer to becoming an industry standard in the near future. Institutions with large financial appetite are also looking beyond blockchain to combine two ore more promising technologies. “Combined with OCR, AI and robotics can bring significant efficiencies to the manual and repetitive process of handling trade documents as well as drive analytics, benefitting both banks and clients across the trade supply chain” remarks Peter Jameson, Head – Trade and Supply Chain, Asia Pacific for Bank of America Merrill Lynch (BAML).

Distributed ledger technology (DLT) is still in its early stages of adoption as it could only be applied to disparate parts of supply chain. Issues pertaining to legality, standardisation and principles governing deployment of transactions, largely remain unaddressed. “Despite the multitude of blockchain initiatives, each is focused on a different area of the trade value chain. For example, Voltron focuses on Documentary Trade, while Marco-Polo focuses on Open Account”, said Oon. Similar views also arise when comparing the regulator driven networks. For example; Japan NTT on Letters of Credit, Hong Kong eTradeConnect on Open Account, and Thailand-BCI on electronic Letters of Guarantee. She added that “each consortium is headed towards a targeted direction that plays to its areas of strategic focus,” defying the purpose of digitisation.

The sheer number of interactions involved in trade heightens cyber-risk to which banks, corporates and other intermediaries are exposed. Thus, the need to provide certain level of security whilst ensuring quicker execution of transaction is paramount. This has seen the industry launch a consortia of trade platform initiatives.

Launched in 2013, the Bank Payment Obligation (BPO) offers buyers and sellers a way to secure and finance their trade transactions via a standardised, irrevocable payment instruction on ISO 20022, a messaging standard to drive interoperability between banks. With BPO, the agreement between the importer’s bank (obligor bank) and the exporter’s bank (the recipient bank) to ensure payment is executed on time, and in accordance with the buyer and seller’s purchase order.

While 40 banks are active, BPO in general has seen modest transaction volumes and slower market adoption. First, the focus was narrow to finance solutions, LCs and guarantees, rather than end to end digitisation of essential trade documents such as Bill of Lading. Second, it was unable to expand beyond the banking network to capture the interest of other parts of the supply chain. Third, BPO requires new governance, marketing, risk management and operational policies and expertise, together with a significant investment, hence cost of adoption (as opposed to cost of usage) was relatively high.


Seeing this, some banks are beginning to come together to create their own common digital trade finance platforms.

Developed as joint undertaking with technology firm TradeIX and enterprise software firm R3, Marco Polo Network houses wider trade ecosystem such as Enterprise Resource Planning (ERP) providers and logistics companies. As of May 2019, 18 commercial banks are leveraging Marco Polo’s trade finance network powered by Corda blockchain technology. Recently, its new Marco Polo ERP App installed a comprehensive set of cloud development tools provided by Oracle NetSuite, enabling customers to access multiple working capital finance solutions and finance their cash flow directly from within the NetSuite platform.

An open industry utility for documentary trade, Voltron is a consortium focused on developing end-to-end documentary trade solution using R3’s Corda blockchain platform. Currently, Voltron network comprises of eight banks. Recently, it undertook multiple digital letter of credit transactions across 27 countries on six continents where it reportedly reduced the execution time of transaction from standard five to 10 days, to 24 hours. It has also completed Singapore’s first fully digitised end-to-end letter of credit transaction involving Rio Tinto dispatching bulk shipment of iron ore from Australia to China for Cargill. BNP Paribas issued a letter of credit (LC) over the blockchain on behalf of Cargill to HSBC Singapore acting on behalf of Rio Tinto.

Built on the IBM blockchain platform using Hyperledger Fabric, comprises 14 member banks which offer a simple user-interface, leveraging innovative smart contract, largely to SME customers in Europe. It completed seven trade transactions involving 10 companies across five countries, signifying the first commercially viable open account trade.

Although blockchain addresses needs around speed, transparency and complexity of a transaction, there are stumbling blocks, impeding platforms to reach a critical mass. One, regulatory environment continues to lag common practice in different countries and second, blockchain by itself is in nascent stages of development. Third, expectations around return on investment has been uncertain in case of blockchain. A large gap still exists between proof of concept and commercialisation stages.


National authorities and regulators have stepped up their game

The support of regulatory bodies is also critical in driving successful transformation and more importantly, subscription. Government-led initiatives not only incentivise the parties to use the system, but also ensure that rules and regulations are in place, as opposed to private platforms. Asia Pacific represents a hotbed of such regulator-led connected ecosystems.

Expecting a number of connected ecosystems to drive trade digitisation, Kundha commented “the collaboration that we are seeing across such government-led trade ecosystems is potentially game changing and the key would be to get large consumption and production economies linked”. Notable regulator-led national trade platforms include eTradeConnect in Hong Kong and Networked Trade Platform (NTP) in Singapore.

Developed on DLT-based platform, eTradeConnect (formerly known as Hong Kong Trade Finance Platform) was initiated by Hong Kong Monetary Authority (HKMA), seven member banks and later joined by five additional banks. For HSBC, eTrade Connect, has allowed it to reduce the time taken to approve trade loan applications to four hours, compared with the usual one-and-a-half days.

Led by Singapore Customs, NTP represents a concerted effort to drive industry-wide digital transformation by building trade and logistics information technology (IT) ecosystem linking businesses and government system. As of its launch in September 2018, close to 800 companies from various industries have signed up as NTP users. In November 2018, Mastercard integrated its own unique global trade platform- Mastercard Track (developed in collaboration with Microsoft) with NTP. This was done with the aim to boost electronic transactions and payment reconciliation between buyers and suppliers around the world.

The emergence of government-led platforms is driven by different ‘motivational’ factors such as the need to better control flows from supervisory and monetary perspectives, or simply to stay ahead of competitors. “Specific drivers from India and China include inter alia detecting fraudulent transactions in the area of domestic receivables finance while for Singapore, it is around the need to be one or two steps ahead of competitor countries, given wealth generation from strategic trade location and advanced port facilities,” said Joly.

Initiatives aimed at deepening regional connectivity for seamless movement of goods are being driven by the authorities to promote harmonisation and integration of customs procedures. The development of national electronic single windows (NSW) has given way to regional and cross-border initiatives covering entire supply chains. Expediting economic integration within the Association of Southeast Asian Nations (ASEAN), the ASEAN Single Window initiative (ASW) improves intra-ASEAN connectivity by connecting the NSW of Indonesia, Malaysia, Singapore, Thailand and Vietnam. A digital platform built over a secure IT gateway, the ASW connects customs authorities to facilitate electronic exchange of customs data.

Since the launch of ASW last year, Malaysia, Singapore, Vietnam and Indonesia have begun using an electronic version of the certification, ASEAN Trade in Goods Agreement (Certificate of Origin known as e-ATIGA Form D), which shows if a product is eligible for preferential tariff treatment. Exporters based in ASEAN are no longer required to submit a hardcopy of ATIGA Form D to the importing ASEAN country’s customs authority. For businesses, it not only reduces reliance on paper documents while lowering transaction costs, it also leads to more predictable supply chain management as the secure IT gateway provides common source of data for improved tracking capabilities.

Following the launch of ASW initiative, the EU Single Window environment for customs was introduced to enable single time lodging of all information required by customs and non-customs legislation for EU cross-border movements of goods. The current system is operational with nine member states, namely Czech Republic, Ireland, Slovenia, Latvia, Bulgaria, Poland, Cyprus, Estonia and Portugal, while France, Belgium and Luxembourg have expressed interest to participate.

Growing economic ties between eastern European countries and Asia as underpinned by the Belt and Road Initiative has seen launch of Eurasian Economic Union (EAEU), comprising Armenia, Belarus, Kazakhstan, Kyrgyzstan, and Russia. While the status of a free-trade bloc allows members to enjoy tax free exchange of goods, the EAEU is in the process of unifying its complete tax codes, making it easier to transfer goods amongst its members.

Overall, a streamlined electronic submission process for cargo clearance enabled by a single window initiative lowers costs for players sitting across the entire supply chain. That being said, with the governments increased efforts to create single window trade facilitation infrastructure, the goal of achieving one, or a number of common open digital trade platforms maybe closer than ever. However, issues persist and limited headway has been made to address those. Arguably, the adoption of digital technologies in public delivery systems remains uneven across ASEAN countries. In case of ASW initiative, currently only five of the ten ASEAN countries use the ASW to exchange e-ATIGA Form D, while all other documents transmitted electronically or manually, are still outside the ASW process.

In a nutshell, the current initiatives have the potential to create more open ecosystems and promote interoperability and connectivity, but lack of pervasive adoption remains an issue.


Strategy needed to balance account rationalisation and market share growth

High costs of compliance and risks from sanctions continue to bite into trade margins. A significant challenge from a profitability perspective, this has naturally forced banks to review their correspondent banking and client relationships in some geographies, and even terminate them. The answer lies in looking at what drives maximum value for clients and in concentrating efforts to build fewer, but more strategic partnerships. In the digital space, meeting heightened client expectations around higher levels of transparency, convenience, speed and pricing holds key.

Oon prescribes to a ‘target-based’ approach in striking a balance between revenue growth and rising cost pressures. “Business strategies should be executed in tandem with a clear technology roadmap to better manage the cost of KYC compliance, TBML, and sanctions”. She lists three key areas- focused client selection and geographic coverage, constant review of business models to ideally manage pricing and costs and constant review of internal strategic IT landscape as key strategies from Deutsche Bank’s perspective.

For BAML, deep understanding of clients helps the bank to expand its wallet share comprising core set of relationships. “To provide bespoke solutions, the bank takes time to understand the clients it banks with, who they are, what they do and how it can partner with them to grow their business,” added Jameson.

Societe Generale views correspondent banking network as key asset in traditional trade finance. “Banks have been revisiting the range of their correspondent banks, trying to balance the needed “de-risking” approach with the value that correspondent banking provides to clients,” noted Joly.

‘May you live in interesting times’, perhaps no other phrase narrates more aptly, the current state of play of trade financing. Trade finance transformation is happening at a much faster pace than before, but progress still remains largely siloed. The multifaceted nature of trade transactions spanning multiple boundaries- each with specific legal requirements, the participation of many parties to one transaction, throws a plethora of challenges for trade financing banks. To counter these, players needs to move together on their digitalisation initiatives that link up to the wider industry, if not, they risk creating problematic digital ‘islands’. 

Keywords: Correspondent Banking, Distributed Ledger Technology, Marco Polo, Networked Trade Platform,
Institution: ASEAN, Bank Of America Merrill Lynch, Deutsche Bank, Hong Kong Monetary Authority, Singapore Customs, Societe Generale, SWIFT
Region: Asia Pacific, Global
Guest: Agnes Joly, Li-Sar Oon, Peter Jameson, Rakshith Kundha
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