Trade finance helps oil the wheels of economic growth. It ensures that exporters get paid and that importers can access the goods they need. According to the International Chamber of Commerce (ICC), it facilitates “80 per cent or more of annual merchandise trade flows”. It is particularly important in emerging markets, especially in Asia. All, however, is not well in the world of trade finance.
“Trade finance used to be like electricity. Now it is hard to get,” said Kamola Makhmudova, a senior banker on the EBRD’s trade facilitation programme, speaking at The London Institute of Banking & Finance’s annual Trade Finance Compliance Conference.
Growth of Trade Finance
The reason why trade finance has moved from being a product largely available to all is the cost of regulatory compliance. Regulators want to ensure that the trade finance system cannot be used to launder money, fund terrorism, or support crime. To that end, they are making much greater demands on banks to find out exactly what the trade finance funds are being used for, and by whom. At the same time, the Basel 3 regulations increased the amount of equity funding that trade finance requires, which upped funding costs. All of that is why many banks have stepped away from trade finance: the returns do not justify the outlays.
The resulting “trade finance gap” grew alarmingly after the global financial crisis. The International Chamber of Commerce’s 2018 report says de-risking by larger banks has largely been completed. However, what remains is a disconnect of around US$1.5tn that has a “serious impact on the ability of businesses – and countries – to engage in trade-based recovery and growth” - particularly small businesses in emerging markets.
The Banks response
Banks are conscious that many businesses and economies need their support. But, as delegates at the LIBF conference stressed, each country is different and, equally, individual firms and their trading partners cannot be fitted into neat templates. “Now the expectation is that banks will do due diligence on an SME in Mongolia. The required level of detail and a mix match of standards is killing trade,” said Vincent O’Brien, adviser on trade intelligence and innovation, China Systems Corporation.
There have been initiatives to help. The Financial Action Task Force (FATF), an intergovernmental body set up to help protect financial systems against money laundering and terrorist financing has put together standards that are used globally, though not everyone follows them. Banks also have “red flag” systems. However, that does not necessarily reduce work-loads. “All red flags observed must be reviewed considering the transaction and parties,” said Ajay Kumar, EMEA trade operations, Citibank. A further problem for banks is that “As the red flags are based on certain rules, if the transaction shows small variance below the red flag threshold it will not get flagged,” he said.
The bottom line is that, though trade finance is one of the lowest-risk forms of credit in terms of bank losses, it is of concern to regulators because of the large sums that can be involved. “There are very few media for shifting vast stores of value from one side of the globe to the other. Trade finance is one of them,” said Nigel Coles, managing director, FinCrime compliance and investigations, at Mowley Risk & Complicance Ltd, at the LIBF conference.
Role of Big Data
Coles said that big data should help ease some of the burden “In the next few years...we will be able to look beyond the individual client to do advanced due diligence on the leading criminals in a region.” He also pointed out that it is not always SMEs that banks need to worry about.