Broadly trade financing activities are multi-stakeholder endeavours, and commercial banks are one of the key participants in the process, which mainly include payment, credit and document handling services. Involvement of banks in trade financing has also been very crucial in terms of exercising monitoring and supervision for ensuring compliance and restricting trade based financial crimes. Trade financing activities of banks are clearly connected with global trade activities that remained relatively stable in 2018 in spite of protectionist approach of the USA and similar response by some other big economies. Developments in some countries as regards openness and free trade policies have considerable implications for trade volumes, prices and the associated trade finance activities.
International trade is passing through a great transformation with the adoption of newer technologies and emerging risks. Digitisation efforts and greater compliance requirements are contributing to the changing structure of trade services by banks. Banking industries are coping up with the changing trade scenarios with newer approaches, channels, products and services. In spite of the expansion of banking services to facilitate trade recovery and expansion, trade-finance gap for the relatively small trade enterprises remains worrying, as found in the most recent International Chamber of Commerce Trade Finance Survey. Global trade of goods and services remained relatively resilient this year despite US protectionist approach during 2018. In 2017, global trade recovered after losing over 2015-2016, helped by an improvement in demand from major economies. In 2018, trade improved; however, the volume of global trade of goods and services is expected to decelerate in 2019. An escalation to a trade feud scenario could cost even more in the year 2019.
In the global context, most trade is conducted on open account terms, and therefore enabled through techniques of Supply Chain Finance (SCF). Open account is an arrangement between the buyer and the seller whereby the goods are manufactured and delivered before payment is required. There are also some instances of cash in advance where sellers enjoy notable bargaining power. Regarding cash in advance, the buyer places the funds at the disposal of the seller (exporter) prior to shipment of goods in accordance with the sales/purchase contract. In case of cash in advance and open account, involvements of banks are generally insignificant, and traders have relatively greater freedom in handling the process at reasonably low cost. In a number of cases, international trade is facilitated by trade services of banks and financial institutions covering documentary credit (LC), documentary collection, standby LC or other bank guarantees, bank payment obligation, factoring, forfeiting.
Involvements of banks are significantly higher in the trade services techniques like LC, bank guarantee, standby LC and documentary collection. Especially through LC, banks offer payment, financing and risk management services to their clients. It is a classic form of trade facilitation technique that substantially reduces risks for both the exporter and the importer. It is an undertaking or commitment issued generally by a bank to pay the exporter a certain amount provided that the documentary conditions of the LC are complied with. A standby LC is functionally equivalent to demand guarantee or international bank guarantee, but differs in terms of structure. International guarantees may serve several purposes from indefinite range of payment, performance or non-performance obligations. Documentary collection is basically a payment tool having 'documents against payment' and 'documents against acceptance' -- techniques that provide a means of payment whereby the exporter can ensure that the buyer should not be able to take possession of the goods until it has been paid for or payment undertaking is given.
Some of the trade services/finance products are relatively recent developments like Bank Payment Obligation (BPO), and Supply Chain Financing techniques like factoring, forfeiting, invoice financing etc. BPO is a payment tool offering a level of security similar to that of LC. It is an irrevocable undertaking on the part of an obligor bank (typically that of a buyer) to recipient bank (typically that of a seller) to pay a specified amount on agreed date on condition of a successful matching of electronic data according to rules adopted by the ICC. Using Supply Chain Financing, banks provide technology and other services to facilitate payments and financing within the supply chain of enterprises. The objective of such a platform is to bring within a single unit of bank financial services related to supply, storage, cross-border relations between sellers and buyers, distribution and final sales to customers. International factoring is the sale of assignments of short-term accounts receivable arising from an international sale of goods or services. The technique is associated with handling risk in open account trade. Forfeiting is used to denote the purchase of obligations falling due at some future date, arising from deliveries of goods and services. Factoring is suitable for financing smaller claims for consumer goods, whereas forfeiting is used to finance capital goods exports.
The use of payment methods and financing products may be placed under different categories. Of the trade payment methods, open account is the most widely used trade payment method; and all users of open account payment methods may not be interested to avail trade services products offered by banks and financial institutions. Till date, 85 per cent cases of the trade service products are traditional products that include commercial LC, standby LC, documentary collection, and international guarantees. Of the recently developed products, supply chain finance includes receivable and payable finance, different variations of factoring and forfeiting, loans and advance against receivables etc. It is interesting to observe in the ICC survey that while 47 per cent of respondents reported that their traditional trade finance and supply chain finance businesses were in the same business unit, survey findings show a clear focus on traditional trade finance. This is in contrast to the market: roughly 80 per cent of trade takes place on open account - better suited to SCF solutions than traditional mechanisms.
Of the different regions, Asian markets, despite the global slowdown continued to be key markets for trade finance business. Growth in trade finance transactions both in volume and value terms is no longer predominantly driven by China. Countries using SWIFT LCs fort most imports were: Bangladesh, South Korea, China, India and Pakistan; and countries using SWIFT LCs for most of their exports were: China, Hong Kong, India, Singapore and Japan. In the ICC survey, it is shown that traditional trade finance products are dominating in all regions. In North America and Latin America, supply chain finance is used for 37 per cent and 23 per cent respectively.
Technology is bringing changes in the logistics, nature of products, product delivery channels and documentation process. Regarding trade finance, according to the ICC survey, there has been some digital evolution in trade finance including detailed management dashboards, reporting capabilities and automated document preparation. The ICC Banking Commission has launched a working group to coordinate works relating to the digitisation of trade finance. The group aims to help the trade finance industry accelerate its progress towards greater digitisation. As a part of the mandate, ICC is going to revisit e-compatibility of ICC rules for trade finance; and as part of that, revision of eUCP and eURC is under process. Beginning in 2017, the effort got stalled at the ICC Banking Commission after National Committee members expressed concern,. Later, ICC's Digitisation Working Group formally requested a mandate from the Executive Committee, and in January 2018, the ICC Banking Commission Executive Committee announced that it would proceed with updating the existing eUCP rules (eUCP Version 1.1, 2007) and drafting new rules addressing electronic presentation for collections (eURC). While there have been discussions and some promising attempts to apply technology to advance the business of trade financing, especially over the last two decades or so, only 15 per cent of the ICC survey respondents view transformative potential in applying technology to the opportunity to digitise and boost trade finance sales.
Dr. Shah Md Ahsan Habib is Professor and Director (Training), Bangladesh Institute of Bank Management (BIBM).
