It is a great pleasure to have the opportunity to make some remarks on what is a hugely important subject, at a time when the global community is obsessively focussed on ‘building back better’, addressing the sustainable infrastructure requirements inherent in the transition to ‘net Zero’ and rebuilding economic growth to fund the extraordinary expansion of debt taken on during the pandemic.

All of these objectives require an expansion of global trade, in part delivered through removing barriers to and reducing costs incurred in the facilitation of that trade.

Yet only last week, the Asia Development Bank stated that the current global trade finance gap – that is requests for trade finance declined – had expanded to $1.7 trillion even as the value of trade had shrunk due to the pandemic. And within that figure, in spite of various support measures, SME’s bore a disproportionate share relative to their overall contribution to global trade.

It is also worth noting that the trade finance gap hasn’t been below $1.5 trillion since the 2008 financial crisis when regulators and governments stepped in to stabilise capital markets. The Global Financial Crisis of 2008/9 was clearly very different in root cause from the COVID-19 pandemic crisis but there are similarities and learnings from both that are helpful to guiding us to what needs to be done to build greater trade finance resilience and reduce the trade finance gap. I would point to the following

  • in a crisis, banks bring capital home, concentrate on existing customers rather than new and prioritise protecting the domestic economy;
  • uncertainties reduce risk appetite and accentuate the perceived cost of that risk;
  • accounting and regulatory models are procyclical reducing capital capacity
  • emerging and developing countries see external finance severely constrained given concerns over access to foreign currency liquidity and the strength of the domestic banking system, both critical elements to the availability of trade finance through the correspondent banking system.

However, this time lessons had been learned from the GFC – banks went into the pandemic more liquid and with much higher capital buffers, central bank support was enormous both in terms of immediacy of support for individuals and corporates and in the provision of foreign currency and the MDBs extended a whole range of trade finance support through, for example, deferred payments and guarantees.

But barriers and obstacles remained, many of which had been introduced or strengthened in the aftermath of the GFC to bolster the integrity of the financial system – measures to enhance protection against financial crime and terrorist financing in terms of KYC/AML controls now had to deal on top with a whole panoply of COVID related supply chain disruptions – people being absent from the office through illness, severely constrained physical document flows, delays in responding to information requests, supply chain rerouting for security of supply or national security concerns, prioritisation of medical equipment, PPE etc for the trade processing capacity that did exist – all creating additional barriers to access critical short-term working capital to underpin trade and economic growth.

One result has been to constrain the supply of capital to banks in emerging and developing markets who now can’t get ready access to capital from regional or global financial centres like London – preventing the companies we want to trade with from accessing the working capital they need to trade. On top of this, the trade finance gap increases the risk of SMEs being forced towards unregulated forms of finance which reduces transparency in financial markets.

No one wins from such a situation – but there are some positives to take forward from this period.

  • we have much more data to help us understand how supply chains work and where the barriers are;
  • just like the unprecedented success we experienced in making ‘working from home’ a reality in short order, in trade finance we saw market innovation and regulatory concessions emerge to compensate for inability to move physical documents – and it worked.
  • Today’s challenge is to build on this experience to better enable SMEs to drive the economic recovery – for that, we must re-visit the regulatory frameworks.

The trade finance gap is a trade issue not just a finance issue – if SMEs can’t access finance, they can’t drive the economic recovery.

We need to drive down the prohibitive cost of onboarding SMEs to bring more SMEs into the regulated finance system – on average this cost is $60,000 per SME with a further $80,000 per SME to transact paper documentation.

And we need to address capital cost and regulatory risk models, as despite the ICC Trade Register consistently proving that trade finance is a zero to low-risk activity, trade finance rejection rates for SME applications for trade finance remain unjustifiably high.

The good news is that we know what the solutions are – if there is the political and regulatory will to fix the problems.

The trade finance gap hasn’t been below $1.5 trillion since the 2008 financial crisis

Solution 1

ICC has called on governments to reform laws to handle trade documentation in digital form and align legal frameworks to the UN Commission on International Trade Law     Model Law on Electronic Transferrable Records [MLETR].

The prize is significant. ICC United Kingdom’s recent study found that legal reform and harmonisation would deliver £1 billion in additional trade finance, 50% of the UK trade finance gap.

The G7 business case for legal reform published yesterday states:

  • Digitalising the trade ecosystem could increase trade across the G7 by nearly $9 trillion or nearly 43% on 2019 values by 2026.
  • Paperless trade facilitation could create $267 billion of additional exports compared to base forecast by 2026 but digitalising the trade ecosystem could create as much as $6 trillion in extra exports by 2026.
  • A fully digitalised trade ecosystem will result in an average 84% reduction in trade cost across the G7+ by 2026.
  • Digitalisation will reduce bureaucracy by:
  • o reducing time spent on cross-border trade by around 81% across the G
  • cutting the number of days associated with border compliance from an average of 25 days to less than one day
  • reducing average compliance times from 2.3 days to less than half a day

This analysis is overwhelming proof that government action on legal reform to enable all trade documents to be handled in digital form and to align legal frameworks to MLETR will be of significant value to tackling the trade finance gap.

Solution 2 – Finding Smarter Ways to Manage AML/KYC bureaucracy

We need to find a way to reduce the volume of red tape and compliance requirements covering anti-money laundering, ‘Know Your Customer’ and now ‘Know Your Customer’s Customer’ .

This drives up the cost of onboarding SMEs or worse still, makes them uneconomic to deal with.

We are certainly not saying we should reduce controls in this important area.

What we are saying is that we need governments and regulators to work with the industry to implement digital identity, beneficial ownership registers, share data more widely and make wider use of technology to find smarter, more intelligent ways to meet regulatory requirements without creating fear of disproportionate sanction for the inevitable errors that will arise given the number of transactions processed.

In the UK, ICC is doing just this – providing an impartial forum to explore solutions with the support of government.

Solution 3 – Addressing the Basel III framework

Evidence gathered by ICC over an extended period shows that trade finance is a low-risk activity which justifies a more proportionate regulatory regime than other forms of higher risk finance.

The Basel III framework has made steps in the right direction and is improving but more can be done to treat trade finance as a separate asset class, with consideration given as to what further measures or flexibilities can be introduced to support enhanced economic growth post pandemic.

London as the leading international financial centre, and a critical source of capital to banks in emerging economies, is uniquely positioned to initiate a dialogue with global regulators and institutions and take a lead in finding a solution. The recent call by the UK government to include ‘competitiveness’ within the regulatory mandate is a helpful step forward to taking on this challenge.

Solution 4 – Promoting innovation and nurturing fintech communities

Fintechs are now a central component of the trade finance market, providing smart tech solutions and more accessible platforms for SMEs to access the capital they need.

While banks remain the single largest source of regulated capital, fintechs have shown themselves to be nimbler and more innovative, so the combination works well.

The UK and Singapore are good examples of countries who have built booming fintech sectors through regulatory support and encouragement and the benefits to the entire financial ecosystem are clear to all participants.

Sharing experience and best practice more widely in terms of regulatory policies and concessions that help fintechs scale into markets has to be part of the solution to further innovation in trade finance support. Trade finance is ideally suited to digitalisation but this needs to be done in a coordinated way globally to ensure interoperability and so reduce trade finance friction and costs.

Conclusion

The good news is the trade finance gap is soluble if governments, regulators and the industry work together on the four solutions outlined above.

Digitising paper documentation is a key part of the solution but so is addressing the regulatory frameworks and nurturing fintech communities – and there need be no compromise to financial stability or system integrity.

As governments design policies to build back from the pandemic they should see fixing the trade finance gap as low hanging fruit and mandate the co-operations necessary to deliver this.

If there is one lesson we can draw from the pandemic, it’s that when industry and governments cooperate and focus on the big picture opportunity, together we can deliver transformative solutions we never thought previously possible.

Sir Douglas Flint CBE, Board, ICC United Kingdom

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