Next Crisis could be Catastrophic for Trade Finance

When we hear of gaps in trade finance, the cry is “do something”. The Asian Development Bank (ADB) runs a survey that quantifies the market gaps for trade finance and its impact on jobs and growth. They claim that Financial Institutions failed to provide $1.6 trillion in needed capital. Thats right, TRILLION!

And yes, this is a serious problem. Essentially what has happened is Tier 2 and lower banks in emerging markets have lost access to Tier 1 banks in developed markets. In fact, what is happening now with Euro Banks is they too could be like emerging market banks, losing access to trade finance funding.

Why is this the case?

Quite simply there are two reasons, and they have to do with the increasing costs to service marginal customers in these markets, customers being banks. The first reason is enforcement of KYC and KYCC regulations. The cost of knowing who that entity is and their customers costs have gone up dramatically. Ten years ago, this was not a big concern.  Note these laws were on the books, but now with very prominent fines (BNPP, HSBC, and even Wells Fargo on the consumer side), the cost of doing business with Pakistan or Philippine banks has risen substantially. The pressure on the banks is to know if they are dealing with reputable customers.  There is a good piece on correspondent banking from Henry Balani of Accuity which I recommend reading here. The report mentions that the number of correspondent banking relationships has declined globally between 2013 and 2016 by a large amount, from 360,785 to 223,247, representing a 38% decrease.

The second reason relates to Basel costs and the costs of liquidity and restrictions on leverage. Smaller banks and emerging market banks are more challenging to serve under new capital guidelines.

The result – the 1.6 trillion gap that the ADB claims.

So what can be done?

This is a challenging space and with no easy answers. Its not a tech problem.  In fact, we have had a number of lobbying bodies attempt to reduce capital banks allocate to trade finance using the ICC Trade Loss Registry.  This effort has not moved the needle - see my post ICC Trade Loss Registry – Not Credible to Investors in Trade Receivables

So where is there potential?

I am working in several areas which show promise, but here too, it’s not easy and takes time.

  • Specialty Finance lenders are now starting to work with the purchase to pay, B2B, and Supplier Network vendors on business credit and Supply Chain Finance. There are huge issues around finance and networks such as the different type of expenses networks process, traction, data requirement + modeling, data privacy, managed services, marketing, etc. that need to be thought through.
  • Cross Border Small Business Trade Platforms –We are on the verge of building a triad of services to connect small business globally. Platforms to connect Buyer-Sellers, together with the necessary payment, settlement, FX and finance options to facilitate without making it burdensome for buyer or seller. These platforms can enable card payments, direct debit, straight funding, and FX and provide buy side and sell side finance options. They are coming.
  • Educating of Investors and Others - The expectation that the private Investor market will fill the gap that the ADB mentions has not been met.  The missionaries out there speak to Trade Receivables as an Asset Class with little understanding of investors, regulations, accounting, structures, private placement market, etc. I believe the various parties need to work more aggressively with Asset Managers to help develop more product. Federated Investors recently announced a new trade finance fund, but it pales in the face of the total assets managed by Federated.   We need more conferences and effort put forth here. Perhaps subsidies by government entities to help facilitate the process makes sense.
  • Emerging Market assistance – The time is now to figure out how we can develop product in a scalable way for non investors. Unfortunately the concern in today’s environment is when we have a country like the Philippines that can no longer access funding and Governments must step in to provide relief, and raise $50bn and raise capital, it will be a big issue.  Providing band-aid solutions such as first loss for banks only enhances the bank’s capital position but does not go far enough to solve the problem. There are some interesting solutions that have yet to really scale in places like Latam, where Government B2B einvoicing mandates are helping. But it's well short of what is needed.  We need more parties to come together from the asset manager, advisor, custodian, trade finance worlds to help develop product before the next crisis.  Or we may find QE cant solve this problem.

So lets hope 2017 sees us make more progress on this front other than actions that don't move the bar, or else the gap in trade finance may get worse before getting better.

If you would like to exchange ideas around this space, feel welcome to contact me at dgustin(at)

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Voices (3)

  1. Dmitriy B.:

    Hi David,

    thanks for the great post. Do you think that SWIFT KYC Register service can bring the value to correspondent relations and the whole KYC process which recently became quite stodgy?

  2. Kevin mcbrien:

    Thanks for adding me to the list.

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