The Global Trade Finance Gap

International trade and industry faces a $3.4 trillion trade financing gap in the aftermath of the Covid-19 pandemic, up from $1.5 trillion in 2019.

It is commonly understood that small and medium enterprises (SMEs) form the foundation for any economy. However, their access to finance and funding is often hindered by a number of risk factors ranging from creditworthiness, short-term liquidity and forex risks among others. Over time, this has led to a significant global financing gap that is now growing following the outbreak of COVID-19. 

At the start of 2019, the Asian Development Bank's (ADB) forecasts stood at an alarmingly high figure of US$ 1.5 trillion. Amid the developments of the past two fiscal years, this gap has skyrocketed to US$ 3.4 trillion. Around 80% of world trade relies on trade finance — an industry that has been particularly sensitive to financial crises in the past. Reduced access to dependable, appropriate, and cost-effective trade finance can considerably limit trade's ability to function as a catalyst for economic recovery.

 The International Chamber of Commerce has projected that a capacity of US$ 1.9 to US$ 5 trillion in the trade credit market is necessary simply to return to 2019 levels. The consequences of this staggering gap can be quite serious as a lack of trade finance is holding back efforts to deliver vital jobs and growth amid ongoing economic uncertainty, according to the latest Trade Finance Gap, Growth, and Job Survey, released by ADB. 

SMEs in emerging economies are the hardest hit

The ADB reports that over 45% of trade finance applications by SMEs faced rejection and the Organization for Economic Co-operation and Development (OECD) supports this stating that, “SMEs have always remained underrepresented in global trade”. While the barrier to trade finance hurts SMEs in all countries, emerging markets have been the hardest hit. The irony is, in emerging economies, SMEs are the largest employers and economic contributors. According to the World Economic Forum, a lack of access to trade finance is a top three export barrier for half of the world’s countries — particularly the poorest ones.

Deborah Elms of the Asian Trade Centre states that without access to necessary financing- trade or any other type of financial support- most SMEs will not survive the new normal. Given the overwhelming importance of SMEs, this is a critical gap that must be filled by banks and other financial institutions. Banks, as critical suppliers of trade finance, must work together to close the trade finance gap. When you consider the enormous potential for trade expansion, especially in emerging nations, the importance becomes much more evident. 

“The huge trade finance gap is a global challenge that shackles economic growth and harms efforts to reduce poverty,” said the Head of ADB’s Trade and Supply Chain Finance Mr. Steven Beck. “Given the uncertain economic outlook, it is critical that more efficient, stable, and sustainable trade finance channels are created to spur global growth and development.”

Technology can be a solution

To overcome the hurdles and challenges of trade finance, technology can play a key role. A promising but overlooked solution to trade finance is blockchain. 

A widespread assumption is that blockchain can only be utilized by big businesses; yet, it can be a game changer for SMEs seeking trade financing. Enterprise-grade blockchain reduces wasteful paper-based processes and maintains regulatory compliance, while its irreversible and easily auditable ledger function has the ability to improve transparency between transaction participants while maintaining data privacy.

Potential solutions include global standards for the digitalization of trade’s ecosystem - from shippers to warehouses - which would generate data, increase transparency, improve efficiency and ultimately boost access to finance.

The bottom line

Trade finance is one of the banking products that has suffered because of the Covid-19 outbreak. Banks and financial institutions, on the other hand, have an enormous potential to channel funds to where it is most needed. And the harsh reality is that unless banks and financial institutions take concerted effort to close the trade finance gap, the collective development would be compromised.

Banks have the chance to help bridge the widening trade finance gap by combining technology and process improvements. As a result, SMEs will be able to perform their critical role as economic growth engines.

Sources:

1. Bloomberg 
2. Standard Chartered
3. CNBC
4. Asian Development Bank