The silent revolution of Blockchain that is re-shaping Trade Finance
“The greatest and most powerful revolutions often start very quietly, hidden in the shadows. Remember that.”
― Richelle Mead
IBM’s latest blog “Global trade: The role of blockchain-enabled trade finance networks” shows that the world trade is approximately valued at $100 trillion and that a 16 to 18 percent reduction in trade costs equates to an increase in the global trade of 0.6 percent.
We know that trade financing is basically financial institutions providing credit facilities to guarantee the exchange of goods. Even though the concept of trade financing is centuries old, there hasn’t been much change in the way it operates.
Even though traditional trade financing is plagued with inefficiencies, some of the biggest challenges for financial institutions are improving service levels, scaling operations, and maintaining regulatory compliance without bearing any additional expense.
As these traditional paper-based processes have been predominant, banks are looking for the next significant disruption in trade operations by turning to technology to automate trade operations in a transparent, secure, electronically driven paperless environment.
There are many gaps in trade financing operations for which Blockchain is inherently suitable for streamlining, some which range from manual contract creation where the importing bank has to manually verify agreements provided by the importer, to delayed payments due to the number of intermediaries present to verify that funds have been delivered, to multiple versions of financial records as they are sent from one entity to another.
Let’s take a quick look at how a trade financing transaction would look using Blockchain.
Once the purchase is made, the contract of sale between the importer and exporter is pushed to the import bank using a Smart Contract on the Blockchain. Following this, the import bank can review the purchase contract, prepare the letter of credit, and push the obligation to pay to the export bank, all in real time. Upon confirmation, the goods will be inspected by 3rd parties and customs agent in the exporting country and can simply provide approval by providing their respective digital signatures on the Blockchain. Following which the exporter will digitally sign a blockchain-based LoC to initiate shipment and a Smart Contract will be generated on the Blockchain to cover terms & conditions and lock-in obligations.
The logistics network transports the goods from one country to another, and upon delivery, the importer will digitally acknowledge receipt of goods and smart contracts will automate the payment from importer to exporter.
Now, the major advantages of using a blockchain here are:
Real-time review and Decentralised contract execution: Financial agreements linked through Blockchain are reviewed & approved in real time, reducing the time it takes to initiate shipment considerably. As contract terms are met, smart contracts update the status on Blockchain in real time, reducing the time and manpower required to monitor the delivery of goods.
Eliminating Intermediaries: Using a blockchain essentially gets rid of the need for any Banks facilitating trade finance to use the services of a trusted intermediary to assume risk, removing the role of correspondent banks in the process.
Lower counterparty risk: Since the bills of lading are tracked using a blockchain, it removes the chance of double spending arising.
Settlements using smart contracts: Smart contracts can be used to automate settlements, removing the need for correspondent banks and as a result, will not bear any additional transaction fees.
So, similarly, there are many other advantages of using a blockchain in trade financing operation such as transparent proof of ownership, providing real-time information to regulators to assist in enforcement & AML activities and most importantly accomplishing almost entirely paperless transactions. To summarise the impact of blockchain in trade finance, it Shortens the delivery time for trade documents, reducing it from days to a few hours; Reduces the time required to create and transmit documents, as well as labour and other costs through digitisation; and Increased transparency by sharing transaction details with all parties in real-time.
This is a post in our on Medium blog, ‘Blockchain for Everyone’.
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