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International Trade Finance - 2021 and beyond

Malta, 19 Febraury 2021: by Renald Theuma, Board Member - Malta Bankers' Association

2020 was a tumultuous year for several economic sectors, not least for trade finance - a niche part of the banking sector. 2020 will be mostly remembered for the string of trade finance fraud scandals which led to big corporate collapses and high-profile losses. This contributed to slumping revenues of major banks, with several major financial institutions pulling the plug on their trade finance operations as part of a wider overhaul of their banking models.

Global trade flows have however trebled from US$6.2 trillion to a record high of US$18.1 trillion throughout the last decade. Such growth would not have been possible without the essential financing of trade. Despite the disarray that 2020 brought about, as we enter a new decade, the strong growth in trade finance looks set to continue and be the driving factor of economic growth. The findings of a global survey conducted by the International Chamber of Commerce - which gathered responses from 346 banks in 85 countries - clearly demonstrates the respondents' ambitions to expand their trade-finance arrangements to new clients, products, and geographies.

After almost 12 months of sluggish revenues, the trade finance industry may finally take a turn for the better in 2021. Revenues could even rise beyond pre-coronavirus pandemic levels as soon as in 2022, according to a forecast made by Coalition - an S&P Global-owned research company which predicts a rebound in the total trade finance revenue pool.

Trade finance is used by banks to finance cross border transactions between buyers and sellers. The 'Advisory Group on Trade Finance' of the International Chamber of Commerce, describes trade finance as the critical enabler of international trade and key to the revival of the global economy and job creation post Covid-19.

Trade finance comes in many forms. Letters of credit, guarantees, structured commodity finance, supply chain finance, factoring, invoice discounting and stock finance are some of the financing structures used in trade. All enterprises, corporates and even sovereign nations benefit from trade finance which provides access to much needed liquidity which ensures an efficient management of the whole supply chain.

Large corporate customers may have access to a more secure form of financing, like letters of credit which come in several variations and for financing, two of the most known forms are transferable and back-to-back letters of credit. Customers with access to liquidity can offer open account terms and when in need of liquidity, these companies can unlock capital by selling their receivables through factoring, invoice discounting or other structures.

Trade finance can be in the form pre-shipment or post-shipment finance. Pre-shipment finance may include pre-payment finance in open account transactions or stock financing with the inventory being used as a collateral. Post-shipment finance may be accessed after goods are sent to a buyer through letters of credit or invoice discounting and factoring.

Closer to home, Malta's economy relies heavily on international trade which represents 270% of the GDP - one of the highest rates in the world. Due to its strategic geographical position and major sea links, Malta has always been throughout the ages, a central maritime and trade hub. The Malta Freeport ranks amongst the top three transhipment ports in the Euro-Mediterranean area. Malta has also established itself as an international financial centre which is home to no less than 25 banks of which most of them have established trade finance departments and at least 2, are specialised trade finance banks that provide a whole array of high-quality trade finance services.

On a positive note, the pandemic has not only caused massive disruption to trade but has also highlighted areas of opportunity. Pandemic driven lockdowns have exposed the vulnerability of paper-based trade finance processes and the road to digitisation has clearly been accelerated over the past year. 2021 will be the year that technology and digitalisation play a crucial part in the financing of trade. The advantages of digitalisation are evident. Digitalisation removes physical locations as a constraint and there will be more secure lines of communication benefiting from reliable electronic audit trails. In-built levels of authorisation will reduce the risk of fraud and will inject far greater comfort into the business relationships. Digitisation will however come at a cost and will have an impact on the revenues of the Banks as they seek to invest in tech infrastructure. Digitisation will also require standardisation and a level of uniformity that is acceptable throughout must be achieved.

A topic which will gain more momentum in 2021, is sustainability. Banks and corporates continue to feel the pressure to clean up their act, by introducing policies to phase out financing for non-sustainable lending products. If companies in the international trade arena can align their businesses to meet the key sustainability targets in their industry sector, they may be able to have access to a broader range of funding provided by Banks with a clear sustainable policy.

Trade finance works and it will continue to be an essential driver in economic growth. What is needed is a shift on how banks approach trade finance. Surely, replacing paper-based bureaucracy with digital solutions whilst implementing robust controls coupled with a clear sustainable policy will be critical for the trade finance industry in 2021 and beyond.

Renald Theuma is a Board Member of the MBA and Deputy CEO & Head of Business Development at IIG Bank (Malta) Ltd.