By Ori Wallenstein, VP Product at QEDIT
Annual traded volume has reached $475 billion, and trade finance has changed forever, but much work remains to be done.
Despite the tremendous expansion of the supply chain financing industry over the past ten years, the market still remains ripe for growth and improvement. Recent developments mean that many buyers and suppliers along a given chain can optimize working capital, while financiers can earn higher returns from short-term, uncommitted investments. Unfortunately, many smaller and medium-sized enterprises cannot yet access the benefits of trade finance: the overhead requirements remain financially restrictive and operationally daunting for financiers.
Conversely, any Fortune 500 firm can easily enter the trade finance world. The industry has been tailored for large scale volume, with strictly regulated multinational firms as the core target audience. For decades, these companies were the ones with the greatest demand for such financing. However, the world has evolved faster than the financing industry and the levels of connectedness are higher today than at any point in human history. We’ve arrived at a point where yesterday’s regional markets are today’s global markets. Companies in developing nations have a significant role to play in the global supply chain space, and enhanced access to financing would undoubtedly be advantageous for all parties.
While there are significant opportunities for growth, obstacles remain. The biggest challenge confronting the supply chain finance space today is the cost of due diligence. Banks can’t justify financing an unrated SME due to the associated costs of assessing risk, performing Know-Your-Customer (KYC) checks, and establishing payment routes. SMEs seeking finance are willing to disclose relevant information pertaining to their trade history, but financiers are dissuaded by the high cost of verifying this information through due diligence.
The sad reality is that from a financier’s point of view, KYC and other introductory procedures may not make fiscal sense when it comes to small or new enterprises, particularly those that do not expect high trade volume. Unfortunately, businesses that have done little financing or that are domiciled in developing regions face further challenges, since many financiers find it difficult to analyze credit risk for firms in this category. The business may be entirely viable, but financiers will err on the side of caution and steer away from providing financing.
However, the ongoing pursuit of technological innovations can inspire the creation of new solutions to long-standing problems. The continued arc of growth of blockchain technology at enterprise level, and in particular in the supply chain space, has compounded the need for methods of verifying data swiftly and securely. Zero Knowledge Proof (ZKP) cryptography, fast becoming the de-facto privacy-enhancing standard for protecting sensitive information in the data privacy ecosystem, can play a significant role. ZKPs allow one party (the prover) to prove to another party (the verifier) the validity of a statement that has been mathematically derived from sensitive information, without revealing the underlying data to the verifier.
ZKPs can help streamline the due diligence process: using pre-defined parameters determined by the marketplace owner, the ZKPs can be leveraged to assign a credit score to each tokenized invoice. As long as financiers trust the proof generation process and the resulting credit score, they can confidently bypass having to conduct their own due diligence.
Blockchain’s suitability for the supply chain finance space is underscored by the ability to facilitate swift cross border payments, especially when SMEs are based in developing regions that do not have access to mature banking infrastructure. However, as with any financial network, the privacy of the transacting parties must be upheld. Using ZKPs on top of distributed ledger technology enables everyone on the network to verify transactions while keeping sensitive transactional details (who sent what, and how much, to whom) off the blockchain.
The current trading volume of $475 billion is just the beginning. Harnessing the power of blockchain, coupled with the latest innovations in privacy enhancing technology, will deliver a new era of explosive growth for trade financing – an era defined by heightened inclusiveness, cost efficiency, and verification standards fit for a truly global trade finance ecosystem. Exciting times ahead.