A New Age for Middle East Trade Finance

Innovative new technologies, the advent of ISO 20022 and changing market necessities are reshaping trade and trade finance business models across the region

No doubt the past three years have had a devastating impact on global trade and the trade finance sector that powers economic growth, creates jobs, delivers critical goods and improves people’s lives.

Trade finance markets are vulnerable during economic and financial crises. A survey conducted by Dubai ports operator DP World in November 2022 painted a stark picture of global trade. It revealed that the lingering supply-chain crisis, geopolitical tensions as well as inflation and the lack of financing options have a crippling effect on the global logistics industry’s ability to deliver goods.

Trade finance supports an estimated 80% of global trade through a variety of financial instruments including letters of credit, trade loans, guarantees and insurance. Without it, global trade would grind to a halt.

The banking division underpins one of the most fundamental economic concepts – countries’ need to import and export goods and services based on their resources or lack thereof.

However, data from global bodies such as the United Nations, the World Bank and the World Economic Forum reveals that there is a $1.5 trillion trade finance gap on merchandise trade worth $17 trillion.

“The divide between what lenders are prepared to provide and what borrowers need is impeding the ability of trade to fully support international economic growth,” according to Australian institutional bank ANZ.

The events of the past three years –geopolitical tensions, a slowing global economy and inflation – are believed to have also exacerbated the trade finance shortfall and the need to improve the $5.2 trillion global trade finance ecosystem. Trade specialists are betting that the geopolitical shocks, issues with inflation and evolving regulatory requirements affecting global trade will be a passing phase, while innovative technologies and sustainable finance will have a lasting impact – making transactions faster and more reliable.

Though trade finance has been relatively slow to modernise its decadesold processes, the ongoing transformation in the industry offers financial institutions a valuable opportunity to reimagine how they finance trade with no constraints and no legacy baggage.

“Digitalisation can address the challenges of process inefficiency, regulatory compliance and information asymmetry in trade and trade finance transactions,” economists at Asian Development Bank said in a report titled Driving

ISO 20022, a global and open messaging language for payment, became the standard for cross-border payments and cash reporting starting in March 2023. The migration to the digital language for payments messaging is expected to unify current practices based on fragmented standards while providing the industry with highly structured and enriched data for end-to-end automation on an international scale.

Meanwhile, sustainability has become a topic of crucial importance for many corporations, including financial institutions. Global banks such as Standard Chartered Bank and HSBC are offering sustainability-linked financing solutions, including deposit accounts backed by investments in sustainabilityrated assets and letters of credit issued for transactions in which the underlying asset contributes to efforts to mitigate climate change.

The pace of digital transformation in the financial services sector continues to accelerate. The new innovative technologies and an ever-changing market landscape are reshaping trade and trade finance business models.

The proliferation of networks, digital standards and digitisation efforts are constructive steps toward trade finance modernisation and inclusion. They validate the belief that market participants –including banks and credit insurance companies – recognise the importance of enhancing trade finance efficiency.

Innovative technologies hold the potential to improve documentation, testing and risk governance models, meet regulatory risk-based demands, improve anti-money laundering policies and tighten up change control procedures.

“Several global trade finance banks have already started to invest in digitalisation, with technologies such as optical character recognition (OCR), artificial intelligence and blockchain being used to develop innumerable use cases and proofs of concept,” according to EY.

Last September, HSBC executed the Middle East region’s right blockchainenabled, trade finance transaction between China’s SAIC Motor and Saudi Arabia’s Taajeer Group via the global lender’s Contour platform.

The digital platform has been instrumental in bringing down transaction lead times from 5-10 days to 24 hours. The bank’s digital receivables finance portal also reduced waiting time for working capital from 60 days to less than 48 hours, which significantly enhanced cash flow for its commercial and global banking corporate customers.

Trade documents themselves are very complex. However, the use of blockchain and distributed ledger technology (DLT) in global trade makes it possible for documentation to flow transparently and securely between banks, trading companies and other network participants such as credit insurance companies.

Blockchain technology has the potential to empower global trade and banks that finance it by making transactions more efficient while retaining a high level of security. The World Trade Organisation said DLT could be to trade and trade finance transactions what the internet has been to communication.

Industry experts say trade finance functions that adopt appropriately targeted automation and advanced analytics as integral parts of their compliance operations will be more important than ever in this uncertain international environment.

Cross-border payments are important in the Middle East, with two of the world’s three largest remittance corridors located in the UAE and Saudi Arabia. Three major initiatives have already been unveiled in the region including Project Aber, the Arab Regional Payment System (Buna) and the AFAQ system that connects the real-time gross settlement systems of GCC countries.

Financial institutions, banks and payments networks that process large cross-border transactions are upgrading their infrastructures to ISO 20022 standard that brings more effective realtime controls against fraud and money laundering as well as a range of richer new payments services that are yet to be developed.

The transition to ISO 20022 is expected to solve the interoperability between the two standards or two payment rails—the domestic and the cross-border. It has emerged as a common language and model for financial messages across the world as several Middle Eastern and Asian countries have already migrated their national payments infrastructures to ISO 20022.

The rich and structured data enabled by ISO 20022 is an essential element of the next generation of payments. It’s the foundation for financial institutions to work smarter and faster, leading to greater operational efficiency, improved data analytics and compliance, new opportunities for innovation and enhanced customer experiences that promise to transform the payments landscape.

Sustainable trade finance

Banks in the Middle East are expanding their sustainable trade finance offerings to meet growing corporate demand. However, they face a challenge to ensure that stricter environmental, social and governance (ESG) criteria do not worsen the trade finance gap by cutting off access to financing for companies that need it most.

Over the years, ethical sourcing, climate-smart supply chain planning, eco-friendly warehousing as well as renewable energy and green logistics have become an integral part of the global trade equation.

“This focus is here to stay and trade finance can play a key role in encouraging more climate-conscious supply chains in the future by, for example, offering modifications in pricing for those engaging in environmental best practices,” said Lynn Galkoski, director of Trade Product & Portfolio Management with BNY Mellon Treasury Services.

Globally, more banks are rolling out green or sustainability-linked equivalents of trade finance to meet corporate demand and support their sustainability commitments. Standard Chartered unveiled its sustainable trade finance solutions across Asia, Africa and the Middle East, Europe and the Americas in 2021.

The London-listed bank said the financing product will focus on supply chain finance, invoice financing, receivables services, bonds and guarantees and letters of credit. “These products will help global supply chain activities – estimated at $19 trillion by the World Trade Organisation (WTO) –become more sustainable,” Standard Chartered said at the time of the launch.

Wall Street lender Citigroup followed last year with the introduction of new sustainable trade and working capital loan solutions in Asia Pacific, Europe,

– Asian Development Bank

Middle East and Africa and Latin America regions.

A research document published by HSBC and Boston Consulting Group in 2021 revealed that global supply chains will require $100 trillion of investment by 2050 if they are to achieve net-zero emissions - and as much as half of it is required by small and medium-sized enterprises (SMEs).

Banks and other players in global trade are collaborating to drive further growth in sustainable trade finance. However, S&P Global warned that financial institutions face a challenge to design sustainable trade finance structures that are inclusive and incentivise change - something that bankers believe can be done. Industry experts believe that how banks define sustainable trade will significantly have an impact on which companies can and cannot access financing with an ESG label. Global trade and banks that finance it need to develop appropriate metrics to measure the sustainability of trade outside of developed economies to ensure that more companies will benefit from sustainable trade finance.

The Middle East is home to millions of SMEs, including startups, that see the region as a strong place to start and grow a business. Globally, SMEs account for around 90% of companies and more than half of the jobs worldwide, according to the World Bank.

SMEs are often constrained in working capital. With the trade finance gap projected to be around $1.7 trillion, it’s often those SMEs that are underserved and lack access to affordable trade finance. “Trade constitutes the backbone of every economy and 80-90% of global trade requires financing,” according to the WTO.

The public and private sectors in the GCC region have been developing programs to catalyse the growth of SMEs, including startups. DP World launched its trade finance platform in 2021 and the Dubai-based firm has partnered with 23 financial institutions, generating more than $700 million in credit limit submissions.

The logistics major partnered with South Africa’s Standard Bank to offer trade finance solutions jointly with DP World Trade Finance. SMEs are often not able to provide collateral to secure funding, which raises rejection rates.

However, credit insurance agencies in the GCC such as Etihad Credit Insurance and Saudi Export-Import Bank have taken several measures to assist SMEs in meeting their trade finance needs during the current crisis, including expansion of working capital guarantee, pre-export payment and supply chain finance guarantee programs.

Trade finance can further boost the recovery of the global economy by facilitating export and import growth, by addressing two major challenges associated with international trade. Innovative technologies are revolutionising trade and this is particularly true in the trade finance field. The infrastructure now exists to enable end-to-end straight-throughprocessing of hundreds of thousands of instruments in a low-cost way.