In some areas of their business, banks and financial institutions are already well on their way to completing their transformation journeys. Processes amenable to digitization have indeed been digitized, and the increasing adoption of technologies such as robotic process automation means that huge swathes of banking operations are now touch-free and paper-free.
However, some business units have proved resistant. For example, trade finance deals, with their extensive lists of counterparties and external actors, still typically rely on manual data exchange. The applying company completes paper or online forms, which are processed through multiple systems, handed off to counterparties, approved by legal, risk and compliance teams – and ultimately rejected or approved.
Wave Of Opportunity
Trade finance processes have the hallmarks of chaos: unstructured data being exchanged with variable outputs that are hard to monitor, predict or track. Particularly where external counterparties are involved, the digital transformation journey has slowed or stalled. In some cases, progress depends on intermediaries who have not yet digitized, and in other cases there is no industry standard or platform for data exchange.
Blockchain is about to change all that, releasing a new wave of financial automation.
Create Order From Disorder
While much of the talk about blockchain revolves around the technicalities of its immutable ledger, the key point from a business perspective is that it offers the potential to authenticate transactions without an intermediary. By using blockchain, multiple parties can interact reliably with a validated audit trail. In effect, blockchain allows disparate participants to unite in a single digital process.
Taking trade finance as the specific example, blockchain can be used to solve the root cause of the inefficiency: the lack of a standardized, fully digital workflow. Multiple counterparties and multiple intermediaries need to coordinate their efforts and reach consensus, but they are unable to transact efficiently between their systems.
Without a single digital platform or exchange, trade finance and many other banking activities remain un-digitized. As a result, monitoring progress is difficult, and it is hard to identify and resolve process gaps; costs are high while efficiency remains low.
The manual processing effort remains similar, regardless of the size of the deal, which means that margins shrink on smaller deals. For example, Tier 1 banks may decline deals of less than $50 million, while smaller financial institutions would not possess the economies of scale to put together deals at commercially attractive rates. As a result, smaller deals fall through the cracks or become very costly to coordinate, which hinders economic growth and drags trade performance.
In addition to this complexity, the timescales for trade finance deals are much longer than other transactions. While corporate clients expect a line of credit decision, for example, to be returned within two business days, arranging a trade finance deal can typically consume twenty working days. This latency in the process impacts the customer experience, leads to sub optimal working capital management at the corporate end and can potentially put the entire deal at risk.
The underlying causes are clearly the lack of commonality for systems and intermediaries, leading to chaotic (in the sense of unstructured, non-digital) processes that take too long and cost too much.
Blockchain Cuts Through Chaos
Blockchain-based solutions offer an exciting new opportunity to cut through this complexity and create a simple way to digitize manual processes. The immutable ledger technology allows data exchange with complete confidence, enabling counterparties to interact at low cost, rapidly and reliably.
In essence, all the counterparties share a common blockchain platform, which eliminates concerns about trust. At the point of onboarding, the bank completes the necessary Know Your Customer processes for each counterparty. The blockchain platform then serves as a secure, shared database for all participants, with all the benefits of immutability and built-in validation.
Once the onboarding is completed, counterparties have controlled access to trade deal information. If one of the actors changes the agreement – the rates, maturity, penalties etc – then all other counterparties will be alerted to the change. The system enforces trust by implementing pre agreed rules, policies and governance standards through the notion of smart contracts.
Smart Contracts Are Coming
The smart contract capabilities of blockchain-enabled solutions mean that when all the conditions for the deal are satisfied, deals can be closed and executed automatically. Smart contracts notify participants that pre-configured conditions have been met, terms have been agreed, and the execution can be linked to a bank’s payment systems to trigger financing while updating financial software and accounting.
Building Blockchain Opportunity
Blockchain is set to transform trade finance and many other banking areas. By eliminating manual steps and streamlining processes, blockchain is cutting costs and opening new markets. For example, when a deal is below a Tier1 bank’s size threshold or does not fit its preferred risk profile, blockchain makes it possible to partner with another bank or finance boutique to manage the transaction, using a smart contract that automatically pays a commission if the deal is closed.
Like lasers, which started as a solution looking for a problem and soon became ubiquitous, blockchain is only now starting to reveal its true potential as a creator of order from chaos. From food provenance to maintenance management, blockchain use cases are emerging in countless unexpected areas, driving a technology-enabled revolution in banking and many other industries.
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