How Blockchain is Transforming Trade Finance

With digitalization seeping into various industries, businesses have had a digital revolution in recent years.

Blockchain in trade finance, being one of them, has numerous benefits, which range from streamlining paperwork to the seamless execution of payments.

Trade finance is when financial institutions provide credit facilities to businesses to conduct international trade and commerce. In trade financing, a third party is involved in reducing the supply risk, making it easier for both the importer and the exporter. While it provides the exporter with payment or receivables that have been agreed upon, it gives credit to the importer to carry on the trade.

The trade finance market in the US alone is worth USD 11.4 billion and is expected to cross USD 16 billion by 2027. This has been the perfect time to introduce blockchain in trade finance. With blockchain, stakeholders have increased operational efficiency from a logistical and trading point of view. It has optimized the business and reduced inefficiencies in operation, apart from providing several other benefits discussed in detail below.

What Are the Effects of Blockchain in Trade Finance?

1. Transparent and Lower Transaction Cost

The most beneficial feature of blockchain for trade finance would be the potential of blockchain to reduce operational complexity and transactional costs. The blockchain serves as a shared ledger that maintains transparent records of transactions, hence enhancing transaction transparency and traceability.

Trade finance experts agree that moving toward paperless and error-free documentation helps in faster transfer of documents internally and reduces cost. Hence, it can be safely assumed that the blockchain can digitize documents. Banks, corporates, and businesses involved in trade financing can have greater efficiency by digitizing and optimizing because blockchain shortens the trade financing process, making it cost-efficient and accessible. With blockchain, one can maintain the ever-growing data blocks seamlessly and securely.

2. Financial Clarity

Usually, businesses opt for an LC to mitigate risks through banks and for a smoother trade flow and settlement process. Since LC is issued based on the trade documents and not the actual delivery of goods, there might be disputes between parties if there are any errors in the terminology while the goods are sitting unclaimed at the location. This will lead to a delay in payment due to a data mismatch in LC or the underlying trade document.

Here, the LC can be modeled on the blockchain to mitigate this risk. This will verify the documents with the contract terms. Automated payment methods would speed up the payment process and discover any discrepancies, if any, leading to streamlined payment processes.

3. Identity Management

The finance and trade industry works with customers closely. For financial institutions and trading, handling mortgages, loans, etc., requires a high level of confidence between the customer and the institution. Hence, identity managementis a very crucial aspect here.

To mitigate the risk of a payment or delivery, banks are required to help with trade transactions. The complex and comprehensive payment and trade transaction’s traceability can be used to assess the associated creditworthiness and financial well-being of the businesses. This has been made possible by the blockchain ecosystem.

4. Document and Contract Management

Trade documents are the most critical aspect of trade finance and also most prone to errors. Now, through blockchain’s multi-signatory mechanism, all the trade-related documents can be created and updated in real time. This increases the auditability of the trade process and ensures that documents are all up to date.

Blockchain comes with its own set of hurdles and disruptions. Even today, multiple loads must be crossed before the trade and finance industry realizes the potential of integrating blockchain. Blockchain in trade finance can potentially have a substantial positive impact on the world economy.