It’s been a rough few years for global trade finance, with often sharply reduced activity amid sluggish or negative economic growth in a heavily sanctions- and compliance-burdened landscape. This has forced many national, regional and global banks with trade finance functions to pedal twice as hard just to keep momentum.

Yet innovative players have still found opportunities between a rock and a hard place, developing new tailored solutions and products to meet the needs of clients, especially for small and medium-sized enterprises (SMEs), which have been disproportionately denied the means to expand their trade as the big fish hoovered up available finance.

In Eastern and Central Europe, operators are again looking for chinks of light after the bleak period that ensued with Russia’s 2014 annexation of Crimea and the subsequent imposition of punitive EU and US sanctions. This, coupled with low commodity prices and currency devaluation, hammered Russia’s economy for the next two years, with far-reaching spillover effects.

“The region as a whole still suffers from the economic downturn in Russia, which affects neighbour countries and has led to a decline of all volumes of trade finance,” Holger Kautzky, head of financial institutions at Commerzbank, who is responsible for the region, told bne IntelliNews last October.

Roll the clock forward six months and how the kaleidoscope has turned, with the shock election of Donald Trump as US president, and Russia’s financial health gradually stabilising after the Opec production cut deal buoyed oil prices. While this doesn’t translate to a sudden boom in trade finance in and around the country, it is creating more opportunities, even with sanctions still in place and a continuing need to reform economies.

“We see a slow pick-up of trade finance in some countries such as Russia and Central Asia; however, this will depend very much on whether these countries can introduce economic reforms,” Kautzky tells us in a more recent interview, while exercising caution. “But even if those reforms are introduced, it will be a slow development; and for Russia we expect a flat development.” While Russia is still the biggest market in the German bank’s trade financing, “Central Asia also plays a very central role now,” he adds.

In a recent survey conducted by the German-Russian Chamber of Foreign Trade, two-thirds of German exporters who participated anticipate a slight improvement of their revenues in Russia going forward, even though sanctions are expected to remain in force throughout 2017.

But despite the complex political and economic situation, Russia is certainly not twiddling its thumbs in the trade finance arena until things ease: in 2016, Sberbank Group, our 2017 Eurasia award winner, completed more than $31bn worth of trade finance and documentary business deals, an increase of 11% year-on-year.

Glum backdrop

For those unfamiliar with the sector, trade finance includes such activities as lending, issuing letters of credit, factoring, export credit and insurance. Companies involved with trade finance include importers and exporters, banks and financiers, insurers and export credit agencies. Repayment terms are generally short-term with the majority being used solely for the completion of a particular financial transaction. This financing forms a safety net, helping to protect the interests of buyers and sellers in an international marketplace and to complete transactions that may involve multiple currencies.

Overall, growth in the volume of world trade in goods and services was very weak in the five years to 2016, with growth rates averaging around 3% – less than half the rate during the preceding three decades. Growth in world trade barely kept pace with global GDP growth, and hit a post-crisis low of 2.7% in 2015.

Several factors appeared to be causing the poor volumes, according to the International Chamber of Commerce (ICC): low investment; rebalancing in China; a reversal in the development of global value chains; and changes in the balance between trade in goods and services. Lack of progress on the opening of global markets to trade – together with increased protectionist pressures – added to the unprecedented trade slowdown.

Against this glum backdrop, compliance requirements are snowballing – to catastrophic levels, by some accounts. This remains the single greatest impediment to growth in trade finance, sanctions included, and was cited by almost all of our winners, regardless of region.

“We had to get more people involved in trade finance to do all the checks on all the parties involved, related to the protection against money laundering, financing of terrorism and sanctions and embargoes,” says Marketa Kryslova, manager of global transaction banking of Komercni Banka/Société Générale, our 2017 Trade Finance Award winner in the Czech Republic. “Moreover there has been lots of work in educating people about the risks. Basically we now have to do much more to earn the same money, there is a lot of pressure on the margin, and that’s the same in Russia, Serbia, Croatia or Romania. And this is not going to change.”

Complying can mean dying

Rudolf Putz, head of the Trade Facilitation Programme (TFP) of the European Bank for Reconstruction and Development (EBRD), is blunt about the danger of banks being smothered by compliance. “Trade finance is silently dying, to some extent,” he tells bne IntelliNews. “Many banks just take the conscious decision that it’s not worth the risk and the cost of compliance, that it’s better to concentrate on a small number of large transactions, and they are not interested any more in covering the cost of small transactions.”

Adds Putz: “This development is much worse than you imagine, because Western banks don’t like to publish that they don’t do any international business any more, that their international business is only a fraction of what it was in the past, and that most international banks have re-allocated staff from international departments into domestic business, from trade finance into compliance.”

According to the 2016 Global Survey released by the ICC Banking Commission, more than 90% of respondents indicated that the complexity and cost of compliance requirements – particularly relating to anti-money laundering (AML) and know your customer (KYC) – are the main obstacles to providing trade finance. And 40% of respondents say they had terminated banking relationships due to compliance requirements.

“In trade finance we have adapted to this new normal: we are investing much more resources in screening our transactions against sanctions, we are much more aware of the cost of a RMA [Relationship Management Application] authenticator and we have heavily intensified our co-operation with our colleagues from the compliance department,” says Sabine Zucker, Raiffeisen’s head of trade finance & transaction banking. “Compared to 10 years ago, trade finance and other internal stakeholders such as compliance or relationship management overall are investing approximately 40% more time in a standard transaction due to compliance requirements.”

SOS of the SMEs

According to the ICC, it is also clear that a majority of small businesses have experienced significant problems accessing trade credit – with almost 60% of applications for trade finance in 2015 being rejected by banks.

This creates an urgent situation that must be addressed by policymakers, but also by banks themselves as they try to cater to SMEs. These are the backbone of the global economy, since globally 95% of enterprises are SMEs, representing around 60% of private sector jobs. In Europe, official estimates suggest that SMEs play an even greater role in promoting employment and social cohesion, providing two out of every three jobs in the private sector.

And consequently, “the enormous potential of small businesses to create jobs and growth is being held back by increasingly limited access to trade finance”, warns the ICC.

In 2015, SMEs submitted 44% of all trade finance proposals yet faced 58% of total proposal rejections. This compares unfavourably with large corporates and multinationals, which submitted 40% and 16% of proposals, yet only experienced 33% and 9% of rejections, respectively. Geographically, the greatest unmet demand was reported in Russia.

Changing toolbox

Still, while down from 63.3% in 2014, a majority of 52% of survey respondents – national, regional and global banks with trade finance functions – reported an increase in overall trade finance activity.

While letters of credit are generally waning as a trade finance tool, there have been positive developments in supply chain finance (SCF) as a business line, with nearly 35% of respondents reporting an increase in SCF deals for import and export operations. Supply chain finance generally involves providing short-term credit via using a technology platform to automate transactions and track the invoice approval and settlement process from initiation to completion.

According to Raiffeisen, global exports to Russia secured by letters of credit have nearly halved since the imposition of the sanctions: from €11.1bn in 2014 to €5.9bn in 2015. Meanwhile, there have been moderate growth rates in guarantees and double-digit growth rates with respect to supply chain finance products. Factoring – when a first party of a debt sells it for less than the total amount, providing them with working capital to continue trading – is very much on the rise in many CEE and CIS countries, says the Austrian bank.

At the same time, Russia’s Sberbank Group stands by letters of credit as a mainstay of the financing toolbox, while continuing to adapt them in its product suite. Last year, more than RUB2bn (€32.5mn) worth of payments were made using a new product: Russian unsecured letters of credit with advance payment. In total, over RUB100bn worth of unsecured letters of credit were issued in 2016.

“We pay special attention to settlements using letters of credit,” says Evgeny Kravchenko, Sberbank CIB’s acting head of trade finance and correspondence banking division. “We are seeing the largest growth in settlements using internal Russian letters of credit denominated in rubles. The volume of such operations exceeded RUB420bn in 2016, up 45% year-on-year. This product contributes to the transformation of Russian trade, increases transparency for all parties, and offers attractive financial conditions according to international standards. The volume and quantity of transactions in import and export operations have been rising as well; notably, the volume of issued letters of credit involving post-import financing more than doubled in 2016 year-on-year.”

Let’s get digital

While lots of traditional letters of credit are still being used in the wider CEE & CIS region, one important trend in trade finance is digitalisation, with most banks working on it hard as fintech innovation increases across the board, coming from a low level in 2015.

“We see digitisation becoming more and more important not only for the overall banking sector but also for trade finance,” says Raiffeisen’s Zucker. “During the last months we heard from a number of banks and corporates that processed their first trade finance transactions based on blockchain technology. Obviously, these first transactions were tailor-made to fit the technology's needs and set-up costs were huge. However, I am convinced that in a couple of years these investments will pay-off.”

Only 7% of banks in the 2016 ICC survey reported that their trade finance processes had been digitised “to a great extent”, with 43% reporting “very little” advancement in this regard. As expressed in a section of this report dedicated to the benefits of digitisation, the industry will experience the growth of digital trade before the end of the year and acceleration towards digitisation in the years to come.

Although the numbers were too dispersed to assess take-up of digitisation by region, it was evident that banks with trade finance functions with a global reach were far more likely to report that they had digitised their trade finance processes “somewhat” or “to a great extent”.

Customised solutions

So how are banks adapting to the changing environment? As well as offering classic trade finance products, a growing number are offering customised solutions, tailored to the customer’s context, such as BRD, our Romanian 2017 Award Winner. “The market [in Romania] is quite small and concentrated, small and medium-sized companies do not have enough information and expertise, there is a lack of culture in this field and a lack of a coherent strategy in terms of exports and imports in Romania,” says BRD’s Anca Dogaru, deputy director of global transaction banking.

So to cater to the regional growth aspirations of its clients, BRD came up with FINASIA – a solution for the Romanian market that meets the needs of customers importing from Central and Eastern Asia, offering more safety in international trade, longer payment terms, as exporters can benefit from advantageous local financing thanks to the collaboration between BRD and another bank from the SG group in the exporter country. The popularity of the product inspired BRD to launch a twin for companies importing from Turkey.

But trade finance is not only evolving due to international conditions. Many banks are faced with a turbulent environment at home too, requiring them to increasingly think outside the box. 

“2016 was a year that was outside of normal practices in the Turkish economy and the business world, not only due to the effects of global developments like Brexit, and the EU and US markets, but also local economic developments made 2016 a more fragile year for companies in terms of managing their foreign trade activities,” said Yapi Kredi, our 2017 winner from Turkey. “High fluctuation in FX rates during the year and flat GDP growth were the main challenges that Turkish economy encountered in 2016 for the companies. This situation has brought the need of having an experienced financial partner and using banking products more effectively” says Feza Tan,  Assistant General Manager, Yapi Kredi.

And where there is crisis, there is also opportunity. “Yapı Kredi was one of the most active banks throughout the year intermediating Turkish Eximbank- and Central Bank of Turkey-funded loans with the aim of supporting exporters during this volatile period,” adds Tan. “This support resulted to an increase at the wallet share of Yapı Kredi in the foreign trade flows of its existing clients; acquisition of new clients willing to use Yapı Kredi expertise gained momentum in 2016 as well. Yapı Kredi’s market share in Turkey’s total foreign trade has risen almost 2% in the last 2 years.”

Grim outlook without helping hands

Overall banks remain positive about the role of multilateral development banks (MDB) and export credit agencies (ECA) in addressing shortfalls, with 75% agreeing that both help narrow trade finance gaps.

These include among others the Asian Development Bank, the Inter-American Development Bank, the International Finance Corporation, the Islamic Development Bank, and the EBRD. The latter’s trade facilitation programme has been acknowledged as one of its most successful, facilitating 19,000 transactions worth €13.3bn since 1999.

But the success forged together with partner banks that the MDBs and ECAs support depends on there being a functioning environment to work in. Swathes of new regulatory requirements have driven many banks to abandon their trade finance work altogether, says TFP head Putz. “There is a total disconnect between the regulators who make the rules and the people who do the trade finance business. They don’t really care about what the banks think or need … Small banks in Eastern Europe may not even be able to find a single Western correspondent bank that is still able and willing to support those smaller banks in high-risk countries and do smaller transactions.”

The problem began in the last five or six years and banks and development banks have constantly pushed this issue with the ICC and World Trade Organisation (WTO), Putz says. “But since then nothing has changed.”

If these issues go unresolved for much longer, it can have egregious effects for world economies and global relations as a whole, given the harmonising role of cross-border trade.

And this can ultimately just leave the big banks remaining active in trade finance, cherry picking the biggest transactions while a far greater volume of healthy business comprised of smaller deals never comes to fruition.