WP/19/165 Statistical Coverage of Trade Finance – Fintechs and Supply Chain Financing by Cornelia Lotte van Wersch IMF Working Papers describe research in progress by the authors and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the authors and do not necessarily represent the views of the IMF, its cutive Board, or IMF management. YYYY International Monetary Fund WP/[Paper No. ex. 14/xx] IMF Working Paper Statistics Department Statistical Coverage of Trade Financing – Fintechs and Supply Chain Financing Prepared by Cornelia Lotte van Wersch Authorized for distribution by Claudia Dziobek July 2019 Abstract Trade finance is the backbone of international trade for entities ranging from a small businesses to multi-national corporations. An estimated 80 percent of world trade relies on this of finance WTO, 2017. Despite its systemic importance and rapid growth, data availability is only partial. During the 2008 financial crisis, policy makers, notably the G20 recognized that the absence of comprehensive trade finance data posed a significant hurdle for policy-makers to make ined, timely decisions. This paper proposes a stand- alone dataset to reflect the scope, dynamic and recent innovations of the trade finance market to support macroeconomic policy analysis. JEL Classification Numbers F1, F3, F4, F6, O3 Keywords Global Value Chains, Fintechs, Trade Financing, Supply Chain Financing, Statistics, SNA, BPM, BOPCOM Author’s E-Mail Address IMF Working Papers describe research in progress by the authors and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the authors and do not necessarily represent the views of the IMF, its cutive Board, or IMF management. 3 Contents Page Abstract 2 I. Trade Finance Data to Support Macroeconomic Policy Analysis 4 II. The Changing Trade Finance Environment 8 A. FintechsNew Players in the Trade Finance Market 8 B. Blockchain Technologies and Other Innovations .9 C. Trade Finance Instruments to Manage Working Capital 10 D. Secondary Markets 16 III. Macroeconomic Measures of Trade Finance .16 A. Capturing Trade Finance in the Macroeconomic Frameworks .16 B. Compilation of a Satellite Table on Trade Finance .18 C. The Indicators of the Satellite Table on Trade Finance 19 IV. Conclusion .22 V. References .24 Tables 1. Proposed Satellite Table of Comprehensive Trade Financing Liabilities of the Resident Sectors 21 2. Derived Accounting for the Instruments to Finance Trade .22 Figures 1. Letters of Credit L/Cs 12 2. Open Account Trading .13 3. Supply Chain Financing .15 4. Most Used Instruments in Traditional Trade and Supply Chain Finance 17 Box 1. Working Capital is the Starting Point for Trade Financing .10 Annex I. New Supply Chain Finance SCF Instruments in More Detail .27 Annex Tables 1. Receivables Discounting 28 2. Forfaiting29 4. Approved Payables Finance .31 5. Loan or Advance Against Receivables 33 6. Loan/Advance Against Inventory 34 7. Pre-shipment Finance.35 4 I. TRADE FINANCE DATA TO SUPPORT MACROECONOMIC POLICY ANALYSIS 1About 80 percent of international trade is financed by some of trade credit WTO 2017 most of which is short term and thus vulnerable to shocks. 2The turmoil of financial markets during the 2008–09 Global Financial Crisis led the international community to swiftly orchestrate a large-scale 250 billion trade finance program to channel liquidity via the banking sector into the real economy. While the banking sector is an important provider of trade finance, a growing share of trade finance takes place through interfirm, open account trading. 3Trade finance is an umbrella term encompassing a range of financial products that companies utilize to bridge their trade cycle funding gap between paying suppliers and buyers. Suppliers, on the other hand, require a timely funding to pay for material and labor. Trade finance acts as an intermediary to manage payment and supply risks, while providing the supplier with accelerated receivables and the buyer with extended credit. Large multinational banks with specialized trade finance divisions, local commercial banks, and non-bank lenders with exclusive focus on trade finance are active in this market. 4For policy analysis a global stand-alone dataset on the level of outstanding trade finance, its terms, and the main providers is needed. Comprehensive data on international trade finance are not available. It should cover whether the targeted interventions were adequate and effective in filling the gap. The March 2009, the G20 summit noted that “the lack of a comprehensive international dataset for trade finance during the crisis has been a 1I would like to thank Paul Austin, Malik Bani Hani, Claudia Dziobek, and Gabriel Quiros-Ramos for their valuable comments. Members of the IMF Balance of Payments Committee BOPCOM provided important and some are participating in a pilot rcise. The author also gratefully acknowledges from several international meetings; the Sixteenth Session of the Group of Experts on National Accounts of the Economic Commission for Europe UNECE Conference of European Statisticians in Geneva in 2017, the 11th meeting of the Advisory Expert Group on National Accounts AEG, the 3 rdmeeting of the UN Expert Group on International Trade and Economic Globalization Statistics in Luxembourg, and the OECD Working Parties of National Accounts and Financial Accounts meetings in 2017. Tesat Spacecom Germany, Tempel USA, the Chilean Economic Development Agency, and InvestChile generously shared experiences in a series of interviews conducted for this paper. Hendrik Tillmann-Zorn and Thorsten Ullrich created the figures which are based on Global Supply Chain Finance Forum GSCFF. 2Chaffour, J.P. and M. Malouche Eds. “Trade Finance during the Great Trade Collapse Key Takeaways.” The World Bank. 2011; World Trade Organization. 2017. https//www.wto.org/english/thewto_e/coher_e/tr_finance_e.htm. 3The March 2009 G20 summit committed 250 billion to support mainly larger banks, while the IFC and regional development banks targeted smaller banks and banks in developing countries. In 2017, multilateral banks supported cross border trade finance with 30 billion. However, the International Chamber of Commerce 2018, BIS 2014 estimated that bank-guaranteed trade finance accounts for ten to thirty percent, while the remainder is organized by inter-firm trade credits through open account trading. 4Trade finance instruments offered by government-backed institutions are not covered in this paper. 5 significant and avoidable hurdle for policy-makers to make ined, timely decisions.”5This paper lays out a template to collect comprehensive data to help clarify the important linkage between trade finance and the real economy. Data should reflect the important innovations in the trade finance market. Trade finance markets have undergone significant innovation following growing international supply chain arrangements and increasingly globalized production patterns. Appropriate data templates must take into account the new environment. For example, global sourcing strategies employed by large multinational companies have given small and medium-sized companies SMEs new roles in global trade as third-party suppliers, producers, and distributers. 6While traditionally, SMEs were active mainly in their domestic markets, they have evolved to a key component in today’s fragmented supply chains. The integration of the physical and the financial supply chains into global value chains GVCs have changed the dynamics of trade finance. While international trade finance was traditionally provided mainly by large banks to their large multinational clients, there are now many more providers and more borrowers in the trade finance market. Structural changes to the trade finance market occurred already before the 2008 crisis. GVCs have to a large part phased out bank- intermediated Letters of credit L/Cs and moved to inter-firm open account trading, often supplemented by third-party financing of suppliers. Trade finance data should cover the full range of trade credit suppliers and instruments. Fintechs are important new players providing Supply Chain Finance SCF. They are innovative financial technology companies that develop new products catering to the needs of SMEs. With digital interfaces and electronic invoice systems, Fintechs compete with traditional trade finance providers, mainly banks. In contrast to bank-intermediated financing, SCF solutions offered by Fintechs build on inter-firm open account trading and enable the suppliers to raise finance based on the credit-rating of the company at the head of the supply chain, while the early payment is bridged by a third-party. A Fintech SCF uses an online portal and accounting software to streamline working capital access to the entire 5See G20 Trade Finance Experts Group. April Report Canada-Korea Chair’s Recommendations for Finance Ministers. 2010. 6Multinational companies’ MNCs global sourcing strategies of intermediary components and services are well documented in the literature. The location of the different stages in the value chain and the extent of control the MNC rts over those stages are key decisions when companies break up the production processes across countries offshoring. The strategy of “offshoring outsourcing” – the transfer of activities and processes to unaffiliated parties – is described in the literature as an outsourcing revolution. Companies are turning fixed into variable costs towards more broadly leveraging external resources, skills, and knowledge, and gaining operational flexibility in highly competitive environments. See Jain, J., G. Agarwal, G.S. Dangayach, and S. Banerjee, “Supply Chain Management Literature Review and Some Issues,” Journal of Studies on Manufacturing Vol.1-2010/Iss.1, January 16, 2010 11-25. / Boddin, D/ “The Role of Newly Industrialized Economies in Global Value Chains,” IMF Working Paper WP/16/207. 6 supply chain. Fintechs could qualify as money-creating intermediaries providing loans to goods suppliers and use securitization markets to raise trade finance capital. Data specifically distinguishing SMEs that are part of direct investment DI relationships 7from SME’s at arm’s-length are helpful for analysis. SMEs operating within the boundary of DI typically have access to internal capital markets where much of this trade is financed through intra company netting and internal funding, including access to retained earnings, or commercial papers. Many larger firms are also able to set up in-house banks to finance various subsidiary trading. Parent companies may finance the affiliated SME via equity or debt depending on a variety of factors such as corporate taxation rules in the parent and the SME economies. In contrast, SMEs in at arm’s-length relationships are more vulnerable to liquidity constraints than their peers within a DI boundary. For traditional lenders, the financing of SMEs may be too complex and too low scale to be serviced. Following the financial crisis many banks reduced their exposure to smaller businesses. 8Nevertheless, trading in intermediate goods within global value chains has grown in emerging markets. Integration of trade finance and value chains to promote the participation of SMEs in the global economy, is therefore seen as important building block towards economic growth. 9Financial disruptions at the level of a supplier can have ripple effects throughout the entire value chain. Upstream companies are vulnerable to the risks and resilience of SMEs in their supply chains, as critical product components are often sourced from SMEs worldwide. The financial decision of an upstream company can impact the financial situation and the perance of downstream suppliers and possibly suppliers’ suppliers in arm’s 7IMF BPM6 paragraph 6.9-6.10 A direct investment relationship arises when an investor resident in one economy makes an investment that gives control or a significant degree of influence on the management of an enterprise that is resident in another economy. [] Enterprises in a direct investment relationship with each other are called affiliates or affiliated enterprises. 6.10 Because there is control or a significant degree of influence, direct investment tends to have different motivations and to behave in different ways from other s of investment. As well as equity which is associated with voting power, the direct investor may also supply other types of finance, as well as knowhow. 8In the International Chamber of Commerce’s ICC 2016 trade survey, 90 percent of respondents said that the complexity of compliance was the chief barrier to the provision of trade finance. https//iccwbo.org/publication/icc-global-survey-trade-finance-2016/. See also Blancher, N., Appendino, et. Al Financial Inclusion of Small and Medium-Sized Enterprises in the Middle East and Central Asia, IMF Departmental Paper Series, IMF. 2019. 9Brandi, C. and B. Schmitz, “Financing Global Development The Potential of Trade Finance.” German Development Institute, Germany, 2015. https//www.die-gdi.de/en/briefing-paper/article/financing-global- development-the-potential-of-trade-finance. 7 length relationships. The experience of the 2008 financial crisis highlighted that this can affect the supply chain as a whole. 10Data on trade finance should be consistent across macroeconomic datasets to support policy analysis. Trade finance data should support early warning analysis of possible liquidity crunches and support analysis of the links between global trade, investment, and GDP growth. It is, therefore, important that the concepts and definitions of the dataset on trade finance are consistent with those of other macroeconomic indicators. The dataset proposed in this paper builds on the main macroeconomic statistical manuals such as the System of National Accounts 2008 2008 SNA, the Balance of Payments and International Investment Position Manual, 6 thedition BPM6, the Government Finance Statistics Manual 2014 GFSM2014, the Monetary and Financial Statistics Manual and Compilation Guide MFSMCG, and the External Debt Statistics Guide for Compilers and Users 2013 EDS. 11The development of a dataset on trade finance can be accomplished as a coordinated effort of international organizations such as the IMF, World Bank, WTO, OECD, and others, and with their member countries. The data template presented in this paper was discussed in the IMF’s Balance of Payments Committee BOPCOM meetings in 2017 and in 2018 and three countries volunteered to provide experimental data and review the feasibility of the template. To capture evolving market structures and “ensure that macroeconomic statistics mir