Sinochem Group, the state-owned Chinese petrochemical company, claimed, on Monday the 2nd of April, to have exported gas relying on blockchain technologies entirely. The shipment travelled from Quanzhou, in Fujian province, China, to Singapore. Sinochem Energy Technology, a subsidiary of the conglomerate, executed the trade. The trial shipment comes as no surprise since smart contracts and blockchain technology offer many solutions to an industry that, due to multiple risks, has not changed much since the first chartered joint-stock trading companies of the 17th century.
Historically, commercial systems have developed as centralised models, in which a single reputable intermediary establishes trust between the counterparties which often do not know each other. Naturally, the third party commands fees for the services provided and its internal processes contribute to the time-consuming characteristics of cross-border transactions, without necessarily enhancing the transparency of the deal.
Fewer Costs & Less Time
In every step of the trade financing process, blockchain technology seems to offer an efficiency boost in commodity transactions and the global supply chains. From contract generation level, which includes time-consuming reviews of the operation by the Letter of Credit issuing bank, to the settlement level, which often proves problematic due to payment platform incompatibility, fintech offers smart solutions. As correspondent banks are made redundant, blockchain reduces transaction costs further, due to an extensive disintermediation effect. Even the digitalisation of approval signatures by inspectors and the electronic acknowledgement of receipt by the importer will contribute to reducing the time needed, as trade progress will be triggered automatically.
Blockchain minimises the timeframe required for trade by shedding duplicate data verification tasks as well as automating the settlement of contracts, which, until recently, were tasks performed manually. Exporting companies have often had to rely on invoice factoring, where a payment company pays around 80% of the invoice cost before the client completes the payment, to keep cash flow high. Significant fees are offered to take advantage of these services, but the reduction in time needed might relieve exporting companies from having to rely on these methods.
The ability to oversee the trade progression in real time, paired with automatic data-matching, has reduced the transaction costs by almost 25%; the first agricultural commodity trade, performed in January 2018 by Louis Dreyfus and Shandong Bohi Industry with the support of ABN AMRO, ING and Société Générale, mirrored the traditional process but only took 96 hours instead of the previous timeframe of 11-14 days.
The involvement of several different parties in commodity trading and trade financing, including brokers, ship managers, port authorities and banks, contributes to the time-consuming nature of the deals. With tamper-proof blockchain technology, the multi-party characteristics serve to gradually diminish the risk of fraud, as more stakeholders and record-keepers are added to the process as verification providers. Eventually, information embedded into the blockchain will include location and state of the goods, providing proof of ownership to the importer and strengthening transparency to regulators and state authorities. As Gonzalo Ramírez Martiarena, CEO of Louis Dreyfus Company said:
Distributed ledger technologies have been evolving rapidly, bringing more efficiency and security to our transactions and immense expected benefits for our customers and everyone along the supply chain as a result.
Following the Trend
Other companies, particularly in Europe, have been experimenting with blockchain aided trade. In June 2017 gas trading initiatives made by Eni, BP, and Wien Energie, collaborating with BTL group, ran an extensive 12-week pilot of the latter’s platform Interbit. The peer-to-peer trading process included real-time transaction clearance, efficiently mitigating settlement risk. Andrew Wooser, a partner at EY consultancy, who oversaw the implementation, said:
Use of such technology can help by streamlining back office processes, leading to reduced risk, better protection against cyber threats and ultimately significant cost savings
Enerchain, developed by Ponton and supported by both E.on, Enel and Total, is a decentralised order-book platform in which supply and demand will be matched and also anonymises the traders. This is a significant development as discretion is a top priority for most commodity trading businesses. Ponton’s managing director, Michael Merz claimed:
We have developed an order execution process that works just like a typical OTC (over-the-counter) market front end.
Blockchain technology’s impact on global supply chains, though, is not limited to trading and financing. In the shipping sector, AP Moller-Maersk has not only been collaborating with both HSBC and Deutsche Bank in trade finance blockchain transactions but also is embedding marine insurance contracts using a platform developed through Microsoft’s cloud services, Azure, by EY. Because of the significant amount of paperwork and bureaucratic red-tape inherent in the old model, the new marine insurance platform aims to reduce administrative costs substantially. Lars Henneberg, head of risk and insurance at Maersk supported that:
Insurance transactions are currently far too tedious and frictional. The distance between risk and capital is simply too far. Blockchain technology has the potential to facilitate the desired development that is long overdue.
The expansion of blockchain in commodities and logistics will continue as more sophisticated corporations experiment with the technology. Together with increasing government involvement, as with the US Department of Agriculture in the January 2018 trade, smaller and less innovative companies are expected to join the network. Routine tasks such as invoicing, customs, asset tracking, and transfer of title are possible targets for blockchain developers and commercial entities, as they strive for further cost reductions and risk mitigation in a highly competitive business environment.
Closing the Trade Finance Gap
The impact of blockchain in supply chains has highlighted the critical function of trade finance in the world economy: allowing enterprises, which could potentially be deemed risky counterparties, to respond to the global demand for their products. The trade finance gap, the difference between the amount of money needed to finance trade and the amount available to borrow, decreased to $1.5trn in 2017 from a record $1.6trn in 2015. The financing rejection rates for SMEs in emerging economies, particularly in Asia and the Pacific are considerably higher, which implies an uneven distribution of the gap; foregone trade means reduced economic growth and lower levels of productivity and employment for these regions.
Although credit fintech is on the rise, blockchain was mostly used for peer-to-peer lending and that the trade financing gap persists, according to the Asian Development Bank. 70% of financial institutions which responded to the survey claimed that the technology would allow for greater exposure to SME risk, mostly because of significant cost reduction in compliance and due diligence.
A WTO working paper released in 2017 examined the implications of limited trade financing supply for SMEs, even when global trade is growing at a slower rate – implying a reduced demand for financing services. The analysis pinpointed market failure issues as well as information asymmetry obstacles in matching the risk-return characteristics of SMEs from emerging markets; on the other hand, the major reasons of rejecting the financing requests regarded compliance with both BASEL and anti-money laundering regulations.
In conclusion, 2017 has been a revolutionary year for the implementation of blockchain technology both in the commodity trading and the trade financing sectors. The expansion of trust in blockchain supported transactions has been rapid within the US, UK, and Chinese markets. 2018 might mark an attitude turn from the rest of the world.
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