Digital Disruption: How FinTechs Are Outpacing Traditional Banks in Trade Finance
Trade finance has always been pivotal for global trade, shoring up global supply chains and addressing liquidity concerns. However, there has been a significant shift in its landscape in recent years. While traditional banks once dominated trade finance, FinTechs are rapidly ascending due to several prevailing industry trends.
FinTechs: Pioneers of a Digital-First Era
As in many other industries, the COVID-19 pandemic expedited the digital transformation of the trade finance sector. Data from Statista highlights that the trade finance deficit recently rose to $2 trillion, up from $1.5 trillion before the pandemic.
As the world’s trade infrastructure felt the strain, it became clear that established systems and conventional bank services were lagging behind, enabling the growth of the trade finance gap. Many traditional banks struggled to adapt quickly enough, causing disruptions and delays in trade financing processes.
Enter FinTechs – with digital, cloud-centric solutions that boosted the accessibility of trade finance, which particularly benefited SMEs in emerging markets. In contrast to banks, burdened by paperwork and red tape, FinTechs harnessed innovations like open banking, digital data capture, and cloud-based storage.
By Oliver Carson, CEO and Co-Founder of Universal Partners
This gave way to a much more refined, agile process – introducing a modern approach that has effectively addressed the inefficiencies of traditional trade finance, heralding a new era for the industry.
Tailored Financial Solutions for SMEs
For decades, traditional banking practices, with their rigid criteria and legacy systems, have often disadvantaged SMEs. The innate nature of SMEs, characterised by limited credit histories and sporadic cash flows, has frequently resulted in declined trade finance applications.
However, FinTechs recognised an overlooked opportunity. Rather than viewing SMEs through the same lens as traditional banks, FinTechs delved deeper into understanding their unique needs, challenges, and potential.
FinTechs saw SMEs’ requirements and developed tailored financial solutions, such as non-recourse financing. This not only placed the responsibility of payment recovery squarely on the financiers but gave SMEs the crucial working capital they needed without the usual risks.
The success of this approach is evident in the numbers, with FinTechs able to offer a faster, more cost-effective digital service. According to Bain & Co’s projections, by serving these previously underserved SME sectors, FinTechs could earn an extra $2 billion annually in trade finance fees and potentially drive trade volumes up to a staggering $1 trillion by 2026.
A Battle of Agility and Reputation
Traditional banks, once dominant, are now facing challenges in the trade finance domain. Regulatory measures like the Basel III framework, designed to ensure financial stability, have inadvertently decreased the operational flexibility of banks, making it harder for them to adapt swiftly to changing market dynamics.
Compounding this is the banks’ cautionary approach toward SMEs, and this conservative stance has not only limited the growth potential of these enterprises but has also dented the banks’ image as holistic financial service providers.
In contrast, FinTechs have shown remarkable agility in adapting to the current market needs. Their strategies, inherently more favourable towards SMEs, have filled the void left by traditional banks. By leveraging the latest technological advancements, FinTechs have introduced enhanced security measures and streamlined operations, providing a more user-centric experience.
While banks recognise the evolving landscape and are making concerted efforts to innovate with platforms like ‘we.trade’ and ‘Trade Finance Gate’, there’s a palpable sense the institutions are trying to regain lost momentum. The challenge is not just about introducing new tools or platforms but fundamentally reshaping their approach to be more inclusive and adaptive, much like the FinTechs they now compete with.
In summary, FinTechs, with their proactive models and emphasis on customer needs, are continuously making their mark in the trade finance landscape. For traditional banks, the onus is now twofold: not only to innovate but to re-establish the trust of SMEs who now see FinTechs as more dependable allies. As the financial world moves ahead, agility, innovation, and customer-centricity will be at the heart of success, and at present, FinTechs are leading the charge and will find themselves the trusted partners of the global giants of the future.
What’s the difference between BaaS and embedded banking? Quite a lot
The problem with a loosely defined term is that its meaning can become stretched. Anyone who has described a stadium-filling act such as Ed Sheeran as “indie” because he plays a guitar is guilty of this.
Banking-as-a-Service (BaaS) is just such a loosely defined term.
Some providers have stretched the term to encompass services such as Open Banking, card platforms, and APIs. This confusion is further exacerbated when aggressive marketing campaigns overlap BaaS with another fast-growing term: embedded banking. Using one term to describe all of these disparate services makes about as much sense as using the same word to describe a multi-platinum-selling artist and the band playing to three people in the local pub.
By John Salter, Chief Customer Officer at ClearBank
Confusion over these terms is already widespread. According to Aite, a third of fintech providers do not believe there is any difference between embedded banking and BaaS.
There are, however, important differences between BaaS and embedded banking. Businesses need to understand the differences between these two concepts if they are to understand their own responsibilities, especially around governance and compliance, and what it could mean for scaling up or adding new features in the future.
Breaking it down: What’s the difference?
Despite its name, BaaS does not necessarily mean working directly with the holder of a banking license or that the services provided require a license. Instead, providers offer banking-related services and infrastructure, sometimes on behalf of a licensed bank, to firms including fintech startups, e-commerce platforms, and even other financial institutions.
BaaS is a “push” model. A banking product is created and offered “as a service” to a potential user. BaaS is the distribution of banking products to financial institutions and non-financial institutions. For example, non-bank players like Uber or Lyft work with a BaaS provider that is responsible for payments, cards, accounts, and loans. However, who is responsible for compliance and governance can vary between providers and use cases.
On the other hand, embedded banking is on the “pull” side. This simply means that financial services and products are embedded into financial or non-financial platforms, such as e-commerce and mobile banking applications. Embedded banking is the provision of a banking service directly from the holder of a banking license and embedded directly into the user experience. A typical example would be the Buy Now Pay Later (BNPL) functionality online shops have included at the point of purchase for customers to access installment payment options.
Do businesses need to understand the difference?
Should anyone care about this? This is a good question as most businesses won’t start with the question of whether they want BaaS or embedded banking. In fact, they’re unlikely to ask this question at all. Instead, they will have specific requirements for banking or banking-like services, and approach the right provider with those needs in mind.
So, who cares? Aren’t we simply over-analysing the technicalities?
It may seem so, but there are important implications for regulation and who is responsible for compliance.
BaaS providers may have a banking licence, or they may hold an EMI licence. Embedded banking providers are, by definition, holders of a banking licence. It’s important when entering into any agreement that the customer-facing business understands the regulatory nature of the agreement—who is responsible for compliance and KYC, how funds are safeguarded, and whether they are protected by a full banking licence. There is already concern from regulators around where consumers’ money is held and how safe it is—is there enough transparency? Knowing the difference is important, especially when the “gold standard” is when funds are held by a bank in an embedded solution.
Businesses aiming to enhance their offerings with financial services have the potential to create differentiated services that set them apart from the competition. But working with the right partner is crucial to success. When evaluating a partner, businesses must consider the range of services on offer, technology implications, compliance, security, and more.
So, a clear understanding of the differences between BaaS and embedded banking will make it easier for any business to decide what is right for them and their customers.
