Growing Financing Gap Driving Change
Small and medium enterprises (SMEs) represent the lifeblood of the world economy, making up 90% of companies and more than 50% of employees around the world. However, financial access is one of the major problems for them. Currently, the SME financing gap is worth around USD 5.7 trillion in developing countries. The numbers show the huge gap between the need for financing and its availability.
As far as trade finance is concerned, the situation looks the same. The current gap in global trade finance is equal to about USD 2.5 trillion or almost 10% of the overall volume of international business. This problem made SMEs search for new trade finance opportunities.
(Sources: IFC, Highways Today)
Limitations of Traditional Banking Systems
Banks usually fail to cater to SMEs because of stringent criteria for credits, collateral, and conservative lending strategies. Often, small businesses have no proper documentation and few assets, which makes them undesirable customers.
According to the statistics, SMEs make up a higher percentage of loan applications rejected for trade finance than their proportion in total applications 40%. Such an imbalance has caused a gap in finance that is particularly acute among small exporters and importers aspiring to expand globally.
As international lenders begin to pull back from emerging economies, it has become increasingly difficult for businesses to obtain working capital.
(Source: World Economic Forum)
Digital Platforms Bridging the Access Gap
New alternative trade finance platforms based on fintech innovations are rising to the challenge. These alternative trade finance platforms use digital underwriting techniques, real-time transaction data, and supply chain visibility tools to evaluate the creditworthiness of borrowers more effectively than conventional financial institutions.
While banks offer trade finance products based on the borrower's credit rating, most alternative trade finance platforms provide trade finance based on the borrower's transaction history. This approach ensures that SMEs generate cash from their trade operations rather than relying on their balance sheets.
Since trade financing is crucial to 80-90% of international business transactions, digitizing the process is essential for SMEs to compete effectively.
(Source: World Economic Forum)
Supply Chain Disruptions and Global Trade Shifts
The global disruptions that have emerged recently as after-effects of the pandemic, geopolitical conflicts, and supply chain disruption have increased the requirement for more flexible forms of finance.
SMEs, being relatively lean compared to larger firms, have become even more susceptible to problems such as payment delays and increased cost pressures.
Firms are expanding their supplier base and entering new markets, hence increasing their requirements for fast and flexible financing. Traditional banks take much longer compared to alternative forms of financing.
In order to cope with evolving market dynamics, companies need alternative financing solutions.
Financial Inclusion and the Rise of “Missing Middle”
Many SMEs belong to what is often referred to as the “missing middle” that is too big for microfinance yet too small for banks. Alternative finance providers can tap into this niche.
The global shortfall of credit for SMEs functioning within formal financial institutions totals approximately one trillion US dollars. This reflects the fact that there are numerous financially stable firms that are underserved.
That is where the concept of alternative trade finance becomes relevant since it was specifically developed for the purpose of addressing this problem utilizing the latest technological advancements in risk modeling.
(Source: World Bank)
The Road Ahead for SME Financing
The emergence of alternative platforms within the trade finance market is not just a temporary phenomenon; it is a structural change in the process of funding global trade activities. As SMEs continue to play an increasingly larger part in international trade activities, there is a rising need for efficient and innovative forms of financing.
Closing the gap in global trade finance is imperative not only for the growth of SMEs but also for ensuring that the world economy operates efficiently, ensuring its sustainability and creating jobs. In today’s globalized environment, alternative platforms in trade finance serve as key facilitators of inclusive trade.
FAQs
- Why is it difficult for SMEs to obtain conventional trade finance facilities?
- SMEs do not have any collateral, credit history, or proper documentation to secure trade finance from banks.
- What is the gap in global trade finance?
- The gap between supply and demand of trade finance amounts to around USD 2.5 trillion.
- How do alternative trade finance platforms assist SMEs?
- Alternative trade finance platforms rely on technological innovation and transaction data to offer SMEs trade finance.
- What types of financings are provided by such platforms?
- Some common forms of financing are invoice financing, supply chain financing, and receivables financing.
- Why should SME financing be encouraged?
- SMEs contribute significantly towards economic growth and employment creation.
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