This blog is part two of a two-part series on Open Finance. Part one looks at how the internet, not
Open Banking, is the catalyst for new banking business models.
Global trade growth has been slowing massively since the financial crisis and, as we’ve seen recently, supply chains are more fragile than we think. Against this backdrop, it’s tempting to argue that globalisation will go into reverse. But, instead, and
almost without us realizing it, globalisation has been metamorphosing into a different, increasingly intangible, form. In its new guise, globalisation is set to accelerate, but only with a reboot of the financial system.
Global trade growth is slowing…
Between 1986 and 2007, global trade in goods and services grew more than twice as fast as the growth in global GDP — by 7%
on average. Last year, in contrast, global trade grew at a meagre 1.2%.
Since 2007, we’ve had a financial crisis, a rise in populism that has seen many countries question the soundness of globalisation as well the imposition of new trade barriers. Now, we have a global pandemic which threatens major disruption to supply chains
and global trade and which many argue will lead to a global recession.
It is tempting, therefore, to argue that globalisation has run its course and will eventually go into reverse. But, despite these warning signs, the reality is both more nuanced and more positive — in the main, globalisation is not slowing, but changing
…But probably not for the reasons you think
There is no question that global trade growth has been slowing, but it is too pessimistic (and simplistic) to say that global leaders have turned their back on the positive-sum effects of global trade to lift GDP and living standards. Instead, many other
reasons are at play.
Firstly, with the benefit of hindsight, it is obvious that the 1986–2007 period represented a once-in-a-generation boom in cross-border trade and capital flows that would inevitably slow. Several conditions came together at once — major
technology improvements in transport and communications, a raft of free trade agreements, and the opening up of the Chinese economy — which made it a uniquely favourable time for globalisation.
Secondly, slowing growth in globalisation stems, in part, from the success of globalisation. As many of the largest exporting countries (notably China), have successfully grown their GDP on the back of rising global trade, so their domestic
consumption has increased. Effectively, they are consuming a greater proportion of what they make.
Thirdly, slowing growth reflects a return to local production that has little to do with populism or trade barriers. Increases in automation, aided by emerging technologies like additive manufacturing, reduce the relative share of labour
in production costs and make it feasible to put manufacturing close to the end consumer. Alongside this, shifts in consumer preferences towards, say, faster fashion or artisanal goods, make it advantageous to put manufacturing closer to the consumer.
Global trade is set to take a different shape
Albeit more modestly than in the past, global growth will continue to increase. It will be boosted by factors such as rising trade between emerging market countries (as opposed to between developed countries or East-to-West).
But it will become both more digital and more digitally-enabled, which will simultaneously change the nature of global trade, as well as boost it.
Digitisation is creating new trade flows. Formerly physical flows are becoming virtual (e.g. listening to Spotify as opposed to shipping CDs). At the same time, restrictions to trade get lifted by digitisation (e.g when share trading moved to exchanges or,
soon, when illiquid assets become tokenized). Both of these factors increase trade in services vis-à-vis physical goods. The former have already increased 60%
faster than the latter and we can expect that trend to continue.
But even where goods do not become digitised, digitisation can boost global trade.
Take ecommerce, for example. Platforms like Amazon, Alibaba and Shopify make it easier to reach international consumers and manage the logistics of doing business globally, boosting worldwide trade by democratizing it.
But a bigger impact will come from the data that arises from digitally-enabled trade.
Companies are able to know so much more about their customers which, together with technology improvements, allows them to move away from mass production to mass customization — effectively tailoring products and services to individuals. And, trade is also
getting smarter. Today, most shipping containers and an increasing number of manufactured components are fitted with chips. This allows their status to be monitored, giving businesses real-time insights into goods in transit as well as work in progress.
The finance sector needs to be rebooted
This digitisation of global trade promises to usher in a new, sustained era of growth. One that promises to more balanced and inclusive. But, there are still factors that could prevent this, including within the finance industry.
As global trade becomes increasingly digitised, it not only depends much less on physical assets, but it also speeds up considerably. As such, the finance industry needs to become adept at dealing with intangible assets and it needs to become real-time.
The finance industry is definitely not there yet. Even though trade is becoming increasingly intangible, lending against intangible assets is actually going down.
Similarly, even though the goods and services are being digitised, the flow of bank information related to it remains PDF and paper-based and travels at analog speeds. Today, ships travel faster than the flow of documents related to their shipments.
In banks’ defense, they know this is an issue but their systems and processes have been created in a way that makes it hard for them to adapt. Banks continue to ask corporates for the same information and collateral as they always did, in the same formats
as always. This means decision making remains slow, but also — as corporate balance sheets also become intangible — fewer corporates qualify
for credit and the credit gap grows.
But the solution to these issues already exists.
Seeking Letters of Credit (LoC’s) when banks can access real-time locational information is akin to renting VHS cassettes instead of using Netflix. Similarly, asking a corporate for last year’s financial statements when a bank can access real-time accounting
information is equally anachronistic.
The solution lies in Open Finance. This is what we define as the free flow of information
to facilitate networks and network effects.
Effectively, banks need to open themselves up to providing and consuming a much broader set of data flows: the information that corporates are already using to manage their businesses and supply chains, but also information from other banks and partners.
This can be used to unlock capital faster, by, for example, automating credit decisions and updating risk-weighted models. But it can also be used to go further: putting banks at the heart of an ecosystem that links together banks with other banks, corporates
with corporates, and corporates with other service providers. This initially allows for faster credit flow, but over time would see credit embedded into other services and new meta services created. Ultimately, this will help catalyze the new phase of globalisation.
Global trade is going through a rocky patch. Many nations have lost the enthusiasm they once had for it and the panic around the new coronavirus won’t help. But, a slowdown was inevitable and in many ways reflects the profound success of globalisation itself.
Globalisation, however, is far from over. Signs of what the next phase will look like are already visible and it will be built on different foundations: digital, faster and more inclusive.
The biggest challenge to making this new phase of globalisation successful, and inclusive, lies with finance. Finance needs a digital upgrade. It needs to move away from backward-looking information and analog tools. It must embrace Open Finance.