AFRICAN trade continues to grow, providing myriad opportunities for local and international banks and corporates. But despite the abundance of interest, the supply of trade finance in Africa – which is crucial to facilitating trade itself – lags far behind demand. Susie Aliker, CEO of British Arab Commercial Bank (BACB), explores the reasons behind the financing gap, how it can be remedied, and what the outlook is for this promising region.
Rich in natural resources, home to 1.3 billion people across 54 countries, and the world’s second-fastest growing region economically (GDP growth is forecast to reach 4.1 percent this year), it’s no surprise that Africa attracts plenty of suitors. Foreign interest continued strong last year, with Japan, Russia and China all clamouring to host African presidents and heads of government in the hope of ramping-up their engagement with the region. The UK’s voice joined the chorus during the UK-Africa Investment Summit in London in early 2020, with the Prime Minister, Boris Johnson, pitching the UK as ‘Africa’s partner of choice’ in international trade, in a bid to preserve the UK’s strong ties with the region outside of the EU.
But despite the well-documented interest, the region faces acute trade financing challenges which limit lift-off of trade on the continent. These challenges are not insurmountable however if addressed with a detailed understanding of the underlying risks – which more often than not means an on-the-ground presence, and an ability to structure flexible financing solutions.
The funding deficit
Many countries in Africa, and therefore many more banks and companies, are still suffering from the effects of widescale “de-risking”, which followed soon after the 2008 financial downturn. The hike in regulation necessitated by the crisis caused many global banks to reassess the financial viability of their trade finance exposures – and many began to perceive lending against trade in the region as uneconomical. This triggered a largescale withdrawal of financing capacity from the region, with trade finance rejection rates, as reported by the ICC Banking Commission, standing at 17 percent of all requests – one of the highest globally.
With many companies struggling to obtain the trade finance required to mitigate risk on a trade, this constitutes a major impediment to exporters or importers in Africa keen to expand, as well as those abroad keen to explore the opportunities that lucrative African markets have to offer.
This is in spite of the fact that the actual risk is substantially lower than most would believe. Indeed, the ICC’s 10th Annual Trade Register showed considerable reductions in default rates for letters of credit (LCs) and loans for cross-border trade in Africa between 2016 and 2017. It also revealed an absolute decline in default rates of 91 percent in loans for trade, 92 percent in export LCs and 71 percent in import LCs, with the rates ranging between only 0.13 percent and 0.05 percent – a small risk to bear when considering the potential rewards.
Nonetheless, the ICC Banking Commission’s 10th Global Survey on Trade Finance revealed that 50 percent of respondents from African banks expect the trade finance gap to widen over the next three years.
This is worrying on a number of levels. Not only does this leave significant commercial potential untapped, it also constitutes a limiting factor to the success of pan-African initiatives aimed at increasing intra-regional trade volumes – and by extension, economic growth in the region. The African Continental Free Trade Area (AfCFTA) – which will be the largest free trade area in the world by number of countries once fully operational in July this year – is widely hailed as having the potential to bring some 15-20 percent to the value of intra-African trade by 2040. This would have a transformative influence on many of the region’s economies if it reaches its intended potential, but without the funding needed to execute deals, the initiative’s success may be hindered.
Finding the right solution
Thankfully, technology is going some way towards shaking off the negative risk perception and encouraging financiers to come to the table. Increasing access to data has facilitated better analytics revealing actual transaction risk, and innovations – such as distributed ledger technology (DLT) – allow for greater transparency across trade processing that can facilitate better risk management. Such technology allows for real-time tracking of a trade transaction and generates greater efficiencies by integrating the disparate parties involved in the chain into a single, centralised portal for better oversight.
Digital payments and settlement platforms are also proliferating, increasing the ease with which capital flows across borders and reducing the region’s reliance on hard currencies. African countries, many of which had little legacy infrastructure to complicate or inhibit the application of new technology, have enthusiastically embraced digitalisation, and are leveraging it to bridge the gaps in connectivity both intra- and extra-regionally.
Arguably one of the areas where technology has had the greatest impact on improving the financing options for importers and exporters, is in regulation technology – better known as ‘regtech’. Early screening technology has reduced the administrative and compliance burden attached to on-boarding clients, and introduced an additional and automated layer of protection to the usual compliance processes. There has been much growth in innovation in this area in recognition that reducing the costs attached to compliance opens up new realms of possibility in terms of providing financing to clients that would otherwise have come in below the viable lending threshold.
Knowledge is still king
But, while it can help iron out some of the issues, technology cannot go all the way towards filling the financing gap in African countries. This is because technology cannot replicate the expertise and trust that are necessary to access the opportunities the market has to offer. Indeed, financing trade in challenging markets demands deep, region-specific knowledge, combined with an understanding of the needs of the exporter.
This requirement for a niche specialism, alongside the greater regulatory cost burden, have done little to attract the larger global banks, particularly when lending against smaller sums. It is, however, where specialist banks with local knowledge, the ability to offer flexible structuring, and robust risk management capabilities – such as UK-regulated BACB – come into their own.
The stage is set for a golden era in African trade, with increasing sophistication in technological application and a clear common desire to deepen regional integration – but this can only be realised by complementing these new developments with solid financial backing by trusted banking partners. It is here that good, old-fashioned relationship banking cannot be beaten, with a service offering built on local knowledge, solid risk management, and a boots-on-the-ground approach.