Fraud in $4 trillion trade finance industry forces banks to turn to distributed ledger technology

The risk of fraud to the $4 trillion trade finance industry has prompted banks to explore distributed ledger technology similar to the one that underpins bitcoin.

Standard Chartered PLC, which lost nearly $200 million to fraud at China's Qingdao port two years ago, has partnered with DBS Holdings PLC to develop an electronic invoice ledger, using a parallel platform made possible by the blockchain used in bitcoin transactions. Lenders Bank of America Corp. and HSBC Holdings PLC said they are looking to blockchain for trade finance and other banking applications.

Blockchain proponents believe the technology will revolutionize the banking industry, helping lenders cut billions of dollars in costs. Trade finance, a century-old banking mainstay, could be a new start for blockchain use, as it eliminates the need for paper invoices and the fraud that comes with them if banks come together around a common platform.

Regarding blockchain applications, Henry Balani, chairman of global strategic affairs at Accuity, which provides technology for monitoring trade money laundering, said:

“The potential for fraud invoices makes them the first choice for blockchain applications.”

The International Business Council noted in its 2015 survey that while nearly 20 percent of banks had seen an increase in allegations of trade fraud, lenders typically do not disclose their losses from trade fraud.

In the Qingdao case, the head of the fraudulent enterprise was a Chinese-born Singaporean businessman who was accused of using the same metal inventory invoices repeatedly to defraud banks of hundreds of millions of dollars. The incident caused Standard Chartered Bank to reduce its commodity assets by $193 million in 2014. In another case, a transatlantic trade fraud conspiracy used forged purchase orders and false invoices to obtain loans for metal shipments, which was estimated to have caused banks including JPMorgan Chase & Co. to lose $700 million in 2008.

Lum Yin Fong, DBS president who oversees the ledgers related to Standard Chartered, said:

“Due to confidentiality issues, banks do not have a common regulatory platform to view transactions financed by other banks, so it is very likely that customers will exploit this information sharing gap and obtain financing loans from multiple banks using the same invoice.”

According to Gautam Jain, global head of digitalization and customer access for Standard Chartered’s trade bank, the bank conducted a trial late last year — codenamed Secure Trade — that used a shared ledger of up to 60 fake invoices. Details of each invoice were used to generate a unique hash value stored on the ledger that would be visible if other banks tried to register the same invoice information.

HSBC and Bank of America said in separate emails that they were involved in a number of blockchain projects, including trade finance applications, while Citigroup said it was in the "early stages" of exploring how the technology could help finance and trade. But none of the banks gave details.

According to Liew Nam Soon, managing partner of EY ASEAN financial services, blockchain could only solve the problem of fraud if banks agreed to jointly use a central registry.

Liew said:

"Banks have traditionally had a culture of competition and challenge when it comes to collaboration and participation in large projects. However, there is evidence that this is changing with the advent of digital disruption, which is forcing many banks to work together."

Promote joint project cooperation

Distributed ledger collaboration is getting banks to agree to the same standards in using the same invoicing platform. For example, Standard Chartered’s Jain said the number of data fields in an invoice that can be used to generate a blockchain hash needs to be agreed upon between banks. Accuity’s Balani said banks also need common messaging standards.

Owen Jelf, global managing director of Accenture’s capital markets practice in London, said:

“The challenge is to agree on common processes and ensure an operating system that everyone can adopt. It’s like putting seven people speaking seven different languages ​​in a room trying to solve a problem, in this case how to solve trade finance transfers.”

One of the people who has most advocated and benefited from the use of digital distributed ledgers in banking is Blythe Masters, a former JPMorgan Chase & Co. executive who ran its commodities business and helped create credit default swaps. She is now CEO of Digital Asset Holdings, which is seeking to promote the use of blockchain technology in the financial sector.

Standard Chartered and DBS are working with the Infocomm Development Authority of Singapore to promote the distributed ledger technology used in the TradeSafe trial, a Singaporean government agency that is seeking to improve technology and communications in the city. The IDA aims to commercialize the technology and is currently in discussions with other banks. A spokesperson responded to questions by email, but declined to disclose names or timelines:

“We need committed partners. Trade finance is borderless and banks that adopt this technology will benefit from it no matter where they are.”