What benefits could ISO 20022 bring to trade finance?

A continued push for digitisation, transparency and automation in trade finance prompts the question about the impact a migration of Swift messaging from MT to an ISO 20022 standard (MX) would have on global trade finance operations.

As the payments and cash management industry has already been finding out, there are benefits, challenges and costs associated with such a wholesale transition – so let’s explore these for trade finance.

Benefits

A key feature of ISO 20022 is the ability to reuse business and message components across all messages using an XML syntax. This results in significant data granularity compared to the existing MT format. Naturally, richer data can improve accuracy, efficiency and reporting.

A tangible benefit of this enhanced granularity, which the payments industry should already be experiencing, is fewer false hits in sanctions and compliance screening, since such controls can be more specific in which exact data elements are being checked.

Regulatory requirements in trade finance often go beyond the sanctions and compliance screening typically associated with cross-border payments. Many banks are required to perform significant due diligence on trade finance transactions to prevent fraud and other financial crime. Part of this process is flagging unusual transactions. As well as spotting transactions inconsistent with a client’s regular business, some trade finance departments must also identify transactions which appear to make little commercial sense or look suspicious due to unusual pricing or a vague description of goods or services.

Given that some fields relating to the issuance of a documentary credit can consist of up to 800 lines of unstructured text, checking this manually is cumbersome and error-prone. Of course, attempts can be made to automate the process, but there is a limitation to the extent such processes can be automated without a baseline of rich and granular data.

Migration to an ISO 20022 standard with more structured data will provide significant opportunities to streamline and automate trade finance operations, with the potential to deliver cost savings and increased customer satisfaction.

New initiatives in trade finance such as AI, machine learning, digital documents, automated document checking and increasing usage of APIs should also benefit from more granular and structured data. Maybe it’s an ambitious thought, but perhaps ISO 20022 could be the long-awaited accelerator to truly digitise the end-to-end trade finance process.

Another benefit of trade finance adopting ISO 20022 is for consistency purposes. Alignment with the payments and cash management business makes sense, and after all, the very purpose of ISO 20022 is to introduce a common standard approach across all financial services.

For trade finance, this is more than just consistency for consistency’s sake. An integral part of trade finance is the settlement, and in many cases, a payment message must be generated from a bank’s trade finance system.

Given the payment industry has already made the leap from MT to ISO 20022 (MX), trade finance systems will need to generate an inconsistent mix of both legacy MT and ISO 20022 MX messages until trade finance messages are also on an ISO 20022 standard. In fact, trade finance systems should (ideally) already be generating ISO 20022 payment messages and they must be by November 2025, at the end of the MT and MX coexistence period.

Challenges

A balanced and cautious approach is always important when analysing the impact of new standards. Take the concept of highly structured and granular address data, for example, the reality in payments has shown that many corporates and financial institutions maintain address data in an unstructured database.

In fact, following a change request from the Payments Market Practice Group (PMPG), it looks like the original ISO 20022 CBPR+ vision of only rich structured data from 2025 will be adjusted to a more pragmatic solution accommodating a semi-structured address option.

The trade finance ecosystem and product lifecycle are complex, involve multiple parties and still rely heavily on paper-based documents. It could therefore be expected that the trade finance space will encounter greater challenges than the payments industry when adopting an ISO 20022 standard. Industry experts across the whole trade finance ecosystem must be engaged for the transition to be successful.

Costs

Whilst ISO 20022 promises many benefits, the implementation would entail significant expenditure for the trade finance industry.

Considerable adjustments to banks’ trade finance systems to send and receive interbank messages in an ISO 20022 format are just the tip of the iceberg. In addition, data and business logic within trade finance applications would need to be enhanced, and changes would be needed to customer front-end systems, portals, APIs, master data management systems and other internal and external systems. There would also be a large impact on corporates’ trade finance systems and corporate-to-bank (C2B) and bank-to-corporate (B2C) trade finance messaging.

More research would be needed before estimating how much this could cost. However, with the total expenditure for implementing ISO 20022 in the payments and cash management industry estimated by Celent and SEEBURGER to exceed $2 trillion, it’s evident that we are not talking about small numbers.

Whether the benefits of ISO 20022 will outweigh the costs remains to be seen and will vary from bank to bank. But the expenditure could also be seen as an investment into more efficient and frictionless global trade finance operations.

What’s next?

Whilst the payments and cash management industry is bravely pioneering an ISO 20022 standard, trade finance professionals are wondering if they’re next and when they might expect this to happen.

Even though ISO 20022 messages for demand guarantees and standby letters of credit already exist, Swift has not yet communicated any plans for migration to ISO 20022 for trade finance.

Indeed, the major changes Swift made to the existing MT messages for trade finance in 2018 and 2021 is expected to prolong the existence of MT messages and presumably would not have been made if an imminent migration to ISO 20022 is just round the corner.

But this doesn’t mean banks in trade finance should sit back and do nothing.

What should banks be doing?

In some areas immediate action is required, and in other areas banks should aim to be prepared.

Immediate action relates to the previously mentioned end of the MT and MX coexistence period for the ISO 20022 migration of payment and cash management messages. Trade finance systems should be able to generate MX payment messages natively (without translation) by November 2025 at the latest. If a trade finance system is still generating MT payment messages (MT 103, MT 202 and MT 202 COV) then immediate action is needed to meet this deadline.

Being prepared relates to the potential adoption of ISO 20022 for trade finance messaging. This should definitely be on banks’ radar of potential external market initiatives in strategic planning and should be taken into consideration when upgrading and implementing new trade finance systems.

A trade finance system should be flexible, business-event driven, and message-format agnostic with open and modern architecture. As a rule of thumb, systems with these characteristics are well placed to handle wholesale changes such as the adoption of ISO 20022. On the other hand, if a bank generally has difficulties implementing changes in their trade finance system or the system design is fundamentally reliant on MT messages, then the bank might be in for a turbulent and expensive migration to ISO 20022.

It can also be an advantage if a bank is running a trade finance system with a single common source code. Under this model, the vendor only has to implement the core changes once and can deliver them to all user banks globally.

Since this approach is typically less resource-intensive, the vendor can allocate its most experienced staff to the project and focus on the quality of delivery. This can ensure that complex changes such as a migration to ISO 20022 which require deep banking knowledge are not only implemented at a lower cost, but also seamlessly and with high levels of automation.

Even if ISO 20022 is not implemented for trade finance in the foreseeable future, banks are still better positioned to remain competitive in an ever-changing trade finance landscape with a flexible and modern trade finance system. However, implementation of ISO 20022 for trade finance does indeed seem like a matter of when, not if.