The Key to Unlocking Financial Inclusion in Developing Economies
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The LEI: The Key to Unlocking Financial Inclusion in Developing Economies Plus: A Spotlight on Africa How LSEG (London Stock Exchange Group), Zimbabwe’s NMB Bank Limited, GLEIF, Cenfri and Cornerstone Advisory Plus are unlocking access to trade finance and boosting economic potential for African businesses. Introduction 65 A 2017 report from the International Finance Corporation (IFC) contends that million firms 65 million firms around the world, including 45 per cent of small to medium sized globally enterprises (SMEs) in developing countries, have an unmet annual total financing need of $5.2 trillion.1 Today’s African economies, for example, suffer from a severe trade finance gap currently estimated to be more than US$81bn.2 including The root of the problem, both for banks seeking to expanding trade finance portfolios and international businesses looking for supply chain partnerships, lies in the need for 45% greater transparency among SMEs. Too many do not possess the business credentials of SMEs in needed to support counterparty due diligence processes and their associated risk developing assessments. countries This is a major obstacle impeding global economic growth. It is felt most acutely in developing economies where it prevents capital from flowing into SMEs, through both unmet annual trade finance and domestic and international partnerships. total financing need of $5.2 trillion The Legal Entity Identifier (LEI) can solve this problem as it enhances transparency in the marketplace and builds greater trust between market participants. This e-book explores how financial institutions and SMEs in developing economies across the world can use the LEI, a globally recognized and standardized form of business ID, to address these problems head-on. By equipping SMEs with LEIs, developing economies everywhere can dramatically increase Trade finance financial inclusion, enable broader participation in both domestic and international markets and, gap in Africa estimated at ultimately, increase the flow of inbound capital needed to fuel their economic development. $81 billion 1The MSME Finance Gap, IFC 2017 2Trade Finance in Africa: Trends Over the Past Decade and Opportunities Ahead - Policy Research Document 3, September 2020 2 The need for globally Reasons for African banks rejecting SME trade finance applications5 recognised business identity Reasons % SMEs play a crucial role in Client credit worthiness 35 Know your customer (KYC) and anti-money the global economy, fostering Insufficient collateral 30 innovation and financial laundering (AML) requirements, in particular, development and providing have emerged as a new and growing 2013 Single obligor limit 11 two thirds of the world’s jobs.3 challenge for SMEs. Over the 2013-14 period, Limited forex liquidity 10 According to the World Bank, less than one per cent of African banks cited to SMEs represent around 90 per regulatory compliance as the primary reason 2014 Insufficient limits with cent of businesses worldwide.4 for rejecting trade finance applications. corresponding banks 8 Between 2015 and 2019, however, as Yet, despite the critical role Bank balance sheet compliance requirements have increased, this constraint 6 they play, many SMEs in figure has grown to circa 16 per cent. This developing economies lack shows that stringent KYC/AML regulations are robust business credentials having two unintended consequences on the Reasons % and, as a result, face significant trade finance sector. They are: barriers to growth: their access Client credit worthiness 30 to finance, particularly to trade 1 Increasing the cost of processing finance Insufficient collateral 25 finance, is either severely applications and transactions from limited or denied altogether, SMEs. Banks operating in the region are Know your customer and their capacity to establish now reluctant to spend time and effort 2015 requirements 16 contractual domestic performing the required to and international trading Insufficient limits with KYC checks for a new SME client. corresponding banks 7 partnerships is constrained. 2019 Even gaining access to payment 2 Reducing the number of international Single obligor limit 6 services is a challenge. banks participating in trade finance Limited forex liquidity 6 across the region, for the same reason. Others 6 Bank balance sheet 3‘Setting up small and medium-size enterprises for restart and recovery’ McKinsey, June 2020 constraint 4 4Small and Medium Sized Enterprise Finance section, World Bank website 5African Development Bank’s Report Trade Finance in Africa: Trends Over the Past Decade and Opportunities Ahead 3 The LEI and financial inclusion A crucial step to increasing In this way, any SME holding financial inclusion in an LEI can demonstrate the developing economies is level of transparency needed What is the LEI? to encourage broad SME for it to establish a trusted The Legal Entity Identifier (LEI) is Adoption of this proven system is adoption of a trusted, relationship with any third- an alpha-numeric code that links now expanding to overcome a range globally recognized system party organization at home or to a system in which the identity of new identity-related challenges for business identity. across borders. of a legally registered organization, facing organizations across different This is what is offered by the Put simply, it is the key that or ‘legal entity’, can be verified market sectors as they engage in Global LEI System. It gives enables any business to unlock quickly and efficiently by anyone, global digital commerce. banks, financial institutions, anywhere. It can be thought of access to both finance and The Global LEI System is the perfect potential business partners as a kind of digital international trade. solution to help bridge trade finance and other regulated institutions company ID card; each LEI ‘record’ gaps and promote financial inclusion easy access to an SME’s key For financial institutions and contains high quality business card across the globe. It is the only legal reference data. Once regulators, the LEI improves information. system in existence that is open, registered, an SME can be risk management by enhancing There are currently 1.87 million LEIs commercially neutral, standardized recognized universally, since assessments of micro and in circulation, each one containing and carries the endorsement of its data is openly available macro prudential risk. In this information about an entity’s financial regulators. electronically, free of charge, way, it also promotes market ownership structure, enabling to anyone, anywhere. integrity while containing This makes it the only system questions of identity (‘who is who’) market abuse and combating capable of establishing digitized and ownership (‘who owns whom’) financial fraud. trust between all legal entities, to be answered unambiguously. everywhere. The LEI is already widely mandated by regulators for use in capital markets and has been embraced in over 200 jurisdictions around the world. 4 The positive impact of the LEI: Benefits for SMEs 1 2 3 Business ID: More trade Fast-track support Credible digital finance, for national business identity leads to less red tape digital ID schemes trustworthy business As countries look to advance their own SMEs can both prove who they are and The LEI can improve an SME’s business digital identity schemes, the LEI can know precisely who they are doing risk profile in the eyes of lenders and ease the implementation and integration business with, globally, saving time and investors, increasing its chances of accessing burden on SMEs. In a globalized digital money, enabling new opportunities for finance and securing more attractive rates. economy, verifying the identity of legal domestic and cross-border trade, and By creating the foundational step of identity, entities such as customers, partners and combatting financial fraud and market the LEI also has the potential to dramatically suppliers is becoming an increasingly complex abuse. The Global LEI System is fast, reduce the compliance burden and costs and costly challenge. Only by establishing efficient and the data is free to use. All LEI associated with stringent AML and KYC trust between legal counterparties can the data is verified and validated by LEI issuing regulations. true benefits of a digitally enabled world be organizations and accredited by GLEIF. realized. The LEI is uniquely powerful in its ability to enable digital transformation in a way that is truly interoperable for everyone. 5 The positive impact of the LEI: Benefits for SMEscontinued... The LEI is one of the few initiatives with real potential to meaningfully address the challenges of de-risking in developing markets. The high costs of institutional due diligence and information asymmetries is 4 5 a core element of the exclusion of small and medium enterprises, and even some Trust and Enhanced corporates, from regional and international markets. A robust global enterprise identity transparency cross-border opens an under-represented large base in supply chain trade of SMEs and women-owned businesses to partnerships trade across Africa as well as across the global markets. Cenfri looks forward to the The SME digitalization journey has The LEI creates more transparent deepening of LEI usage across Africa and accelerated dramatically during the and efficient cross-border exchanges the inclusion of SME and women-owned COVID-19 crisis. Their successful of goods and data. Particularly in enterprises in the global economy.