The emergence of supply chain risk and the banking sector

The so-called transition to a new multipolar world order has promoted a reverse globalization trend for international trade, increasing significantly the supply chain risks. And while the competitors are diversifying or restricting exposure to each other, it seems impossible to reverse the status quo in the short or medium term and perhaps even in the long term. We often discuss the implications for certain commodities or for affected industries (rare earth metals, oil and natural gas, semiconductor industry, wind turbines, electric vehicles, solar panels etc.), but we do not discuss the implications for the financial services industry and its participants, perhaps the most globalized industry.

As the global reality and therefore global economy is transforming, the financial services industry has to deal with a new generation of risks including sustainability, cyber and, most recently, supply chain risk. And we have been focusing extensively on sustainability and cyber risk, but we have not done the same with supply chain risk.

To what extent a bank understands the supply chain dynamics of a borrower becomes fundamental in understanding the business model of the client, its sustainability from an international trade perspective, and therefore the risk profile when it comes to assessing if a borrower is eligible for lending. Whether the borrower has a sustainable business model in terms of clients and vendors, what the risk implications are for the specific borrower from a supply chain point of view (sanctions on clients or vendors, commodities shortage for borrower or its supply chain, trade curb risk at any point of its supply chain etc.), how to quantify and monitor this risk, how to provision, collateralize and how to price the loan itself – all these aspects become paramount for banks.

In terms of a pragmatic approach to the supply chain risk as a new risk category, a bank would be able to address a significant part of the risk with customer segmentation in principle, but this would not exclude an individual supply chain KYC process for the individual borrower.

Similar to what the banking sector is facing with the emergence of climate risk, there is a lack of universal methodology and of data to be able to perform a complete analysis and, again, similar to the climate risk experience, the solution will need to come from data collection from the borrower, depending on the size and capacity of the borrower to analyze and disclose its own supply chain profile. Potentially a first step would be for such an approach to be implemented to a priority customer segment with criteria on exposure size and sector of interest.