Electronic Letter of Credit Faces Struggles to Gain Global Recognition

EghtesadOnline: For centuries, letters of credit have been a useful commercial instrument in global markets, facilitating trade not only for merchants but also for governments, banks and financial institutions. In recent years, the International Chamber of Commerce has introduced a new version of LC named the electronic letter of credit (e-LC).

News ID: ۷۷۴۰۲۳

18 February 2017

Although LCs have adapted themselves to changes in the market for many years, this revolutionary e-LC was an important step toward simplifying trade more than ever. This new financial instrument has been a revolution for a sector used to change in its evolutionary form.

The aim of e-LC was simple: to transform the process of paper-based financial transactions and make them paperless. However, e-LC failed to catch on and its process of evolution halted even before it started.

In the digital age where we devour every bit of new technology that pops up, what became of the seemingly auspicious marriage of the digital and commercial worlds?

To answer this crucial question, we should assess the real challenges facing e-LC in the global markets from digital, legal and commercial standpoints, Financial Tribune reported.

Technological Hole

There is an essential principle in the world of the letter of credit, namely the “principle of strict compliance”. It requires that all the documents presented under the LC must be in conformity with the requirements of the LC.

According to the last version of Uniform Customs and Practices of Documentary Credit (UCP 600), the data in a document must not conflict with the data in any stipulated document, or the credit; otherwise, the bank will refuse to pay the money.

Although the form of e-LC differs from the traditional LCs, that subjective principle is nevertheless applicable.

Therefore, systems that check the consistency of documents with total accuracy, without any human intervention, are needed. These systems should be able to supersede humans. But even at the current pace of technological advancement, and despite early improvements made by outlets like Bolero.net, such powerful and ideal systems remain unavailable.

As mentioned above, the ultimate goal of e-LC was to eliminate all the paperwork, but due to the lack of technological readiness, a complete digital process of using e-LC did not materialize.

Unenthusiastic Bankers

An LC involves three parties: buyer (applicant), bank or financial institution, and beneficiary who receives payment upon the fulfillment of the required documents. Banks and financial institutions have the most important role in LC agreements.

According to Article e4 of the Uniform Customs and Practices for Electronic Documentary Credits (eUCP), an eUCP credit must specify the formats in which electronic records are to be presented. If the format of the electronic record is not specified, the record may be presented in any format.

At present, the buyer can present documents in any format and the bank’s inability to view the documents cannot be ground for refusal. The article, which transfers the risk for the omission of a specified document format to the bank, has likely contributed to the low adoption rate of e-LC.

As William Patrick Cronican says in his article “Buyer Beware: Electronic Letters of Credit and the Need for Default Rules”, it is unlikely that the risk management model of a bank would allow the express incorporation of a regulatory scheme where the result of a somewhat trivial omission may lead to the bank’s exposure to substantial liability.

So, without the necessary tweaks in eUCP, the icy reception for e-LC, especially among bankers, will continue.