The Role of FinTech in Mitigating Information Friction in Supply Chain Finance

Abstract

Micro, small and medium enterprises (MSMEs) in developing countries face severe financing difficulties, especially when trying to grow their businesses internationally. One significant cause of this financing gap is informational friction. Various supply chain finance products and solutions are introduced to mitigate such frictions by leveraging on information from the extended supply chain of the borrower. The recent development in FinTech, which is closely related to information technologies, has offered new opportunities to further improve the efficiency of supply chain finance. In this paper, we propose a conceptual and analytical framework to study how FinTech can close the financing gap by reducing information friction. Under this framework, we classify various types of FinTech into two categories: information processing technology and information collecting technology. The former one (denoted as Type-A), including analytics and artificial intelligence, allows financial institutions to efficiently process and transform raw data into useful information (signals) that can directly guide the decision-making process. The latter one (denoted as Type-B), including blockchain, biometrics and identity management, and digitalization, allows financial institutions to collect additional and accurate data/information to be processed in the decision-making process. Using this framework, we find that both types of FinTech help closing the financing gap by lowering the probability that a good firm is mis-classified as a bad one. The two types of FinTech can be complements or substitutes. Banks' optimal Type-A investment increases in the bank's size, profit margin, and the fraction of good firms in the market. They invest in Type-B if and only if the investment is sufficiently small. Due to double marginalization, the bank's optimal FinTech investment level is lower than the socially optimal level. This calls for additional mechanisms that simulate or complement banks' investment in FinTech.

Keywords: FinTech, Supply Chain Finance, Trade Finance, Information, Analytics, AI, Blockchain, Digitalization

JEL Classification: O14, O24, O31