June 07, 2019
BigTech, FinTech and the Banks
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Similar to the disruption that technological innovation brought into sectors of retail and consumer business in the past decade (e.g. taxi services and Uber; Amazon and Toys R Us) it was expected that FinTech companies would disrupt banking and financial services also. The premise was that use of technological innovation in mobile money transfer (Paypal); offering financial advice based on algorithms or 'robo advisors' (Betterment); digital mortgage underwriting (Rocket Mortgage) and electronic platforms for peer to peer Lending (Lending Club) would disrupt the financial landscape and the financial institutions.
However, while FinTech companies have made a few inroads into all of the above categories (e.g. Quicken Loans now originates 8-12% of new mortgages) the disruption has not been significant. What has happened is that most incumbent financial institutions have started to offer similar features that FinTech companies have and/or formed collaborations with Fintech companies as a case in point 'robo advisors' are now present in most banks and brokerage houses. The relationship between banks and FinTech at this stage is not of competitors but is complementary and collaborative. Besides this reason, two other key reasons why the FinTech companies were not able to significantly reshape financial landscape was because they lacked access to cheap funding and do not have the customer base that the incumbent banks have.
However, there is new competition to the financial institutions as BigTech (Amazon, Facebook, Apple, Google) companies are now entering the financial sector. BigTech companies present a new dynamic force in the financial ecosystem since they are both vendors and competitors due to the dependence of financial institutions on them for key technologies (like cloud services, artificial intelligence) and since they are offering or will soon offer similar financial products. Being vendors to financial institutions is a key difference between FinTech and BigTech and the reliance of financial institutions on them is only expected to increase. Case in point: Amazon Web Services (AWS) is the biggest provider of cloud services worldwide to all companies including financial institutions. In this sense, they are a more serious threat and also because they have inherent unique strengths that allow them to overcome the shortcomings of the FinTech companies.
The unique advantages of the BigTech companies are the following as per the two papers and they are intuitive:
Studies from BIS and FSB paper show that the BigTech companies usually enter the financial sector through payment processing using their existing networks and then expand into other areas like credit. The case in point is China where the intrusion of BigTech in the financial sector is most advanced and mature. In China, BigTech companies took advantage of the lack of existing payment infrastructure for credit/debit cards to build their own and used the ambiguity in local regulation to totally capture the mobile payment sector.
Now two technology companies, Alipay and WePay, account for 94% of all mobile payments and between them, they have 1.4 billion users whose transactions account for 16% of GDP; in comparison, US mobile payments amount to 0.3% of GDP and Apple, Google and Samsung combined have a million users. After payments, Alipay and WePay have expanded into lending, insurance, savings and investment products but in these areas their share is much smaller now (less than 1% of total credit in China) but analysis by BIS and FSB show that through the use of technologies like machine learning and using alternative data sources, the BigTech companies are better able to predict defaults and serve unmet customer demand.
In the U.S., the offering of financial services/products by BigTech is in the nascent stage but provides early indications of how they will be shaping the financial sector in the future:
There will be benefits from BigTech entering the financial sector as they meet unmet customer demand, go to underserved sectors especially in developing countries and bring competition and innovation; however, there will be additional risks and questions to consider.
Due to their existing network and economies of scale and scope in the use of data and technologies, BigTech will lead to greater concentration as evidenced in cloud computing whose use is expected to increase. Other areas where BigTech companies dominate in offering third-party services are data storage, transmission and analytics and concentration of these services will lead to higher chances of operational failure or cyber-events. Finally, there is the regulatory framework to consider in acknowledging the dependence of financial institutions on BigTech companies for certain third-party services and how BigTech will impact competition and concentration in the financial sector in their roles of being both a vendor and a competitor.
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