Fintech is what’s really keeping bankers awake at nightThe pressing issue for banks today is capital of course, and figuring out who will bear the cost of having more of it. Westpac, for one, has decided that the cost is to be shared between shareholders and customers; the others now have to make their decisions.But while that problem is difficult it’s pretty straightforward, and it’s not the thing that’s keeping bankers awake at night.
The really mind-bending topic for banks is fintech, and specifically block chain, otherwise known as distributed ledger technology.
What’s more, the pressure on banks to hold more capital is making them more vulnerable to attack from fintech and peer-to-peer disruptors that can get by with little or no capital at all. That’s what is keeping bankers awake.
Block chain is the business end of bitcoin — it’s the ingenious technology that makes crypto-currencies happen, but while bitcoin might or might not change banking, block chain definitely will, and not just banking.
This new manifestation of the digital revolution will change every part of the financial services industry. Every bank now has a team of people working on it — experimenting with distributed ledgers to try to understand the threats and, perhaps more importantly, the opportunities.
The opportunity is cost reduction and the threat is disruptive competition, and it’s too early to tell which will win.
Distributed ledgers are a bit hard to get one’s head around, especially for bankers (and commentators) who are used to ledgers that obediently sit in one place — in one book or on one computer.
But block chains are everywhere, which is why they are called distributed ledgers. A good, but still imperfect, way to think about it is that it’s a bit like Wikipedia, with entries that can be updated by anyone and are available to all, except that with block chain it’s not encyclopaedic information written in English but computer code.
The code is public, and shared by many computers. Any computer in the network can propose changes and a consensus is arrived at about which changes are valid and what order they are made in.
The network then updates all copies and keeps them synchronised. The “blockchain” stores all the updates so that any user can trace back who made what changes and when.
It’s both incredibly simple and mind-bendingly complex at the same time, but the essence of it is that the system can be truly peer-to-peer, person-to-person, and at the same time verifiable, secure and fully transparent.
That means it can be used as a means of financial exchange, which in turn means that third party settlement will no longer be required.
The first use of the idea was to create bitcoin, the “crypto-currency” invented in 2008 by Satoshi Nakamoto and which is now starting to gain traction as an alternative to money created by banks or printed by central banks.
At the moment the bitcoin price is around $US250 ($342). It has been extremely volatile in past, rising to well over $US1000 per unit as some speculators bet that it would keep rising in value. That was before anyone had worked out whether it was an investment or a medium of exchange.
It’s now clear that bitcoin is not the former, but the latter, a sort of tool for barter outside the financial system, and as a result the price has been stable for about six months.
In fact, it looks like bitcoins will simply become a sort of front end for block chains: so far bitcoins have mainly been used in international currency transfers, where dollars are converted into bitcoins and then instantly converted back into dollars in another place — essentially using the block chain to settle a transaction.
It allows for secure domestic or foreign exchange payments that don’t involve a third party and is quickly becoming a crowded field. The leader is probably Coinbase, which claims to have traded $US2.5bn worth of bitcoins across 32 countries.
But it’s also quickly becoming clear that the uses of block chains are much wider than just bitcoin.
Commercial banks, central banks, stock exchanges and the technology companies like Samsung and IBM now have labs exploring the uses of distributed ledgers to settle transactions, whether they are shares, derivatives, bonds or even property.
There are also several fintech start-ups that have developed versions of block chain technology, such as Ripple, Ethereum, Eris Industries and HyperLedger.
What they all have in common is the use of the basic distributed ledger, or transparent and verifiable spreadsheets, to exchange data and assets securely.
The most immediate is likely to be streamlining securities settlement and allowing automatic, instantaneous clearing between the two parties to a transaction, without the need for a clearing house.
The savings for banks and securities exchanges could be enormous, through bypassing the cumbersome and time-wasting payment and settlement systems.
It’s also expected that distributed ledgers will be able to support all types of contracts, which would lead to a huge variety of uses. All lending could be settled by blockchains as well as trade finance, swaps and derivatives … wherever counterparty risk exists.
According to one analyst, there is no reason block chains can’t be used to settle property transactions without any intermediaries, dramatically cutting costs.
A study commissioned by Santander Bank of Spain estimated banks could save up to $US20bn in cross-border payments and compliance costs alone.
Using distributed ledgers as a prime record would dramatically cut back office costs for banks, securities traders and exchanges.
But like all big cost reductions through digital disruption, block chain technology and fintech generally will also lower the barriers to entry.
New operators in all aspects of banking will use the cheaper technology to attack the banks’ stronghold with less capital.
Oh yes — capital, which the banks are being forced to have more of, raising their costs, and prices, and making them even more vulnerable to disruption.
http://www.theaustralian.com.au/business/opinion/fintech-is-whats-really-keeping-bankers-awake-at-night/story-fnp85lcq-1227572212332
