Discover the history and growth of financial technology (FinTech) and its influence on the banking sector in two parts covering ‘Evolution and rise of FinTech’, and ‘Impact of FinTech on the banking sector’.
Part one: Evolution of FinTech
The term ‘FinTech’ can be traced to the early 1990s, however it took prominence during 2014. If you refer to the history of the inter-linkage between finance and technology, as seen in the diagram below, FinTech has evolved over three distinct eras. What defines the progression between eras is the focus on tools and technologies leveraged to deliver benefits for business.
Source: e-ziggurat.com & paper by Arneris, Barberis & Ross
FinTech 1.0 was the beginning of globalisation of financial services. Many key events were driven primarily due to investment in the underlying infrastructure. For example, laying of the first transatlantic cable paved the way for introduction of credit card and electronic fund transfer.
FinTech 2.0 saw the adoption of ‘Digital’ by banks, starting with the rise of mainframe computing and later, the wider availability of PCs which led to growth in online banking and ecommerce models. Wider ecommerce adoption both B2C (business to consumer) and B2B (business to business) further led to growth in online payments.
FinTech 3.0 saw the evolution of seamless banking and financial services becoming more accessible to consumers with smartphones. While FinTech 3.5 accelerated this growth further with increased funding for startups, especially in emerging markets.
What gave rise to FinTech?
While there was good adoption of technology in the financial services industry, the 2008 financial crisis was a trigger for the growth of FinTechs. The crisis initiated several activities that can be classified under four broad categories:
- Public perception
Consumers started to distrust the traditional banking system, which had a direct impact on the banks’ revenues. Over the short term, banks lost money on mortgage defaults, inter-bank lending froze, and credit to consumers and businesses almost dried up. The impact led to the growth of alternate banking and lending channels – Neobanks and FinTechs started to disrupt the traditional banking system.
- Job loss
During the Great Recession (2007 – 2009), nearly 9 million American workers lost their jobs and 10 percent unemployment seen in late 2009. Over half of these job losses were related to the financial industry. Lot of smart people were left without their traditional jobs. Many of them slowly started to think about implementing innovative ideas that they have envisioned while working at their regular jobs before the recession. These smart people were the ones who took the initiative to revive and accelerate the growth of FinTechs.
- Post crisis regulatory reforms
The crisis also led to lot of new regulations, specifically in the U.S. Regulations such as Dodd Frank Act, Basel 3, and JOBS ACT. The implementation not only led to an increase in the operational costs for the banks, but in the short term, also led to losing focus on addressing customer needs and revenue growth. This was a golden opportunity for FinTechs to jump in and address consumer needs.
- Technology advancements
Technology advancements, specifically the growth of smartphones helped FinTechs in their go-to-market strategy. This helped gain customers’ trust and cater to needs with innovative products.
Other factors responsible for FinTech growth
Capital Funding: Investments in FinTechs have doubled since 2015 and increased over nine-fold since 2010. Funding availability through Venture Capitalists (VCs) and angel investors is one of the top reasons for FinTech growth.
(Funding in FinTech space by global VCs)
Technological advancement and digitalisation of financial services: Smartphone usage and penetration of internet have accelerated adoption of financial services by consumers. Opening of new bank accounts in record time, introduction of innovative financial products, online KYC and digital signatures have further eased banking process and led to FinTech growth. With 5G, growth will be further accelerated.
FinTech-friendly regulations: Initiatives taken by governments globally have also led to the nurturing of FinTechs. Examples include the European Union’s PSD2 (Second Payment Service Directive), license for payments banks, and recognition of P2P lenders as Non-Banking Financial Companies (NBFCs) in India. ‘India Stack’ has also played a significant role the growth of payments startup ecosystem in India. Globally, the Open Banking initiative is also driving banks to share data with third party service providers, and many of whom are in the FinTech space.
Focus on customers: Focus on customer needs has helped FinTechs introduce innovative products and services at a faster rate compared to traditional players. Leveraging technology, FinTechs have mapped users’ journey ensuring new products are adopted widely in the market.
Rise of alternate finance: Many FinTechs addressed underserved areas in the banking sector, which led to the rise of ‘Alternate Finance’. Peer-to-peer lending, crowdfunding, and invoice trading were a few of the areas that saw growth. Small and Medium Enterprises (SMEs) were the biggest beneficiaries from this setup.
(… to be continued in ‘Part Two: Impact of FinTech on the banking sector’)