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Fintechs, Banks and the New Geo-Economics of Global Finance

Moneylife 2019-11-08 00:00:00
Colonisation of politics by economics has long been acknowledged since the time of Kautilya. As a corollary to this rule, geopolitics also changes with time, with geo-economics being the catalyst for change. Over the last 200 odd year economics has shaped geopolitics many times. At first came global dominance in trade in commodities such as cotton, tea, spices and coffee. With the rise of air warfare came oil, diminishing the relative importance of other commodities. After the end of the Cold War, banking led by financial capitalism has determined the course of geopolitics. And now with the rise of technology companies, cyber space is the sunrise sector.    A recent UNCTAD report on digital economy captures this geo-economic transformation quite comprehensively. The report notes: “[a] comparison of the composition, by sector, of the top 20 companies in the world by market capitalization shows a dramatic shift. In 2009, seven companies from the oil and gas and mining sectors were among the top 20, accounting for 35 per cent of the total, whereas there were only three companies from the technology and consumer services sectors, which include digital platforms. Another three were from the financial sector. By 2018, the picture had changed significantly: the number of technology and consumer services companies in the top 20 had surged to eight (40 per cent), and that of financial companies to seven. By contrast, only two companies in oil and gas and mining remained among the top 20.   “The shift is even more remarkable when measured in terms of market capitalization. In 2009, companies in the oil and gas sector accounted for 36 per cent of the total market capitalization of the top 20, followed by financial services with a share of 18 per cent, while technology and consumer services represented 16 per cent. By 2018 the share of the latter had increased to 56 per cent and that of financial services had risen to 27 per cent. By contrast, the share of oil and gas companies in total market capitalization significantly declined to just 7 per cent over the same period.”    These extraordinary shifts in the intersectoral shares of various industries provide a glimpse into the why and how of many debates that confront us. From the point of view of banking and finance, even if its share has increased in terms of market capitalisation (thanks to low interest rates) and absolute numbers, the relative importance has declined. The decay has been gradual following the 2008 crisis.    From the point of view of interactions between technology companies and banking, the former has been instrumental in automating the banking process. Staring with telephones in 1920, to the adoption of punch cards in 1930-1950 and the use of third generation IT systems such as IBM360 in 1960s, the thrust to the use of technology in banking up till 1970s was to improve the performance of the back office. After 1970, technology adoption in banking moved to the front office with the deployment of ATMs, pass book printing machines, mobile banking etc.     However the same suppliers of technology today meticulously “unbundle” many of bread-and-butter banking services. Such “unbundling” of financial services is thus driving the fear that technology companies or ‘fintechs’ may overtake/acquire banks at some point in time. This has prompted aggressive acquisition of fintech by banks in the US and EU. By Dec 2018 ten  banks had acquired 13 fintechs. However, the potential for the opposite trend is also alive and kicking. An example exists in Germany; fintech Raisin (promoted by PayPal) acquired its long-time service bank, MHB Bank of Frankfurt. A similar idea got floated in India recently when a payment fintech proposed taking a stake in  midsize private sector banks.   Thus, the Indian financial sector is not immune to these undercurrents despite the policy decision that gives primacy to banking system. Thus, a standalone technology or telecom company offering payment service is not a likelihood in India but only in association with a bank or an NBFC. Moreover, banks in India are not on an acquisition spree but are in a collaborative mode with fintechs.    Then there are strategic considerations which cannot be overlooked in the long run on three counts. One, due to lack of depth in the Indian origin venture capital (VC), most of the Indian fintechs are financed from foreign VCs (and are even incorporated abroad). As Kai Fu Lee notes in his book, the approach of the Chinese and the US companies in respect of export of cutting edge digital technology is different: while the US companies mostly prefer the foreign direct investment (FDI) route, the Chinese fintechs have adopted a strategy of funding local startups.    Second, the entire fundamental and applied research which has a bearing on fintech, is happening outside India. The UNCTAD report notes that the US and China account for 75 per cent of all patents related to blockchain technologies, 50 per cent of global spending on the internet of things (IoT), at least 75 per cent of the cloud computing market, and for 90 per cent of the market capitalization value of the world’s 70 largest digital platform companies. Thus, in the absence of a home-grown ecosystem, there is a danger of third party technology vendor lock-in.   Third, the encroachment of the fintechs in the financial supply chain on the asset side alters the balance of power in broad money creation (or M3). In India, since most of the banking system is under the public sector, M3 is closely tied to sovereign goals. As fintechs increasingly undertake lending, the sovereignty over M3 is no longer assured. Those who propose complete privatisation of Indian banking have missed this strategic point altogether.   In conclusion, there is a need to deeply look at how Industry 4.0 will impact the financial sector of India. With nearly all capabilities available domestically, the adoption of Industry 4.0 in the financial sector requires planning and steering at the highest level to address regulatory blind spots and minimise inter regulator tussles.   The RBI move on regulatory sandbox is a good move but the same needs to be replicated across other financial regulators.