This post is the second in a series that highlights various elements of a new online course titled “FinTech Law and Policy.” The course is available to all on the Coursera platform (it can be audited for free) and covers the key legal and regulatory issues confronting the FinTech industry today. You can read the first post in the series here.
“FinTech” is an amorphous term that is used differently depending on the context, but many people commonly think of FinTech as a relatively recent and unique marriage of financial services and information technology.[i] However, finance and technology have long gone together and supported each other, with financial firms supplying the capital to fund technological developments and then incorporating many of these new technologies into their business.
In fact, you could argue that one of the earliest examples of FinTech occurred in the mid-1800s, with the introduction of the telegraph and the laying of the first transcontinental telegraph line, which helped integrate the national economy. In 1871, ten years after the first transcontinental telegraph, Western Union introduced money transfers, making them arguably the country’s first FinTech firm. A more recent FinTech example occurred in 1967 when Barclays introduced the automatic teller machine or ATM.
Thinking of FinTech as a recent phenomenon also ignores the fact the financial industry has historically been the largest purchaser of information technology. The banking and securities industry spends over 7% of their annual revenue on IT and the amount that large financial firms spend every year on IT is staggering. In 2016 alone, JPMorgan spent $9.5 billion dollars on technology.[ii]
If the application of finance to technology is nothing new, why has FinTech generated so much buzz these past few years? The current hype and policy concerns arise not so much from the technology itself, but from who is applying the technology. Many FinTech firms are non-bank financial services companies. In other words, these firms are defined by what they are not, namely banks.
The proliferation of these companies is assisted by rapid technological developments. The Internet has lowered many barriers to providing financial services. It is now possible for these types of companies to readily acquire customers without the need of a physical branch to accept deposits. It has also made these firms more competitive on a cost-basis and facilitated rapid expansion to national operations. Smart phones have also lowered barriers to using financial services. Just think, the first iPhone was introduced in 2007. Now, Pew Research reports that 77% of Americans carry a smart phone, the functional equivalent of a bank branch in their pocket.[iii] Our phones are capable of sending money to our friends, depositing checks, and even buying stocks and other financial instruments. Finally, distributed ledger technology holds the potential to seamlessly and securely transfer digital assets without the need for financial intermediaries.
In addition to technological advancements, modern FinTech was also spurred on by the 2008 financial crisis. It’s hard to overstate the impact the crisis had on today’s FinTech marketplace. Almost 9 million US workers lost their job, many of whom were in the financial services industry.[iv] Out of work, many of these people found their way to burgeoning FinTech companies. In addition, many tech-savvy college graduates were confronted with a lack of job opportunities, so they decided to start their own FinTech companies or join a recent startup. Congress also adopted tougher bank standards and regulations in response to the crisis. This increased the compliance obligations of traditional banks and led them to pull back from certain business and market segments, which provided an opportunity for new FinTech firms to pick up market share. And many consumers lost trust in those traditional financial institutions after the crisis and rightfully so, as many banks had to be bailed out by the government.
In 2006, before the crisis, 30% of respondents in the General Social Survey indicated that they had a great deal of confidence in banks and financial institutions. Four years later, in 2010, only 11% of respondents had a great deal of confidence in banks and financial institutions.[v] Similar declines in consumer trust occurred in most major countries aside from China, which remained relatively insulated from the effects of the financial crisis. As a result, many consumers were more willing to engage with new technology startups who offered competing financial services products.
The financial crisis led consumers to not only lose trust in financial institutions but in central banks and other government institutions as well. Many blame central banks and regulatory agencies for contributing to the crisis or at least failing to prevent it. When governments around the world bailed out their banks, consumers were incredulous and those put out of work were left wondering where their bailout was. This loss of trust in governmental institutions gave rise to cryptocurrencies and other decentralized applications that were outside the government’s control.
With all this in mind, I’d like to narrow the definition of FinTech by describing it in two parts. First, the term refers to businesses who are using technology to operate outside of traditional financial services business models to change how financial services are offered. Second, FinTech includes firms that use technology to improve the competitive advantage of traditional financial services firms by providing faster and more convenient products and services to their customers.
The first part of the definition refers to those non-bank technology companies that have entered into the financial services space, while the second part of the definition applies to legacy financial institutions who are deploying and developing innovative new technologies.
This definition also implies that FinTech covers the entire range of products and services that have historically been provided by financial services firms. My online course focuses on the FinTech activities that will likely have the greatest impact on the future of finance. This includes: online lending, cryptocurrencies, initial coin offerings, payments, wealth management, and account aggregation.
[i] Arner, Douglas W. and Barberis, Janos Nathan and Buckley, Ross P., The Evolution of Fintech: A New Post-Crisis Paradigm? (October 1, 2015). University of Hong Kong Faculty of Law Research Paper No. 2015/047; UNSW Law Research Paper No. 2016-62. Available at SSRN: https://ssrn.com/abstract=2676553 or http://dx.doi.org/10.2139/ssrn.2676553
[ii] Dimon, Jamie. Dear Fellow Shareholders, – JPMorgan Chase. JPMorgan Chase, 4 Apr. 2017, https://www.jpmorganchase.com/corporate/investor-relations/document/ar2016-ceolettershareholders.pdf
[iii] Smith, Aaron. “Record Shares of Americans Now Own Smartphones, Have Home Broadband.” Pew Research Center, Pew Research Center, 12 Jan. 2017, www.pewresearch.org/fact-tank/2017/01/12/evolution-of-technology/.
[iv] Stephanie Barello. “Consumer spending and U.S. employment from the 2007–2009 recession through 2022,” Monthly Labor Review, U.S. Bureau of Labor Statistics, October 2014, https://doi.org/10.21916/mlr.2014.34.
[v] GSS Data Explorer | NORC at the University of Chicago, gssdataexplorer.norc.org/variables/448/vshow.