Financial disintermediation is history, yet is a commonly quoted myth. More interestingly, several of the new financial intermediaries are not financial institutions. Could this phenomenon indicate a potential future for banks as financial plumbers, where customer-facing ‘re-intermediaries’ collect the data and the revenues? In this article, we will call them NFIFIs (non-financial institution financial intermediaries).
Finance theory identifies two reasons for the existence of financial intermediaries: imperfect information and transaction costs. Both represent forms of market inefficiencies, and financial institutions naturally filled the intermediary role that eases both root causes. The rise of the internet and the resulting drop in information and transaction costs gave rise to the popular ‘financial disintermediation’ discourse. Reality, however, indicates a counterintuitive trend: the rise of new financial intermediaries who, increasingly often, are not financial institutions.
Apple Pay is a prime example. In a traditional four-party payment model (customer, merchant, issuer and acquirer), Apple introduced a fifth role for themselves: that of the facilitating intermediary. The Apple Pay business model is incredible, particularly if you are Apple. Banks are burdened with the infrastructure, transaction costs, fraud management and credit funding (as they always have been) and Apple makes a commission.
Examples abound. Uber, theoretically at least, doesn’t make money by taxiing people. Instead, it makes money by taking a cut between transacting drivers and ‘donor’ passengers. Airbnb facilitates the exchange of money through its platform for transactions beyond the bed rental. And unlike Booking.com, which collects fees after the transaction, Airbnb requires full payment at the time of the reservation, thus minimising counterparty risk (for themselves, at least) and attracting free cash flow for money market returns (at least).
Banks, of course, still have a role to play in these two highly visible examples. Ultimately, it’s them who facilitate the transactions, either directly or via other intermediaries such as PayPal. Is this a good enough role for the formidable banks, to provide financial plumbing for data-collecting NFIFIs?
It’s the clients, stupid
The spectacular rise of fintech (and the only-to-be-expected shakeout and consolidation of this new ‘sector’) highlights a crucial denominator for success: clients. Fintech startups, generally speaking and by definition, do not have clients and need to acquire them. Unless their target market is currently unserved by incumbents (see mPesa), they would need to poach them, and that can be expensive. Expect few, deep pocketed, winners.
The more promising ‘disruptive’ propositions are the ones that start with the client base and add on the service proposition, rather than the other way around. Apple Pay is an obvious example. Facebook is another commonly quoted case. Natural language re-intermediaries, from chatbots to Alexa, are the space to watch.
Clients, and data
Traditional banks have made tremendous strides to offer so-called omni-channel service propositions. They’re also moving into the natural language space (have a look at Bank of America’s Erica bot). Yet, omni-channel is expensive, especially when it involves physical branches and data aggregating humans. Digital-only service providers are a lot cheaper to operate, compared to digital front-ends of more archaic processes.
Having said that, the coexistence of low-cost and full-service airlines points to the possibility that digital-only is just a segment of the total customer base. A nimble re-intermediary has the potential to aggregate other providers’ clients regardless of the digital or physical processes in the background. More importantly, NFIFIs can collect all-too-valuable data from across the spectrum.
Alexa, can you please pay my electricity bill using the lowest cost transaction channel available?
It’s obvious from the above that existing banks have a hugely valuable strategic asset: clients. However, they need to move fast if they want to capitalise on this asset without sharing revenues and data with NFIFIs.
Alexa, what do you think the future of banks as financial intermediaries is?
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