Fintech: Not Rocket Science
This post explains what is meant by FinTech and the powerful tools for financial inclusion it embodies. To turn FinTech into an instrument for the promotion of inclusive finance, understanding is a necessary first step.
$6.5 billion dollar was invested in FinTech in the first half of 2017. Everyone working in financial services has heard of it, yet few do grasp the full meaning of what FinTech is about. Both unrealistic fears and hopes provoked by the term are evidential for the knowledge gap on the subject. Developments in the FinTech spheres resemble the early days of the internet. While fear for technology prevented mass adoption by vested companies and governments, unrealistic expectations of e-startups ultimately led to the dot-com bubble. Yet today tech giants like Google and Amazon dominate the stock markets and, despite concerns about monopolistic tendencies, create massive value in our everyday life. This history underscores the importance of understanding technology in order to exploit its opportunities.
At a fundamental level, FinTech, or financial technology, can be defined as technology that enables to improve financial services. Finance entails all that concerns monetary transactions. A rough categorization in five broad categories allows to distinguish different types of finance: lending, saving, insuring, investing and paying. FinTech in turn entails all technologies that allow to improve services provided within these categories. There are four major fields of technological advancement that when applied in the financial world have the potential to bring financial inclusion to the next level. The combination of these technologies can increase the impact MFIs make exponentially. Companies that develop Financial Technologies are called FinTechs as well, which adds to the confusion. A matrix helps to position available FinTech solutions based on the technology leveraged and the financial service it is applied on, and provides a cognitive framework to think about applications in your own field. This post provides an introduction in the technologies, as well as examples of Inclusive finance use cases to make FinTech more tangible
Artificial Intelligence is the concept of machines being able to carry out ‘smart’ tasks. The availability of large amounts of data (also known as big data) and increased processing power boosted innovation in this field. Voice-powered personal assistants such as Siri and Alexa allow us to interact with machines as if it were humans. Watson, the IBM supercomputer, makes predictive analysis and gives advice to help businesses to make informed strategic decisions.
One branch of AI relevant for the financial sector is machine learning: Instead of programming tasks, computers learn new concepts from datasets they receive as input by recognizing patterns in the data. The more training data is used as input, the better it becomes at recognizing patterns. Google uses this technique to train its image search engine in recognizing what is displayed on a picture. Yet a computer can be trained to recognize every kind of pattern: Self-driving cars learn recognize traffic situations, and webshops such as Amazon use the technique to give online recommendations to customers.
Inclusive finance application
Many FinTechs use machine learning to enhance alternative credit scoring models. Fintechs such as Lenddo and ZestFinance developed a credit scoring algorithm that leverage the digital footprint of applicants lacking a formal credit history. Data from social media activity, browsing behavior, geo location and strength of relationships are used as input to predict credit worthiness. Machine learning allows them to improve their algorithms and produce ever more accurate credit scores. Moreover, a score is generated within minutes.
AI can greatly improve accessibility and adoption of financial services too. To help clients save more and use digital banking service, BBVA partnered up with Juntos, a Silicon Valley startup. An automated SMS conversation service powered by AI sent personalized text messages to clients, nudging them to save more and make active use of the banks’ services. Clients can interact with the bank through the platform, for example by setting savings goals or ask questions about the products of the bank.
Chatbots are a more sophisticated application of AI to improve customer experience, but also require a higher-level tech device and an internet connection. If this is not a barrier however, it brings opportunities for banks to communicate in a more personalized way with clients. The Bank of America uses chatbot assistant Erica to interact with customers, give proactive advice on saving opportunities and preventive action in case an account is in danger of overdrawing.
Automatization is not a new technique. Everything that allows machines to perform tasks formerly executed manually is a form of automatization. Repetitive and relatively simple tasks are ideal candidates for automatization. It allows individuals and businesses to focus on things that matter, and outsource simple tasks to machines that often can perform these tasks more efficient. The industrial revolution essentially was about the transition to new manufacturing processes through automatization. For example, the first application of automatized cotton spinning, the spinning Jenny (patented in 1770) increased cotton production per worker a 100-fold in a generation, and a 1000-fold in two generations. More recent automatization successes are the use of e-mail instead of postal service to deliver messages, greatly reducing cost and time of the process.
Inclusive finance application
Automatization of financial processes allows for a phenomenon called Straight-Through-Processing (STP).STP means a process is automated from start-to-end without human intervention, with the goal to reduce lead time. Artoo is an Indian Fintech founded by Sameer Segal in 2010 that mastered the art of STP. They partnered with Ujjivan, an Indian MFI, to reduce lead time and costs. This partnership led to a 40% decrease in loan-processing time and a 50% rise in the number of loans processed per agent.
Blockchain technology is one of the youngest and most exciting technological developments around. Although its potentially the most disruptive technology, it is still too early to assess its impact and benefits in the long term accurately. In essence a blockchain is a decentralized distributed ledger, that allows parties to transact directly without the need for a thrusted third-party. Since all transactions are recorded by all participants, the block chain is imputable. Also, since there is no dependency on a central party, the system is less vulnerable for malicious attacks. At the moment there are few real-world applications. There are issues and obstacles such as scalability that need to be resolved before mass adoption can take place. yet investment in the technology through Initial Coin Offerings and Venture capital in H1 2017 alone already exceeded $500m according to Coindesk. The best-known open blockchain application is Bitcoin, a digital currency not controlled by any central authority. Ethereum is an extension of the blockchain that allows the use of smart contracts, programmed contracts that follow an IF-THEN structure. The difference with traditional contracts is the automated way in which it enforces rules and obligations. Corporates and consortiums use private blockchains to share information and improve supply chains. In contrast to open blockchains, these are only accessible for permissioned users. Maersk uses a private blockchain to improve shipping insurance. A consortium of global banks developed Ripple, a blockchain based platform to perform global payments, driving down transaction time and costs.
Inclusive Finance Applications
Blockchain technology could have far-reaching impact for the accessibility of finance and inclusion in the world economy. One major field in which blockchain can facilitate inclusive finance is the facilitation of global transactions. Everex is a startup that uses blockchain to facilitate remittances and international peer-to-peer lending. Since transaction costs are near-zero and currency risks are mitigated, entrepreneurs get access to a global pool of capital without being constrained by borders. A similar service is provided by Cashaa.
Cryptocurrencies can help to make finance accessible too. Dash is a cryptocurrency targeted to digitalize cash. With digital cash individuals no longer need ATMs or store physical money at home where it is vulnerable for theft or destruction by natural forces: Digital cash doesn’t flush away in case of a flood.
Many FinTech applications are dependent on the availability of distribution channels. Mobile and digital infrastructure are important drivers of the adoption of FinTech. To this end the increase of smartphone ownership and internet usage in developing countries are very promising developments. Smartphones ownership may not be common yet, but cell phones ownership is not exceptional anymore in many developing countries. According to the PEW research center, an American think tank, a median of 84% in emerging and developing countries own some type of cell phone. The widespread adoption of cellphones makes it a promising distribution channel for financial services.
Inclusive finance applications
Distribution of financial services through mobile is a big opportunity to make financial services accessible. M-Pesa, a Kenyan financial service launched by Vodafone in 2007, pioneered in this field by allowing users to transfer money via text messages. Since clients no longer needed to travel large distances to bank branches or have cash in stock to make payments, this greatly reduced transaction costs. Many African telco’s followed suit. One drawback of these services is the need to be a client of the concerned provider. This problem was circumvented in Peru through the co-development of a mobile platform by financial service providers, telcos and the government. The platform BIM, launched in February 2016, allows users to keep money and make payments using their cell phone. Due to the participation of the whole ecosystem in its development, interoperability is not an issue, which makes wide spread adoption easier to achieve. In the future the platform can be used as a distribution channel for financial services. There are two main advantages of using mobile as a distribution channel for MFIs. First, the cost-effectiveness of the channel in comparison with bank branches. Second, customers can access financial services anytime. Me Daakye, a pension product developed by the people’s pension trust in Ghana, allows customers to access their savings statement anytime, anywhere on their mobile phone. Customers feel they are in control and hence are more likely to adopt the product.
FinTech: a complement, not a substitute
There are many more applications of technology for financial inclusion then listed here. However this overview can help to spark imagination on possible use cases. It is important to note that technology is nothing more than a tool, an enabler to make processes better or more efficient. Technology is never a goal in itself, and the applicability should be evaluated for each case separately. Sometimes the benefits do not weigh up against the costs. More often however FinTech are complementary to traditional finance, allowing MFIs to outsource parts of their processes and focus on core tasks instead. Rather than considering FinTech as a thread, it should be considered as an extension to traditional finance. Combining technology and traditional finance results in win-win-win partnerships: The technology provide, the finance provider and the customer all benefit. Sharing knowledge and learning from others helps to reach the common goal of financial inclusion faster.