THE END OF BANKS?

My friend Paul Jeffery of Barclays Capital really got me to thinking with this:

"Bill Gates observed: ‘Banking is necessary, banks are not.’

The primary function of a bank is to bring savers and users of capital together in order to facilitate an exchange. In return for their role as [trusted] intermediaries banks charge a generous net spread. To date, this hefty added cost has been accepted by the public due to the lack of a credible alternative, as well as the general oligopolistic structure of the banking industry.

What Lending Club and other P2P lenders do is provide an online market-place that connects borrowers and lenders directly; think the eBay of loans and you have the right conceptual grasp. Moreover, the business model of online market-place lending breaks with a banking tradition, dating back to 14th century Florence, of operating on a ‘fractional reserve’ basis. 

In the case of P2P intermediation, one ending can be thought of as being "fully reserved" and entails no balance sheet risk on the part of the service facilitator. Instead, the intermediary receives a fee- based revenue stream rather than a spread-based income."

There is another way we can look at it: finance today is an abnormal industry in two important ways:

1)   The more the sector spends on information and communications technology, the bigger a proportion of the economic pie the industry captures. This is a complete anomaly. In all other industries (retail, energy, telecoms…), spending on ICT has delivered savings for the consumers.

In finance, investment in ICT (think shaving seconds of trading times in order to front run customer orders legally) has not delivered savings for consumers, nor even bigger dividends for shareholders, but fatter bonuses and profits for bankers.

2)   The second way finance is an abnormal industry (perhaps unsurprisingly given the first factor) lies in the banks’ inability to pass on anything of value to their customers, at least as far as customer’s perceptions are concerned. Indeed, in ‘brand surveys’ and ‘consumer satisfaction reports’, banks regularly bring up the rear.

Who today loves their bank in a way that some people ‘love’ Walmart, Costco, IKEA, Amazon, Apple, Google, Uber, etc?

Most importantly, and as Paul highlights above, if the whole point of the internet is to:

a) measure more efficiently what each individual needs, and

b) eliminate unnecessary intermediaries,

then we should expect a lot of the financial industry’s safe and steady margins to come under heavy pressure.

This has already started in the broking and in the money management industries (where mediocre money managers and other closet indexers are being replaced by ETFs).

But why shouldn’t we start to see banks’ high return consumer loan, SME loan and credit card loan businesses replaced, at a faster and faster pace, by peer-to-peer lending?

Why should consumers continue to pay high fees for bank transfers, or credit cards when increasingly such services are offered at much lower costs by firms such as TransferWise, services like AliPay and Apple Pay, or simply by new currencies such as Bitcoin?

On this point, we should note that in the 17 days that followed the launch of Apple Pay on the iPhone 6, almost 1% of Wholefoods’ transactions were processed using the new payment system.

The likes of Apple, Google, Facebook and Amazon have grown into behemoths by upending the media, advertising, retail and entertainment industries. Such a rapid take-up rate for Apple Pay is a powerful indicator which sector is likely to be next in line. How else can these tech giants keep growing and avoid the fate that befell Sony, Microsoft and Nokia?

On their past record, the technology companies will find margins, and growth, in upending our country’s financial infrastructure. As they do, a lot of capital (both human and monetary) deployed in the current infrastructure will find itself obsolete.

What happens to a world that moves ‘ex-bank’ and where most new loans are extended peer-to-peer? In such a world, the banking multiplier disappears along with fractional reserve banking (and consequently the need for regulators? Dare to dream…).

As bankers stop lending their clients umbrellas when it is sunny, and taking them away when it rains, will our economic cycles become much tamer?

As central banks everywhere print money aggressively, could the market be in the process of creating currencies no longer based on the borders of nation states, but instead on the cross-border networks of large corporations (Alipay, Apple Pay…), or even on voluntary communities (Bitcoin)?

Does this mean we are approaching the Austrian dream of a world with many, non government-supported, currencies?

Tantalizing questions indeed, as we enter the future of 2015.

Louis-Vincent Gave is the Founder and CEO of Gavekal Dragonomics, a financial services firm based in Hong Kong.

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