They don’t exist yet. But they will get started, it is inevitable. They will solve the painful large anomalies that we have in our not-so-modern world of money.
1. Universal bank accounts with Bank of England (or Federal Reserve)
The concept of the demand deposit is an illusion, it is a story that we keep telling consumers disguising a nice money making scheme. What happens in reality is that we are lending our money to our bank and they are lending our money on to businesses and home buyers.
There is nothing wrong with it – other than the only ones getting rewarded in the process are the banks and the ones picking up the risk are not the banks, not even the depositors, but the taxpayers.
Internet, mobile, ATM and card networks have now achieved the reach, where the traditional retail bank is not needed any more for storing people’s money. Digital money could even be a public service. Bank of England published their One Bank research in February, where they discussed running consumer accounts on blockchain (see from page 30 of PDF). I proposed something similar here for Estonia.
Public institutions won’t be driving innovation fast enough. Leave it to BofE and we get there in 25 years, once all the current banks are so weak that they cannot even lobby.
More likely, there will be a crazy girl or boy who builds an app that is effectively a “wrapper” around a Bank of England reserve account. That app will need to have a banking license, but that’s not too hard. Connect the app with Faster Payments, a Visa card network, LINK ATM network and TransferWise – and you’re done.
Why hasn’t anyone done it yet?
Economics. That new bank will only make any money at a really, really large scale. And such scale will only come gradually over a long time – perhaps 5-10 years. There will be no alignment with VC returns – it will take at least $150m to get there, which means that VC has to see an exit of $5bn in 5 years time or $500m of net revenue. Given that the incumbents are subsidising the current accounts from credit income and creating an illusion of a free service to consumers, you’ll be entering a zero fees market and will have to tough it out until you get scale.
I do believe, perhaps naively, that once someone demonstrates such commodity payment banking can be done super efficiently, then regulators will also legistlate against cross subsidising in traditional banks. Once we have the risk vs reward transparency for consumers – surely no-one would keep their money at HSBC or Citibank.
2. Commercial real-time direct debit (ACH)
The vast majority of consumers don’t realise that we are paying on average 2.5% every time we use our bank card. This fee is picked up by the merchant, but obviously baked into the price of goods. Again only possible, because the interchange model obscures the true price. With no pricing transparency, we can’t rely on the consumers having the context to choose a better, more efficient product.
We use less cash, so we use the most convenient option – the card, both online and in the shops. An average salary in the UK is £26,500 – once all of our spending moves on to the card – we’ll be paying an average £660 for moving these electrons around
What is the true cost of moving money between my bank and yours? If we look at the US, their clunky ACH system runs at 0.2 pence per payment. That is already a 300x improvement compared to the 60 pence, which is the card charge on an average £24 payment.
So we have these parallel universes already in existence – one where the super efficient clearing houses move money between bank accounts at a fraction of a penny and the other where banks, intermediaries and card networks get to charge an arm and a leg from consumers.
Who will change the game?
At one point PayPal tried. Their idea was to convert people from using cards on their platform to gradually pulling funds via ACH / direct debit instead. They made a bit of money but they didn’t change the game. Intrigued to see if Apple Pay and Android Pay will be able to ruthlessly negotiate the fees down with banks, just holding the gun of potential disintermediation to their heads.
This is incredibly hard to fix ground up, given you need to get buyers, merchants and banks all excited about the alternative against all the inertia of the world. Dwolla has been trying it ground up, BitPay and others through the bitcoin angle, GoCardless and Bill.com iterating on the existing direct debit rails.
At least in theory it wouldn’t be crazy to think of a real time authorisation protocol on top of the existing ACH / Debit infrastructure, which creates a fraud-free real-time alternative to debit cards in the online world.
3. Money management and investing
McKinsey reports that banks take $600bn globally from asset management and insurance. Is this a rich man problem and uninspiring enough for startups to solve? I don’t think so. Most of these revenues are someone’s pension.
We must stop and think, what is the real value add that banks are bringing into the money management process. Are banks helping their customers with smart investment decisions? I don’t think so. Are savings and fund management technically such complex affairs, that it warrants such a distribution of returns. Nah, you can easily build a DIY bank like I did.
Banks take money here, because they can. They call it a “relationship”, but it is really just a convenience for the consumer. Your money is already at the bank and every time you visit the branch or make a phone call, they sell you hard on “being smart with your money”. So you put your money their savings products and forget about it. But every year christmas comes and they bite another 2% from the money they were “managing” for you.
We have Wealthfront and Nutmeg – I would have hoped they were more aggressive. Also excited about the Robin Hood app, getting the savvy casual stock investor crowd first, before solving the problem for mainstream. The big question is how do we break the bank’s perceived monopoly over our account balance.
What next – after we solve these 3 problems?
The challenges outlined above aren’t directly going to change the fate of humankind. They are just going to change the cost and speed of moving money in the bloodstream of our digital economy. They will take the risk out of the system. They will remove the need for 100,000s of people, who can then do something more useful in the world.
But perhaps more importantly, they will open up new opportunities in finance by speed and access to money. Problems that are prohibitively costly to solve today might become solvable then.
“That’s how the civilisation evolves. Solving one problem at a time.”
– Matt Damon in Martian, the movie.
Photo credits: TransferWise Hepathlon 2015