Money, banking & insurance

The end of the cash society

Metal and paper are rarely thought of as a technology but cash is just that and it's also one of the most enduring technologies ever invented. However, it's the beginning of the end for 'cash money' as digital alternatives appeal more to our need for speed and convenience. Value-wise digital transactions already outnumber cash in almost all countries. In London cash payments for subway tickets now represent just 5% of all ticket sales while the consultant Arthur D. Little predicts that payments made using mobile phones will increase from US $3.2 billion in 2003 to over US $37 billion by next year (2008). In Japan 43,000 retailers now accept digital 'wave and pay' and the number of digital payments now exceeds 15 million transactions per month. This is good news for consumers who will no longer have to queue to take money out of banks and ATMs or queue (as much) to pay for small purchases in shops or at vending machines.Moreover, digital money is not simply payment, it is information about who and where, which is of great interest to governments trying to cut down on illegal activities but also to companies trying to sell us things based on our known location (phones also have a GPS component remember) or known purchasing habits. The killer application for digital cash is obviously mobile phones, which can now act as digital wallets and display balances and transaction history on screen. Bar codes sent to mobiles can also be used as e-tickets while larger transactions can be activated by phone using sophisticated identity verification techniques ranging from passwords and pin numbers to fingerprints to iris scans. In the future you may even use your mobile phone to gain access to your office or your own front door. The end of cash will also dramatically cut the cost of handling transactions and running cash floats, which will please retailers. In theory we could even see discounts offered to shoppers using digital payment methods rather than cash although I suspect that most of the savings will just go straight to the bottom line or retailers will charge extra for cash payments.

Of course there are significant downsides to digital money too. Firms processing payments may sell information about you to third parties and research suggests that people spend 20% more when they can't see what's in their wallets. Conversely though, digital wallets and pre-paid cards should appeal to the unbanked and those wishing to instantly send money abroad (a $250 billion a year market globally). However, the real downside is the loss of privacy and anonymity afforded by cash payment although most people will happily trade anonymity for speed and convenience. Ironically the other loser in the rush to digitalize the economy may be the banks and credit card companies. Digital money is a disruptive technology in the sense that banks and other financial service providers could be 'disintermediated' by other providers such as retailers or phone companies. For example, PayPal (owned by eBay) now has 120 million accounts in 100 countries and Wal-Mart or Apple Bank would make an equal amount of sense. So where does this leave the banks? Some commentators like Tim Attinger at Visa believe that banks will hold onto larger transactions simply because big ticket payments require complex risk management, default and dispute systems, which are generally too expensive and complicated from a compliance point of view, which will put the non-banks off. Nevertheless, digital money will turn parts of the financial services industry upside down because banks and credit card companies will no longer be in charge of some of the hardware (cheque books and credit cards) or distribution (ATMs and branches) and that alone should keep a few people awake at night. Personally I think banks and credit card companies will lose control of micro-payments but the higher value transactions will remain inside banks and more particularly their branches.

The risk of living too long

In the 1840s people generally lived until they were around 40 years old.Fast-forward 160 or so years and most people in developed nations are living until they are 80 years of age with the prospect of living to well over 100 on the near horizon. Not only is longevity increasing but the trend is accelerating too. This is obviously good news for individuals but not so great for society at large. The obvious problem is that there will be too many retired people and not enough working people. For example, in the US, Europe and Japan (which represents 70% of the global economy) the ratio of those over sixty to those under sixty is set to increase from 30:70 to 50:50 by 2027. These figures are hardly news to government planners and actuaries but bankers are now studying these figures to figure out whether financial markets can be used to address a future risk of living too long.Back in 1840 you worked until you died or you relied upon your children. This was clearly unacceptable so governments devised a system whereby the income generated by those working would pay for those that were not. This intergenerational transfer of income worked fine whilst younger workers outnumbered older retirees but a declining fertility rate coupled with increased longevity has led to an imbalance. The current idea is therefore that older people should save up and pay for their own retirement but this idea is itself flawed because people have no idea how long they will live. Enter the financial markets. We have already seen the issue of so-called catastrophe (cat) bonds and cat derivatives that bet for and against catastrophes like hurricanes so the thought of mortality bonds betting on how long people will live is a natural extension. This is precisely what the investment bank BNP Paribas did a few years ago. Unfortunately the idea was a little ahead of its time and there was an imbalance of buyers and sellers because most people believed that life spans would continue increasing. However, following an article in the New England Journal of Medicine that argued that life spans may actually decrease in the future due to bad diet and a lack of exercise some hedge funds are beginning to focus on the new risk of not dying. There are still problems, most notably a lack of reliable and accurate data, but it's a good bet that the market will explode at some point in the future bringing with it a revolution in financial markets and healthcare industries alike.

Banking on borrowed time?

If you want some idea of the level of change that will occur in financial services over the coming decade a good trick is just to look back over the last ten years and work out what didn't exist then that commonly exists now. Case in point is the impact of supermarkets on financial services. Ten years ago applying to a supermarket for a credit card or loan would have been unheard of. Now Tesco Personal Finance (established 1997) has five million customers, Sainsbury's Bank has another 1.5 million customers and Asda Financial services has 1.1 million. In each case the supermarket has teamed up with a UK high street bank. In Tesco's case this is the Royal Bank of Scotland who is happy to 'white label' their products while Sainsbury's partners with HBOS. A key argument in favour of banks doing this is that supermarkets have a very high number of (theoretically) loyal customers visiting each week and supermarkets represent value, quality and convenience (e.g. more branches and longer opening hours than banks), which are precisely the things that people are looking for in financial services. Moreover, supermarkets are not a direct threat to retail banks because when it comes to more complex and higher value decisions like mortgages customers do not trust supermarkets to provide them with advice. Or at least that's the theory. So far the supermarkets have been content with selling credit cards, car loans and pet insurance alongside the baked beans but this might be changing. A case in point is Asda (now part of Wal-Mart) that is testing the sale of houses on its online notice board while Tesco has recently introduced health insurance alongside the fresh fruit and vegetables. So the big question is will supermarkets start selling mortgages and pensions too? The industry says no but I'd predict yes. There is obviously an issue with supermarkets selling (or mis-selling) complex financial products but perhaps they won't be so complicated after the supermarkets have got their hands on them. One thing that supermarkets are very good at is looking outwards at the needs of customers. Retail banks, in contrast, still tend to struggle with the idea that they are retail stores and product offerings remain far too complicated for the average bank customer (or employee) to understand.

A tipping point for innovation in banking

In the US a federal law means that no bank is allowed to hold more than 10% of total US deposits. However, following a wave of consolidations over the last ten years (which halved the total number of US banks) many of the big US banks are now approaching this legal limit. This could result in a relaxation of the limit but that's unlikely. Indeed compliance and regulation look set to increase. A more realistic outcome is perhaps that this limit will be a tipping point for innovation forcing banks to look elsewhere for growth. This could be good news for customers. Over the last decade consolidation in the US banking sector has caused significant cost cutting, much of which has had a negative effect on customer service. But whilst customers may be technically unhappy about their bank precious few people do anything about it because the cost of switching banks is too much - at least in terms of time and stress. In a sense this is not directly the banks' fault. Unlike many other companies that sell products and services, banks are restricted by a plethora of rules and regulations concerning privacy, fair lending, debt and security all of which act to stem the flow of innovative ideas for improving simplicity, convenience and service. But there are other areas where the banks are most definitely at fault. First, unlike most other product focussed companies, innovation in banking is often driven by IT not R&D. Indeed, R&D as a department or innovation as a process barely exists inside many banks. Departments still tend to be silos with cross-departmental innovation almost non-existent. Equally experimentation in areas like customer service is dampened by cultural forces that are risk-averse and conservative. Despite all this there are plenty of examples of banks innovating and breaking down the barriers. Commerce Bankcorp is one of the fastest growing banks in the US partly because its Chairman and President - Vernon Hill - came from a fast food retail background and was thus able to see things from a purely retail perspective. ING Bank is another good example. Conversely there is the story of two banking consultants that had an idea of creating a credit card for low risk but technically sub prime borrowers. None of the big banks were interested so the consultants set up their own company called Capital One, which of course is now one of the largest credit card companies in America.Then again, radical innovation rarely comes from industry incumbents so perhaps the best innovation strategy for conservative institutions like banks is to go hunting rather than trying to grow their own. In other words, give up trying to innovate from within and just go out and find small companies doing interesting things and then buy them.

Banks for women only

We've had gyms, hotels, clubs and even whole department stores aimed exclusively at women so it was probably only a matter of time before we had high street banks for women only too. The idea has been tried a few times before. Examples include Citibank's Women & Co, The Royal Bank of Canada, Masrafy Bank in Bahrain and even Grameen Bank in India that is aimed almost exclusively at women. The latest example is Raiffeisen Bank that can be found in the Austrian ski resort of Gastein.
But do women's banking needs really differ so much from men's that it justifies a separate physical space with female tellers and a children's play area? I'll guess we'll find out.