One reason that we have such fixed notions of what financial services can be is because of their analog history. When a product or service has high frictional costs, it leads to standardisation. Think bank branches, paper documents, human labour – all creating a slow-moving and often inconvenient analog system with transaction costs. Gradually however, since the 2000s, digitisation and automation have been eating the analog world, reducing the friction and the cost for customers to transact.
A few years ago, the next leg of the journey became obvious. Once financial services were digital, they no longer needed to exist as discrete products; they could become embedded in software that consumers and businesses use all day long, and with which they have a durable and data-rich relationship (think Apple customer). We are early in that process, and it requires imagination to see where it ends.
For a while, it’s just going to feel like everyone we do business with, financial and non-financial parties alike, wants to offer us a debit card, give us a loan or help us save 15% on our car insurance. Eventually, though, when these products and services are all fully digital and embedded (Apple Pay), the cognitive load of opening and managing these accounts will go away, as the operations are executed and automated by the software in which they are integrated.
Another reason we battle to consider an alternative system is that financial services are highly centralised. The rules of the road are established and maintained by regulators, financial institutions, and their collective associations. Your debit card is built on the back of and fixed in place by regulations, debit card switching network agreements, ATM standards and specifications, negotiated and regulated interchange schemes, etc. And that’s for a relatively risk-free product; let’s not get started on home loans.
Decentralisation then is the final piece of the transformation puzzle, allowing finance to expand beyond the centralised bank account to the cryptographic wallet (consider a wallet that sits on your browser that every website you interact with, can transact with). You can now have a financial relationship with any commercial counterparty that is prepared to host or interact with your many secure wallets.
The transition from an analog, productized and centralised industry to a digital, embedded and decentralised one leads to an industry characterised by automation and creativity, displacing the friction, cognitive load, and conformity of the past. We will have financial relationships with all our commercial counterparties; we will have nearly as many wallets as we have transactions. Merchants of all types will present customers with two main options: store money with me and I will reward you (i.e. interest), or pay me later with little/no expense because once identity is solved, credit risk becomes easier.
You can’t commit fraud or default on your debt just by wriggling free into the ether; your credit history sits on a cryptographic ledger that is immutable and follows you everywhere. In a fully transparent world – even if pseudonymous – willingness to pay becomes a given, and so the analysis can focus on the ability to pay. As a consumer moves through their commercial life, they will constantly be flipping back and forth between net borrower or lender to their counterparties, depending on other calls on their capital and the quality of the deals on offer to leave your money with one merchant rather than another.
Which leads to the next really interesting question: what’s in those wallets? Anyone who is paying attention will have noticed that stable coins (a digital store of value backed by a fiat reserve) is gaining significant traction across the globe, with countries large and small all having entered varying degrees of investigation to release their own digital currencies.
Between native cryptocurrencies and stable coins, will fiat currency still hold prominence in 2040, where we give our capital for free to various governments for the privilege of having it diluted by the tax of inflation. Rather than our current conception of money – a token that is a representation of an entry in a central bank ledger – our digital assets will be 100% invested at all times, and we will shift those assets around between and among counterparties, who can instantly (and without cost) shift between various stable coins.
For this digital, embedded, and decentralised world to reach its full potential, there are meaningful problems to be solved. We must be able to establish identity, at point of transaction and over time, even if pseudonymous. We must have real-time and persistent credit risk management, for people, businesses, and for specific obligations between and among them. We must have reliable cryptographic security, in a world without central counterparties to resolve disputes. We must solve money’s supply chain problem, requiring robust and time-tested capital allocation algorithms, so that excess liquidity in one place can be a source of liquidity elsewhere, in real time. There is still work to be done but the momentum is building and the solutions are tractable.
It’s a lot to get your head around, I know. But, increasingly, fintech isn’t just about stealing the incremental customer, or participating in the evolution of the industry from analog to digital. It is a fundamental overthrow of how things have been done historically: a complete revolution. And we at Three Peaks are enjoying the ride.