Paul Volcker, former Chairman of the US Federal Reserve, doesn’t buy the conventional wisdom that “financial innovation” is necessary for a healthy economy. “The only useful banking innovation,” he says, “was the invention of the ATM.” His time spent as Chairman of the Economic Recovery Advisory Board under President Barack Obama from 2009–11 honed his disdain of innovation, as he dealt with the problems caused in large part by over-active brainpower on Wall Street.
Volcker’s, and others’, scepticism didn’t stop the younger folk at this year’s World Economic Forum (WEF) in Davos from probing the value of ‘disruptive technologies’.
A snap poll of the 50-plus executives in the WEF Disruptive Innovations in Financial Services working group questioned whether regulation would mean more or less competition. A thumping 80% of those polled believed that it would mean less.
They reckon the rules on anti-money laundering and Know Your Customer, in particular, are halting innovation among many firms.
There is no room for anyone to take for granted the economic model pre-2008
The concept of disruptive technologies made its debut in The Innovator’s Dilemma by Professor Clayton Christensen from Harvard Business School. He offered what he called ‘sustaining technologies’ – developments that help organisations make marginal improvements in what they are doing, which need only gradual change, and usually preserve the status quo.
Disruptive technologies, meanwhile, are unexpected, often wild, breakthroughs that make individuals and firms rethink their future. Like corporate collapse, divorce and revolutions – think Ukraine – breakthroughs start quietly, but then move very quickly, junking existing products, practices and markets. The mobile phone, digital photography and online retailing are classic examples.
“One of the most consistent patterns in business,” says Professor Christensen, “is the failure of leading companies to stay at the top of their industries when technologies or markets change. Why is it that companies like these invest aggressively – and successfully – in the technologies necessary to retain their current customers but then fail to make certain other technological investments that customers of the future will demand?”
New ways of seeing
Christensen argues that the processes and incentives that companies use to keep focused on their main customers work so well that they blind those companies to important new technologies in emerging markets. Many companies have learned the hard way the perils of ignoring new technologies that do not initially meet the needs of mainstream customers. When they first appeared in the early 1980s, new-fangled personal computers did not meet the needs of mainstream minicomputer users. But the power of the desktop machines improved at a much faster rate than minicomputer users’ demands for computing power.
As a result, personal computers caught up with the needs of many of the customers of Data General, Digital Equipment, Nixdorf, Prime and Wang. Remember them? Professor Christensen says: “The mini computer makers, keeping close to mainstream customers and ignoring what were initially low-performance desktop technologies, used by seemingly insignificant customers in emerging markets, was a rational decision but one that proved disastrous.”
David Craig, president of the Financial and Risk business of Thomson Reuters, is a regular at Davos: “One of the more interesting questions debated at WEF this year was whether the current model of capital markets, buy- and sell-side, can survive in a world where technology no longer presents the barrier it once did.”
A sobering comment at Davos came from a CEO who said he didn’t need a sell-side bank anymore because he says he can now go directly to the buy-side or lending markets: “Clearly the complexity, structure and expertise mean there is still a strong role for sell-side institutions.”
However, technology is levelling the playing field and there is no longer room for anyone to take for granted the economic model that they enjoyed pre-2008. Sell-side institutions should be thinking about accessing the buy-side, being more comprehensive in their model and not allowing disintermediation to happen. Undoubtedly there will be disruption to the financial services supply chain as a result of these changes.”
Craig points to an “impressive” amount of innovation in the peer-to-peer lending arena, with new online financial lending communities sprouting up, building successful businesses and raising the stakes for established banks. And since the Budget you can invest via an ISA. “It’s not surprising that insurance groups are looking at cyber business as a growing opportunity,” he says.
“However, as shadow-banking organisations and lenders become larger, they too become regulated, and often regulation again becomes a barrier to competition.
“Clearly, the industry needs to think about the unintended consequences of regulation,” he concludes. “One thing that is clear from all of the discussion and debate on disruptive innovations at Davos, and elsewhere, is that technology is changing access to capital, expertise and distribution. My advice on what to do tomorrow is clearly to invest in technology and ensure your business model is ready for what’s coming next.” And what better time to think about what’s coming next than when the Review itself launches into a brave, new technological future – with paper backup?