What is Really New in Fintech

IMF Blog, December 17, 2020

Source details

Publication date: December 17, 2020.
Authors: Arnoud Boot, Peter Hoffmann, Luc Laeven, Lev Ratnovski.
Central question: Which transformative aspects of recent financial innovation can uproot finance as we know it, and which policy challenges will the transformation of finance bring?
Key premise: Financial innovation today splits into two distinct dimensions—information and communication—each with transformative components.

Core finding: The most transformative information innovation is expanded use of alternative data from customers’ digital footprints for credit-worthiness analysis.
Traditional method: Credit scoring using hard information (income, employment time, assets and debts).
- Limitations of hard information:
- Hard information tends to be “procyclical”: it boosts credit expansion in good times but exacerbates contraction during downturns.
- Many people (new entrepreneurs, innovators, informal workers, expatriates) may lack sufficient hard data to access credit.
Fintech solution:
- Taps nonfinancial data: type of browser and hardware used to access the internet, history of online searches and purchases.
- When powered by artificial intelligence and machine learning, these alternative data sources are often superior to traditional credit assessment methods.
- Potential impact: advance financial inclusion by enabling more credit to informal workers and households and firms in rural areas.
Quantitative reach:
- Fintech’s potential to reach out to over a billion unbanked people around the world.

Drivers: Digital platforms in social media, mobile communication, and online shopping have penetrated much of consumers’ everyday lives, increasing digital footprints and available data.
Platform dynamics:
- Platforms like Amazon, Facebook or Alibaba incorporate more financial services into their ecosystems.
- Rise of specialized providers competing with banks in payments, asset management, and financial information provision.
Effects on banking:
- Shift from in-person branch visits to remote online communication improves customer convenience and cost-efficiency of financial intermediation.
- Increases geographic competition among banks, enabling service to more distant customers.
Usage trends:
- The financial sector is already the industry most heavily reliant on computers.
- Doubling in use of online banking in the past two decades in the European Union’s 15 largest economies.
- Current usage at 50 percent on average, indicating significant room to grow.

Prudential regulation:
- Regulators must assess operational risks of new lending technologies and business models, which face their first real-life stress test during the COVID-19 downturn.
- Need to ensure regulatory agencies’ expertise matches industry capabilities as more talent enters financial technology and innovation accelerates.
Other risks:
- Cybersecurity: increased online services for financial institutions and customers create potential new opportunities for criminals.
- Regulatory arbitrage: business models may be tailored to reduce regulatory oversight.
Monetary policy implications:
- Procyclical bias of hard information may require central bankers to be more “countercyclical” (i.e., potentially overcompensate with stimulating or cooling measures stronger than actual economic developments would warrant).
- New monetary policy transmission channels need to be fully understood.
- As new players make banks less relevant, central banks may need to adjust their monetary policy implementation toolbox, potentially allowing nonbanks access to liquidity lines and incorporating them in their operations.
Competition and data policy:
- Competition policy must address monopolistic tendencies of large digital platforms driven by network effects and convergence to a few large platforms.
- Data policies are critical to ensure consumer privacy and efficient and safe collection, processing, and exchange of data.

Pace and nature of change:
- Much technological progress in finance is evolutionary, but its pace is accelerating fast.
- Fintech’s potential to reach out to over a billion unbanked people around the world, and the changes in financial system structure this can induce, can be revolutionary.
Policy guidance:
- Governments should follow and carefully support the technological transition in finance.
- It is important to adjust policies accordingly and stay ahead of the curve.
Research context:
- The blog is based on an IMF Working Paper, “Financial Intermediation and Technology: What’s Old, What’s New?” published in August 2020.

Source: What is Really New in Fintech (IMF blog, December 17, 2020).