Open Sourcing Financial Services or the Need for its Disruption — Part 1

Ever since our ancestors evolved to walking on two feet, we have been an enterprising species, blessed with this powerful machine called the Brain. Over the past several million years or so, this powerful machine helped us discover the world around us and invent new things that would improve our lives. Our ancestors soon realised that we did not have everything we needed to survive — we were not self-sufficient. We had to depend on other humans or species to survive. Now how do we get what we need? Simple — we could either kill and take it or exchange something in return for what we need. Somehow, our ancestors decided that we should not kill another of our own species to get what we want (boring!), so we began to exchange things.

Thus started a transaction.

From the very humble beginning of a barter exchange of goods for goods, we soon graduated to services for goods to precious metals, to precious stones, to coins & cash and finally to tomorrow’s bitcoins/cryptocurrency. While our want for needs remains constant, the instrument we use to execute that transaction has changed. This instrument will continue to evolve, but people will always transact.

On the back of this very fundamental requirement, we invented the financial system. We needed a trustworthy, independent, third party institution to mediate a transaction between two transacting parties. All those adjectives, irrespective of the order, are crucial. The financial system over the past several hundred years has evolved with the Banking System at the core, acting as Trust Centres for Individuals and Corporations. With the basic banking system in place, there arose a need to provide new Financial Products to improve productivity, increase incomes, enable better education & healthcare and increase the overall quality of life.

For several decades, the financial services system did just that, and did it right. However, it wasn’t widespread. Access to financial services was not a priority at the time (the 1920’s to 1960’s) — scores of people dying from diseases that had no known cure, world wars being fought to fuel egos. People least cared about how much money they had/made when all that mattered was their survival.

Zooming in to the situation in India (as this is an economy I understand slightly more than any other) — true financial reforms in an independent India came only post 1991. Circa 1991, the then government set up a committee under the chairmanship of M Narsimha to liberalise India’s economic system. I’ve written a brief one-pager, true private equity style, on the two phases of the Indian private banking system here. The seeds of a resilient Indian economy, as it stands today, were sowed back then and we continue to reap the rewards.

As of 2015, India is the seventh largest economy in the world. India has the second largest population in the world (doubt you need any proof for that, but still, here you go). India’s GDP is expected to grow the highest not just among developing countries, but ANY country at 7.5%! You must be thinking, Man, India’s economy is thriving, the financial system has evolved for easy access to financial products for everyone! Well think again… or just check out the stats below:

1. Payments: (Source — RBI, Mastercard Cashless Report -2016)

- India Market size (2015): USD 15.1 Trillion. 98% payments are made using cash

- Paperless Transactions (Digital): India — 2%, USA — 45%, Brazil — 15%, China — 10%

- Card Penetration (Mar-2016): Credit Cards — 2.5 Mn; Debit Cards — 66.2 M

2. Insurance: (Source — EY-CII Insurance Sector Report — Aug-15, IBEF Insurance Sector Report — Aug-15)

- Indian Market size (2014): USD 72 Billion (Life — USD 60.3 Billion; Non-Life — USD 11.7 Billion)

- Insurance Penetration (as % of total population): Life — 2.6%; Non-Life — 0.7%

- Cost Reduction Through Digitisation (estimated by IBEF)

Life Insurance: 15–20% of total cost

Non-Life Insurance: 20–30% of total cost

3. Remittance: (Source — WorldBank Remittance Data 2016)

- Worldwide Market size (2015): USD 600 Billion. USD 72 Billion was remitted to India, the highest in the world

- Cost of Remitting (Non-Bank FI) has increased ~9.7% in 2015 from ~7.8% in 2011

- “If remittance costs were cut in half, an extra USD 15 billion a year would be available to countries in the developing world” — Bill Gates

4. Lending: (Source — Omidyar Network, Big Data, Small Credit — The Digital Revolution and Its Impact on Emerging Market Consumers, in India, 2014)

- In 2014, 400 Million people borrowed money in India but fewer than 1 in 7 were approved
 for a formal loan

Read through those statistics again… try and make sure you’ve properly understood those numbers. They are shocking. We are barely touching the surface (not even scratching) of our economy and we’re already the world’s seventh largest. We’ve tapped into a sliver of our economy’s potential. Imagine what happens if we make an improvement of even 20–30%. Sure, the current government (and past) has rolled out great initiatives for financial inclusion in the form of Jan Dhan Yojana & Aadhar that have made considerable headway, though their execution remains questionable.

Reading through all of the above, I hope a bunch of questions are popping up in your head. Let me attempt to articulate those here — What is financial inclusion? What’s really the point of convenient & cost effective access to financial products? What happens when you achieve easy access to financial products for everyone? Who does it benefit? What are these financial products we talk about? What are the bottlenecks & problems in providing these financial products to the masses?

Through subsequent posts on the subject, I take a stab at answering these questions and much more in great detail. Will attempt to put down what I’ve learned from my conversations with people & my own thoughts on the subject, because the subject is so dear to me. Over the past year and a half, I’ve had the privilege of meeting a bunch of highly placed individuals in the financial value chain — people from Banks (all types Banks, from many geographies), NBFC’s, Insurance Companies, Regulators, Consultants, Startups, Venture Capitalists — possibly the whole stack. Had exhaustive conversations with each stakeholder trying to get answers from them on the subject. Been like a sponge during my discussions with them, continuously consuming information. I’ve learned a lot — and there’s so much more to be learned.

Why am I writing about all this?

Over the past couple of months, I’ve been harping about the opportunity to my colleagues, peers and sharing my view with the above parties. But as I’m only 24/25 years, my views and opinions usually fall on deaf ears. Make no mistake, I don’t claim to know it all. But through these posts, I hope to open source my learning. Hoping someone reads it and uses it. The solution to the problem of financial inclusion cannot be solved by a couple of people with technology thrown in it within a couple of years. It needs our collective effort with more sharing of knowledge and open innovation. Follow me through these posts, let me know your thoughts, feedback, questions. Would like to make this collaborative.

Onward.

As a bonus to this post, check out this video (~30 mins) that explains the financial system and how it works, in simple English. It’s narrated by Ray Dalio — he started, what’s today, the world’s largest hedge fund. I highly recommend watching it.

×


Originally published at Osborne Saldanha.