The fintech industry and the growing decentralized finance (DeFi) space share a common use case. Fintech connects financial services and technology, making user access to these services convenient and easier, just as DeFi does.
Decentralized finance fans, however, say that DeFi, not Fintech, is the future of finance. For instance, Blockchain Capital’s Spencer Bogart says that DeFi’s rising digital infrastructure for financial services is what the fintech industry initially set out to build.
“DeFi is what fintech always wanted to be,” says Bogart, a General Partner at one of the world’s most prolific blockchain and crypto venture firms on Bloomberg TV.
“Fintech is digital front ends for the same antiquated infrastructure we’ve always used. Whereas DeFi is rebuilding the whole stack from the ground up the way that we would if we could do so from scratch. And so that’s unleashing a whole set of new financial services applications that are built on networks like Ethereum,” adds Bogart.
Fintech history
Financial technology (Fintech) is one of the most profound innovations of the 21st century. Like decentralized finance’s recent majestic boom, the explosion of economic activity in the fintech sector has taken the world by surprise, looking much like an overnight success.
That said, as per research by Arneris, Barberis & Ross, the growth of financial technology is a protracted and gradual evolution process. The first steps towards the smooth banking experience and cashless platforms and apps that we know today began in the late 1800s with the invention of the morse code and telegrams.
The Fintech 1.0 era that took place in the first half of the 20th century led to the creation of the world’s financial services infrastructure. By the end of this span in 1967, banks could make their electronic funds transfers via the Fedwire and the transatlantic cable.
Fintech 2.0 kicked off in 1967, culminating in the 2008 global financial crisis. It was a phase characterized by finance process digitalization, the creation of SWIFT, NASDAQ, and bank mainframe computers. Digital banking became mainstream in the 90s, with PayPal, one of the world’s first Fintech companies launching in 1998.
The Fintech 3.0 chapter was a response to the growing distrust in financial institutions. This dissatisfaction led to the launch of the Bitcoin blockchain in 2009. Mobile devices and hungry startups became central to the Fintech movement.
These events have led to the development of banking as a service business. These Fintechs are breaking some of the limitations of the legacy financial infrastructure, launching neo banks that are exciting and offer better customer experience.
Fintech’s have fast-tracked money transfers and simple everyday financial processes such as checking account balances that were once manual, tedious, and expensive. Fintechs also support massive peer-to-peer markets, mobile payments of lower currency exchange rates than banks would offer, and have bots that provide their users financial advice.
The Fintech success story
2018 was a bumper fintech funding year. Venture capitalists injected over $40.8 billion into 2,049 startups. China’s Ant Financial took 35% of these funds in their $14 billion mega funding round. In that year, five fintech startups that include Monzo, a digital bank, Brex, a credit card provider, and Plaid, a data aggregator, joined the Fintech unicorns ranks, with their valuations getting to the $1 billion mark.
VC deals slowed down in 2019, with fintech firms launching into the developing markets. 1,912 deals raised an average of $33 billion. 2019 was the year that Southeast Asian, South American, Australian, and African fintech startups took center stage, topping all annual highs.
Brazilian Nubank, for instance, is the world’s largest neobank. Neobanks or online banks operate without physical branches. Instead, they unbundle banking services and relationships with consumers lowering the user barrier of entry.
Legacy banking institutions, on the other hand, exclude wide swaths of populations from financial services access due to factors such as:
- High levels of government regulation
- High capital requirements that make it difficult to build a new bank from the ground up
- Excessive compliance and risk management needs.
Nubank launched back in 2013, releasing its popular mobile app managed Mastercard credit card in 2014. NuConta, Nubank’s digital account, was established in 2018. NuConta holders can access debit payments, and a number of them can access personal loans as well. Additionally, Nubank has branched to Mexico as Nu and Colombia.
Before Nubank’s Brazil entry, a large proportion of its population was unbanked. In 2014, Brazil had just become the sixth-largest economy in the world. Growing an annual 2.7% rate, its economic strength had just overtaken that of the UK.
It also earned over $3 billion from its stint as a World Cup host. At the time, over 65% to 70% of Brazilian adults did not have any form of banking tools. Its six leading banks owned over 80% of Brazil’s bank assets. Four of these banks were federal public banks.
However, the Regulatory Consistency Assessment Program (RCAP) noted that Brazil’s financial system was highly regulated and significantly stable. Its state banks, however, lacked public spending control, becoming highly dependent on National Treasury contributions. For this reason, Brazil had a BBB- credit rating from Standard & Poors.
While banks enjoyed immense support from the government, the consumers could hardly save or access lending services from these financial giants. Economic volatility, hyperinflation, and a poor public credit infrastructure made banks overprice their risks, adding high interest and charges to their service rates.
For this reason, they would only offer banking to 20% of their population’s highest earners. Credit cards and bank cards would have hidden charges that would tax the poor. The account opening process would have excessive documentation.
Fortunately, 49% of Brazilians had an internet connection in 2014. Innovative neobanks like Nubank targeted underbanked Brazilians that found the cost of banking too high and service quality too poor. Leveraging the growing mobile phone and internet access penetration, fintechs designed financial services that would leverage growing mobile phone use.
Latin American mobile phone internet connectivity will rise to 90% by 2022, escalating the neobank drive towards large-scale financial inclusion. Their fully mobile and branchless distribution models are on-demand amongst millennials.
Nubank’s customer average age is 32 years. You only need to be 18, be a Brazilian resident, have a CPF for identity verification and a smartphone. Its customers do not have to undergo credit checks as well. Nubank has been so successful that it has onboarded over 33 million customers. However, it only had a million applicants in 2016.
“We’ve gone from 12 million customers in 2019 to 34 million solely based on word of mouth,” says David Velez, Nubank CEO, and co-founder. “People were really done with being mistreated and paying high fees… It’s like they are doing you a favor by opening an account for you and then charging you a 450% interest rate per year.” “Our bet was that people would really like to be treated like humans,” Velez adds.
Gamification in Fintech
Part of Fintech companies’ success with the tech talented youth is their use of gamification in finance. Like DeFi’s decentralized application sector, Fintechs have found the right balance between utility and entertainment. In addition, their approach to boring financial education, numbers, tables, and charts increases customer engagement.
Gamification is the inclusion of game-like elements to financial processes. It rewards users that engage with businesses more, turning routine procedures into rewarding, fun activities. At its core, gamification helps users interact with a product, company, services, or brand more deeply.
Fintechs use gamification in the personal finance, insurance, and investment niche, turning these financial chores into fun to-do lists. Top fintech businesses, for instance, have gamification in their apps that encourage savings.
Users will set their goals and earn rewards for meeting these goals. They could also use these features to automatically capo transactions, round them up, and send some of these savings to an account. Gamification in Fintech also boosts financial literacy amongst users.
A fintech will, for instance, have short videos, games, or real-life simulation content that makes learning meaningful and easy to grasp. Other startups have applied gamification to insurance risk management. They use these features to shape their customer’s behavior, using bonuses or scores to encourage adherence to contract terms.
Gamification tools could also help promote sustainability through charity or ethics, or environmental awareness.
Nubank’s card, for instance, does not have any annuity fees. In 2017, they launched their loyalty program known as Nubank Rewards. Nubank’s program points do not have an expiry date. Users can redeem for discounts on entertainment, travel, and other services.
NuConta, a Nubank account app, has an excellent combination of visuals, information architecture, and flows that hide away all complexity and jargon, offering easy communication of ideas to users instead.
NuConta will automatically invest all their customers’ savings in low-risk assets. Their users do not have to study complex investment protocols to earn from their savings. The accounts are transparent and offer real-time data on profits gained from these investment channels. DeFi, on the other hand, has created vast yield farming, liquidity mining, NFTs and gaming features that keep its user’s eyes locked on their favorite projects.
Fintech’s bursting bubble
So, why do decentralized finance enthusiasts say that DeFi is better than Fintech? Why do venture capitalist bigwigs such as Spencer Bogart say that DeFi was what fintech 3.0 set out to be in the first place? Is it possible that Nubank or Neon in Brazil or Nequi in Colombia has just set the stage for the coming Latin American decentralized finance revolution?
Going back to the history of Fintech, developed countries in Europe and North America were the cradle of the fintech movement due to the generous amount of VC funding from interested parties.
As per McKinsey data, 24 of European fintechs achieved the unicorn $1 billion valuations in 2020. That said, the contracting economies in these regions have not been easy on fintech businesses. As a result, most of them are feeling the squeeze.
Their longevity and sustainability models are now in question since most countries have very low levels of the unbanked and the underbanked. For this reason, most of them are not profitable and need continued funding to wind up their innovation cycle.
McKinsey data shows that European fintechs require €5.7 billion to sustain them through 2021 as they weather the pandemic’s effects. However, the digital investment in Fintechs is flourishing with US-based Robinhood, for instance, raising over $200 million in capital funding in mid-2020.
In developed countries, fintechs and the incumbent banks are subject to equal banking sector economics. But, while the average traditional bank customer holds five products, the neobank customers average 1.5 products.
Neo banks only levy charges on commissions and transaction fees, while banks have various income generation products. Therefore, the developed world fintech business is cash consumptive and needs continued funding to stay afloat, an unsustainable business model. For this reason, many legacy financial institutions are acquiring established fintech businesses.
Consequently, VC funds are flowing towards the developing world’s fintech fertile ground. But, unfortunately, the link between finance and governments is stifling the Fintech 3.0 dream in this market.
Fintechs in Latin America have found it very difficult to penetrate the financial services market. Despite strong headwinds, LatAm fintechs have to contend with regulation. “Banking is ultimately about money, and money is about public authority — this is why, for centuries, banks have been licensed when they weren’t direct creations of the state,” says Kathryn Petralia of Fintech startup Kabbage.
Like their European counterparts, they will eventually shift away from their consumer-focused processes as regulation rises, and the consumer market consolidates. Instead, they will reach out for capital-intensive infrastructure building as they begin to meet all regulatory hurdles and older banks increase their spending on fintech customer segments.
Consequently, sophisticated digital banks with access to large amounts of capital, such as Zopa and Revolut, are moving from P2P services to fully-fledged bank status. Some of them are also moving from a B2C focus to B2B as they mature, and copycat Fintechs take their place.
As an illustration, Ant Financial, the largest fintech business globally, now offers credit scoring and high-value services such as mortgages. Ant Financial will be a full-service modern bank of the future.
Latin American governments have become more pro-fintech. Mexico’s “Ley Fintech,” for instance, is a law that outlines a fintech regulatory framework. These laws keep Fintechs operating peacefully alongside traditional banking institutions.
By regulating Fintechs, governments can increase financial inclusion and transition their citizens from cash-based payments to digital for better taxation processes. For example, Brazil’s Open Banking system brings on board large banks to provide third-party developers APIs that provide consumer data.
Most Latin American countries have a real-time payments system. While cross-border transactions take two days to reflect in a US account, there has been a decade-old real-time settlement system in Mexico. Brazil has PIX, a real-time settlement system that neobanks will build upon to enhance transaction speeds.
Decentralized finance has the upper hand over Fintechs. Fintech ‘plumbing’, its nuts and bolts, are provided by traditional banks in their efforts to meet regulatory requirements that are too prohibitive for startups. To please regulators, they have had to entangle themselves with banks to access banking licenses.
Why DeFi is better than Fintech
Fintech businesses are now fully linked with the centralized, top-down structure of the traditional financial system. Decentralized finance, on the other hand, seeks to outpace regulation. As a result, it is automating all its processes to eliminate human involvement from its operations.
Decentralized finance has achieved the fintech 3.0 vision of complete disconnection from the old world and become what the neobanks set out to achieve; a new finance and economic realm, unencumbered by the old, expensive, friction causing and capitalist-driven system.
For this reason, there is no other financial system in existence better poised to build a new, equitable global financial system like DeFi is. Decentralized finance projects that have real use will attract real people that have real-world economic problems.
Fintech’s will eventually lose the financial inclusion battle to centralization. Finally, they will seek profitability and turn their backs on creating affordable easy to access economic systems for the world’s most marginalized people.
Decentralized finance projects such as Mimo Capital will bridge this gap. The Parallel Protocol and the Mimo Project will do away with intermediaries and place their consumers in full charge of their finances.
As an illustration, the Mimo Project’s PAR token is a fully decentralized algorithmically pegged Euro stablecoin. PAR tracks the value of the Euro and is, therefore, a stable, low volatility coin. PAR opens the doors wide to decentralized finance’s most popular gamification features, including yield farming and liquidity mining.
PAR stablecoin holders can deposit these coins into Balancer pools and earn a 0.2% fee as passive income. This process generates Balancer Pool Tokens (BPT) which can be staked on the Mimo protocol to participate in the project’s governance system via vMIMO tokens.
Why LatAm will experience a DeFi boom
Latin America will be home to the next billion-dollar fintech company but finally, become a decentralized finance stronghold as fintechs morph to banks. Below are some reasons why DeFi will flourish in LatAm as the fintech bubble bursts.
- Latin American countries still have high levels of the unbanked or underbanked and demand for financial services.
- It is a large continent and home to over 650 million people and countries with rising GDPs and financial inequality.
- The traditional banks only cater to the affluent, and there is a pent-up demand for services from marginalized citizens. However, as Fintechs embrace regulation, they will disassociate themselves from the marginalized as well.
- Most traditional have not fully embraced digital banking, and so have minimal mobile-first or tech-driven consumer services.
- Most of the LatAm economy is cash-based. As an illustration, over 80% of payments in Mexico and 70% in Brazil are paper-based. However, the world is shifting to digital payments, and DeFi could have a unique first-mover advantage.
- LatAm state banks are some of the world’s most profitable financial institutions. These monopolies have created a mismatch in incentives between providers and their customers, as well as mistrust. Users will welcome DeFi’s promise of freedom from exploitative governance structures.
- A large consumer base that mostly consists of youth. 43% of the Mexican population, for instance, is under the age of 25. Youth want financial services applications that reflect other popular mainstream mobile phone apps such as gamification. Gamification is part and parcel of DeFi.
Mimo, however, seeks to go beyond the speculation hype in the DeFi and Blockchain space. Instead, it is building user-friendly user interfaces that make Fintech applications a joy to use. Alongside projects such as BAT’s Brave browser or Filecoin, Mimo Project focuses on blockchain utility rather than speculation.
BAT, for instance, makes affordable micropayments in exchange for users’ attention when watching ads feasible. Payments fintechs such as PayPal also have a $1 minimum withdrawal feature, while crypto’s BAT (Basic Attention Token), Stellar, Nano, IOTA, and XRP enable cheap and fast micropayments.
Brave, the company behind BAT, uses its token to gamify the browser user experience incentivizing the Brave browser use. Filecoin, on the other hand, is the File blockchains utility and reward token. Filecoin will power the world’s first decentralized data storage system. In addition, it will incentivize the use of the decentralized interplanetary FIL system, creating a decentralized internet.
The PAR Protocol’s algorithms will form the technology that creates an interoperable, scalable financial future. They will power a public, transparent, and censorship-free European financial market. Like Andre Cronje, we believe that PAR and Mimo will create a community that makes every one of their holders a contributor to a decentralized future.
“People treat them (tokens) like stocks. In DeFi, tokens are a coordination mechanism. If you have tokens, it is because you want to be a contributor, not a bystander. -Andre Cronje, Yearn Finance.
