FinTech Chapter 2 PDF

Financial Technology (FinTech) By Dr. Muath Asmar Fintech in the Context of the Digital Economy Chapter 2 Fintech in the Context of the Digital Economy Individuals and businesses have operated in a physical world of commerce since time began. It was cle...

Financial Technology (FinTech) By Dr. Muath Asmar Fintech in the Context of the Digital Economy Chapter 2 Fintech in the Context of the Digital Economy Individuals and businesses have operated in a physical world of commerce since time began. It was clear who was buying and who was selling, what they were buying and what they were using to pay. Authentication, transfer of goods and payments for services were conducted in the physical realm. Then came bank accounts, money transfers, credit cards and electronic payments, and suddenly the buyers and sellers had to interact with each other within a digital world where there was no direct physical contact. This laid the ground for the creation of a digital world, which is running alongside our physical world. With the advent of technology, especially in its application in financial services, the digital world will become more pervasive. This then creates a digital economy for each country and a digital world for all of us, which is as important as the physical world. Fintech Startups Fintech is a word often used to describe almost any kind of startup that uses some level of technology to create a financial product or service. There are two distinct kinds of fintech startup companies: Fintech startups that provide tech-enabled financial services in which the use of technology allows for greater efficiency, scale and speed in an existing industry product or process. They work with financial institutions (FIs) to replace existing processes and systems. Fintech startups that provide novel solutions for a specific financial service activity using technology. These tech-powered financial service offerings now dominate the fintech ecosystem. Tech-powered financial services, create new products and services that have the potential to disrupt the complete business models of specific organizations in the financial ecosystem. The 10 Stacks of a Digital Economy The basis of fintech development is the transition of process-based organizations and systems into a digital economy 1 Trusted Digital Identity All transactions in the physical world between two participants are made possible because the identity of the participating individual or organization is confirmed physically and validated by documents that are made available for verification before the initiation of the transaction. A digital world, however, has participants that are “presence-less.” Hence, the creation of a trusted digital identity both for individuals and entities is the starting point for validation and is the basis on which any player would participate in the digital economy 2 Trusted Digital Data In order to substantiate the digital identity of an individual or entity, data about the participant must be gathered, stored and confirmed. This is the basis for confirming the identity of the participant in a “presence-less” state. Hence, the role of a trusted digital data hub becomes critical. Traditionally, physical documents are required for manual verification prior to establishing a business relationship or conducting any transaction. This method is prone to data errors, which lowers productivity and can result in a poor user experience. A trusted digital data hub can serve as a reliable and independent source for a collection of wide-ranging, verified attributes about an individual’s identity. These attributes can facilitate customer digital on-boarding prior to establishing a business relationship, as well as support transactions in both the digital and physical world. 3 Customer Consent Architecture Even after the identity of a participant has been confirmed and supported with trusted digital data, initiating a transaction can occur only if this trusted data is shared with other entities with the participant’s knowledge and agreement. For this sharing to happen, a consent architecture needs to be present that allows every participant to decide the parties with whom personal data can be shared. This ability to provide consent gives each citizen the power to control their own data in terms of what to share, when to share, and with whom to share or not to share. This consent process needs to be traceable, trackable and manageable for it to be governed properly and to prevent misuse or creation of fake data. 4 Public Infrastructure for the Digital Economy In a physical economy, we consider the infrastructure of roads, hospitals, airports, and so on. Similarly, in a digital economy, we need to think about digital public infrastructure for the benefit of the economy. Digital infrastructure examples include shared utilities for regulatory validation of customers and efficient electronic payment systems. The objective of these public services is to facilitate seamless, simple and safe transactions. 5 Data Residency Policies The heart of the digital economy is data. The policies that ensure the data is managed appropriately are the foundation of the digital economy. Data should be used in an open way, but with due consideration to privacy and ethical uses. Data residency policies therefore need to ensure the appropriate governance in the storage and use of data. 6 Scaled Computing When there is a mechanism by which data is created and stored, the speed and size of the data collection necessitates that a scalable architecture is available to process the data. This includes architectures from cloud computing to eventually, quantum computing. Policies are required to facilitate the transition from physical fixed capacity computing to scalable computing using the cloud to enable digital economy processes. 7 Open Architecture When we have the ability to gather, store and analyze data, it needs to be used to create new products and services. This requires connectivity by using open application programming interfaces (APIs) and multi-sector APIs. APIs are one of the most important building blocks for innovation in the digital economy. They include sets of protocols that define how a system or application interacts with one another, usually from the perspective of enabling information exchange or transactions, without the need for human intervention. Open architecture supports the creation of new products and services. Examples include the use of financial data by logistic merchants to create a better credit process. 8 Digital Literacy, Talent and Entrepreneur Growth In a digital economy, product creation requires talent and technology. Hence, it is important to provide policy support, such as grants and incentives, to develop these talent pools. There are three parts to creating conditions conducive to developing talent: Creating platforms to educate citizens on how to operate within a digital economy Developing people who will work in organizations creating digital products and services. Encouraging entrepreneurs to create new digital products and services 9 Policy Making by Experimentation and Empirical Data In general, the speed of technology is often faster than the speed of policy change. Using sandboxes allows experimentation in a controlled environment, by creating empirical data to test, review and fine-tune policies at a faster pace. This allows polices to be in sync with the rapid development and use of technologies. 10 Cyber-security As more services are delivered online in the digital economy, the frequency, scale and complexity of cyberattacks are increasing. Hackers and cybercriminals are constantly probing IT systems for weaknesses they can exploit. The threat of cyberattacks is accentuated in the digital economy in two areas: The connectivity between entities means that a serious cyber breach in one entity can potentially escalate into a more systemic problem. Repeated cyber breaches could diminish public confidence in online services and reduce customers’ willingness to participate in the digital economy A strategy to strengthen cyber resilience of the financial sector. Regulatory guidance Supervision Surveillance and information sharing Competencies and capabilities development The Impact of Policymaking on the Journey of Fintech The development of the fintech ecosystem creates the need for each country to develop policies which will then define the journey that each fintech player will have to go through to survive and incorporate the benefits of the new technologies. Each country has its own strengths and weaknesses, and policymakers need to balance the benefits that are possible with the deployment of fintech and the challenges to incumbent players as a result. Challenges in the Fintech Journey There are three categories of challenges in developing a fintech ecosystem, as discussed in this section. Implementation of New Technology to Develop New Products and Services Deployment of New Products and Services within the Physical Ecosystem Speed of Adoption and Consumption of Fintech-based Products and Services Implementation of New Technology to Develop New Products and Services Financial institutions are constantly evolving and innovating in response to fintech developments. Against the backdrop of new technologies being developed by major technology players and fintech startups, legacy systems often hamper the adoption of these new technologies by financial institutions. Legacy systems that are being used as a source of revenue today could become obstacles when confronted with the blistering pace of innovations that financial institutions need to adopt and implement to stay competitive and relevant. Financial institutions need to reengineer their legacy systems to an open architecture and embrace open APIs as an integral part of their business strategy. These APIs can enable the financial institution to absorb new technologies more efficiently, as well as collaborate with external parties more readily. Another factor can be the lack of staff with the skill set to implement and support new technology. Addressing this issue requires the establishment of a new system for talent, based on training local professionals and attracting international talent. Deployment of New Products and Services within the Physical Ecosystem An underdeveloped physical infrastructure such as telecommunication network coverage, payment systems, a trusted customer identity source and customer credit data can affect the provision and deployment of new products and services. Government, in partnership with the industry, needs to play a leading role to invest, develop and implement the relevant physical infrastructure that can enable the digital economy Speed of Adoption and Consumption of Fintech-based Products and Services Although the use of fintech-based products and services is increasing among consumers, overall confidence and trust in Fintechs can be improved. Traditional financial institutions have garnered public confidence by allaying security issues and maintaining the confidentiality and privacy of customer data over time. The adoption of fintech-based products and services requires an intricate balance between strengthening security and transparency of these platforms and maintaining a great customer experience and convenience.