One mouse click away from danger
How useful is financial innovation, what is the benefit for consumers and the role of regulation in that process? These were some of the questions raised by Andrew Palmer, finance editor at the Economist during a round table discussion at the 2nd Innovation Summit for Financial Services in Luxembourg, to panellists from Europe, North America and Asia.
Christian Bieck is Global Leader at the IBM Institute for Business Value. He says that when talking about the efficiency of financial innovation, most of it is happening behind the scenes. “A useful innovation is one that either reduces transaction cost or increase transparency. The fact that banks and insurance companies can deal with a mass of information is due to continuous innovation”. Anand Srinivasan, Associate Professor of Finance at the National University of Singapore, argued that the financial crisis is not just a story of bad lending; it is also a story of greed. “Innovation certainly did not cause the crisis, but it did made the crisis worse”, he stated. Camille Thommes, Director General at Alfi, the Association of the Luxembourg Fund Industry, remarked that the players of the European fund industry consider themselves as victims and not as culprits of the financial crisis. “There were no funds in Europe that had to be bailed out or needed state support”. He added that despite the crisis, there is an on-going push to innovate and to industrialise and standardise the processes. Christian Bieck said in a rather provocative way that we don’t need financial innovation but that we do need a system of financial service companies; which is to say banks and insurers that are efficient because of the wealth of the people in the world. “We need innovative financial institutions that are efficient enough to solve the problems”.
Patrick Wallerand is Director of International Programmes at ATTF, the Financial Technology Transfer Agency in Luxembourg. He stresses that if you look at financial services, they might not need to respond to the needs of society but they must help with solutions. In developing countries, for instance, access to financial services is an issue. “It can be a technology or service that doesn’t exist there. It is also important that financial services be handled with care. Too much of a good thing can be a bad thing. Commodities have their use for the market, but if these commodities are traded, 80% are traded by people that have never seen them physically; that does not make much sense for society”.
Christian Bieck reminded the audience that high rewards mean high risks and that there is no way around that fact, not even with the best product in the world. Camille Thommes concluded that even for known products such as the UCITS funds (Undertakings for Collective Investment in Transferable Securities), managers use derivatives. Apart from the fact that they can mitigate some risk, they also allow investors to have exposure to certain asset classes. “On the other hand, I am not sure that simple products are the solution. You might invest in a basket of securities or replicate an index; you might even run a higher risk than with derivatives”, he concluded.
Michael Araneta, Director, Consulting and Research at the IDC Financial Insights Singapore spoke from the Asian perspective about the various developments happening on his continent. “We see an ageing population in Japan, but also youth movements in markets like Vietnam and the Philippines. We also have health care and access to clean water issues. At the same time, we have probably bigger pollution problems than in the Western world. It might not be product innovation that solves these problems, but technological innovation, especially around the access to financial services”. He thinks that mobile as well as financial inclusion innovation is helping the population a lot. Although these might not be the most profitable areas, if they get into the banking system and earn more, they might scale up accordingly, he pondered.
The moderator asked Steven Gauthier, Vice-President of Corporate Development at the International Financial Centre Montreal, about Canada’s attitude when it comes to financial innovation and the fact that entrepreneurs do not consider Canada as the ideal environment to access capital. Mr Gautier agreed and spoke about slow innovation. “A company like Blackberry gets funds from private equity in the US and not in Canada. I don’t know if our approach is the right one. We are looking at London and New York for the best practices. But in some other fields we are at the forefront. We were the first in electronic exchange trade in 1978”,he explained.
Michael Araneta is confident that you can learn your lessons from a crisis, but that you need to go back to the basics. “We have learned from the crisis in Asia in 1998. That is why we have become very conservative and have kept a lot of capital after that. You have to make sure that you lend properly and that you keep the basic principles of lending to whomever can pay you back, while making sure that you keep your capital requirements as high as possible so that whenever something goes wrong, you can survive”.
Anand Srinivasan is not sure that innovation is helping the public. “A large percentage of the population still does not make good financial decisions; they make very simple cognitive errors and they are subject to boom and bust. The fact that you might be able to make decisions with the simple click of a mouse means that you are more likely to engage in such destructive behaviour. So freedom of choice doesn’t necessarily make the general population better off”. Camille Thommes added that it is also about financial education, which has a long way to go in school but also at the work place. Michael Araneta concluded that innovation is helpful up to a certain point, but then the regulator has to step in to protect the consumer. CW