Australia’s big four banks are the most profitable in the world. Last year they made A$27 billion in profit, up 9.5% on the previous year. Tech leaders in Australia say the financial industry is ripe for disruption by financial tech startups as well as the big tech companies like Google, Facebook, Apple and Amazon.
This warning has been echoed by the banks themselves, with their leaders constantly trying to downplay the massive profits by suggesting threats to their business are just around the corner. Certainly if you consider bank fees, it’s easy to see how companies could force more competition in the finance sector by undercutting the banks on transaction costs, especially those for electronic payments with credit and debit cards.
The problem here is that bank transaction costs for processing card payments are relatively low. When you look at companies like Square, an up-and-coming US tech company that provides credit card processing through mobile devices, the fees are actually higher. The issue with companies like Square is that they’re trying to compete with banks using an identical approach and it’s very hard to see how they can disrupt the incumbents on that basis.
The only way fees and transaction costs can be lowered is to cut out any middle men in the process and move to a peer-to-peer transaction system or cryptocurrency, the most notable of which is Bitcoin. Because the transaction can go directly between the buyer and seller, most, if not all, fees can be avoided.
Peer-to-peer finance systems are already established with a number peer-to-peer lending players in Australia.
The majority of bank revenue comes from income on lending. In Australia, 86% of bank revenue comes from income off loans compared to the 14% from fees and charges. The difference in the rates offered by banks to their borrowers and investors is as much as 10%. This is an obvious disadvantage to the lenders as well as the borrowers.
Peer-to-peer lenders put lenders of money directly together with borrowers through internet platforms such as Facebook. US-based Lending Club started as a Facebook application and attracted investment from Google that valued the company at US$1.6 billion. In Australia, Society One has developed its own platform for handling the mechanics of matching borrowers and lenders. Westpac invested A$5 million in Society One via its venture capital fund earlier this year.
When cryptocurrencies meet peer-to-peer lending
Of course, cryptocurrencies become ideal vehicles for peer-to-peer lending and there is a growing number of companies offering this service. OKCoin, China’s largest Bitcoin exchange has recently enabled customers to invest in funds that are effectively run on the back of peer-to-peer lending.
As a business, OKCoin has attracted investors both in China and from Silicon Valley. It joins other peer-to-peer Bitcoin lenders like BTCJam which offers loans at rates well below that of major banks.
Peer-to-peer lending and currencies come with a history of high volatility and risk, but they are a clear warning to the finance industry that it can’t afford to be complacent. The whole notion of peer-to-peer lending and currencies has been dubbed the “Internet of Money,” in parallel to the next big move in connected devices on the internet called the “Internet of Things” - based on devices communicating directly with each other and not through any intermediaries.
The reaction of the banks worldwide so far to the threat of peer-to-peer finance has been to try and hinder potential rivals’ progress by refusing to do business with companies that exchange cryptocurrencies. Australian bank NAB closed the accounts of several customers in the business of Bitcoin in April. This is by far the easiest strategy given their dominant position in the market and their general lack of interest in moving quickly on technological innovation.
How the peer-to-peer financial companies respond to work with or around the banks is going to be interesting to see. This is one of the things leaders in this space will be discussing at a conference on Bitcoin to be held in July in Melbourne. An event that the banks will presumably be watching closely.