In recent years, finance has taken alot of criticism. Witness the passionate but unfocused demands byOccupy Wall Street in 2011, the recent calls by presidentialcandidates to “break up the banks” and Brexit’s thumb in theeye of London financiers. As current as these events seem, historytells us that criticizing finance and seeking to control it is as oldas civilization itself. In the 24th century BCE SumerianKing Urukagina instituteda number of populist reforms in the city of Lagash, the first ofwhich was financial: he “ freed the inhabitantsofLagashfrom usury.”
It is no coincidence that 4,400 yearsago the world’s first cities had financiers. Financial tools servethe complex, inter-temporal needs of urban society. Our ambiguityabout finance – the need to reign it in, as well as the need toconstantly develop it – derives from its great power as atechnology. It is a constellation of tools, techniques andinstitutions that addressed the fundamental problems that emergedwith the increasing complexity of human society. As the worldchanges, finance adapts.
For example, even as we debate therelevance and usefulness of traditional financial institutions suchas banks, another revolution is underway in the world of money. Amere decade after we thought we had mastered the intricacies of assetsecuritization, shadow banking and credit default swaps, an entirelynew financial phenomenon has emerged. It is called FinTech – shortfor financial technology. FinTech involves the plumbing and wiringof the financial system. It is changing how we borrow, how wesave, how we raise money for companies even how we assess our future;its possibilities, risks and relationships.
Some of these innovations you mayalready know: PayPal, Bitcoin, Financial Engines, Kickstarter,Prosper.com and Venmo. They are apps, payment systems, crowdfundingvehicles and peer to peer lending sites. Their use has spreadrapidly along with other technological improvements in how we getthings done. However these companies are the tip of a very largeiceberg.
Many of the innovations in finance areburied in the complex, business to business infrastructure of theeconomy. These include new ways of detecting fraud, recordingtransactions, routing orders, valuing assets and even discoveringhidden patterns in big data; massaging the fast, continuous flow ofnews, trades, tweets, satellite images, and Facebook posts. Financial companies – from the big players like Goldman Sachs andBlackrock down to your local bank and financial advisor believeFinTech will fundamentally alter their businesses -- and they arerushing to get out ahead of competitors. This is because FinTechinnovation tends to disrupt the existing structure. Itdisintermediates customers and providers of financial services,replacing them with peer-to-peer lending, instant money transfers,loans without loan officers, and investment without investment banks. These innovations are transformative, empowering and create a newinfrastructure for exploring even greater opportunities but theythreaten the status quo in ways that the securitization wave of the2000’s never approached. Securitization mostly involved the samebig players that ruled the markets in prior decades. FinTech bringsa different cast of characters who are defining new communities ofinvestors, new sources of knowledge and unfortunately new kinds ofscams and risks. The top FinTech companies today include a lot ofnew names. How many of us have been following the likes of CreditKarma, Market Axcess, Square, Stripe and SoFi?
While it may seem new, the FinTechrevolution has actually been with us for a long, long time. Thefirst FinTech appeared 5,000 years ago with the invention of writingon clay tablets in the ancient Near East. The world’s firstwritten language – cuneiform – was invented for financialrecord-keeping, accounting and contracting. It arose in the firstbig cities in what is now Iraq. These urban societies had to solvecomplex economic problems such as feeding large populations,coordinating labor with specialized skills and trading greatdistances for essential commodities.
These problems required planning forthe future. The world’s first FinTech developed from an accountingand contracting system into a tool of sophisticated communication andanalysis precisely to address the complexities of a new way of living– cities in which it was impossible to know and trust everyone;where people had to rely on others for daily food supply, and wherethe specialization of tasks and trade all but eliminated thepossibility of self-sufficiency. Evidently, financial tools such asmoney lending also led to serious social tensions as well.Urukagina’s freeing of the people of Lagash from moneylenders mayhave been literal. Debt-slavery was common in ancient Mesopotamia.
The essence of finance is the transferof value through time and the re-organization of risk. Finance is atime machine – a tool of the fourth dimension. Large-scale urbansociety demanded new kinds of systems; not just canals, pottery andbronze weapons but ways to plan and contract for future needs, ameans of taxation and markets for goods and labor. The ancientMesopotamians invented tools for all of these things and more. Thetools of finance included writing, mathematics and money, what I callthe hardware of financial technology. It also demanded software –the abstract conceptualization of time and risk in forms that did notexist before. Financial thinking was an “add-on” mode ofthought that still feels a bit uncomfortable to many of us today.
Financial history over the 5,000 yearssince its invention tells us the how and why of FinTech revolutions. When society changes in fundamental ways its financialinfrastructure has to catch up. For example, the first stock marketwas the Amsterdam Exchange in the early 1600’s. Brokers tradedshares in the Dutch East India Company – a strikingly innovativebusiness that transformed the Netherlands into a global maritimeempire. The trade in its shares became a way for the Dutch tobroadly distribute the benefits of the new trade with Asia. Dutchsociety literally “bought-in” to globalization through ownershipand free exchange of claims on the new company. Within a century,this financial innovation spread through Europe and led to furtherFinTech innovations including, most famously the world’s firstglobal stock market crash. When technology changes, the consequencescan be dramatic, surprising and swift – and not always welcome. The first global stock market crash occurred in 1720 immediatelyafter a bout of speculative exuberance about trans-Atlantic trade. This episode is still a prime example of how financial dreams canactivate widespread human folly.
Despite such growing pains, FinTech hasadded much to society. Above all else, it has democratized capital. Absent finance, a person with a good idea and no money could notstart a business. A financial infrastructure that can channelinvestment from those with wealth to those with ideas solves thisproblem. In so doing it creates the conditions for dramatic economicgrowth. By the same token, the invention of investments like bonds,stocks and mutual funds allowed passive investors to earn and save. These new instruments yielded dividends that children or those whocannot work could rely on. They separated the capacity for work fromthe ability to support oneself. These same tools have become thefoundation for the world’s greatest – if unfinished – socialproject; the creation of pension systems to insure a humane economicfuture for all.
Sometimes FinTech takes one stepforward and two steps back. The recent transformation of the savingssystems to self-directed plans that demand that each of us calculatewhat we need to save and implement in our personal accounts is onesuch backward step. This great risk shift has put the burden offinancial management on families, and necessitated a profoundre-alignment of financial technology. The mutual fund sector –itself a wonderful financial innovation – grew astronomically inthe 1990’s with the demand for direct investment in moneymanagement and the awareness of diversification as an essential toolfor risk reduction. With this shift came a need to understand fees,oversight to prevent fraud, and access to financial information. Itis not clear all of us mastered this challenge equally well.
The Internet was always going to changethe way finance worked. It disintermediated traditional newsservices, it created information networks and new communities thatshare ideas. It created a new sense of fairness in terms of access toinformation. It changed the way services are marketed. As we speak,today’s FinTech lets me manage my retirement, pay my bills, mindrisks, find fleeting investments and labor opportunities, shop forproperty and get a mortgage all through my smartphone. Theimportant thing to realize is that FinTech is not really as new as wethink. Civilization constantly invents new financial infrastructureto keep up with society’s increasing complexity.
