Fintech and the Financial Ecosystem – Part One
The explosion of investment into the UK’s financial sector over the past few years has accelerated the digitalisation of finance. Here, we take a deeper dive into the UK’s financial ecosystem, the role that financial technology has to play, and what’s next in the evolution of fintech.
In its basic form, an ecosystem is a balanced network of interconnected organisms that interact with each other and their environment. In a natural ecosystem, the flow of energy is cyclical – grass photosynthesises energy from the sun, which is then grazed upon by herbivores. These are then fattened up until they are ready to be consumed by humans. Then finally, the humans toil and irrigate the land to grow more grass to support more livestock and the cycle repeats itself.
Financial ecosystems are much the same, except instead of being composed of living, breathing organisms, they are composed of interacting businesses – fintechs, financial institutions, regulators, governments, investors and talent institutions – everyone that shares an interest in advancing the financial services industry through technological innovation.
As the sun provides the energy to keep an ecosystem circulating, investment and revenue is what keeps the cash circulating in the financial ecosystem. Blogs can be (and are) written about all of the stakeholders in the financial ecosystem, but given that Clear Junction is a fintech company, it makes sense to look at them in more depth.
FINTECH FACTS AND FIGURES
According to KPMG, total UK fintech investment reached a massive $37.3 billion in 2021, up 700% from $5.2 billion in 2020. Encouragingly, the UK remains the most attractive location for fintech investment in Europe; as of 2019, there are over 1,600 fintech firms and that number is projected to double by 2030.
Not only is this very good for the overall future health of my savings account (theoretically, anyway), this investment is extremely positive for the overall health of the UK economy. Indeed, the sector contributes an estimated £11 billion and creates over 76,000 jobs for the UK economy.
TWO OUT OF THREE AIN’T BAD
At this point, you might have a few questions. What makes the UK fintech sector so strong? What makes it such an attractive investment area? Why didn’t the fellowship ride the eagles all the way to Mordor? I can explain the answers to two of those questions.
The government’s economics and finance ministry (known as the Treasury), releases an annual report on the state of the health of the financial sector, which outlines some key reasons the sector is so strong (or weak). They all bounce off each other to keep the sector thriving, but the most important ones that we are going to look at are regulation, talent pool and ecosystem density.
The first and most simple reason fintech is thriving in the UK is that there are a huge range of educated workers that businesses can try and entice to come work for them. For example, there are more than 350,000 software engineers in London alone, and the sector is full of independent bodies that work with the government and regulators to attract the best and brightest talent from across the world.
Then there are regulators. The UK’s legal framework for financial services regulation plays a major role in the UK’s attractiveness for businesses both small and global. With market-leading ideas such as regulatory sandboxes and open banking, the UK has long been a global leader in innovating regulatory frameworks.
THE IMPORTANCE OF ECOSYSTEM DENSITY
However, perhaps the most interesting reason for the UK’s history of financial sector success is the scale of the sector (also known as ecosystem density). The ecosystem is built on competition and collaboration between disruptive new fintechs (of which there are plenty) and incumbent financial institutions.
In general, the ecosystem grows on a balanced allocation of resources. Human capital, such as talent, needs to be supported with injections of monetary capital and the UK’s dense ecosystem has an abundance. Incumbents are often important contributors to the provision of talent and capital in ecosystems, but they also provide important resources to fintechs that they cannot get anywhere else.
While many fintech in the past have attempted to grow to the point of stealing market share away from traditional banks, many more are positioning themselves as potential partners. Fintech companies are mostly start-ups with limited access to resources and the fight for market share can defeat a viable product before it has a chance to reach the end customer. This makes partnering with an established bank an attractive proposition for a new fintech organisation. But why would a bank partner with a fintech rather than just develop their own new products and services?
THE BIG SHORT EFFECT ON FINTECH
As you might have heard, in 2008, a financial market crisis that had been building for years reached tipping point. There are two main relevant outcomes from this market crash for the explosion of fintech success in the years that followed. First, customers had their confidence in the traditional banking system shattered. Second, as a result of the crash, there was a severe increase in regulatory oversight, meaning that anything a bank had to do with risk or compliance suddenly cost a lot more.
Customers were demanding a new level of personalised banking experience – one that would repair their faith in the system, but incumbent banks were becoming increasingly restricted in the services they could offer.
Together, this created the perfect system for partnership between disruptive new fintechs and struggling incumbent banks. Fintechs are often not subject to the same regulatory burdens as banks, meaning they can develop products faster and more creatively. The innovation that a fintech can bring to the table is a perfect complement to budgets and user base that large financial institutions have. Technology, changing consumer demands and regulatory changes have levelled the playing field somewhat – and incentivised partnerships between banks and fintechs.
Ross Bowes is a guest contributor from Champion Communications