Disrupting the banking system

By Felix Salmon
March 16, 2011
panel yesterday on whether and how internet startups are disrupting the banking system.

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I enjoyed moderating my SXSW panel yesterday on whether and how Internet startups are disrupting the banking system. There was a good range of small, tech-savvy panelists, and they’re attacking the financial giants in very different ways.

Sean Harper from Fee Fighters has a website designed to make it much easier for merchants to get the best deal from their payments processor — his company doesn’t take any risks itself, and is essentially a merchant-friendly broker in an area which has historically been plagued with opacity. Noah Breslow from On Deck Capital takes credit risk: it’s an online small-business lender, which now has about $100 million in loans outstanding, and which has automated everything from origination and underwriting through to loan servicing. Shamir Karkal from Bank Simple is starting up a whole new retail-focused bank, which I’ve written a lot about in the past — but he doesn’t have his own banking license, instead choosing to use an already-existing bank to speed up the time to launch. Finally Suresh Ramamurthi actually went and bought a tiny bank in Kansas and is looking to discover from the inside how the deep plumbing of the banking system works in practice and how it can be improved. It’s a very long-term project, but it could be by far the most important of the four.

All four of these companies are doing very interesting things, and I’m sure the first three will take some small amount of market share from the big banks by offering friendlier, cheaper, and more efficient services. But my main question for the panel was whether they would actually change the financial system at all, or whether they will always be operating at the margins while the huge players continue to do what they’ve always done, and innovate on their own terms at at their own speed.

Certainly big banks and other financial players innovate slowly. They’re huge, and huge companies can’t be nimble. And they’re also hobbled by trying to combine lots of incompatible legacy systems from all the various smaller banks that they’ve bought over the years. But at the same time, the startups are never going to scale up to megabank size, no matter how attractive their value proposition is. They’ll do clever things with early adopters, and then eventually the big banks will follow suit, or else simply buy them. Huge banks don’t put much store in first-mover advantage: they’re happy letting startups do innovation and then copying what works. It’s certainly a lot easier than putting enormous amounts of money and effort into products like Virtual Wallet which have difficulty getting traction.

Banks also have to deal with vastly more regulatory oversight than startups. To a large degree startups perform the important role of being able to innovate in a largely unregulated environment, and create products which can then be tailored to meet regulators’ requirements. In that sense, it’s good news that the startups aren’t truly disruptive in the sense of replacing the old business models, because otherwise we’d be looking at something which was fundamentally a regulatory arbitrage and which would move even more of the banking system into the regulatory shadows.

And then, this morning, as SXSW Interactive was coming to an end, Visa made what could well turn out to be a truly game-changing announcement: it has built a system allowing individuals to transfer money directly to anybody with a Visa credit or debit card. You don’t even need their card number — an email address or phone number will suffice.

As far as I can tell, this service will only be available, in the first instance, to customers of banks who have signed up for it: you can’t just sign up for it yourself, on your own. But I can easily see it becoming the largest person-to-person payments system in the country. Does anyone have numbers on how many Americans have Visa cards of some description, versus how many have, say, a PayPal account? Systems like this don’t need to be first, or best. They just need to be big, and Visa’s great at being big.

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