Collaboration in Fintech Conference

This is a very timely conference – because everyone is talking about fintech. Many entrepreneurs are working on ideas to use technology to deliver financial services in different – often disruptive – ways to better meet the needs of customers.

Every day it seems that there are new ideas being developed and new fintech services coming to market.

Just in the past few weeks I have spoken with Chris Gilbert and Jonny Wilkinson of Equitise, a crowd sourced equity funding platform already operational in New Zealand; with Dan Bennett of OurCrowd, the Israeli-founded crowdsourcing platform which is in the Australian market targeting sophisticated investors; with Martin Dalgleish and Daniel Foggo of RateSetter, the peer to peer lending business, which launched locally in October 2014; and with Kelly Bayer Rosemarin of Commonwealth Bank who briefed me on the bank’s latest products including Daily IQ, an app which lets business customers get real time data on their iPad.

Let me say a bit more about peer-to-peer lending.

This is a classic example of what the economic textbooks call ‘disintermediation’ – rather than person A lending to a bank and person B borrowing from the bank, instead person A lends to person B and there is no need for the bank in its traditional intermediary role. 

Traditionally however it was impractical or very expensive for person A to find people who wanted to borrow money directly – and it was also risky because the person she found might be a poor credit risk.

The internet makes it possible at very low cost for person A to find someone wanting to borrow – and for person B to find someone wanting to lend.

It also makes it much easier for person A to learn about person B and make an assessment of that person’s likelihood of repaying the loan. In addition, as RateSetter explained to me, they have some clever tools to help manage risk, with borrowers paying a ‘Risk Assurance Charge’ into a ‘Provision Fund’ which exists to compensate lenders in the case of a default. The amount paid into the fund is determined by a number of factors, such as the borrower’s credit rating from independent credit reference agencies.

This is a powerful example of the way that digital technology and the internet makes it possible to develop completely new approaches to providing financial services. The notion of a lender and a borrower being matched directly, and transacting directly with each other, is fundamentally different from the traditional banking model.

Today I want to talk about the public policy importance of fintech, and deal with three aspects of this large and complex topic.

First, I want to highlight the significant opportunity this presents for Australia – and particularly our major financial centres.

Secondly, I want to touch on some of the policy challenges – particularly as we weigh up how to apply longstanding principles of investor protection.

Thirdly, I will discuss some aspects of the Abbott Government’s agenda to encourage the rise of fintech in Australia.

A Significant Opportunity for Australia

I want to turn first, then, to why fintech is a significant opportunity for Australia. There is no reason why we cannot have a world class fintech hub in Australia.

I was interested to see that KPMG, in a report commissioned by the Committee for Sydney, came to a similar conclusion. They found that that Sydney’s combination of a strong financial services sector coupled with a cluster of ICT/digital, creative and professional services industries put the city an ideal position to capitalise on the growth of fintech.[1]

However, the report also noted that fintech was an intensely competitive space, and that rather than ‘picking winners’ in the fintech industry, government should proactively seek to establish the right environment for entrepreneurs and innovators to flourish. [2]

Governments in the UK, New Zealand and many other countries have a clear focus on fintech – so we will need to work hard if Australia is to capture its fair share of the growth.

What then are some of the factors to support the view that Australia is a market which looks particularly promising for fintech applications?

Australians are early adopters of technology

First, Australians are well-known for being early adopters of technology.

We have one of the highest smartphone penetration rates in the world.[3] In May 2014, nearly three-quarters of Australian mobile phone owners had a smartphone, an increase of 8 per cent on 2013 figures.[4]

In turn, Australians are early adopters in using their smartphones for banking and payments. 41% of Australian smartphone users have gone online to make a purchase on their smartphone, with more than half of that figure doing so at least once a month.[5]

A good case study is the rapid adoption of paywave technology in Australia. Australians have responded enthusiastically to the convenience of being able to make a payment of up to $100 without having to key in a PIN, simply by waving a card over a reader.

There is a big pool of Australians with substantial financial services needs

If one factor is Australians’ propensity to adopt technology to meet our financial services needs, the second is the fact that by global standards our needs are significant.

According to global investment bank Credit Suisse, in 2014 Australia had the second highest average wealth per adult in the world – and the highest median wealth[6]. In that year we had a remarkable 1.25 million adults with investable wealth exceeding USD 1 million – more than there were in China, a country with a population more than 50 times bigger than Australia.[7]

With the sharp drop in the exchange rate since then, we will have slipped down the rankings – but it does not change the fact that this is a market where a lot of people hold substantial financial assets, and in turn have a need for financial services to manage and deal with those assets.

A key factor here is Australia’s superannuation system. Australia has a superannuation savings pool of $2 trillion.[8] There are around 100 million super transactions processed per year at a cost of over $3.5 billion.[9]

In addition, the fact that most superannuation accounts are defined contribution rather than defined benefit means that Australians need to concern themselves with issues like asset allocation. This increases the need for financial services and advice and creates opportunities for fintech applications.

We have a large and highly profitable financial services industry

A third factor which makes Australia an attractive market for disruptive fintech innovation is the fact that we have a large, and very profitable, financial services sector.  

Australia’s ‘big four’ banks are among the most profitable in the world. According to the Bank for International Settlements, the pre-tax earnings as a share of total assets for Australia’s major banks was 1.28 per cent in 2013. This was higher than any other developed nation. The BIS report also showed that the big four have bigger net interest margins than most banks of similar scale in other countries.[10]

We also have a high degree of concentration, with the big four having a large share of the total banking market, as well as the wealth management market.

Of course the high degree of concentration in Australian financial services can sometimes work to facilitate innovation. It means that key players in financial services can quickly come together when it comes to setting standards, allowing the more rapid introduction of new services than in larger and more diverse markets in other countries.

There are still some obvious areas of opportunity

Even at a cursory glance, there seem to be some obvious areas of opportunity for disruptive players to do things differently. 

Let me mention a couple. One is the extremely clunky way in which transactions are handled in the superannuation sector, with lots of paperwork still being physically moved about. Today the experience when you want to move a super balance from one fund to another is often not a good one.

It is true that there is now a new standardised electronic system being implemented to process superannuation transactions, called Superstream – but for many employers there will be no requirement to use it before 30 June 2016. [11]

A second area I would nominate is the very limited range of fixed interest investments available to most retail investors in Australia. It is much harder to buy retail fixed interest investments than it is equity. This asset class seems quite underdeveloped in Australia – as is clear if you look at the asset allocation statistics for self-managed superannuation funds, which hold low proportions of fixed interest. This does seem an obvious area for online market places to develop.

Strengths to Build On

A final factor which makes fintech a strong opportunity to build on is that we have a strong and well developed financial services sector.  We have seen this play out in other industries where Australia has substantial scale, such as resources. There has been a steady flow of businesses developing technologies to serve the resources sector in Australia – and then selling them around the world.  For example, Benthic Geotech grew out of work at Sydney University, developing an innovative small drill which operates on the ocean floor. The business is growing and now has operations based in Houston and Singapore serving the global resources industry. [12]

With four of the world’s largest and most profitable banks, and with the fourth largest retirement savings pool in the world, similarly the scale of the Australian financial services sector creates opportunities to develop technology which can be sold around the world.

Some of the Policy Challenges

I have argued that several factors create a big opportunity for fintech in Australia. Let me now turn to make the point that there are, nevertheless, some significant policy challenges to overcome. These arise principally because of the complex set of regulatory restrictions which exist when it comes to financial services.

Let me highlight just a few of them and their rationale:

- There are restrictions on who can take money on deposit from consumers – designed to protect Australians from depositing money with an entity which is not financially stable and subsequently collapses with the loss of depositors’ funds

- There are restrictions on who can offer financial advice – designed so that only those with appropriate skills and qualifications can advise Australian consumers on where to invest their money

- There are restrictions on how investment opportunities can be advertised – designed to ensure that all relevant information is provided so that investors can make a fully informed decision and understand the risks of the investment they are making

- There are restrictions on who can invest in particular kinds of companies, and on how many people can invest – again, intended so that companies which raise large amounts of money from the public must meet certain requirements including regularly publishing financial information so that investors can understand the financial position of the company.

These requirements have been built up over centuries and represent painfully accumulated wisdom from many financial collapses and disasters. But they also reflect a world in which information flowed much less readily and cheaply than, thanks to the internet, it flows today.

Australian regulators are doing a good job of adapting traditional regulatory requirements to new kinds of financial services enabled by technology, such as peer to peer lending. I have heard positive feedback from the leaders of such businesses about the flexible and responsive way that financial services regulators have responded to their proposition.

Peer to peer lending Australia occurs under existing regulatory arrangements, generally using a managed investment scheme (MIS) structure where the platform pools funds from lenders and lends them out to borrowers.

Nevertheless, the trade-offs in this area are complex – and naturally regulators and governments are concerned to protect, in particular, unsophisticated investors. 

A good example is that today the law in Australia restricts the use of crowdfunding to raise equity. To start with, a proprietary company is generally prohibited from making a public offer of its equity (subject to some exceptions, none of which are very helpful for crowdfunding). A public company, while free to raise equity, must meet expensive and time-consuming disclosure requirements (that is, issue a prospectus or offer information statement) and ongoing financial reporting requirements.

The policy issue is clear: does it make sense to relax the existing restrictions on businesses raising equity capital?

The rationale for such a relaxation would be to facilitate business tapping into new markets which are now springing up through the use of the internet: markets in which it is possible to publicise business opportunities to large numbers of people at low cost, and to collect relatively small amounts of capital from large numbers of people, again at low cost.

How is the desirability of facilitating such fundraising to be weighed up against the traditional ‘investor protection’ rationale for restrictions on companies raising equity capital, unless they meet specified disclosure requirements? That is an issue the Government will be working through in coming months.

The Abbott Government’s Agenda to Support Fintech

While it is important to recognise the policy challenges, they certainly are not insuperable. We need to find ways to protect unsophisticated investors, for example, while taking advantage of the internet’s capacity to facilitate rapid, efficient and low cost capital raising. 

As the Treasurer indicated on budget night, we are committed to doing this in the area of crowd-sourced equity funding. This follows a discussion paper we released on this topic in December last year, and we are now developing legislation with a view to introducing it into Parliament in the Spring sittings.

This forms part of the Abbott Government’s agenda to support fintech. In the remaining time, let me mention three other aspects of that agenda: an improved digital infrastructure; improved digital delivery of government services; and measures to encourage start up activity.

Improved Digital Infrastructure

If we are to realise the full potential of fintech innovation in Australia, it is critical that we have the sophisticated digital infrastructure over which such technology can operate.

Let me give one example, which has been raised with me several times recently when visiting country towns. Increasingly businesses everywhere are transitioning to using cloud based versions of accounting software such as Xero or MYOB – typically encouraged to do so by their accountant.

The benefits are very significant – much better and more timely management accounting information to help business owners manage their business. But in too many country towns at the moment the best broadband option is the Telstra 3G network – which is increasingly overloaded, making it difficult to use cloud-based accounting software. 

The Abbott Government is hard at work rolling out the national broadband network. We inherited a mismanaged mess from our predecessors in September 2013 – they had spent over $6 billion and yet the network at that time reached less than 3 per cent of all premises in Australia. Just last week we announced the network can now serve one million premises around Australia – and just in the last eleven weeks we connected more premises than in the first four years of operation under Labor[13].

Improved Digital Delivery of Government Services

Just as the financial sector is transforming, so too government at both federal and state level is embracing the opportunities provided by digital transformation – and this in turn can stimulate further fintech opportunities.

At a federal level, the Coalition Government’s goal is that by the end of 2017 all major services and interactions will be available to the public online, making government more accessible and more efficient.

A very important milestone in implementing our plan is the recently announced creation of the Digital Transformation Office (DTO.)

One obvious area with potential spill over benefits for fintech is DTO’s focus on solving the challenge of identity in a digital world. Enhanced digital identity processes improve efficiency and security across the digital economy.

We will invest $33.3 million in solutions which bring together private and public identity providers. This will include a voice biometric and a secure way for people to authorise others to act on their behalf with government.

Start Up Friendly Policies

Finally, start-up businesses in the fin tech sector will benefit from the Abbott government’s policies to boost the start-up sector.

Employee share schemes are vital for start-up businesses. The previous Labor government was hostile to employee share schemes; its tax settings made such schemes unattractive to offer or participate in.

The Coalition has a very different attitude. From July 1, there will be expanded tax concessions for employee share schemes to make it easier for small start-up companies to attract and retain the talent they need to grow.

We will allow start-up companies to immediately deduct professional expenses incurred when they begin a business, such as legal expenses on establishing a company, trust or partnership, rather than writing them off over five years. This will provide immediate cashflow benefits.

Start-up companies in the early stages of growth will face a lighter tax burden: for companies with an annual turnover of less than $2 million, the company tax rate will be cut by 1.5 percentage points to 28.5 per cent.

Start-ups will benefit from an important stimulus measure for businesses with an annual turnover below $2m: between now and 30 June 2017, any asset worth up to $20,000 purchased by a small business will be immed­iately deductible in full.

We have also made important changes to the Significant Investor Visa which are expected to stimulate new funding for start-up companies. SIV applicants are required to invest at least $5 million in complying investments – and from 1 July this year this must include at least $500,000 in eligible Australian venture capital or private equity funds investing in start-up and small private companies. 

Conclusion

Let me conclude then by noting that there is a palpable enthusiasm and energy concerning fintech.  It makes sense that this should be a strength for Australia, given the size of our financial services sector, our early-adopter mentality and some of the other factors I have mentioned.

While there are some careful judgements to be made in updating traditional financial services regulatory protections, these are judgements which other countries have made, when it comes to crowd sourced equity funding for example, and we similarly must be ready to do so.

There is a big prize here – not just in innovation which better meets the needs of Australian financial services consumers, but also in the scope to build new fintech businesses which serve not just the Australian market but which also take their technology and seek to serve world markets.

[1] Committee for Sydney “Unlocking the Potential: The Fin Tech Opportunity for Sydney” p6

[2] Ibid p7

[3] Google ‘Our Mobile Planet’ Report http://services.google.com/fh/files/misc/omp-2013-au-en.pdf

[4] ACMA Communications report 2013–14 series Report 1—Australians’ digital lives p6

[5] Google ‘Our Mobile Planet’ Report, Australia: http://services.google.com/fh/files/misc/omp-2013-au-en.pdf

[6] Credit Suisse Global Wealth Report 2014 p57

[7] Credit Suisse Global Wealth Report 2014 p25

[8] APRA, Quarterly Superannuation Performance, March 2015, http://www.apra.gov.au/Super/Publications/Pages/quarterly-superannuation-performance.aspx

[9] http://strongersuper.treasury.gov.au/content/Content.aspx?doc=publications/information_pack/superstream.htm

[10] “Big four on top of the world for profitability, says BIS”, Sydney Morning Herald, June 29, 2014 www.smh.com.au/business/big-four-on-top-of-the-world-for-profitability-says-bis-20140629-3b2c6.html

[11]https://www.ato.gov.au/Media-centre/Media-releases/SuperStream-contributions-ramping-up---employers-reminded-to-be-ready/ Large and medium employers (20+ employees) have to be compliant with the standards by 1 July 2015 – small employers will transition onto the standards between 1 July 2015 and 30 June 2016.

[12] Profile, Benthic, European Oil and Gas, Issue 105, www.benthic.com

[13] NBN weekly progress report http://www.nbnco.com.au/corporate-information/about-nbn-co/corporate-plan/weekly-progress-report.html