Banks & Digital Assets; Next Steps in FinTech Innovation (Jan 2023)

Dr. Mattia Rattaggi, Managing Partner of METI Advisory AG spoke at the Cryptosummit in Zürich on 16 Jan 2023, and at the World Innovation Economics, at the Davos WEF, on 18 Jan 2023.

His address at the Cryptosummit centred around the challenges and opportunities of digital assets implementation in banks. His remarks in Davos concerned Fintech innovation.

Amongst the key messages, were:

--> The burst of the ‘bad governance’ bubble, in 2022, has triggered a flight to quality and to regulated players by crypto-investors. Evidence of this flight has been disclosed by several regulated crypto financial service providers. This flight is expected to continue and become structural.

--> Nonetheless, and clearly quite distinct from the fluctuations of valuations, the development and adoption of fintech solutions and blockchain technology is continuing by and large unaffected. The expectation is for institutional adoption of digital assets to continue, as a consequence. Policy makers will hopefully avoid the trap of over-regulate the industry but finalising innovation-friendly regulation and enforcing it effectively.

--> Banks should adopt digital assets not to be too late in the game, and to keep relevance. Low hanging fruits include custody (tail wind from crypto meltdown), bankable Investment products, brokerage and WM services. Challenges for banks to embrace digital assets include developing the appropriate culture, acquiring the necessary know-how, procuring the relevant systems, adapting the processes, and implementing the correct regulatory & governance framework. Banks have to equip themselves to be able to interface with unregulated players.

--> But the biggest challenge for the foreseeable future will be triggering the demand. A lot is on the shoulders of crypto innovators and entrepreneurs. Their value propositions need to become clearer, including on the governance of projects and start-ups.

--> DeFi services, including collateralised lending, decentralised exchanges, derivatives and synthetics, AM, payments, and Yield farming, benefit financial market participants in terms of speed of execution and transaction costs. Amongst the challenges faced by banks to adopt DeFi solutions is the potential illicit use of those solutions and the lack of traditional regulatory safeguards for investor protection and market integrity.

--> For the adoption to take place, some ‘recentralisation’ of DeFi is warranted, at least to get some comfort from a regulatory and supervisory standpoint. Permissioned versions of DeFi applications with whitelisting of participants in a compliant manner. The use of stablecoins within DeFi protocols could arguably increase adoption of DeFi.

--> Taking a broader and longer term perspective, true Fintech innovation has come from outside the banks. This is no to suggest that banks have lacked innovation. New products came up as a consequence of quantitative finance (derivatives, portfolio management); new services came up as a consequence of technological innovation (automatic teller machines, online banking). But fundamentally you continue to pay too much and wait for too long to transfer money cross borde (taking an obvious illustration). And you continue to be subject to amazing deposit, terms and transactions fees, supposedly financing the operating costs of centralised operations.

--> Innovation within the banking sector has natural limits in terms of degree of disruption. Because banks are more or less big tanks, and it takes time to maneuver a tank. This is why disrupting Fintech innovation has come from outside the banks.

--> Blockchain technology came with bitcoin and was a major new technological advance, here to stay. Applications are mushrooming, along the cyclical path of excesses and corrections, typical of a new economy, as the industry becomes mature through clean up phases.

--> Regulators have praised this innovation and admitted the outdated state of cross border payments. The combination with AI and the eventual convergence with social media immersive virtual reality ecosystems will give rise to ubiquitous availability and use of metaverse along the current universe.

--> In sum, fintech has delivered a lot, both from within the banking sector and also in a crucial way for 10 years and going ff, from the non banking sector. The digitalisation movement will play out exponentially.

--> Entrepreneurial ideas abound, but 8 out of 10 suffer from bad design in one or more of the key elements such as market fit, time to market, strategic design, implementation plan, governance, funding, human resources.

--> Having a value proposition clearly articulated along the demand side and the supply side, as well as a pragmatic and realistic execution plan is crucial. Then you need an environment conducive and supportive of innovation. Switzerland has demonstrated to be a top destination for innovators. For a number of reasons including pragmatic regulation, stability and capital. Finally the economic cycle plays an important role when it comes to investors optimism and cost of funding.

--> To promote innovation, it is necessary to bring down the hurdles: Restoring trust in the current cycle, ensuring that innovative projects are soundly designed, designing an innovation friendly environment, and incentivising banks to innovate to transform their business models.