Is the end near for big banks ?

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In order to answer this question we clarify why we are even asking it. At the heart of every crisis lies a credit bubble. But why do bubbles form?

If you look at a chart of the S&P 500 historical values, you will certainly notice a trend that every 10 years there is a financial crisis. Bubbles should not occur if capital markets function the way they are described to function in textbooks, since prices of assets should always reflect true risk and rational expectations. After every bubble bursts, the first question always is why did everyone not realise there was a bubble? Perhaps too many people have a vested interest in the continuation of a bubble and therefore choose to ignore the signs. So there is definitely a cyclical feel to all of this. However, we can’t ignore how the banking sector has changed in the past 20 years and must also consider this into account. In the crash of 2008, big banks proved that they can’t be seen a growth sector any more.

Where do we go from here?

This only goes to prove furthermore that banks should probably be seen as a highly regulated public utility business. Many would argue that banks should return to their origins – acting as intermediaries – converting checking and saving deposits to consumer and commercial loans. That is a crucial public service – vital for keeping the economy healthy. That is the historic and fundamental role of banks. After securitization proved that moral hazard is a real risk for our economy, maybe it’s time that big banks return to their original role. The idea is definitely resurfacing, as the regulations serve as proof of this. However, we should also consider that if banks are to become “public utilities”, a term which is often synonymous with “natural monopoly”, there is a risk that big banks will cement their “too big to fail” narrative.

Are there any other alternatives?

Even if big banks don’t become “Public utilities”, they would still definitely have to change their business models to adapt to the new social, economic, regulatory and technological environment. This is where FinTech comes into the conversation. Financial Technology as it is called, represents the emerging financial services sector of the 21st century. Most big banks still use mainframe computers, which are reliable, but slow. That’s why in the U.S. transactions sometime take 3 days to process. Recently however, there have been a number of startup companies that have emerged on the market, that provide operational transactions at a very low cost. Other lending innovators enable users to bypass traditional intermediaries (banks) with a peer-to-peer lending platforms. Companies that offer financial planning and portfolio management have emerged as popular alternatives to traditional wealth managers – big part of the global banking conglomerates (like Citigroup for example) balance sheet. New financial startup companies are extracting the most profitable portions of the baking models, leaving banks struck with less profitable activities.

In order for big banks to survive, they must change their business model. Of course they are not doomed and the end of big banks is a bit exaggerated. They could still use their superior resources to buy up FinTech companies. FinTech companies have manage to acquire little over $12 billion dollars in venture capitalism for 2016, while 5 of the biggest banks in the world control assets of $15 trillion. FinTech companies look like peanuts compared to them. So the FinTech sector is still hardly making a dent. The bigger threat comes from companies like Amazon, Facebook and Ali Express, who have large databases of their clients. In order to price risk appropriately, banks should know their customers- how likely are they to default. This is where the information data bases that these relatively new big companies possess come into play. However, big banks still have the advantage, as they already have banking licences and can use depositor’s money to give out loans.

Nevertheless, new FinTech startups could serve as a wakeup call for big banks. The rise of this kind of companies gives big banks a very clear path to follow: Fewer physical branches, fewer staff, introducement of new technologies, which will result in easier transactions, integration of cloud computing and data storage into the system.

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