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The Fintech Laboratory
The big questions that can only be answered in China.
There are some questions that can only be answered on a massive scale.
In physics, this is called Big Science, a trend that emerged after WWII as governments started funding large-scale projects focused on generating empirical evidence of theoretical scientific theories. Technologies like the Large Hadron Collider (LHC) — a 17 mile-long circular tube buried more than 500 feet below the border of France and Switzerland — have only been made possible by Big Science. And despite the cost (more than $5 billion and counting for the LHC), such technologies have allowed scientists to definitively answer hugely important questions that would otherwise be impossible to answer (like ‘why do particles have mass?’).
The Big Fintech Questions
The questions that we wrestle with in financial services aren’t nearly as weighty or maddeningly-hypothetical as those plaguing scientists. That said, we do have plenty of theories that have historically been difficult to prove.
Thankfully, in the same way that scientists have the LHC, fintech enthusiasts have China — a massive, technologically-advanced financial services market dominated by large incumbent banks and innovative technology companies competing within a comparatively permissive regulatory environment.
Put simply, China is an enormous fintech laboratory, where answers to the big questions in fintech are constantly (and sometimes disturbingly) being sought.
Here are a few of the most interesting questions (and my short and long interpretations of the answers…so far):
How would consumers’ attitudes and behaviors change if mobile (rather than cash and cards) was the most popular payment mechanism?
Short answer: Consumers would quickly become accustomed to the added convenience of mobile payments and would start expecting something even better.
Long Answer: Between January and October of 2017, $49.3 billion in mobile payment transactions were processed in the U.S. During that same period in China, $12.8 trillion in mobile payment transactions were processed. 90%+ of those Chinese transactions were processed by Alipay (owned by Alibaba) and WeChat Pay (owned by Tencent). Put another way, according to Brett King (@BrettKing) “Alipay and WeChat Pay now annually process more mobile payments than the world’s plastic cards”
Despite their success, Alipay and WeChat Pay aren’t resting on their laurels. Building on the growing ubiquity of facial recognition in China (which is being used for everything from government surveillance to dispensing toilet paper in public restrooms), both companies have introduced facial recognition technology that allows consumers to pay in stores with just their face. Alipay is especially bullish on the potential of the technology. It is planning to spend more than $400 million to subsidize merchants’ installation of the technology and provide rebates to shoppers who make purchases with it.
The companies’ intense focus on facial recognition payment technology appears warranted.
Wedome, a Chinese bakery chain, is using Alipay’s latest facial-identifying payment machines at more than 300 of its retail stores and in outlets without cashiers, where people can pick up cakes and breads from display shelves and check out items on their own. Hu Bo, Wedome’s chief information officer, says the facial-recognition payment machines have helped increase the efficiency of the chain’s human cashiers by more than 60%. At some stores, he says, more than 70% of customers are now choosing to pay by scanning their faces.
And maybe even necessary in order to keep up with the expectations of Chinese consumers, whose appetites for convenience (like consumers’ everywhere) appear insatiable.
Wang Haowei, a 19-year-old English major at a university in Hangzhou, says he likes to pay at convenience stores and vending machines on campus by scanning his face. “It is super convenient,” he says. And, since it works without a smartphone, he says, it eliminates worries about being unable to make a payment using a smartphone when the battery is low.
What would happen if large technology companies aggressively tried to disrupt every part of the financial services industry simultaneously?
Short answer: They would build super apps.
Long answer: Here’s a fun thought experiment. Try to guess how many different apps from U.S. companies you would need to mash together in order to approximate the functionality built into Alipay.
By my quick calculation, you would need approximately ten. (let’s count them up)
With Alipay, Chinese consumers can make payments in store and online (Apple Pay), place and track orders in Taobao and TMall (Amazon), view discounts and offers from thousands of retailers (Honey), send and receive money from friends (Venmo), pay bills (Prism), invest spare money in wealth management products (Robinhood), book air, rail, and movie tickets (Expedia & Fandango), order food from local restaurants (DoorDash), and summon a taxi (Uber).
And that’s underselling it because Alipay is one of several apps within the broader ecosystem created by Ant Financial (the parent company for all of Alibaba’s financial services offerings); which also includes online lending (Marcus), insurance (Oscar Health), small business lending (Kabbage), and credit score monitoring (Credit Karma…kind of…it’s a long story). Along with a range of other services that don’t have obvious equivalents in the U.S. yet (like a recently announced blockchain initiative that will enable donors to track how their donations are used by charities).
The playbook for Alipay (and WeChat and other aspiring super apps), as CB Insights helpfully outlined, is to create an ecosystem of interconnected services that is so comprehensive and convenient for its users that it continually attracts more users and third-party providers that want to serve them in a virtuous cycle.
As recently reported by the Wall Street Journal, Ant Financial’s flywheel is really beginning to spin — eight out of every ten Ant Financial customers use at least three of its five primary services and four out of every ten customers use all five.
How much faster could you drive financial inclusion if you could leverage all the assets of these technology companies (massive customer bases, scalable digital infrastructures, the ability to cross-subsidize new initiatives using existing profits, etc.)?
Short answer: A lot faster, but probably not without exacerbating concerns about consumers’ ability to handle debt.
Long answer: Only about a fifth of China’s population have credit cards (according to data from 2017). To address this problem (and further lock users into its ecosystem), Ant Financial created a microlending service called Huabei.
Ant’s credit lines are used by hundreds of millions of Chinese citizens to pay for groceries, restaurant checks, clothes and new iPhones from physical and online stores. More than half of Alipay’s 900 million users in China have opened Huabei accounts
Nearly half of Huabei’s users are under the age of 30…Most don’t have long credit histories and carry little cash around, preferring to use their mobile phones to make payments for everything from taxi fares to utility bills.
Most Huabei users borrow relatively small amounts of money, which has helped keep default rates low. The average outstanding balance on Huabei’s credit lines was less than 1,000 yuan ($142.10) as of early December
20% of Chinese consumers don’t have a basic bank account and 28% have to borrow from friends or family if they need emergency funds. To address these problems (and pull more users into its ecosystem) Tencent created a digital-only bank called WeBank, which has grown to serve over 100 million customers at an exceedingly low cost per account, as Chris Skinner (@Chris_Skinner) notes.
Most of the users are dealing with small amounts – the average loan is around RMB8,100 (USD$1,150) – and this means that the platform for WeBank has to be able to handle volume at low cost too…The average cost for a WeBank customer per account per year is just RMB3.6 (USD$0.50) to administer … compared to RMB20-100 (USD$3-15) a year for a traditional bank. The digital-first platform that WeBank has deployed is running at 20 percent to 95 percent lower cost to run than a traditional banks IT.
These initiatives obviously have a beneficial impact on financial inclusion, especially for younger and less wealthy Chinese consumers. However, there are also signs that the availability and convenience of these digital services may also be contributing to a new, more permissive attitude towards debt accumulation by Chinese consumers under the age of 30.
“For my parents’ generation, for them to get a decent job, a stable job, is good enough—and what they do is they save money, they buy houses and they raise kids,” she [Liu Biting, a 25-year old marketing professional in Shanghai] says. “We see money as a thing to be spent.”
A 2018 survey in China by Rong360, a loan recommendation website, found that around half of respondents who took out consumer loans were born after 1990. Most had borrowed from multiple lending platforms, the survey found, and nearly a third took out short-term loans to repay other debts. Nearly half of them had missed payments.
China’s former central banker Zhou Xiaochuan warned last November that the rise of fintech, while helping develop the consumer credit market, may “excessively induce” the younger generation to spend beyond its means.
Huabei is “truly addictive,” says Ms. Yang [a 22-year communications professional in Nanjing], “It gives me an illusion that I’m not really spending my own money.”
Your Mileage May Vary
The results from these ‘fintech experiments’ in China are fascinating and absolutely something that every financial services executive in North America and Europe should be paying attention to.
That said, as any scientist will tell you, the precise conditions of an experiment matter a great deal. And, to put it mildly, conditions in China are quite different than in the U.S., U.K., or other western countries with respect to privacy, regulation, and cultural norms.
As such, your mileage may vary.
Additional Reading (and Listening):
Looking for a more ‘on the ground’ perspective on fintech in China? I’d highly encourage you to read Jim Marous’s (@JimMarous) account of his recent visit to Shenzhen. His most recent Banking Transformed podcast episode featuring David Wallace (@davejvwallace) and Matt Dooley (@mattldooley) about their trip to China is also worth a listen.
And speaking of podcasts, if you missed season three of Rhetoriq titled “Red Envelope”, the podcast hosted by Arunkumar Krishnakumar (@Karunk), Bradley Leimer (@leimer), and Theodora Lau (@psb_dc), carve out some time for it. Great insights into fintech innovation across Asia, spread across 14 episodes.
Some fintech innovations are clearly good. Some are clearly bad. And some are just plain weird. Chinese P&C insurance provider ZhongAn is weird. It is one of an emerging class of digital-only insurance providers (in 2018, digital insurers in China represented about 5% of the overall insurance market) that sell some truly strange policies. These include an insurance policy for travelers whose flights get delayed, a policy for parents whose children go missing, and a policy for soccer fans who accidentally drink too much while watching the game and get alcohol poisoning (although this last one was discontinued and Chinese regulators have apparently warned insurers about offering overly “exotic” policies).
Hong Kong and Singapore are going to be fascinating test cases in the ongoing Bank vs. Big Tech battle. Both cities’ regulators have decided to open up their markets by granting a limited number of digital banking licenses to outside companies. Large Chinese companies, including Alibaba, Tencent, and Ping An Insurance, have jumped at the chance. Meanwhile, traditional banks in those markets (particularly HSBC and Standard Chartered in Hong Kong) have publicly pushed back on regulators’ plans while quietly upgrading their digital capabilities to prepare for the inevitable competition.
Which city is the world’s fintech capital? Brett King makes a persuasive case that it’s Shenzhen, China.