In today’s episode of #FinTechInterviews we are pleased to host Paolo Sironi, one of the most respected FinTech experts worldwide. Paolo is the leader of Global Research for Banking and Financial Markets at IBM Institute of Business Value and an appraised financial writer. We are honored to have this chat with you, and we’re thrilled to learn from your outstanding expertise in the FinTech sector. What better way to strike up this conversation than by asking your opinion about current FinTech’s prospects?
How can FinTech bring clarity and transparency in the market? Is it already doing it properly or is there still room for improvement?
To digitalize finance, we first need to understand what it is and where its core values lie: only then we can turn the change into progress. For that to happen, we need to reconnect financial theory with the biological micro-foundation of financial markets: fundamental uncertainty and irreversible time. First, the structure of the financial market is, by its very nature, uncertain: although this uncertainty cannot be eliminated, we can learn how to deal with it by making it endogenous to the decision-making framework. Second, human life is characterized by time irreversibility which generates a need for purpose. With this in mind, we can move from the old theoretical system based on the assumption of a perfectly rational homo economicus to a new system based on the reasonability of homo sapiens, capable to make decisions under uncertainty. The wealth allocation framework allows to anchor decision making to goals (time component) and keep the framework open (uncertainty), as long as it is underpinned by robust agnostic and risk neutral simulations of future returns (free from self-referential estimates of the industry). As we can keep the framework open and human-based, this include individuals’ ambitions and their sense of purpose which can also go beyond finance. This brings me to my last point: this change in perspective (from rational assumptions to reasonable decisions) can happen only if we can incorporate the value of human relationships (where awareness of fundamental uncertainty and time irreversibility can be shared) and use technology to support the conversation. This is the key element to be digitalized, instead of financial products. The scope a financial services platform grounded in the theory and principles of Financial Market Transparency (FMT) should be to unlock financial consciousness, which is the individuals’ ability to shape their own financial outcomes. The role of transparency is to reveals the gap between homo economicus and homo sapiens, which consequently will lead agents and investors to be accountable for their actions.
So, why does academia continue to teach students the old model of finance?
Because it is difficult to change theoretical foundations, even if they are highly criticized. In addition to this, the old theory promises to predict the future, and this is reassuring to people even if the truth is much harder to digest, namely, that the only certain thing in finance is uncertainty. I still believe it is important to learn the old theory and to understand why it is not working, but afterwards we need to change it to make it work in real life. That is why the FMT is a positive theory: it moves beyond criticism and indicates a way forward that can be institutionalized in regulation and in a functioning business model.
Before, banking was about credit institutions, now, it is about intermediation. FinTech companies came to disintermediate the banking business to win the relationship with the customer. How and where exactly do you think it has started happening?
Digital disintermediation is not really happening the way many describe. The disrupted status of the banking industry did not happen because of technology, but as a consequence of the malfunctioning of the previous theory and the business model of reference which destroyed value. The reason why fintech innovation has still a long way to go to be turnkey is the lack of understanding of clients’ difficulty to be self-directed on transparent markets for the margins which are currently more relevant (investment management and insurance).
How can FinTech target a more prime segment? How can financial services be innovated when the services that are being offered are equivalent to those of the banks?
Fintech need to resolve the pull-push motivational gap. Basically, mobile technology is a technology of the demand (a pull mechanism) quick implies people know more or less what they are looking for. An example: people go on Amazon to by books. Instead, finance is a push mechanism, an offer-driven economy because of people difficulty to resolve the biological nature of information asymmetries.. This means that only those who are already motivated towards investing – because of knowledge or fear of missing out (FOMO) – might indulge in many of today’s fintech offers (e.g., robo-advisors, or P2P lending platforms). Otherwise, significant marketing money is needed to attract those who have not heard about FinTech companies and how they operate. Currently, the solution to the pull-push motivational gap can be found in a hybrid solution that uses technology to support the human relations that is otherwise expensive and not scalable in an environment of declining margins. How can competitor differentiate? Certainly, with transparency to generate trust and reach a more prime segment of clients, opening to stickier customer relationships in the future.
Do you believe that the changes in the macroeconomic area are more likely to come from a Tech company/established bank or from FinTech?
We are entering the fourth industrial revolution, which is about digital platforms operating in outcome economies, as opposed to linear business operating in outcome economies. This is a complex shift that requires a Copernican revolution of business logic and the usage of technology. It requires to understand since day one that no simple-minded startup can survive without a clear understanding to the oath towards platform economies. Bigtech firms have it “relatively easier” because they already operate like platforms, yet they might not understand the real foundations of finance which limits their capability to unlock real financial value.
How would you define a platform?
A platform is a venue that enables people to make value-generating interactions, subject to governance rules that allow them to completely trust processes. Platform theory and transparency-based governance are becoming paramount to help modern economies to box-out from existing conundrum. The economy is a platform, finance is a platform, politics is a platform, banking is a platform. We live in a platform of platforms. Understanding how transparency shapes the platform revolution will allow to reveal the invisible hand to build a more inclusive society, starting from banking and financial martlets through the positive theory of Financial Market Transparency.
If you look at the distribution of wealth in the1950s, the richest 0.01% of the US citizens owned 27% of US wealth, which is the same percentage owned by the bottom 90%. Capitalism was an inclusive platform because it was reducing inequality until the 1990s. In the 1990s, the richest 0.01% of the US citizens owned 13% of wealth, while the bottom 90% owned 35%. The middle class had grown.
In the 1980s, finance was internationalized, economies became more open and, since then, the world has changed. In 2018, we had the same inequality we had in the 1950s. Capitalism stopped being inclusive and started having negative effects. Paul Krugman, Nobel Prize winner, said that not only society is becoming less inclusive observing that Americans born in the 90s will likely make less money than their parents. Eventually, he said back then, this will lead to social tensions: Brexit is just an example.
To reverse the trend, the answer is rebasing the system on institutional transparency, which is the core principle of any sustainable platform. As the world becomes more complex, we need more transparency to understand the costs, the incentives, and the consequences of any actions. Without it, governments and banks do not work well, regulators cannot act in our interests and power gets locked into pockets of inefficiency that you cannot dismantle.
If you were to choose between a well-established company or bank and a FinTech, where would you go?
I would think of my professional life as Dante’s journey in the Divina Commedia.
I have been working in quantitative risk management for 15 years, so I was in hell lerning all the possible sins perpetrated on financial markets. I needed to redeem myself. Thus, I progressed, and I went to the purgatory of entrepreneurship as I founded my FinTech, which a few years later was bought by IBM. That is when I started working with the Heaven of artificial intelligence,.
But the, as it happened to Dante himself, my true discovery was the human being and that is reflected into my literature dealing with fundamental uncertainty and time irreversibility, which are the souce of the intensity of human consciousness and the real micro-foundations of financial markets (which is a produce of humans, would not exist in nature). That is really the foundation of everything.
What advice would you give to young finance and management students wishing to pursue a career in FinTech or financial services? If you were a student in 2021, what would you do?
Time is irreversible. Therefore, we must open our minds to the real problems of modern economies by learning financial modeling in a different way. Invest your time to learn how to use technology to interact with reality in different and unforeseen ways, and to open up new opportunities. Some of the biggest entrepreneurs did not know where they were headed, but they were open enough to see things where no one else was looking. Dig deeper, be open, and make it happens. But most of all, be humans!
Bocconi Students Fintech Society