The global financial system is, and always has been, FLAWED. Here’s how it can be fixed.
Depending on whom you ask, you’re bound to hear two extremely different opinions about the global financial system.
A person with a job with stable income, a house, living comfortably somewhere in the Western hemisphere might boast of financial prosperity, unlimited opportunities, and stability.
Whereas, a farmer living in the remote regions of South Asia or Africa might complain about inequality, high costs of living, and barriers to entry.
If these contrasting opinions prove anything, it’s that the financial system isn’t inclusive of all. Stable or not, that’s a separate debate, but inclusiveness majorly lacks from the system. While the current financial system has weathered a few storms and has been comparatively a better choice than some of its predecessors or proposed systems, the time has come when it is beginning to show signs of crumbling.
The ongoing automation and technological revolution is perhaps the tipping point which will revamp the rotten old model, and help develop a new financial ecosystem that includes equality, inclusiveness, and progress for all.
Let’s talk about some major flaws of the current global financial system and how they are being addressed.
Unsettling financial literacy
Being literate and being financially literate are two entirely different things.
According to a survey, only one in four people can comprehend finance terms, even the most basic ones, and most of the financial literacy is concentrated in the advanced economies (figure below) which is evident from the skewed distribution of wealth around the globe.
The irony lies in the fact that we claim this age to be the one of advanced STEM (science, technology, engineering, mathematics) education, but still a large majority of the population is completely unaware of basic skills of personal finance management, working of financial markets, and investment options. This problem persists throughout the globe, as even in western schools, the kids are not trained on managing credit scores, saving the right amount of money, or forming good financial habits.
A lot still needs to be done on this front to increase awareness among the masses about the creation of wealth & their general financial well-being.
The traditional brick and mortar banks have always been the central point of access to the different financial services including wealth management, investing, bill payment, retirement planning, and more. However, with a burgeoning middle class in the developing nations and a rapidly growing population, the traditional banks have had difficulty in keeping up with this increasing demand and provide these services to all.
According to a survey, 1.7 Bn people all around the globe were unbanked and cut off from the mainstream financial system. On surveying these people, it was found out that there is a major lack of money and trust, high fees and other issues that keeps them from being included in the financial system. Financial exclusion is perhaps the biggest & most pressing issue facing the financial system. However, with the advent of alternative solutions like digital-only banks, this trend is shifting slowly. Fintech+Blockchain enabled digital services are slowly but surely removing the barriers that hinder inclusiveness by bringing this unbanked segment of the society towards financial inclusion.
The advent of cryptocurrency wallet development for creating fintech applications will solve this problem for the unbanked, driving financial inclusion. With P2P lending apps springing up, we can expect blockchain to solve this issue.
Slow transactions but high costs
Having access to financial services is definitely a part of the story, but it is JUST one part.
The other, also important, part of the story is the costs that come associated with conducting business with financial institutions or banks. Ideally, you’d expect storing and transferring money would be convenient, fast, and most of all, cheap, but the experience with current banks and global legacy systems tells a different story.
High costs of maintaining a bank account with even higher remittance fees is not the ideal definition of “convenience”. According to a report by the World Bank, the global remittance fees is higher than the UN Sustainable goal target of 3% and significantly higher than the G-20 objective of 5%. To add to this, there’s wastage of time, which is not only inconvenient but highly frustrating.
However, it is worth noting that the remittance fees have been steadily falling in recent years because of digitization of financial services and increased competition in that domain. No wonder that efficient and cost-effective Fintech providers are taking up the space of traditional banks and winning the trust of the users.
Also Read: Cost of making a Cryptocurrency Exchange
Lack of trust
According to a survey conducted on different sectors of the global economy, Financial Services is the least trusted sector by most people. To add to this, people generally have even lesser trust in their government, which completely withers away their confidence in the central banks, mainstream banks, and other legacy financial institutions.
This isn’t just tales, there’s an actual backdrop to this situation — the infamous financial meltdown of the recent times and perhaps second only to the Great Depression started in Sep. 2008 in the U.S. The biggest catalyst to this catastrophe was the mortgage that was doled out to people with questionable credit. This led to an unsustainable market bubble which ended up popping.
The complacency that emanated from the years of low inflation, high employment rates, and stable growth in the US brough financiers to lend recklessly. The US central bank (Federal Reserve) was in the picture all through the mess — before, during, and after. May 2000 to Dec. 2001 saw the easing cycle where interest rates dropped from 6% to 1.75% and created an influx of “easy money”. This easy money was capped on by greedy bankers and distributed among the masses.
The irony is that for the large part, the financial institutions haven’t really learnt a lesson from this mess, and have continued to conduct shady deals and overlooking internal and external controls. On the other hand, we have tech companies that hold the biggest trust of the consumers and is the primary reason that their indulgence with the financial sector has proven to be beneficial and extremely successful!
All-time rising inequality
In the global financial system, the rich keep getting richer while the poor get poorer. This has always been the case. To simplify this, the global wealth is in the hands of a very few people who have access to information, financial services, capital to invest, and varied financial opportunities.
While a large majority around the globe is still struggling to have 2-squared meals a day and make ends meet, and lives paycheck to paycheck with little money to spare, the creation of wealth is a far-fetched dream for them. Actually, the statistics in this regard are staggering with the top 1% of the wealthy controlling 47% of the global wealth.
Financial manipulation and censorship
In a centralized financial system, like the global system we have, the governments have all the power to manipulate it as per their wish. This can have devastating effects on not only the financial system but also on the lives of people. As an example, hyperinflation has wreaked havoc with the lives of the people and economy of the country Venezuela.
The government, while fighting international economic sanctions, began to devalue the currency which led to an uncontrollable hyperinflation crossing a staggering 2.5 million percent. This hyperinflation then resulted in a complete loss of trust in the country’s fiat currency, and caused a recession. As a result, people’s savings evaporated and crime rates increased because of a sky-high unemployment rate of 39% (IMF).
The governments can also use this centralized system to censor their citizens on the financial front. By freezing accounts, denying access to payment services, removing funds, etc., the government can cause a lot of headache for the citizens wanting to be a part of the financial system. In another desperate and centralized move, the Venezuelan government issued an Oil-backed digital currency (Petro) to be the equivalent of the national fiat currency. Even strict enforcement by the government to use Petro has not borne fruit as people continue to believe in and increasingly use the decentralized mainstream cryptos.
Also Read: Cryptocurrency Exchange Development
Alarming systemic risk
This one is last on the list, but is an equally strong drawback of the current financial system. The financial power is concentrated in the hands of a very few institutions like Central Banks, or other large institutions that are practically too big to fail. Again, going back to the example of the 2008 meltdown, the U.S government bailed out multiple big companies for billions of dollars as their fall would have had a ripple effect on the entire global financial system causing a catastrophe.
All these drawbacks and risks have been very well known and acknowledged, but no real alternative was found, and hence the world continued with the legacy systems. But, we’re already on the road to change.
Enough with pointing problems, let’s now look at how exactly can these problems be solved, and how technology can aid financial disruption.
The solution: Decentralized Finance (De-Fi)
Seeing that Blockchain is actually extremely good for the financial sector, many companies have started focusing on blockchain-based products and platforms. The primary aim behind this is to make financial services more accessible, especially on a global scale.
A De-Fi system, based on a public blockchain, would provide financial access to one and all, regardless of other, less important factors like status and location. As a result of this benefit, many startups have recognized the potential of open-source networks to decentralize economic activities.
Bitcoin, Ethereum, and other such blockchain-based networks can solve the legacy issues listed above, because of their permissionless nature. The underlying tech behind De-Fi — the blockchain — is inherently decentralized, permissionless, and transparent, and can, therefore, eliminate most of the legacy problems if given a chance.
Here’s what that precisely means:
– Blockchain is decentralized — all the records are kept scattered across thousands of devices, and not centralized to one financial institution/bank. There is no centralized body of authority that can control the blockchain network.
– Blockchain is permissionless — anyone in the world, from anywhere, belonging to any status, can connect to a blockchain network. On a global level, this kind of accessibility will surely solve the issues of inequality posed by the legacy financial system.
– Blockchain is transparent — all the records can be scrutinized by the public, and every information is transparent for participants to view.
One of the examples of a legacy financial company turning towards blockchain is Rainer AG. It is an independent asset management firm based out of Switzerland. They’ve been present in the financial sector for over three decades now, and have finally realized the importance of a shift towards newer technologies.
With the mission to ensure transparency and security for token holders and issuers, they’ve introduced a set of offers that include:
– An international STO exchange platform,
– A crypto trading platform, and
– A European electronic financial service that operates fiat and cryptocurrencies from a single account.
They’re also planning to collaborate with top companies to provide an ecosystem that fosters technological innovation, especially in the domain of financial products and services.
Just re-iteration — this is a three decades old company, and they’re embracing (and benefitting from) the powers of De-Fi and Blockchain.
Then why can’t the rest of the legacy institutions?
Well, they can!
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There’s no doubt that the centralized financial system has helped create opportunities and wealth for people who had access, knowledge, and connections in the system. But it has also created many issues like lack of inclusiveness, ostracized many others from the system, and more. But what’s done is done. Now is the time to look forwards, and correct the mistakes that were made in the past.
The good news, in that regard, is that with the proliferation of smartphones, internet access, and the development of decentralized technologies like Blockchain, the legacy financial system is surely getting a complete overhaul. A new financial ecosystem that is just, equitable, and accessible for all is slowly taking over for good!