Does Financial regulation inhibit Innovation?

The Financial Sector in the UK is arguably the heart of the economy. In 2018 alone the financial sector contributed £132 billion to the UK economy, 6.9% of total economic output.

Undeniably there is no slow-down of the sector and it is currently the largest in London, where 49% of the sector’s output is generated, according to Research Briefings by Parliament.uk.

The Financial sector is dynamic and the factors that contribute to this are markets, competitors and customers.

So how can the Financial businesses ensure to stay abreast with the demands of the market?

 

Innovation, I hear you say.

 

Innovation can be driven by numerous factors. People tend to adopt technology when it yields higher results in an organisation.  An example of technology driving innovation was the ATM in the banking industry.

According to Harvard Business School, the supply side of innovation also impacts the financing of technological development. While other factors—such as the nature of commercialization environments and market structure dynamics—are also important, the weighting on the three factors covered here should be large in anyOn the other hand, we have innovation driven by aims at rearranging or creating new business processes for the better.

Our work on the UBS Future of Finance Challenge 2019, has allowed start-ups and growing companies to enter and flourish in expressing their Innovation solutions.

This is the beauty of open-innovation!

Innovations have given rise to new financial intermediaries such as venture capitalists and private equity firms, new types of instruments like collateralized/non-collateralized loan obligations and credit derivatives, new services or techniques such as e-trading. At their best, these creations can overcome a variety of risks in a global economy.

Last year, I had the pleasure of reading, Financing the Future; Market-Based Innovations for Growth, Franklin Allen and Glenn Yago where financial innovation was defined quite simply as the act of inventing and promoting the use of financial systems as well as adopting financial technologies, institutions, and markets.

 

The three main classifications of financial innovation include;

  1. Institution Innovation: This relates to the creation of new types of financial firms such as specialized institutions, the expansion of financial firms and internet banks. In the UK, these include the creation of the Fintech sector,  of specialized financial firms like the brokerage firms, microfinance companies, investment banks, etc. All of these were not available 20 years ago but have sprung up due to financial innovations which seek to serve customers well.
  2. Product Innovations: This relates to the creation of new products and the modernizing of others to meet current demand. In times past, we have moved and continue to move from bank current account, savings account, bonds, etc to derivatives, hedge funds, mutual funds, venture capital funds, crowdfunding, peer-to-peer, commodities trading, insurance, pension funds, etc.
  3. Process Innovations: Process innovation is not far different from classified financial innovations. It relates to the creation and streamlining of ways and means of doing financial business. Online banking, telephone banking, social media banking, virtual branch networks, etc are some of the modern process innovations.

There has been some dispute in the timeline of when the idea of financial innovations became prominent in the global business space, but in my opinion, these are futile discussions. I’m an avid believer that financial innovation has been in existence as long as knowledge has been in existence. The global financial business is where it is today because of the continuous innovations and a community open to the possibility of learning from failure.

What happens if innovation increase but there are no rules regulating it? In this time and age, financial regulators have a duty of keeping their regulations in sync with the continuous improvement in financial innovations. A good regulatory environment should be able to keep and make innovation thrive.

In the UK today, over 58,000 Banks and financial firms are regulated by the Financial Conduct Authority.  My open question to you is: Does Financial Regulation inhibit Financial Innovation?

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