AMSE | Aix-Marseille School of Economics
Marseille, 11 December 2018
Speech by Denis Beau
First Deputy Governor
"Trends in financial intermediation and implications for the regulation and
supervision of the European financial sector"
Ladies and Gentlemen, dear students,
It's a pleasure to be at the
Aix-Marseille School of Economics today to discuss the trends
affecting a key channel of the financing of the real economy: financial intermediation. This
topic is well chosen the year of the tenth anniversary of both Lehman bankruptcy and
Nakamoto's paper underlying the Bitcoin. This is not just a coincidence. For
crypto-assets'
proponents, the "old world" of
bank-centric financial intermediation failed in 2008 and had to
be replaced by disintermediated peer-to-peer systems like Bitcoin.
Where do we stand now?
Central bankers, regulators and supervisors have worked to strengthen the traditional bank
centric model of intermediation, and the highly intensive finalisation of Basel III has
concluded ten years of regulatory efforts in that field. Banks are stronger and more resilient
than before 2008. At the same time, quite ironically, the Bitcoin itself has generated the
biggest bubble ever, which is now bursting.
So, in 2018, are there new developments in financial intermediation?
Yes, indeed. A number of factors contribute to push the European bank-centric model
towards a more diversified, unbundled financial intermediation model. Hence, I will focus the
first part of my presentation on those drivers and their impact on financial intermediation (I). I
will then highlight the financial risks that go hand-in-hand with the changes underway (II).
Finally, I would like to emphasise that a safe move towards a more diversified intermediation
model as we see it developing cannot be achieved without further financial integration at
European level. To that end, advancing the European regulatory agenda is of prime
importance (III).
1. From bank-centric financial intermediation towards unbundled financial
intermediation in the digital era
To date, in Europe, we have been accustomed to a bank-centric intermediation model.
However, this model is being increasingly challenged by new players emerging in the digital
era, the so-called Fintechs and Bigtechs, as well as by the growing weight of the asset
management industry. We thus need to prepare to new intermediation models, which can be
classified in four categories:
-
The traditional banking intermediation model for certain financial services, like
mortgages;
- financial intermediation model (formerly known as "shadow banking")
A non-bank
performed by the asset management industry, to finance in particular the corporate
sector;
-
A re-intermediated model, in which Fintechs and Bigtechs intermediate the banks, on the
retail segment in particular;
-
And a fully disintermediated model supported by the blockchain and the peer-to-peer
economies.
Let me first discuss the new models stemming from the digital era (A) and I'll come back
afterwards to asset management (B).
(A) The digitalisation of finance is prospering thanks to cutting-edge technologies (big data
analytics, cloud computing, artificial intelligence and blockchain) that beyond the promise of
better consumer experiences is lowering the entry barriers to the financial sector for new
players, the tech firms, and make it possible to unbundle financial services into an array of
distinct core functions such as channelling payments and money, providing financing, sharing
risk, and allocating capital.
Balance-sheet-light payment services have so far been the main gateway to the financial
sector for tech firms, but after doing so tech firms may then expand their business further
along the value chain, from payment to retail and commercial banking, wealth management
and insurance.
Among these tech firms, the Fintechs and the Bigtechs will have a different impact on
financial intermediation.
Fintech startups have already been a game changer in the financial sector: they have
imported from the internet industry a customer-centric culture into the financial sector and
they have targeted and called into question many of the long-standing financial rents.
However, Fintech start-ups do not have the capital resources to disrupt incumbent
banks and their future role is likely to be shaped by two main alternatives: to be acquired by
an incumbent bank or to compete on niche segments such as equity crowdfunding or market
place lending.
It could be different with Bigtechs. The market capitalisation of the GAFA companies -
Google, Amazon, Facebook, Apple- is 25 times higher than that of the whole Fintech
universe. Bigtechs already have a material footprint in financial services, and not least
in payment services: Amazon Pay operates in 10 countries, Google Pay in 22 countries and
Apple Pay in 25 countries. Facebook Messenger allows peer-to-peer payments in 3 countries
and a Facebook wallet is reportedly in preparation.
Moreover, Bigtechs like the GAFA companies have competitive advantages in terms of
expanding their activities further in this area, including massive financial resources to strong
brand recognition, a worldwide customer base and privileged access to cutting edge
technologies.
Therefore, Bigtechs more than Fintechs have the potential to fundamentally redefine financial
intermediation: not to recreate the universal banking model, but rather to integrate the
entire landscape of financial services into their own digital ecosystems. This does not
mean that banks will be disintermediated; but rather that banks may be interfaced by
Bigtechs' platforms. Such a move is already gaining considerable traction in China.
So, to conclude on the new players emerging in the digital era and their impact on
financial intermediation, digital finance may not lead to a more decentralised system
as the centripetal forces of network effects may benefit large conglomerates the most.
Rather than eliminating intermediation, if left on its own, digital finance will more likely
lead to reshuffling the cards, with the most digitally-agile incumbents and the most
financially-able challengers becoming the new dominant (and potentially systemic)
intermediaries.
(B) Beyond native digital intermediaries, we have also witnessed the steady growth of the
asset management industry in the wake of the great financial crisis.
The asset management industry plays a key role in the economy by channelling savings
towards investment, both for companies' and governments' capital needs. In other words,
asset managers play an important intermediary role in the financial system.
In 2008, assets in the fund industry amounted to about EUR 13 trillion. Ten years later, the
outstanding amount of assets is more than 3 times higher at EUR 42 trillion. Half is located in
the United States and about 35% in Europe.1
The asset management sector is the largest component of non-bank financial intermediation
defined by the Financial Stability Board as
"credit intermediation involving entities and
1
Sources : EFAMA, International Statistical reports
It's true that in many respects, investment
activities outside the regular banking system".
financing activities: they don't collect deposits but they do collect funds,
funds have bank-like
they carry out liquidity and/or maturity transformation and, in certain cases, they perform their
intermediation with leverage. And like banks, more than two-thirds of investment funds (in
asset value) are susceptible to runs.2
I would like to conclude this first part of my speech by some anecdotal evidence showing
how the traditional bank-centric intermediation model is shrinking, while a more
diversified intermediation model is gaining traction:
-
in 2010, 60% of the new leveraged loans (that is, loans made to indebted corporates)
were granted by banks in Europe;
-
in 2018, 69% of the new leverage loans were granted, not by banks, but by asset
managers.
A more diversified financial intermediation model, with new players, Fintechs but
above all Bigtechs and Asset Managers, is welcome in that it will bring more sources
of financing for the real economy. This nevertheless raises a big issue: they are
performing bank-like activities without being regulated in the same way as banks.
Beyond unlevel playing field considerations, this situation could have major financial stability
implications.
2- Old issues, and new ones that need to be addressed by regulators and supervisors
This leads me to my second point. The move from a bank-centric intermediation model
toward new unbundled financial intermediation models performed by multiple players does
not eliminate the need for central bankers (fortunately!) and regulators. But it does force us to
revisit old questions (A) and to address new ones (B).
(A) I would like to highlight three of the old issues we must revisit.
Just as an example, the use of
First, the question of the scope of financial regulation.
the public cloud is becoming mainstream for performing core banking operations. Fintechs
and Bigtechs have adopted a strategy of "all in". Incumbents are also migrating, although
more cautiously, to the public cloud. However, the cloud computing market is highly
concentrated and Amazon Web Services has built a dominant position. As the core
2
Sources: FSB, Global Monitoring Report on NBFI 2017
financial functions lift and shift to the cloud, the risk of a single point of failure will
emerge, and yet, cloud providers are unregulated and to a large extent out of the
reach of supervisors.
Second, the question of conduct. Our regulation deems certain practices acceptable and
others not. Technological developments are making it possible to use information that was
previously out of reach of a financial intermediary. This could potentially allow a more
accurate assessment of risk or a more "responsive" pricing of
service. But what is possible
- to take one example, the current development of "social
may not be (socially) acceptable
network informed credit scores" raises questions when privacy concerns or discriminatory
bias are at stake.
Third, the question of anti-money laundering and counter-terrorist financing. Consider,
for instance, crypto-assets: the pseudo-anonymity of Bitcoin and altcoin has facilitated the
laundering of money stemming from illegal activities such as drug transactions or tax
evasion. Not surprisingly, the sharpest decline in Bitcoin prices thus far happened in 2013
when the infamous darknet marketplace, The Silk Road, was shut down by the FBI.
(B) Let me now turn to new risks which are non-financial in nature but closely intertwined
merit central banks' scrutiny.
with the digitalisation of finance. Three in particular
First, the question of strategic independence of incumbent banks. If incumbents depend
on Bigtechs for key infrastructure such as cloud computing, if they rely on the same Bigtech
to distribute their products through their platforms and then compete with Bigtechs on certain
segments, they see their strategic independence challenged in the same way as hotels and
retailers did. This process of commoditisation of incumbents may lower credit standards to
compensate for higher pressure on margins and exacerbate their funding gap because of
lower customer stickiness.
Second, the question of cyber-risk. With greater interconnections between technologies
and the financial system, the Banque de France observed in its Financial Stability Report of
December 2017 that cyber-risk is moving from an idiosyncratic risk to a potential source of
systemic risk which need to be addressed. This perspective is widely shared among public
and private decision markers and it should not come as a surprise that cyber-security will be
one of the priorities of the French presidency of the G7 next year.
Third, the question of market structure and private monopolies, in particular as regards
clearing services. In Europe, this topic has a specific dimension that results from the Brexit
outlook. The clearing of interest rate derivatives deserves in particular attention since the UK
clearing houses have a virtual monopoly in the sector. Beyond handling transition issues in
"hard Brexit" must ensure that critical key players do not become "too big
case of a we
to
fail". Of course, by its very nature clearing is an activity that generates major economies
of scale, and thus encourages concentration. But greater competition is absolutely necessary
to stimulate financial innovation. In addition, it translates in a market structure that is more
attractive from a financial stability perspective and easier to oversee from a supervisory
standpoint.
So, to conclude my second point, the completion of the regulatory decade to strengthen
end of the story; it's just the end of the beginning.
banking financial intermediation is not the
The transformation of financial intermediation is full of opportunities but it also highlights the
limitations of sectoral and entity-based regulations and the need to adapt regulation and
supervision to a morphing financial intermediation. To manage the financial stability risks
stemming from an unbundled financial intermediation model, what we need is to
develop:
- First, well-articulated and complementary regulation and supervision going from micro-
prudential to macro-prudential, from prudential to consumer protection, anti-money
laundering, data protection and anti-trust laws;
- Secondly, a technology-neutral stance, which accommodates Fintech innovation while
preserving financial stability; and
- Thirdly, an activity-based regulation and supervision, to ensure a level playing field
between all entities pursuing the same financial activity.
3- The need to advance the European regulatory agenda to support a more diversified
and integrated intermediation model
-
All these new trends in financial intermediation digitalisation, non-bank financial
-
intermediation, Brexit plead for advancing the European agenda to support a more
diversified and integrated intermediation model. At the same time, these changes
represent an incredible opportunity to restructure the European financial system in order to
unleash growth and innovation.
Steps towards a more integrated financial system at European level have already been taken
since the crisis, with the Banking Union and the Capital Markets Union projects. These
projects need to be further developed and implemented.
The Banking Union, which was set up to put an end to the link between sovereign risk and
banking risk, is now operational. What remains to be done in order to finalise it includes
completing the resolution pillar by implementing a backstop and adopting a common
framework to enhance the provision of liquidity and putting in place a European deposit
insurance scheme. Finalising the Banking Union is of prime importance for the development
of pan-European banks, and will make it possible to achieve a better balance of risks,
economies of scale, a better allocation of savings towards productive investments and
increased competitiveness of European banks at the international level.
The other major initiative at the European level to strengthen financial integration is the
Capital Markets Union project which aims to boost investment in the EU. Speeding up this
Union will not only foster growth but will also enhance risk-sharing across European
countries and mitigate the procyclicality of bank financing. We, at the Banque of France,
support in particular three initiatives which should have a decisive impact on cross-border
investment: First, the harmonisation of the insolvency procedures framework and its
implementation by companies to promote investment in equity across Europe. Second, the
individual retirement savings products to increase workers'
development of pan-European
mobility and offer a new source of long-term financing for European companies. Third, the
reinforcement of ESMA which is necessary to supervise capital markets in a harmonised
way, while duly involving national authorities when appropriate.
Completing the Banking Union and accelerating the Capital Markets Union will therefore be
essential in order to lay the basis for a sound, diversified and integrated financial
intermediation. Yet, we should go even further and achieve a real "financial Eurosystem",
made up of stronger and pan-European financial institutions and shared market
infrastructures. Brexit, in this sense, represents an opportunity. Let's be clear: there will not
be a single City for the continent, but rather an integrated polycentric network of financial
centres, with specialisations based on areas of expertise.
Our ability to adequately regulate and supervise these changes in financial intermediation will
be determinant for growth and innovation. Europe must effectively transform its own savings,
in order to enhance its ability to finance the real economy. This is what Governor Villeroy de
Galhau calls the Financing Union for Investment and Innovation. This involves better steering
the euro area's abundant savings to absorb shocks within the euro area more effectively and
to meet investment and innovation needs in fields such as digital technology, energy
transition and the equity financing of SMEs.
I would like to conclude my speech by quoting Bill Gates:
"We always overestimate the change that will occur in the next two years and underestimate
change that will occur in the next ten. Don't let yourself be lulled into inaction".3
the
The Banque de France tries to heed this warning. Although we do belong to the (very) "old
world" -
the Banque de France was created more than 200 years ago by Napoléon -, as any
incumbent, we need to adjust and adapt to the "new world". In order to do so:

we have adapted our organisation and governance with the creation of a Fintech hub
within our supervisory function (which has supported more than 300 Fintechs), the
appointments of a Chief Digital Officer and a Chief Data Officer, and the launch of a
Lab to foster innovation within the Banque.

We experiment with new technologies: the Banque de France was the first central bank
to implement a full-scale project based on DLT which is fully operational4 and we
successfully run eight artificial intelligence projects.

We also host discussions between regulators, academics and the industry: the latest
working group on artificial intelligence will deliver its conclusion by end of this year.
But this call for action is addressed to everyone, and especially to you, the next generation.
As students at the AMSE and as future economists, analysts and researchers, you will have
a big role to play to ensure that, irrespective of the big changes to come in tomorrow's
financial intermediation, our compass continues to point toward the common good of
financial stability.
3
The Road ahead, 1995
4
Madre