How Technological Disruption is Only Strengthening Financial Intermediation

Intermediation is a fundamental fact of finance. Intermediaries like commercial banks, investment banks, stockbrokers, mutual funds, and stock exchanges form the fabric of modern finance. Despite all these financial links, entrepreneurs and innovators continue to endeavor towards the possibilities of fundamentally disrupting and disintermediating these existential financial ties with new financial technology.

In a new paper, Infinite Financial Intermediation, I offer studied commentary of those financial links and those disengaging endeavors. The paper presents an examination of the functional evolution of financial intermediation, explains the difficulties of true financial disintermediation by revealing the underappreciated links that remain when traditional links are decoupled, and highlights potential implications and recommendations arising from such a revelation.

The persistence of financial intermediation is not all that surprising when finance is thought of as a social-communications technology. At its roots, finance is a way for humans to convey their preferences to one another, to communicate with one another. Currencies, credits, and other forms of financial capital serve as tools for individuals and institutions to socialize with one another in the marketplace. Because the possibilities of human endeavors and interactions—in general, and in the marketplace—are boundless, the iterations of the intermediated financial arrangements that they utilize to socialize with one another are similarly infinite.

The financial network may be the preeminent go-between for financial processes—old and new—in today’s highly specialized, complex marketplace.

The prominent social theory of weak ties among humans offers an illuminating framework for examining the persistence of financial intermediation when considering the ties among institutions and individuals in finance. Mark Granovetter, the American sociologist, published a landmark paper in 1973, titled The Strength of Weak Ties. At its core, the idea of strength in weak ties argues that weak interpersonal ties could hold more social power than strong ties because strong ties tend to overlap in concentrated networks, while weaker ties tend to be more dispersed and expansive.

As applied to finance, the current financial landscape with its myriad of new and traditional intermediaries operates much like a social network with strong and weak ties that shares financial information and financial capital. Today, numerous financial participants and products coexist in an expansive global financial network that crosses institutions, industries, and instruments. Some intermediaries coexist in concentrated networks with strong ties; others coexist in dispersed networks with weaker ties, but all intermediaries are part of a larger financial network. For example, traditional intermediaries like large investment banks have strong ties to one another and weaker ties to newer intermediaries like Prosper and Wealthfront. Intermediaries linked by strong ties have more influence over one another relative to their influence over intermediaries linked by weak ties. Nonetheless, regardless of strong or weak ties, linked intermediaries are all interconnected in the larger financial network. As such, what happens to one intermediary can impact all other intermediaries in the network.

In the modern marketplace, the financial network itself may be the ultimate intermediary. The financial network may be the preeminent go-between for financial processes—old and new—in today’s highly specialized, complex marketplace. Apple Pay is possible because Apple is able to link itself to the current network of intermediaries that make up the traditional credit card processing industry. Venmo, the mobile money transfer system, is possible because it is able to graft itself onto the preexisting network of intermediaries that make up the traditional money-transferring process. And the same can be said of many other intermediaries. Furthermore, as more parties become part of the financial network, it will become more valuable and important. The financial network is essentially like an expansive and expanding system of waterworks that makes the flow of financial capital and financial information from one financial intermediary to another possible in the marketplace. In the end, just as humans are tied in a social network of mutuality, the fruits of their efforts—their capital—are similarly bound in an infinitely intermediated network of finance.

You can download Infinite Financial Intermediation here.


Leave a Comment