Benefits of a Structured Non-banking System

The financial industry is the backbone of the economy. It acts as the glue between the different parts of the economy by posing as an intermediary between buyers and sellers or investors and entrepreneurs and businesses.

While the heart of the financial industry is composed of banks, the non-banking system is the body, a vibrant and indispensible set of companies handling critical products and services necessary for economic development.

This system includes insurance companies, consumer credit companies, money transfer and payment processing companies, venture capital funds, microloan organizations, stock and currency exchanges as well as investment vehicles such as mutual funds or private pension plans.

While customer protection is paramount in the banking system it is less so in its non-banking counterpart. The regulatory burden it is subject to is lighter and differs between jurisdictions. Less regulation gives way to potential fraud, solvency and liquidity risk and a risk of capital loss for customers but at the same time spurs innovation.

This is currently the case with the emergence of the blockchain industry and crypto-currencies such as Bitcoin, which offer a decentralized and pseudo-anonymous payment vector. Such crypto-currencies trade on unregulated exchanges some of which have been subject to fraud.

However a growing and innovative non-banking system facilitates access to financial services and positively affects economic growth. By competing with traditional banks it opened up financial services to the masses by lowering barriers to entry and cost. And by complementing them it created additional value.

A direct successor to banks, insurance companies have long provided protection against unexpected losses by pooling risk. Insurance brought financial security by sheltering the insured against the hazards of daily activities. The same way financial markets gave businesses the possibility to hedge risks associated with exchange rates, weather and others.

In terms of access to credit, consumer credit companies have provided an alternative to banks to finance domestic consumption. Similarly leasing companies have opened an additional channel for businesses to finance equipment purchases.

The payment processing industry has introduced new ways of dealing with money like credit cards rendering cashless operations more seamless. Paypal has popularized electronic payments and cheaper person-to-person money transfer and has simplified online sales for small businesses. More efficient payment processing made international trade a breeze.

Microloan organizations brought an opportunity to finance small business ventures to inhabitants without access to the traditional bank loan system in particular in rural areas and poor neighborhoods. These loans permitted the creation of economic value where none existed by enabling individuals to expand or create new economic activity.

On a larger scale venture capitalists have assisted entrepreneurs in transforming their ideas into multi-billion dollar companies such as Facebook, Snapchat, Twitter and others. The few places like Silicon Valley or Tel Aviv that boast a significant concentration of venture capital funds have become centers of technological innovation and job and wealth creation.

The advent of Mutual Funds and Exchange Traded Funds (ETFs) democratized access to the stock market for the uninitiated. They became a popular alternative to traditional savings accounts offering more returns and diversification. At the same time they helped develop financial markets by attracting larger volumes of capital from the smaller investors than was previously possible.

The growth of the non-banking system gives a chance to a larger pool of individuals and businesses to participate in and profit from economic growth. Additionally a strong and well-regulated non-banking system can act as a buffer to financial shocks and aid the economy recover faster afterwards. Innovation in this field continuously opens new ways of funding and investing to ultimately produce wealth.