New Money, New World

The coming shift to decentralised financial infrastructure

Decentralised financial services could be the basis for a new financial system that will supplant traditional financial services in Africa. There are many parallels with the “leapfrog” to mobile, and the path to this new reality is becoming clear. This is both threat and opportunity for incumbent banks and mobile money businesses.

You are probably familiar with the concept, or cliché, that Africa has leapfrogged straight to mobile without going through the fixed landline phase. My problem with this mental model has always been that the term ‘leapfrog’ seems to suggest that there is a natural path, and in Africa, we have skipped a few steps. The truth, I think, is that mobile is a different path altogether. There are still landlines in many parts of Africa, but they are disproportionately available to the wealthy and urbanised. Mobile telecoms grew up in parallel, on a different type of infrastructure and a different business model. While landlines still exist, particularly in the form of broadband fibre connections, mobile is now the dominant model in most of the continent. Mobile is also, of course, driving a whole new category of financial services: M-Pesa, MoMo and others. The next step in financial infrastructure will follow a similar pattern.

Just as with fixed telecoms, access to traditional banking is limited in Africa, and skews to the wealthy and urbanised. Just as with mobile, decentralised financial services offers an alternative that uses a different infrastructure and business model. Just as with mobile, decentralised financial services is positioned to grow faster and offer more than the incumbent model, and potentially take over for many use cases. The current version of mobile FS relies on existing bank infrastructure in the background; the next generation will have other options.

I have been carefully typing out “decentralised financial services” up until this point because the contraction - DeFi – has connotations of crazed degenerates winning and losing crypto fortunes on new coins and protocols. The DeFi we know, and some of us love, at the moment is one of the building blocks of DFS, but the key one is the infrastructure. It’s another mouthful to abbreviate: decentralised financial markets infrastructure: DFMI. This is the closest analogy to “mobile”, in that DFMI is the pipes and the model that enables DFS, and that will become invisible to the average consumer once the model becomes ubiquitous.

Banking as we know it requires a lot of plumbing in the background to make sure that money gets to the right place effectively. This includes the multitude of systems that the banks run, clearing houses, real time gross settlement, credit card rails, SWIFT, and so on. In the rise of blockchain networks, stablecoins and digital wallets, we can see the early forms of the infrastructure that will replace it. The legal core of the system – when things are finally done – is settlement on the real time gross settlement system, which in South Africa is called SAMOS. This is when formal legal settlement finally occurs. The equivalent in a DFMI world may be central bank digital currency – the cryptographic form of central bank money, or it may be the same RTGS system. It depends whether the CBDC exists or not, and although nearly 90% of central banks globally are experimenting with CBDC, very few have actually launched it. Even if this layer doesn’t exist, it doesn’t matter because there will be a stablecoin layer.

The stablecoin layer will be created by commercial banks, in a parallel to the way that they create money in the current system. These stablecoins can be backed 1 to 1 by commercial bank money, which will then settle on the RTGS system, giving it the same effect as if it went via a CBDC layer. We will probably end up with stablecoins issued by commercial banks in the same way that they issue commercial bank money, and most likely a dominant national level stablecoin per currency. These will exist on a national blockchain, making it simple for interactions to occur between the various types of coin. Individuals and businesses can hold digital wallets that connect to this blockchain and thus transact with the coins and tokens available.

As well as the infrastructure, the other enabler of this change is a shift in human behaviour. This typically takes longer than the technology, but the key thing is that it has already started. In Kenya, people are used to using an M-Pesa wallet; in Ghana, MTN’s MoMo dominates; in South Africa, we have our banking apps, SnapScan and so on. Everywhere you go, Apple Pay and Google / Samsung Pay are becoming more common. On top of this, we carry multiple forms of value in other phone apps from airlines, coffee chains, retailers, and others. The opportunity here is for someone to create a blockchain based wallet that enables access to decentralised FS. This also already exists – Metamask is probably the best-known example, but for connecting to DFMI the winner is not yet clear.

The contenders are apparent: the existing banks, mobile money providers and super app aspirants are all there. The challenge is to build a great and secure user experience. An entity that has already done the KYC on their customers has a head start, so banks and mobile money have that lead. The daily use, and hence ubiquity in people’s lives is another superpower. Here something like WhatsApp is winning and has already added payments functionality in some parts of the world. But there are other contenders too. One of the things that could drive uptake is the ability to interface to a broader blockchain ecosystem. As tokenisation and the use of blockchains proliferates, our digital wallets will be our identities, credentials, and a link to our social networks, as well as carrying many diverse forms of value. The ability to connect our financial selves to the internet is what web 3 is all about: bringing control and utility to our financial identity. Wallet providers will be facilitators of this, and not gatekeepers to the financial system.

To illustrate the difference between these worlds, let’s look at what happens when I buy something with my credit card in the shop:

Today it follows a convoluted route, along which everyone takes a small cut.

I have an account with a bank who issue me with a credit card; the shop has an account with another bank who issues them with a card machine. The connection between the bank who issues the card and the bank who issues the machine is done via the credit card networks, often involving other payment companies who may be aggregating transactions or pre-processing the payment message. The fees on the transaction are divvied up between all these banks and payment companies. The shop sets the price that I pay to include these fees.

Tomorrow with DFMI I just pay the shop.

Money goes from my wallet to the shop’s wallet. Yes, there may be an eventual settlement between the issuers of our wallets – maybe a bank and a telco – but this is the case already. The payment stage is radically simpler and therefore cheaper.

There are about 1 billion people in Africa without access to formal financial services. This blocks their ability to create wealth, and to participate in the economy. DFMI is the way that this market of consumers and producers will be unlocked in an inclusive financial system. Please get in touch if you’d like to know more about this topic, and the technology that enables DFMI.