There will be challenging conditions to navigate; however, this is the reality for all financial institutions, including big banks.
Following the steps of the US Fed Reserve, the Bank of England has increased the interest rate to 1.75%. Now at its highest level in 27 years, the move is part of the central bank’s strategy to curb spiraling inflation.
Yet the interest rate announcement was followed with a word of warning from the Governor of the Bank of England, Andrew Bailey, who acknowledged the economy is edging closer to a recession.
At a time when the private sector is striving to rebound from the COVID-19 pandemic, the announcement has been received with caution. Analysts are now considering how different sectors will perform in a recession, including FinTech.
Companies which drastically increased their workforce during the pandemic are now at risk of being overstaffed. Valuations could also be impacted, as well as long-term investment activity.
Given the relative infancy of FinTech as an industry, a recession could have significant implications. Would it finally halt the momentum that has been fuelling FinTech growth over the past decade, or will it instigate a new wave of innovation?
There is also a bigger question on market sentiment towards FinTech companies and big banks, and how both entities are positioned to support the needs of their customers during a recession.
The banking crash
FinTech was a product of a crisis. It arose out of necessity, reacting to an era when banks and major financial institutions were not able to meet new market conditions brought on by the global recession. Their complacency on legacy systems and resistance to innovation was a product of their industry monopoly – without any real challengers, there was little impetus to transform their ways of working.
The global recession changed all this. In the ensuing years, a surge of new institutions offering digitalised and sophisticated banking services led to the rise of the FinTech sector. Banks had been undermined by innovation, forcing them to transform how they operate and taking heed of the services provided by FinTech startups, including challenger banks.
Rising interest rates, spiralling inflation and market volatility have made the possibility of a recession all the more likely. What does this mean for FinTech? Based on history, there are two potential scenarios.
The first is the end of FinTech’s disruptive run. In short, a recession would be detrimental to FinTech startups, lacking the capital and assets of its banking competitors to withstand significant market pressures. Evidence of this scenario is reflected in recent company valuations and recruitment cuts.
Buy Now, Pay Later platform Klarna’s valuation plunged by 85% to $6.7 billion in July. More recently, trading platform Robinhood said it has cut just under a quarter of its staff, citing high inflation and the crypto market’s trading volatility.
The second scenario is more optimistic, and anticipates a repeat of the FinTech innovation on display in the years following the global financial crisis. As before, FinTech companies would take advantage of their agility and provide tailored products and services to support consumers, businesses and investors during the recession. At the same time, a new generation of FinTech companies could also be on the rise.
Investment activity into FinTech supports this projection. For example, in June, London FinTech SumUp raised a £507 million funding round that gives the company an enterprise value of €6.9 billion. Data from Innovation Finance also shows that UK FinTech investment grew to $9.1 billion in H1 2022, which represents a 24% increase on the figure recorded in the opening six months of 2021.
There is also a role to play for FinTech startups to play in supporting companies and individuals in dealing with the financial challenges brought on by a recession. As covered on BusinessCloud, Cleo raised £66 million in Series C funding in June to help support financial health and wellbeing of Gen Z.
Evidently, with a recession looming on the horizon, there will be challenging conditions to navigate. However, this is the reality for all financial institutions, including big banks.
Regardless of which scenario plays out, the fact is that FinTech companies will remain integral to the future of financial services, ensuring they can respond to the shifting needs of the market through the effective deployment of next-generation technology.
This article originally appeared on BusinessCloud.