Wednesday, September 30, 2009

Financial innovation

Hi KL,
Robert Shiller wrote a column in the Financial Times (27 Sep 2009) with the above title.

The main thrust is that the source of this crisis lies in imperfect financial architecture, rather than over-complexity of products. We should recognise that increased complexity offers potential rewards as well as risks. Complexity is only problematic when used to obfuscate and deceive. Regulators beginning to actively discourage complexity are headed in wrong direction. Innovation in financial sector has to be upheld to improve our lives, the same as innovation in any other sectors. Thus regulators need to be given a stronger mandate and more qualified manpower to encourage innovation.

The conclusion is to use this crisis to promote innovation-enhancing financial regulation, not to let this be eclipsed by superficially popular issues.

Shiller's arguments appear sound to me. Innovation is the lifeblood of capitalism, driving productivity growth, and should be actively encouraged under proper regulation.

I am thinking perhaps it would help if you state your stand on this, so that people will not read you wrongly, or to quote you out of context. Are you in principle opposed to financial innovation (leading to increased complexity)? Or fundamentally it is the crooked salesforce to blame who exploited the complex products? Or we should point at the regulators? If regulation is perfect, there is no way a seller can cheat, and buyers are informed of all associated risks & rewards, do you think complex products are alright?

In your writings, you have recommended easy-to-understand products to men on the street - low cost with fair distribution of rewards. Your well-meaning intention is very clear, no doubt about this. Less clear is the driving principle: because you think financial innovation is bad, or you think the ethics of banks is very questionable, or you think the regulators will never catch up with the industry players' tricks etc. This is important because the proposed remedy will be different. If innovation is bad, we will ask regulators to ban/minimise creativity; if innovation is helpful but consumers are often poorly informed, we should push for better communication by sellers while retaining innovative drive; if regulators are themselves behind the curve and not equipped with necessary skills, we need to incentivise more talents to join them.

Hope to see a response. Thanks for your time!


I am against complex products that are designed to "cheat" the consumers and marketed under the name of "financial innovation". The main culprits are the financial engineers who design these products, although the people who sell these products have to share the blame for being greedy to earn the attractive commission. The regulators also failed in the duty by allowing these products to be sold.

There is a proper place for financial innovation, to keep up with the times and changing needs of society. For example, we have to innovate to provide a better system of financing health care. We need a better system to allow people to pay their mortgage installments in an environment of irregular employment.

It is better for the innovation has to be carried out as a joint effort by the industry, consumers and the regulators.

We will need a consumer protection agency that has the power to safeguard the interest of consumers. This function used to be performed by regulators, but they have neglected this function in recent years under the misguided strategy of "leave it to the market". This role has to be reinstated. America is addressing this issue now.

Tan Kin Lian


Tan Kin Lian said...

The basic products meet the needs of over 90% of the population. Special products may only be required for less than 10%.

We need to go back to basics, and offer the basic product on fair terms to meet the needs of the majority. It is wrong to offer complex, innovative products that are not needed by ordinary people.

Give them basic banking services, and a fair interest rate on their savings. Do not exploit them with low interest rate and ask them to buy financial products with high embedded charges and profit margin.

Anonymous said...

The products that are suitable for the rich are sold and peddled to the man in the street. Products like whole life and endowment can't help or elevate the poor in their financial life yet they are being dumped these products. Is it a wonder that Singaporeans are under insured? cannot retire? These products CANNOT do both. They are hopeless as a efficient protection instrument neither as a saving vehicle for retirement.
These products are avoided in other jurisdictions by consumers but are still aggressively pushed by the local insurers. Why?
There are no other means to fleece the consumers. The insurers have no qualms to peddle them so long they acheive their goals.
It is shameless, conscienceless that the insurers and their agents of evils are still prowling in the streets to seek victims for their scam products.

Anonymous said...

NTUCs new tagline is "people before profit'. it is right,. Without people how to have profit?.. their is commission before mission.
Don't be fooled. It is in their mutated DNA that commission motivated agents do their business.

Anonymous said...

Good call Mr Tan. Many in the financial sector are using "innovation" as an excuse for resisting more regulation. Innovation is only a tool and can be used to achieve both good and bad. Innovation can be used to reduce costs for consumers, as in the case of ETFs like STI ETF, but it can also be used to mask high costs and charges, as in the case of structured products like minibonds and complex insurance-sum-investment plans. It is unfair to expect mass consumers to dissect these products and understand what they should or should not be paying for. Unfortunately, the use of "innovation" to design complex products to mask the high costs to the layman and high margins for financial institutions appears more prevalent than using it to benfit mass consumers.

Anonymous said...

When Late Ong Teng Cheong was the Sec-Gen of NTUC, S$1 co-op share (Fairprice) become S$2 during his office.

After he passed away, the co-op spirit also gone forever.

TKL retired under new leadership of NTUC (world class talent)!

Now, a new member of NTUC can not buy more than $20 prescribed share.

New union member can not share better profit from Fairprice.

What is the differenct between co-op and capitalism?

If there is no difference,
public-listed all co-op.

Zhummmeng said...

What is innovation to the insurance companies?
It means
1.The product should have a lot of features that are linked to each other.
2. the product name should be exotic so client can have a feel good perception.
3. daringly call it revolutionary even it is not
4. use semantics to describe the benefits
5. emphasise the legally allowed plus points and complete silent on the downsides
What is behind it?
1. to make it complicated so customers will pretend to understand even they don't
2. to make customers feel it is a must have product
3. to confuse the customers with the nuances of words
4. customers onl;y have half truths
5. customers pressured.

Anonymous said...

The problem of complexity of financial product is that complexity is used to obfuscate and hide the product's true nature and its extremely high risk and not the complexity per se. I don't think people would against a product because of its complexity.

Innovation is a driving force to bring about value-added in all areas of activities. Structured product is not an innovative product as it did not create value. The value it created is bubble value and once it burst, the investor lose all his investment in the product which had no value.

In this respect, Mr Tan has correctly pointed out the regulator failed to perform the function expected from a regulator. It is hardly to believe that their head was so numb that they could not even sense the risk of the valueless product, of which every prospectus has to be checked by them for accuracy of information.

Blog Archive