Stan Wallis: Address to the ASC Electronic Commerce Conference, Sydney, 5 th February 1997.
ADDRESS BY STAN WALLIS
CHAIRMAN OF FINANCIAL SYSTEM INQUIRY
TO
ASC ELECTRONIC COMMERCE CONFERENCE
SYDNEY 5 FEBRUARY 1997
“THE IMPACT OF E-COMMERCE ON THE FINANCIAL
SERVICES INDUSTRY AND THE FINANCIAL SYSTEM
INQUIRY”
INTRODUCTION

I am pleased to have been invited to speak at this conference on electronic commerce, a subject which
has fundamental implications for the financial sector. In fact, technology and its impact are explicitly
acknowledged in the Financial System Inquiry’s Terms of Reference.

I must admit that, prior to taking up my role as Chairman of the Inquiry, my knowledge of the
application of technology and e-commerce in the financial sector was a cursory one. A number of
terms like ‘Stored Value Cards’, ‘e-cash’, ‘interconnectivity’, ‘pipe -width’ and so on, were unfamiliar to
me when they appeared in our early discussions. Thankfully these terms are now familiar, as equally,
there are many faces in the audience today that I recognise that were unknown to me some 8 months
ago.

I have certainly found the months since the Inquiry began to be both stimulating and informative…and
as the Committee formulates its views, we are aware of the range of issues that decisions on the
financial sector must address - including obviously the future impact of e-commerce. How then do I
intend to discuss the impact of electronic developments on the financial system?

I propose to address the issues by posing a series of questions. The questions broadly represent the
approach that we are taking to these issues during the Inquiry.

Since the Inquiry Committee is still considering these questions and related issues, I will not seek to
provide definitive answers today. Clearly the final position of the Inquiry will be known following the
presentation of our Final Report to the Treasurer at the end of next month.

Let me begin by listing these questions, and then I’ll expand on them in the rest of this address.
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Firstly, the scoping question of ‘What is electronic commerce?’.
Secondly to ask - What policy attitude should we adopt to technological developments like
electronic commerce?
Thirdly - What impact may electronic commerce have on the financial system? This would
necessarily include examination of what aspects of our system may change and what may stay
the same.
Fourthly - Can we predict what will happen, and if we are able to influence what will happen,
should we? Of particular interest here is the pace of change - are these impacts likely in 1 year
or over 1 decade?
Finally - Once we have understood the answers or implications of all of these questions, we can
finally ask - What are the implications for regulation in the financial system?
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Stan Wallis: Address to the ASC Electronic Commerce Conference, Sydney, 5 th February 1997.
WHAT IS ELECTRONIC COMMERCE?

We now recognise that we are increasingly living in an age of information. If we stop to consider, the
financial sector is about the efficient channeling of resources - an activity heavily dependent on
information and particularly the compilation and analysis of financially relevant information. The pricing
of most kinds of financial services revolves around assessment of various kinds of risk, and risk
analysis depends above all on information.

At its broadest, electronic commerce is a term describing the technology platforms which allow:

firstly, the transfer and analysis of information;

secondly, transactions such as payments to occur; and

lastly, the distribution of products and services to customers.
These three functions enable the broader commercial system to operate, including the financial system
itself.

I am the first to admit that others at this conference would have greater technical knowledge of these
new electronic platforms than I have. From a basic perspective though, these new platforms involve
the storage and transmission of information through electronic means, as distinct from traditional
media such as voice and paper.

Because we’re obviously interested in the financial sector applications, I’ve concentrated today on the
aspects of e-commerce that interact with the financial system.

E-commerce in the financial sector is not a new phenomenon - at least not in the wholesale area. The
Australian OTC financial markets have been undertaking cross-border trading by electronic means
since before the Campbell Inquiry. The largest single market in Australia - the foreign exchange
market - executes most of its transactions by electronic means with both domestic and offshore
counterparties. This e-commerce activity in the FX market relies on technology platforms which
facilitate the conduct of information, transactions and electronic ‘delivery’.

…and technology is continuing to improve the ability of these platforms to facilitate all of the above
functions. Information transfer is facilitated through improvements to screen trading, and through the
development of specialised high technology trading systems that aren’t licensed markets, yet are more
than simple bilateral OTC arrangements.

There are electronic forms of wholesaling, tendering and retailing that have been developed that also
improve the transaction function - payments facilities are often included along with delivery of the
product or service. Some of these new payments capabilities have meant that e-commerce has
progressed between business-to-business far faster than between the vendor and retail customer in
any “Internet cyber-mall”.

Although the Internet & other media are now involved in electronic commerce in all three of these
functions, perhaps future ‘Intranet’ platforms may further facilitate business-to-business ordering and
payments or perhaps there will be continued development of EDI in closed systems. Alternatively
other platforms may include automated-voice-response phone systems or interactive TV links for
ordering and paying for financial products.

I hope that those of you with slightly different definitions of e-commerce will bear with me today - the
aspects that I’ve highlighted above are I believe important, especially the notion that e-commerce can
affect not only delivery and transactions with ‘tangible’ products, but also the transfer and analysis of
information.
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Stan Wallis: Address to the ASC Electronic Commerce Conference, Sydney, 5 th February 1997.
WHAT SHOULD OUR OVERALL ATTITUDE BE TO THESE CHANGES?

These technological developments are all driven by the same major motivation, and that is to achieve
more efficient means of fulfilling the functions of commerce and finance.

So, what are the benefits of this ‘brave new world’ of electronic commerce? (especially for those like
me who at times still struggle with ATM’s and have trouble deciding how much extra cash to take out
with my EFTPOS transaction at the supermarket!!).

Clearly however, e-commerce technologies will provide real benefits to consumers:
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speed;
convenience - notably a dramatic reduction in search costs, possibilities for remote access,
fewer needs for cash, since we may have electronic “purses”;
global reach;
lower cost - implying lower prices for users and scope for more competition among providers ;
combination with other information technologies allowing market analysis, record-building,
internal business accounting, personal profiles, and automation. For example, in electronic
transactions devices, incentives or restrictions could be built in to allow parents to control their
childrens’ spending, or security features could be programmed into “electronic purses”.

If we see a generally positive balance between the emerging benefits of e-commerce and its costs or
risks, our overall policy stance should be supportive. Greater efficiency and productivity is vital to the
competitiveness of the economy and the financial sector.

If innovation in a competitive market produces benefits for consumers, it should be clear that we also
need to ensure that:

regulation is provided where it is necessary to provide consumers with the necessary confidence
to use these technologies; and
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restrictions on pricing don’t act to restrict the adoption of the most efficient technologies.

So…the Inquiry is aware of the potential benefits of e-commerce as well as it’s risks and potential
costs. The Inquiry intends to use the same principles for assessment of regulation of e-commerce as
would be used for innovation elsewhere in the financial sector - competitive neutrality, cost
effectiveness, transparency, flexibility and accountability will all apply.

…and, as we have stated in our Discussion Paper of last November, system stability, safety and the
confidence of consumers are all critical in our deliberations.
WHAT IS THE IMPACT OF E-COMMERCE ON THE NATURE OF FINANCIAL
SERVICES?

One may ask ‘What stays the same in this future world… a world which may include elements of
e-commerce?’

To begin with, the basic functions of the financial system will stay the same:

…ie payments services will continue to be provided;

there will be continued pooling and allocation of funds,

…hence savers will have a range of investment opportunities and borrowers a range of financing
opportunities, and risks  event, market and other risks  will be allocated and managed.
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Stan Wallis: Address to the ASC Electronic Commerce Conference, Sydney, 5 th February 1997.
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Secondly, the basic objectives of regulation will remain, ie.:

to facilitate competition, innovation and efficiency;

to provide security and confidence for consumers; &
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to balance privacy and other needs.
What then will change?

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Firstly, the method by which the main financial functions will be carried out will probably be
altered through new electronic systems for processing information, conducting transactions and
distributing products.

The conduct of financial markets may change, by being directly accessible through
electronic means to even the smallest retail customer. E-commerce technologies may
allow some of these customers access to information with which they could efficiently
price risk for themselves - an alternative to being linked to financial markets through
financial institutions such as bankers, brokers, and funds managers . Trading of financial
claims, including deposit claims, insurance policies, loans and bonds, could occur through
global bulletin boards, or through special communication networks.

As part of this, the traditional ‘on-balance-sheet’ funding of intermediaries may decline.
The present financial institutions may seek to maintain their relationships with customers
by developing more software and information products  or they may go into less visible
roles of back-office financial processing, analogous to those of product manufacturers. A
further alternative is that financial institutions may form alliances with other specialist
providers to offer “full service” as bundles of intertwined services from different providers
 perhaps with the composition of the bundles being switched continuously by computer
programs!

Customers may be able to conduct much more of their business without employing either
cash or balances in their own transaction accounts at financial institutions. They may be
able to use short-term credit instead  as many are doing already with EFTPOS and
phone payment technologies  or to use electronic stored value of various kinds.

As financial markets change, and methods of customer service change, the structure of
the financial services industry may change. We may see the emergence of new players,
some of whom have had no previous role in the financial sector, such as
telecommunications utilities, or software providers, or retailers, or entertainment networks.
It may not be unrealistic to see a pharmaceutical provider offering home delivery
prescription drugs bundled with health insurance, with the service accessed with a “smart
card” system operated by a trucking company with expertise in the technology developed
in transport applications.
Secondly, the capacities and needs of customers may change, as:

they become empowered by new access to information; and

they are able to link financial services to new ways of conducting other business - most
obviously their retail purchases and sales.
It has been suggested to us that some customers may come to want their whole set of financial
relationships integrated, in “wealth” accounts. Those accounts could be continuously marked-tomarket as a person’s income, debts and investments altered in value. They could offer instant
credit, investment options and payment options, presented together on-line. This would
represent the ultimate extension of today’s home equity loans, with the credit component
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Stan Wallis: Address to the ASC Electronic Commerce Conference, Sydney, 5 th February 1997.
secured against the net value in the “wealth” account, including the present value of future
transactions.

So even though basic financial functions will stay the same, as will the objectives of regulation, there
will definitely be some change brought about by e-commerce technologies - it’s the extent and timing of
that change that are unknown.
CAN WE PREDICT THIS CHANGE? AND CAN WE INFLUENCE IT?

From our own investigations and from the spectrum of views we’ve been offered, it’s possible to distill
contrasting views about how fast this set of likely e-commerce changes will happen.

Some argue that the most likely scenario is modest change through gradual evolution, with most of the
existing institutions and markets continuing to function in roles similar to their current ones.

They point out that customer attitudes, rather than technology availability, will determine the
take-up of new technologies - and that many customers are conservative

Some have also argued that payments services will continue to be provided by entities called
‘banks’, because they have inherent advantages for doing so; and that banks are likely also to
have most public acceptance as issuers of re-loadable stored value cards.

These same groups suggest that payment mechanisms such as cyber-cash on the Internet have
been slow to ‘catch on’ because of low consumer confidence in security of applications generally
on the Internet;
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Some have observed that a proportion of customers will continue to demand over the counter
service.

However, others have talked to us, or framed their submissions, from a very different perspective.
They believe that what we are now experiencing, or will experience in the next 5 years or so, is a
paradigm shift - a sharp discontinuity, which will radically transform the financial system, and quickly 
particularly in a 5-10 year timeframe.

One argument for this seems to be that some, if not most, of this potentially revolutionary technology is
already developed  at least to the stage of trial products or prototypes.

Whilst the Committee members were overseas in September, we had the opportunity to examine
developments in a number of countries, including Canada, the US, England and continental Europe.

As an example, software which provides the means for examining other financial products and
services, selecting them and transacting in them - termed ‘program navigators’ or ‘intelligent agents’ are already available in the US. These intelligent agents have created electronic market places for
banking products and mutual funds which are used by large numbers of consumers.

…fine for the US, but what about Australia? Clearly, the speed of development will depend on a range
of interacting factors. Traditionally, our take up of technology has been rapid, once it has become
available. The Consumer Credit Legal Centre’s original submission to the Inquiry noted that Australia
had been chosen as the “guinea pig” for trials of smart card technology; presumably one factor in
these decisions is our acceptance of new technology. Trials of this type suggest that developments
here may help shape the world industry.

However a recent survey quoted in one consumer group submission cites over 90% of the most avid
computer users as still harbouring security concerns with Internet banking transactions.

A number of surveys in Australia suggest that institutions themselves expect electronic channels to be
increasingly important over the coming decade as the proportion of the population that are familiar and
comfortable with technology increases. In the mean time, the biggest growth in electronic delivery
channels may be in technologies familiar to a wider customer range, such as phone transactions and
EFTPOS. But these may represent a prelude to adoption of broader e-commerce technologies. They
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Stan Wallis: Address to the ASC Electronic Commerce Conference, Sydney, 5 th February 1997.
are making many customers familiar and comfortable with remote electronic methods of payment, and
with transacting using credit rather than account balances.

Financial service consumers may well adapt to change in much the same manner as retail consumers
have in the past. Not that long ago, one may have purchased shoes from a specialty shop in the
suburbs - now footwear can be bought everywhere from small ‘High St.’ boutiques to large discount
stores which also sell hardware and food. Some aspects of the experience of retail consumers may
translate to financial services - brand name or brand franchise may become important as consumers
face an increasing range of providers, some of whom are unknown to them.

Let me illustrate this paradigm-shift or radical-change argument by sketching, from a customer’s
perspective, how differently financial services could work if already existing e-commerce technologies
were in general use.

One morning I might buy whole-wheat bread and skim milk using a multi-application stored
value card. I may have chosen this multi-application card rather than a disposable card,
because it allows me to gain discounts on my health insurance premiums, if I avoid foods which
increase my risk of a heart attack! The stored value card may have the diet favoured by my
health insurer programmed in as part of its functionality, and the transaction processing for the
card itself may be conducted off-shore under the direction of a US-based telecommunications
company.

The store owner may aggregate this payment and others on another stored value card, and use
this value to make business-to-business payments to inventory or service suppliers. In
technology terms, no bank accounts are necessarily involved at this stage. Meanwhile I may
return home, flick on the PC or other access device, connect to the Internet and then use an
offshore ‘intelligent agent’ to compare domestic and offshore offers of (say) insurance products,
order the product which best fits the preferences I have specified, and pay for it with part of the
cybercash generated when my most recent share dividends were paid to me.

The provider of the insurance policy may not be an Australian insurer, but my intelligent agent
reports that it is satisfactorily rated in an acceptable foreign jurisdiction.

Meanwhile, another intelligent agent is deciding whether to reload my card from the cybercash or
by dialing my bank and debiting my account (I still have one!)

So what does all this say ?  there are real differences of view over how quickly, and how
pervasively, e-commerce will change our financial system…and what may be important to different
groups in accommodating this change.

Participants in the wholesale markets for example note that issues such as evidentiary recognition in
electronic netting, electronic delivery of notices and the importance of compatibility with international
arrangements are all areas in which there are impediments to e-commerce.

Consumer groups see other issues as equally important - privacy issues, the importance of a
continuing range of choice in financial services, including non-electronic access, and a pro-active
approach to new technology that involves consumer representatives - all concerns raised in
submissions.

Regardless of the perspective, virtually all submissions recognise the increasing role of e-commerce
technologies, and in recognition of this, a number of institutional and consumer groups have
recommended the formation of a government sponsored Technology group. Despite some differences
between proponents as to the role that this group may play, the emergence of e-commerce has no
doubt been a factor in framing these recommendations.

The Inquiry recognises that the future is as likely to involve the incremental replacement of one
technology by another as it is to involve a sudden proliferation of new financial technologies. In other
words, we need to plan for the co-existence of multiple means to satisfy customer demands.

I would stress that the Inquiry is not committed to a particular technology or industry forecast - none of
our conclusions or recommendations will be ‘scenario specific’.
We will seek to recommend
regulatory arrangements flexible enough to accommodate a range of future outcomes.
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Stan Wallis: Address to the ASC Electronic Commerce Conference, Sydney, 5 th February 1997.
REGULATORY IMPLICATIONS

From the perspective of our Inquiry, we expect that it will best serve the interests of consumers and
overall efficiency if the roles of different types of providers, including existing financial institutions, are
allowed to be determined by market forces rather than by regulation.

However, while we believe the framework of regulation should be open to different technology or
industry outcomes, it should at the same time ensure that whatever the outcome it meets the
objectives of efficiency, stability and fairness to consumers.

How then does this spectrum of possible technology and industry outcomes challenge the regulatory
framework, given our acceptance that the regulatory objectives largely stay the same?

These possibilities could change the dynamics of competition in many areas of the financial
system.

They could change the whole definition of a financial market.

They challenge concepts of jurisdictional coverage (e.g. if I buy from the Internet where do I
seek redress?, or if I buy an insurance policy offered by a telecommunications carrier through
my interactive cable TV, to whom do I take a later complaint about inadequate disclosure?);

they can make some concepts uncertain in their application  for example in the US the
software producer Intuit thought it necessary to register one of their products with the authorities
as an insurance broker, and another as an investment adviser, although the regulations
concerned had been drafted with people, and not computer software, in mind;

they can change the capacities for enforcement of regulation - again raising difficulties in
offshore jurisdictions;
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and finally there are potential implications for taxation laws for example, many of which have
been framed with physical location as a relevant consideration.

Let me pick up on just a few of these in more detail. In most cases, we find that the new technologies
are highlighting that there are often tradeoffs in judging what is ‘good’ regulation.

Consider the question of ‘Privacy’ versus ‘Efficiency’.

The new technologies for storing, disseminating and retrieving information create opportunities
for much better service for customers, for better credit assessment leading to cheaper finance,
for better reporting of prices and market behaviour and so on

…yet at the same time the issue of privacy with these new technologies has been raised in a
number of submissions.

Indeed, determining the extent of privacy protection is especially important for the development
of (say) stored value cards. The matter of privacy is a growing concern in the community and
the Committee are aware that some consumers perceive these stored value cards as further
eroding privacy.

Some submissions call for full application of the Privacy Act across the private sector, fearing
misuse of customer data, especially in the absence of binding, enforceable codes of conduct.

Other groups do not oppose the application of privacy principles in practice, but question who
should be the target in the case of stored value cards used as electronic purses - the card
issuer, or the value provider of the ‘electronic purse’?

The Inquiry is aware that inappropriate recommendations could restrict innovation and efficiency,
without engendering the needed confidence in this new technology.
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Stan Wallis: Address to the ASC Electronic Commerce Conference, Sydney, 5 th February 1997.

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The issues are not new but the intensity of the regulatory challenge is increased, because the
potential benefits as well as the potential costs of this set of innovations are both greatly
amplified.
Prudential Safety is similarly ‘two-edged’:

globalised markets and the proliferation of players creates new risks through new means for
transmission of financial instability - there is a wider pool from which to suffer contagion effects;

…yet we have also seen that the opposite can be true. Risks can be more easily diversified and
spread by many of the new technologies. Risk management is less complex if information is
available in real time. In the payments system, we are seeing a shortening in the processing
times of various clearing streams, potentially reducing some of the contagion risk that may have
been characteristic of counterparty transactions in the past;

and technology is available to regulators to improve their monitoring and surveillance capacities.
Among the regulatory issues in this area for the Inquiry to consider, there are the ones we set out in the
Discussion Paper of last November:

the extent to which existing Commonwealth, State and Territory legislation impedes the adoption
of cost reducing technology;
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whether there is a need for a uniform national approach to legislation governing electronic
delivery of documents and to other evidentiary issues such as digital signatures; and

whether the pace of innovation is such that a specialist unit within government is required to
monitor and advise on the implications of new technology, including infrastructure requirements.
The prominence with which e-commerce issues have appeared in submissions reinforces to the
Committee that including an explicit reference to technology in our Terms of Reference was no
accident!…and we are conscious that this Inquiry is in many ways a unique opportunity to ensure that
potentially exciting developments can occur within a system that retains consumers’ confidence.
CONCLUSION

Let me sum up today on a positive note. The value of e-commerce appears clear - lower cost, new
forms or levels of services, and higher efficiency than would be achievable otherwise. It is just as well
that it is so, as growth in the use of electronic techniques seems inevitable.

It is also clear that there are risks and new questions about the approaches and methods of regulation,
both to contain systemic risks and to protect Australian consumers as e-commerce becomes
established. There are also new questions about how to relate our financial regulation to regulation (or
a lack of it) in overseas jurisdictions.

If regulation can be reshaped satisfactorily to accommodate e-commerce (and few if any of the
submissions that the Inquiry has received argue that it cannot), then e-commerce is likely to be a
stimulating and largely constructive influence on developments in the financial services sector…and
this is certainly the general impression we’ve received from discussing similar development overseas.

Finally…as all of you will appreciate, this is an extremely busy time for the Committee and the
Secretariat, as we are committed to our 31 March deadline to submit our Final Report to the Treasurer.
It has been, and continues to be a challenging task for those involved. I’m sure it has been also for
industry participants, regulators and other interested parties. We have found the suggestions from
those groups and many individuals helpful and enlightening. We appreciate the great efforts which
have gone into the submissions we have received.

As the Committee finalises our recommendations, a forum such as this is extremely useful, as many of
the issues in regulating an “e-commerce marketspace” are common with the other questions that we
are considering.
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Stan Wallis: Address to the ASC Electronic Commerce Conference, Sydney, 5 th February 1997.

Thank you once again for your attention.
9