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Don't Feed the Cannibals – Keep Tech Out of Banking

Written by Doug Simons

Doug Simons is a former investment banker and worked at Morgan Stanley, Credit Suisse and UBS as an advisor to U.S. banks and other financial institutions. He led his firms’ bank capital and risk management advisory efforts and their work on housing finance reform. Earlier in his career, he worked in the mortgage securitization business as a structurer and MBS trader. Most recently, he served as a Senior Markets and Policy Fellow at the CFPB, where he advised the Director and his team on issues related to the banking industry. In this role, he also represented the Bureau on the FSOC’s Systemic Risk Committee.

Open Banker curates and shares policy perspectives in the evolving landscape of financial services for free.

Recent forays by technology companies into new businesses, including financial services, are an attempt to repeat the past success of their advertising businesses in cannibalizing the revenues of an established industry. These efforts are as much defensive as offensive in nature – the growth rate of tech companies’ advertising businesses is likely to slow sharply in coming years. Identifying large new sources of revenue is therefore vital to maintaining their lofty share price valuations. 

Policymakers, however, should be wary of tech moving into critical infrastructure such as financial services. The ad-supported model for search and social media has wrecked the traditional media business, undermining the valuable public goods these companies generate. Traditional financial services are likewise a source of significant public goods. For example, community banks anchor local business networks and philanthropy – find a small town little league team, chances are the local bank is on their uniforms as a sponsor – and tech companies will have no interest in sustaining these efforts. Regulated banks are also the vehicle through which the U.S. government ensures the integrity of the payments system and provides the deposit insurance that enables maturity transformation. Allowing tech companies into these systems will weaken protections for consumers, erode access to credit, threaten financial stability, and further concentrate economic power in the hands of a few corporate titans. 

How Digital Platforms Took Over the Advertising Business 

Silicon Valley has a well-deserved reputation for innovation that disrupts existing markets and delivers extraordinary returns for investors. For example, the smartphone has rendered a host of existing consumer products obsolete while giving users mobile access to the internet. The ability to satisfy existing consumer demand for a lower cost while offering new services previously out of reach is the definition of technology-driven economic growth. The economic benefits are less clear in the case of companies like Alphabet and Meta –  while the services they offer consumers are novel, the way they make their money is entirely conventional. They make the bulk of their revenue from selling advertising space, but this represents a cost for other industries and doesn’t benefit aggregate growth. Much like their predecessors in the legacy media, these companies monetize their hold on consumers’ attention. However, unlike the legacy media, they mostly avoid generating their own content and the law (Section 230 of the Communications Decency Act as currently interpreted) shields them from liability related to third-party content shared and amplified on their platforms. This outsourced – and largely uncompensated - content model allows them to operate with much lower overhead costs than traditional publishers.  

A lower cost structure and the platforms’ ability to target specific audiences has allowed them to capture market share by meeting advertisers’ brand needs at a much lower cost. Figure 1 depicts aggregate advertising expenditures in the U.S. as a percentage of GDP from 1946 to 2007. While the composition of expenditures evolved over time (e.g., television displacing newspapers), they hovered around 2.0% of GDP in aggregate. The pattern changed decisively in the 2010s, as total advertising expenditures began falling relative to GDP. They are now below 1.5% of GDP, the lowest level seen since the end of World War II (Figure 2). This decline took place in the context of two thirds of spending migrating to digital channels. As a result, legacy media channel expenditures have declined by nearly 80% relative to GDP.1 

Figure 1. 1946-2007 U.S. Advertising Expenditures – Composition (Percent of GDP)2 

Figure 2. 1946-2024 U.S. Advertising Expenditures – Digital vs. Legacy (Percent of GDP)3

While the shift to digital advertising could be depicted as a straightforward case of technology driving greater efficiency and reducing costs for customers, this ignores the extent to which those lower prices rely on a model that takes little responsibility for the content in which ads are placed. Countless stories have been written on the decline of traditional media outlets, a fractured information environment, rising political polarization, misinformation, and the spread of online conspiracy theories. The common thread connecting these ills is the shift in attention and economic power to companies that don’t embrace traditional editorial responsibilities and the expense burdens that go with them. Like a low-cost manufacturer entering and dominating a local market based on a pricing model that relies on dumping waste in the local water supply instead of paying for proper disposal, social media’s cost advantage depends on imposing negative externalities on everyone else. Markets can’t be competitive when some parties have such an unfair advantage.  

The Era of Rapid Growth is Ending – What Comes Next? 

Changing these dynamics and improving the information environment would require significant legislative and regulatory changes that are unlikely in the current political moment. However, even if the platforms’ competitive cost advantage is not under immediate threat, their businesses nevertheless face a looming challenge: they are running out of competitors whose revenues they can cannibalize. Advertising-supported tech platforms are some of the most valuable companies in the world. Analysts estimate that Alphabet, Meta, and Amazon generated $164B of advertising revenue in the U.S. in 2023.4 This represents approximately 40% of total U.S. advertising expenditures and a whopping 70% of digital spend.5 The channel migration happening worldwide mirrors trends in the U.S., with the three companies’ $416B of global advertising revenue representing approximately 46% of total ad spend and 70% of digital. In other words, the top three U.S. companies already capture approximately four of every ten dollars spent on advertising in the U.S. and globally.  

Over the last fifteen years, these companies have delivered exceptional growth from their advertising platforms, with compound annual growth of 18% (Alphabet), 43% (Meta), and 45% (Amazon)6. However, as Figure 2 highlights, all of the growth in digital ad spending has come through taking market share from incumbents rather than expanding the overall market. Indeed, the legacy players’ share of expenditures is already below 35%. Long-term, the only ways for the platforms to grow revenues faster than GDP would be if they can persuade customers to accelerate ad volume growth and/or accept higher prices. Either strategy would quickly push aggregate expenditures well above historical norms. For example, if nominal GDP rises at 5% per annum, spending in legacy channels remain constant at 2024 levels, and digital ad spending continues to grow at 20% per annum, total ad spending would blow past its postwar peak of 2.4% of GDP by 2031, hit 5% of GDP by 2037 and reach an absurd 11% of GDP by 2043. Business customers flocked to these platforms because of their greater efficiency in targeting consumers. They are unlikely to buy an ever-expanding volume of ads or accept large ongoing price increases. 

In short, ad-supported digital platforms are nearing the end of rapid growth in their primary revenue stream. The valuations of Alphabet and Meta in particular are far in excess of what could be justified if investors assumed a mature advertising business where topline revenues only grew in line with GDP. The realization that rapid growth in ad revenue is not sustainable will likely trigger sharp markdowns in the companies’ share prices and the personal fortunes of their founders. Supporting their current valuations will therefore require management to identify large new revenue sources to supplement a maturing advertising business. This is relevant context in which to consider the various initiatives (e.g., digital assets, “The Metaverse”, etc.) the companies have undertaken with great fanfare but little evident success. Most recently, they are all making massive investments in artificial intelligence. While these investments may be justified by the inherent promise of the new technology, the record invites the question of whether they are mainly driven by the urgent desire to find something, anything, to stave off a decline in revenue growth.  

The Threat to Financial Services

Unlike more “moonshot” ideas, tech companies see immediate opportunity to cannibalize the revenues of traditional financial services companies, provided they can gain more leeway from regulators. For example, digital wallets offer a convenient payment vehicle for goods purchased on the platforms while tokenization (on or off a blockchain) could provide an alternative set of payment rails. Most of the payments and lending products currently being offered by the platforms are done in partnership with regulated financial institutions. While the platforms may gain enhanced brand loyalty by helping customers transact within their “ecosystem,” the bulk of the revenue from these arrangements currently flows to the partner financial institutions. If the platforms began to hold deposits (either as stored-value accounts only accessible on the platforms, or ones that can be used more flexibly such as stablecoins) directly on their own balance sheets, they could begin to complete payments for their customers and capture 100% of the revenue from the relationship.  

U.S. regulators have mostly resisted the platforms’ ambitions to gain direct access to deposit flows and payment rails, preferring to maintain the traditional separation between finance and commerce. Loosening these constraints will likely be a key objective of the companies’ lobbying efforts, but policymakers would be wise to reject these entreaties. Letting X (fka Twitter) or other unregulated tech companies accept deposits/equivalents or establish a parallel payments system would undermine banks and other regulated financial institutions. Shifting deposits away from banks would curtail the stable funding available for consumer and small business credit. It would also implicitly extend the federal safety net to a sector where volatility and even failures are considered to be normal features of a dynamic market. Putting taxpayers and depositors at risk from the failure of commercial firms will tempt policymakers to pick winners and losers and engage in bailouts, thereby warping the markets for both capital and technology. 

Conclusion 

Bottom line, we shouldn’t pursue risky changes to core American industries and institutions simply to maintain the valuation of a few tech stocks. It is entirely reasonable to be skeptical of CEOs that see expansion into financial services as simply a means to plug a hole in future growth. Tech companies shouldn’t be allowed to operate with special privileges that let them undercut incumbents and subvert public goods. The wall separating finance and commerce should be raised, not lowered. Companies that want to compete in payments and other financial services should divest from their commercial activities and be appropriately regulated. Banks charters embody an important public trust. We shouldn’t put banks at risk by permitting tech companies to enjoy the benefits of a charter without taking on the responsibilities it entails.

The opinions shared in this article are the author’s own and do not reflect the views of any organization they are affiliated with.

[1] A fuller discussion of these trends can be found in Silk, Alvin J., and Ernst R. Berndt. "Aggregate Advertising Expendi-ture in the U.S. Economy: Measurement and Growth Issues in the Digital Era." Foundations and Trends® in Marketing 15, no. 1 (2021): 1–85

[2] GDP is from the Federal Reserve Z1 and advertising expenditures are sourced from the “Coen Structured Advertising Expenditure Data Set” developed by Robert J. Coen and maintained by Douglas Galbi. 

[3] Post-2007 data on aggregate advertising expenditures comes from IBISWorld research. 2024 split between digital and legacy expenditures comes from the PWC Global Entertainment and Media Outlook (as cited by marketingcharts.com). Intermediate data points assume a straight-line increase in the digital share from 2007 to 2024.

[4]  See Insider Intelligence/eMarketer: “Companies with over $2Bn in Net Digital Ad Revenue, 2023

[5]  Id. 2023 estimates for global digital ($602B) and total advertising spending ($900B) from eMarketer research

[6] See Company 10-Ks, Amazon data for 2016 to 2018 are for “Other” net sales and noted as “Primarily includes sales of advertising services”

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