Bank 4.0 Page 2

  —Mike Tyson

  Banking isn’t rocket science, but as it turns out, rocket science is a great analogy for the future state of banking. Putting men on the moon is, to date, perhaps the greatest endeavour mankind has committed to. It inspired generations and, until we successfully put boots on the surface of Mars, will likely remain the single most significant technological and scientific achievement of the last 100 years. Getting men to the moon required massive expenditure, incredible advances in engineering, a fair bit of good old fashion luck and the “right stuff”.

  Before the US could get Neil Armstrong all the way up to the moon, they needed the right stuff in a different area—in figuring out the science.

  At the end of World War II there was a very serious plan that would set the foundation for the entire Space Race and Cold War. It was the race for the best German scientists, engineers and technicians of the disintegrating Nazi regime. The predecessor to the CIA, the United States’ OSS (Office of Strategic Services), were instrumental in bringing more than 1,500 German scientists and engineers back to America at the conclusion of World War II. The highly secretive operation responsible for this mass defection was codenamed “Overcast” (later to be renamed Operation “Paperclip”). The primary purpose of this operation was denying access to the best and brightest Nazi scientists to both the Russians and the British, who were both allies of the US at this time. “Paperclip” was based on a highly secretive document known within OSS circles as “The Black List”, and there was one single name that was right at the top of that list: Wernher von Braun.

  In the final stages of World War II, von Braun could see that the Germans were ultimately going to lose the war, and so in 1945 he assembled his key staff and asked them the question: who should they surrender to? The Russians, well known for their cruelty to German prisoners of war, were too much of a risk—they could just as easily kill von Braun’s team as utilize them. Safely surrendering to the US became the focus for von Braun’s own covert planning in the closing days of World War II. The question he faced was how to surrender without the remnants of the Nazi regime getting tipped off and putting an end to his scheme.

  For this von Braun had to, twice, manipulate his superiors, forge paperwork, travel incognito and disguise himself as an SS officer to create a very small window of opportunity for surrender. Convincing his superior that he and his team needed to divert from Berlin to Austria, so that the V-2 rocket team was not at risk by invading Soviet forces, von Braun engineered an opportunity to surrender himself and his brother to the Americans. In the end, Magnus von Braun just walked up to an American private from the 44th Infantry Division on the streets of Austria and presented himself as the brother of the head of Germany’s most elite secret weapons program1.

  Suddenly a young German came to members of Anti-Tank Company, 324th Infantry and announced that the inventor of the deadly V-2 rocket bomb was a few hundred yards away—and wanted to come through the lines and surrender. The young German’s name was Magnus von Braun, and he claimed that his brother Wernher was the inventor of the V-2 bomb. Pfc Fred Schneikert, Sheboygan, Wis., an interpreter, listened to the tale and said just what the rest of the infantrymen were thinking: “I think you’re nuts,” he told von Braun, “but we’ll investigate.”

  —The Battle History of the 44th Infantry Division: “Mission Accomplished”

  Private First Class Fred Schneikert likely presided over the single greatest intelligence coup of World War II, save maybe for the capture of U-570 and its Enigma cipher machine.

  To understand von Braun and his willingness to work on a WWII weapon of mass destruction like the V-2 rocket (which is estimated to have killed 2,754 civilians in London, with another 6,523 injured2), it needs to be understood that he simply saw the Nazi ballistic missile program as a means to an end. In von Braun’s mind, the V2 was simply a prototype of rockets that would one day carry men into space—that was his end game.

  Figure 1: Von Braun’s vision for manned space travel (Credit: NASA).

  The images and engineering principles of spacecraft we have from the 1950s we owe largely to von Braun’s designs. The three-stage design of modern rockets, the chosen propellants and fuel, the recovery ship system for returning capsules, the initial NASA designs for space stations and Mars programs, all came from von Braun’s early musings and engineering drawings. Sixteen years after von Braun’s surrender to Allied forces, President John F. Kennedy Jr announced that by the end of the decade the US would put a man on the moon. It would be in a rocket built by Wernher von Braun.

  The Saturn V was an astounding piece of engineering. Today, it remains the largest and most complex vehicle ever built. A total of 13 Saturn Vs were launched between 1967 and 1973 carrying the Apollo and Skylab missions. The Saturn V first stage carried 203,400 gallons (770,000 litres) of kerosene fuel and 318,000 gallons (1.2 million litres) of liquid oxygen needed for combustion. At lift-off, the stage’s five F-1 rocket engines produced an incredible 7.5 million pounds of thrust, or about 25 times that of an Airbus A380’s four engines at take-off. In today’s money, each Apollo launch and flight cost around $1.2 billion dollars.

  However, despite the incredible advances of von Braun’s program in the 1950s and 1960s, manned spaceflight hasn’t progressed significantly since. In fact, one could argue that the US’ capabilities in this area have been declining ever since Apollo. On 20th July 1969, the Americans landed Neil Armstrong and Buzz Aldrin on the lunar surface, but after December 1972 no further manned missions were launched. In the 1980s the US had the space shuttle and could get to low-earth orbit, but today they are renting seats on Russian Soyuz vehicles to get NASA astronauts to the International Space Station.

  First principles design thinking

  While the cost of launching commercial payloads into space has decreased by some 50–60 percent since the Apollo days, the core technology behind the space industry has simply gone through multiple derivative iterations of von Braun’s initial V-2 work. The rocket design, production process, and mechanics all are essentially based on the work of NASA in the Apollo era, which itself was based on the V-2 design. This process of iterative design, or engineering, is known to engineers as “design by analogy”3.

  Design by analogy works on the philosophy that as engineering capabilities and knowledge improve, engineers find better ways to iterate on a base design, perhaps finding technical solutions to previous limitations. But design by analogy creates limitations in engineering thinking, because you’re starting with a template—the work is derivative. To create something truly revolutionary you have to be prepared to start from scratch.

  Enter Elon Musk. Like von Braun, Musk has an unyielding vision for space travel. Musk isn’t interested in just returning to the Moon though, he has his sights set on Mars. For Musk, this is about nothing short of the survival of humanity. In discussing his obsession with Mars, Musk refers to the fact that on at least five occasions the Earth has faced an extinction level event, and that we’re due for another one at any moment. We’ve had dinosaur-killer scale asteroids sail past Earth on near collision courses on multiple occasions in recent years, too. Thus, Musk argues, we must build the “insurance policy” of off-world colonies.

  After his successful exit from PayPal, Musk created three major new businesses: Tesla, SpaceX and Solar City4. Instrumental in Musk’s approach to each of these businesses was his belief in the engineering and design concept called first principles. Unlike design-by-analogy or derivative design, first principles take problems back to the constitute components, right back to the physics of the design—what the design was intended to do. A great example of first principles design is the motor vehicle. At the time that Carl Benz invented the first two-seater lightweight gasoline car in 1885, everyone else was trying to optimize carriage design for use with horses. Benz took the fundamentals of transport and applied the capabilities of the combustion engine to create something new.

  I think it’s important to reas
on from first principles rather than by analogy. The normal way we conduct our lives is we reason by analogy. [With analogy] we are doing this because it’s like something else that was done, or it is like what other people are doing. [With first principles] you boil things down to the most fundamental truths…and then reason up from there.

  —Elon Musk, YouTube video, First Principles5

  To get to Mars, Musk has reckoned that we need to reduce the cost to orbit by a factor of 10. A tall order for NASA, a seemingly impossible task for a software engineer who had never built a rocket before. As noted in Musk’s recent biography (Vance, 2015), Musk has the unique ability to learn new skills to an extremely high level of proficiency in very short time frames. Thus, when it came to rocket design, he simply taught himself—not just the engineering of pressure vessels, rocket engine chambers and avionics, but the physics behind every aspect of rocketry—and even the chemistry involved. Musk reasoned, if he was to start from scratch based upon the computing capability, engineering techniques, materials sciences and improved physics understanding we have today, would we build rockets the same way we had for the last 50 years? The answer was clearly no.

  In 2010 NASA was paying roughly $380 million per launch. SpaceX currently advertises a $65 million launch cost for the Falcon 9, and $90 million for the Falcon Heavy. SpaceX’s current cost per kilogram of cargo to low-earth orbit of $1,100 is well below the $14,000–39,000 per kilogram launch cost of United Launch Alliance, the lowest priced direct competitor for SpaceX in the United States.

  The last major manned space program of the US, the space shuttle program, averaged a cost-per-kilo to orbit of $18,000. Now that SpaceX has figured out how to land their first stage vehicles back on land and on their oceangoing drones6, such as JUST READ THE INSTRUCTIONS and VANDENBERG OF COURSE I STILL LOVE YOU7, the reusability factor will reduce their cost per kilo to orbit of their Falcon Heavy launch vehicle down to around $400 over the next few years. This means that SpaceX will have reduced the cost to orbit by more than 90 percent in the 14 short years of their commercial operations. NASA’s nearest competitor to the Falcon Heavy will be the Space Launch System, with a payload capacity of 70 metric tons, and an expected launch cost of $1 billion per launch. The Falcon Heavy at 64 metric tons and $90 million per launch represents one tenth of the cost, before reusability.

  Figure 2: Part of the secret to lower cost is advancements SpaceX has made in integrated manufacturing.

  A greater than 90 percent cost to orbit reduction, reusability with rockets that land themselves, and a fuel source that is easily manufactured and stored on Mars.

  Welcome to the revolutionary benefits of first principles design thinking.

  The first principles iPhone

  Musk isn’t the only one to believe in the philosophy of first principles design. Steve Jobs was a believer in getting back to basics for redesigning well-worn concepts. Instead of iterating on the famous Motorola flip phone, the Blackberry, or the Nokia “Banana” phone, Jobs started from scratch in reimagining a phone, browser and iPod combined into a personal “smart” device.

  There’s the great story about how Steve carried a block of wood around the office while the team was creating the iPhone. He wanted to remind everyone around him that things should be simple. Jobs understood that technology is only as powerful as the ability for real people to use it. And it’s simple, usable functionality—not ridiculous over engineering—that makes for technological power.

  —Bill Wise, MediaBank, quoted in Business Insider, 12th October 2011

  Now in fairness, Jobs may have got the “block of wood” prototyping idea from Jeff Hawkins, the lead inventor of the PalmPilot. The story goes that when he first imagined the PalmPilot, he carried blocks of wood the approximate size of the device he would later build around with him everyday. Whenever Hawkins saw a need for the device in his daily routine, he would tap on it, scribbling on the block of wood, or in his notebook, simulating or prototyping how the device might be used to solve that problem, whether it was a calendar entry, jotting down some notes or swapping contact details with a colleague.

  Figure 3: The iPhone is a great example of first principles product design.

  Jobs and Jony Ive, Apple’s chief design officer, didn’t try to iterate on an existing device design and improve on it; they started from scratch. It’s why the iPhone ended up with a revolutionary touch screen design, aluminium housing, no keyboard and an app ecosystem. Do you remember the debate when the iPhone launched over the value of the Blackberry RIM keyboard versus Apple’s lower accuracy touch screen keyboard? Many commentators were sure the Blackberry keyboard would win out. But it didn’t.

  Why am I focusing on this? Ask yourself a couple of simple questions. If you were starting from scratch today, building a banking, monetary and financial system for the world, a banking system for a single country or geography or just designing a bank account from scratch, would you build it the same way it has evolved today? Would you start with physical bank branches, insist on physical currency on paper or polymers, “wet” signatures on application forms, passbooks, plastic cards, cheque books, and the need to rock up with 17 different pieces of paper and three forms of ID for a mortgage application?

  No, I’m sorry—that’s just plain crazy talk. If you were starting from scratch with all the technologies and capabilities we have today, you would design something very, very different in respect to how banking would fit into people’s lives. Let us then apply first principles to banking and see if there are any examples of this type of thinking emerging today. Are we seeing systems emerge that are fundamentally different?

  Applying first principles to banking

  The banking system we have today is a direct descendent of the banking from the Middle Ages. The Medici family in Florence, Italy, arguably created the formal structure of the bank that we still retain today, after many developments. The paper currency we have today is an iteration on coins used before the first century. Today’s payments networks are iterations on the 12th century European network of the Knights Templar, who used to securely move money around for banks, royalty and wealthy aristocrats of the period. The debit cards we have today are iterations on the bank passbook that you might have owned if you had had a bank account in the year 1850. Apple Pay is itself an iteration on the debit card—effectively a tokenized version of the plastic artifact reproduced inside an iPhone. And bank branches? Well, they haven’t materially changed since the oldest bank in the world, Monte Dei Paschi de Sienna, opened their doors to the public 750 years ago.

  When web and mobile came along, we simply took products and concepts from the branch-based system of distribution and iterated them to fit on to those new channels. Instead of asking the question whether we need an application form in the online process at all, we just built web pages to duplicate the process we had in the branch8. For many banks and regulators today, they are still so married to this process of a signature on a piece of paper and of mitigating risk to the bank through a legal physical paper record, that in many parts of the world you still can’t open a bank account online or on your phone—and that’s a quarter of a century after the commercial internet was launched.

  Think about the absurdity of that situation for a moment. We’re tied to using a first century artifact, namely a “wet signature” to uniquely and securely identify an individual for the purpose of opening a bank account. But signatures aren’t secure, they aren’t regularly verified, they aren’t really unique, they are easily compromised, easily copied, and in the case of an identity thief using stolen or fabricated identity documents, a signature provided might not bear any resemblance to the authentic account owner’s actual signature—as long as it is the first signature that particular bank gets, then they have to presume the signature matches the owner of the account.

  Don’t even get me started on branches9.

  Hence the big question. If you started from scratch today, designing a new banking system, would a
ny of the structures we are used to seeing survive? If not, like Elon Musk’s approach to SpaceX rockets or Steve Jobs’ approach to smartphones, the only way we’re going to get exponential progress and real efficiencies is through a first principles rethink of the banking system.

  So, what would a “first principles” bank or bank account look like today?

  In first principles, utility is king

  Let’s strip it down to the constitute physics, as Musk suggested. What does a bank do that no other organisation can do, or at least do consistently well? Or what do we rely on banks to provide that would remain in a re-imagined, first principles version of banking?

  I would suggest banks have traditionally provided three core key pieces of utility:

  1.A value store—The ability to store money safely (investments fall into this category)

  2.Money movement—The ability to move your money safely

  3.Access to credit—The ability to loan money when you need it

  If you describe the essence of what you want from your bank as a customer (and it doesn’t matter whether that is as a retail consumer or as a business owner), ultimately you don’t start off with saying I need “product A” or “product B”. Ultimately, you come up with stuff like:

  •“I need to keep my money safe.”

  •“I need to send money fast.”

  •“I need to save money for [insert need/dream/wish here].”

  •“I need my employer to be able to pay me.”

  •“I can’t afford to buy this thing and I need some short-term credit.”

  •“I need to be able to pay my staff.”

  •“I want to buy a home.”

  •“I need to pay this bill.”