Embedded finance refers to the integration of financial services and products within the platforms (websites, mobile apps, business operations) of non-financial companies.
Embedded finance is forecast to experience enormous growth in the coming years.
A report from private equity firm Lightyear Capital estimates it will grow to nearly $230 billion in revenue by 2025, up from $22.5 billion in 2020. Over the same time period, embedded finance is projected to create more than $1 trillion in value, rising to an estimated $3.6 trillion by 2030. Lightyear’s report focused on four key areas where embedded finance is expected to see a significant rise over the next five years. These areas are wealth management, consumer lending, insurance, and payments.
Wealth management is forecast to be responsible for $2.6 billion in revenue (up from $0 in 2020); consumer lending for $15.7 billion (up from $1.7 billion in 2020 – CAGR of 62 percent); insurance for $70.7 billion (up from $5 billion in 2020 – CAGR of 62 percent); and payments will comprise the majority revenue share of $140.8 billion (up from $16.1 billion in 2020 and a CAGR of 54 percent).
Here is a look at the landscape of embedded finance, what is driving its growth, and the moves being made that signal its role in the future of financial services and fintech.
Evolution of Financial Services
To grasp how embedded finance emerged as key to the future of financial services, it’s worth tracing the steps that led to this juncture. The evolution of financial services can be broadly placed in three stages. The first stage was the creation of banks and traditional financial institutions, which for a long time were the only (legal) means by which to conduct banking, lending, and investments.
Second, technological advancements gave rise to the first wave of fintech companies. This enabled financial services outside of, and in addition to, traditional banking—PayPal perhaps being the most obvious example.
The third stage was the democratization of financial services, which led to more specific financial transactions that could be distributed by non-fintech platforms—think Apple Pay, Google Pay, and Amazon Pay. Embedded finance builds on the third stage of this evolution by expanding businesses’ financial capabilities beyond processing transactions to include lending, insurance, and investment services.
As Todd Latham, Chief Growth Officer at Currencycloud, explains: “[Fintech] and its progress to date has been predominantly about using digital services and apps to do traditional banking, wealth management and savings better. While these financial services have been much improved, they still existed in isolation, unintegrated into other services and sectors.
“Embedded finance will be the next stage in the evolution of fintech. Payments, wallets and banking-like services will become an integral part of internet-led companies spanning all aspects of the global economy.”
What Components Make up Embedded Finance?
Embedded finance technology and functions fall largely into three categories, which Lightyear labelled providers, enablers, and containers. Here is more information on each:
Providers. This pertains to embedded service providers that increase distribution and improve customer retention by plugging offerings into platforms.
Enablers. Enablers are companies that provide banking-as-a-service features, data infrastructure, and connectivity capabilities (through Application Programming Interfaces, or APIs). These companies take on the role of pipes through which providers and containers exchange data and information.
Containers. These are the companies that offer a platform or network where they provide inter-connected solutions to customers. Examples include Amazon and Shopify.
What Is Driving the Growth of Embedded Finance?
According to industry experts, there are three consumer-led trends that are contributing to the rise of embedded finance.
Firstly, there has been a shift in buying behaviors with the emergence of a digital platform economy. Companies like Amazon, Facebook, Google, and Uber have changed purchase habits for most adult generations and have created normal buying behaviors for the younger generation.
Secondly, there is an increased openness, even a willingness, from many consumers to non-traditional financial providers. A study from Cornerstone Advisors found that nearly half (46 percent) of Millennials (aged 26-40) would be interested in having a checking account with Amazon if they were offered. That figure is significantly lower (7 percent) among people who are older (aged 76+).
Thirdly, there is a greater willingness among the younger generation to share personal data. These is a vital component to embedded finance and its ability to provide a more personalized customer experience compared to traditional financial services.
Combining all three of these trends to provide financial services relevant to the demands of today’s consumers is essentially the role being filled by embedded finance.
Asia Offers a Glimpse into the Future of Embedded Finance
It is perhaps unsurprising that tech giants such as Amazon, Apple, Google, and Shopify are taking the lead on embedded finance in the Western world. However, many countries in Asia have a significant head start.
The advancement of embedded finance in China, for instance, is predominantly a result of circumstance. Until recently, many businesses did not have card payment systems and many people were un-banked. This allowed Internet-based companies to sidestep the banking system and establish their own financial products and services.
In the US and Europe, meanwhile, reliance on banks and card payments remain the norm. As a result, the transition to modern fintech solutions and embedded finance has been more gradual.
With embedded finance being more ubiquitous in Asia, however, fintech and financial services companies in the US and Europe have had the opportunity to observe its implementation. WeChat, for example, provides social media, instant messaging, and mobile payment facilities, offering customers a platform that services most aspects of their lives.
As customer demand for more personalized, user-friendly service continues to intensify, so will the role of embedded finance in both financial and non-financial companies.