Journal of Money, Investment and Banking
ISSN 1450-288X Issue 4 (2008)
© EuroJournals Publishing, Inc. 2008
Electronic Banking in Finland and the Effect on
University of Louisiana at Monroe, USA
University of Louisiana at Monroe, USA
The current study investigates the electronic banking system in Finland and its
historical development. Data are collected for M1 and GDP to calculate money velocity.
Money velocity is found to substantially decrease in 1991 due to a redefinition of M1 in
Finland, but more importantly, velocity showed a slight downward trend prior to the
redefinition and following the redefinition. This downward trend goes against what we
would have expected to occur in an environment of increasing technology in the banking
Keywords: Finland, money velocity, e-banking
JEL Classification Codes: E51
Electronic Banking in Finland
Electronic banking (E-banking) enables customers to do their banking 24 hours a day, 7 days a week.
E-banking customers are able to check their account balances, pay bills, apply for a loan, trade
securities, and conduct other financial transactions. E-banking can be divided into five major
categories: (1) Internet banking, (2) Telephone banking, (3) TV-based banking, (4) Mobile phone
banking, and (5) PC banking. Technological innovations in recent decades have made the move
towards E-banking possible. The increasing competition for customers in banking and need to decrease
cost of providing banking services has led banks to integrate these changes.
There has been a lot of development in the E-Banking sector all over the world but the
Scandinavian countries take the lead. In this paper we are going to look at Finland as the Finnish
banking system has perhaps the most advanced and widely used electronic banking system in the
History can explain the advances in the Finnish banking system in recent decades.
Finland developed a credit transfer system early. This system is known as “Giro system”. In
1939 Finland developed the system to transfer credit known as the postal giro system. The state owned
Postipankki (the second largest bank in Finland) and the Post office had control of this system. Then in
1942 another system was developed which was known as the bank giro system. This system was run
by the privately-owned banks. Many private banks joined this system as an opportunity to compete
with the government owned banks since the postal giro system had already developed. This behavior
among banks shows that there was a cooperative environment among the banks in Finland. Due to the
Journal of Money, Investment and Banking - Issue 4 (2008) 21
popularity of these two systems, there was not much opportunity (due to lack of need) for the check
system to develop. In the giro system of payments the party who is paying has to submit the giro form
to the bank giving them the instruction to take the money out of its account and putting it to the other
party’s account in the same bank or with some other bank. Separate forms were used for both postal
and bank giro system but after 1993 Finnish banks started using the same form for both the giro
systems. This payment system developed into the electronic based banking system to avoid extra
charges in processing the forms.
After adopting the electronic system the banking service has become faster and easier to use. In
the electronic banking system, the banks have created a reference number system that is known as
“reference giro”. The reference giro contains a number that helps in identifying the bill for the payer or
payee. This type of system helps the creditors to keep track of their incoming payments. The creditors
can do all this by using banking software or through a paper statement. Separate paper receipts are not
commonly used so they are only available on request. The funds between same banks are transferred in
real time but if the party wants to transfer the funds from one bank to another in real time then an
“Express Transfer” facility is also available.
The other historical occurrence that contributed to the development of the electronic based
banking in Finland was the salary bank scheme. Under this scheme the salaries and wages were
credited to the bank account of the employees instead of paying them in cash. This policy was adopted
in 1960 and due to this scheme people had to open an account in a bank. As a consequence, the people
started to prefer doing payments through the bank account instead of cash. This new development
triggered competition among banks. However, since the banks could not compete with each other
through changing the interest rates paid to customers due to interest rates being regulated by the
government, the banks competed with each other by offering better service. This gave rise to the
development of the first electronic banking system in Finland. This system was created to help the
organizations to transfer the wages, salaries and other payments easily and inexpensively. The up-front
costs of developing an electronic banking system are large, but once the system is in place the costs
drop dramatically. For the electronic banking system to be successful, large numbers of banks had to
participate in order to share the up-front costs. Banks had an incentive to participate because their
primary marketing instrument to attract customers was the services they could provide. Therefore,
most banks readily participated from the beginning and the system was able to be developed and grow
quickly throughout the country. Another factor leading to the success of the electronic banking system
was the widespread use of computers among the Finnish population.
The economic crisis of the early 1990’s also had a substantial effect on the Finnish banking
system. Exports to other countries, particularly to northeastern Europe, dropped substantially. In 1991,
Finland’s GDP decreased 6% and the unemployment rate rose to 10%. By 1994, the unemployment
rate was 20%.
These economic crises lead to advances in the banking system. As Finnish banks scrambled to
cut costs in order to survive, development of the electronic banking system flourished in response. The
newly developed electronic methods were far less costly than the old paper based system.
The early focus on bank deposits for wages, banks striving to compete and cut costs and the
technologically savvy population have contributed in making Finland the leader in the electronic
banking. In 2000, nearly forty percent of financial transactions in Finland were made on the Internet.
This increase in technology theoretically should have had an impact on money velocity, specifically
causing velocity to increase.
Money velocity is the average number of times per year that a dollar is spent towards the purchase of
products and services in an economy. Velocity is defined as the following: V = (PY)/M, where
V=velocity, PY=nominal GDP, and M=quantity of money. The concept of money velocity was most
clearly described by Irving Fisher in his book entitled “The Purchasing Power of Money” (1911).
Velocity is determined by institutions in the economy and how these institutions affect the way
Journal of Money, Investment and Banking - Issue 4 (2008)
individuals conduct transactions (Irving, 1911). With advances in technology in financial services, we
would expect the velocity to increase. Technological advances in banking translate into less money
being required to conduct transactions. As M decreases relative to PY, velocity increases. Conversely,
if more cash or checks are used to pay for transactions, then velocity would decrease. There could be
situations in an economy that make paying by cash or check more convenient. As holdings of cash or
checks increase, then velocity decreases.
Data and Empirical Findings
The data for this study were obtained from Global Insight. The data included M1 monetary aggregate
and Gross Domestic Product for Finland. The M1 monetary aggregate was comprised of currency in
circulation and transactions deposits. All data is in millions of dollars and is quarterly. The data used
for the study is from January 1970 to December 1998. Beginning in 1998, the Euro was introduced in
Finland and a national currency no longer exists. Figure One, Figure Two, Figure Three, and Figure
Four provide time series graphs of currency in circulation, demand deposits, M1, and GDP,
respectively. You will notice in Figure Two, a sharp increase in demand deposit holding in January
1991. This increase is due solely to a redefinition of demand deposits to better account for all
transactions deposits. The new definition of demand deposits more closely follows definitions of
monetary aggregates used in the United States.
Currency in Circulation
Journal of Money, Investment and Banking - Issue 4 (2008) 23
D a t e
Journal of Money, Investment and Banking - Issue 4 (2008)
Money velocity was calculated by dividing M1 by GDP. Figure Five provides a graph of the money
velocity over time.
As can be seen in Figure Five, money velocity in Finland fluctuated between 3.6 and 2.7 during
1970 to 1990. The overall trend from January 1970 to December 1990 is a slight decline in money
velocity. This decline in velocity is not what we would have predicted based on the advances in
technology in Finland. In 1991, a substantial decrease in money velocity occurred. This decrease
coincides with the redefinition of M1, which expanded items included in demand deposits. Therefore,
this one time decrease in velocity should be ignored in and of itself. What is interesting to note, is that
velocity showed a slight decrease from 1991 to 1998. A continuation of the downward trend in velocity
Journal of Money, Investment and Banking - Issue 4 (2008) 25
observed between 1970 and 1991. With technological advances, we would expect velocity to increase.
However, this has consistently not been the case in Finland despite continuing advances in the banking
Finland is perhaps the world leader in the development and integration of electronic banking into its
society. It represents a unique model of how banking will probably evolve in other countries over time.
The introduction of technology is hypothesized to increase money velocity due to the efficiency of
payment transfer. It would have been expected that Finland’s money velocity would have increased
with technological changes. The opposite occurred however leading to a puzzling outcome. The
redefinition of M1 would have had an impact on the reduction of money velocity. However, this
impact is limited to the sharp decrease in January 1991 only. The economics downturn in Finland or
the breakup of the former Soviet Union are other factors that could explain the increase in demand
deposits as people became more pessimistic about the future economy.
Another possible explanation of the decreasing trend in money velocity in Finland may be
related to the convenience of holding M1. Because Finnish bank customers have instant access to their
demand deposits, they may see holding most of their cash in these accounts as the most efficient
scenario. In this manner they will have maximized the use of the banking technology. Evidence to
support this claim can be found by examining other deposits held in Finland. At the same time demand
deposits rose, other deposits declined suggesting that customers reallocated their money from other
accounts into demand deposits. This is a fascinating possibility because it suggests that electronic
banking services may ultimately reduce bank-operating costs while simultaneously increasing the
difficulty of managing the deposit portfolio of the bank.
European Central Bank(2001), ECB Blue Book, June, 427-452.
Fisher, Irving (1911). The Purchasing Power of Money.
Karjaluoto, Heikki. Koivumaki, Timo and Salo Jari (2003). “Individual Differences in Private
Banking: Empirical Evident from Finland”, Proceedings of the 36th Hawaii International
Conference on System Sciences.
Kasvio, Antti (2001). “Historical Roots of the Finish Information Society”.
Snellman, Jussi (2000) “Evolution of Retail Payments in Finland in the 1990’s”, Bank of
Finland Discussion Papers 19/2000, Bank of Finland, Helsinki.