Bill Murray, senior researcher and advisor at Leading Edge Forum, discusses how the digerati have become competitors to banks and what to do about them.
The digerati are taking bites out of the banking sector, offering payment services, loans and credit, cash and savings products to the under-banked. Amazon is increasingly referred to as a ‘tech banking’ firm. Amazon Pay has evolved to include a digital wallet for customers and a payments network for both online and brick-and mortar merchants. With Amazon Go’s “Just Walk Out” technology – It will grant access to the store and allows customers to grab-and-go without needing to physically check out to pay for products.
Amazon Cash fits neatly into Amazon’s strategy of appealing to underbanked and unbanked populations, allowing users to deposit to their
Amazon.com balance by showing a barcode when paying cash at checkout locations, so they can shop at stores without a bank card. A partnership with Coinstar kiosks will extend Amazon Cash’s reach into rival stores. Amazon Lending offers its online sellers loans to cover working capital at rates that are typically less than a credit card. It also services the consumer market with store, debit and credit cards. The Amazon Reload digital debit card has features that challenge credit cards. Amazon is offering Finance-as-a-Feature.
This rapidly growing phenomenon of “tech banking,” where eCommerce giants provide financial services, was born of three effects. First, the financial crisis, which had an adverse impact on trust in the banking system. Second, the spread of mobile devices, which reduced the advantages of physical distribution that banks previously enjoyed. Third, the demographic shift to millennials, who are more open than the older generation to financial services from non-traditional financial services firms.
Established banks make small or negative margins on serving most small businesses, so they cherry-pick customers, creating an under-banked market. Now that sophisticated analytics is mainstream, lending and payment opportunities are moving to the firms that have the best data on customers. That used to be banks, but now it is eCommerce companies – digerati – like Amazon, Alibaba and PayPal, whose payment processing capabilities can underpin ‘tech banking’. Their customer data is more relevant, granular and timely. They can see minute-by-minute metrics, cash flows, shipping profiles, product accuracy and customer satisfaction. Best of all, clients who have credit lines with these firms spend more than those who don’t, so even low-margin tech banking is worth it.
The Digerati are cleaning up
The digerati are eating into the traditional banking market at a scale any fintech organization would die for. Net interest income constitutes the majority of revenues in the banking sector, and this is where Amazon stands out compared to most of its tech counterparts. From launch in 2011 to June 2017, Amazon reported it issued $3B across 20,000 business in the US, Japan, and the UK. The bulk of growth in the last year has been to businesses in the US, where the company originated $1B in loans in 2017 alone. Amazon Loans has enabled SMEs to grow sales by an estimated $4 billion. More than 20,000 small businesses have received a loan, and more than half of those have taken a second loan from the company. Loans range from $1,000 to $750,000 with interest rates between six and 14 percent. Amazon Payments, with 33 million users in 170 countries, is catching up to credit cards, and PayPal is already ahead of Apple Pay, Google Wallet and the rest. Patents indicate that Amazon is thinking about the future of payments in terms of facial identity and selfies as a means of quickly paying. Payments is an efficiently served market, but not to a challenger with Amazon’s superior levels of efficiency, product integration and customer engagement.
But the Asian digerati are ahead of Amazon. Ant Financial, the finance arm of Alibaba (and formerly known as Alipay), is valued at around $60 billion. It offers payments, personal lending, banking products, savings products, and peer-to-peer lending.
Alibaba’s four-year-old Yu’e Bao fund, a repository for leftover cash from online spending, is the world’s largest, with $165.6 billion under management. Ant Financial moved into fund management when it spotted the growing piles of cash in its customers’ accounts that are used to pay for everything from coffee to taxis to fridges. By sweeping the money into a money market fund, Ant Financial is able to offer a return on surplus funds better than the banks. Customers have responded by taking their money out of bank accounts and placing it in their Alipay digital wallets.
In theory, the next step for any of these organizations would be to acquire a banking license, and the quickest way for them to do that would be to buy a traditional bank. Not only would they get the license, but they would be buying a customer base that could bring a significant credit card portfolio. Owning more of the card payment’s value chain would provide them with an opportunity for cost reduction and even more data about customer behaviour – a vertical integration play in card payments. They would also get the capability to manage the deposit base they have already accumulated. However, it is less likely that Amazon is building a bank than focussing on building financial services products that increase participation in the Amazon ecosystem.
Banks do not need to fear being different
Banks have significant advantages over would-be competitors. A bank is highly regulated; it holds a grip on credit issuance and risk taking; banks are by far the biggest repository for deposits (which customers still mostly identify with their primary financial relationship); they are still the gateways to the world’s largest payment systems; and they still attract the bulk of requests for credit.
The tech bankers know how to win in a digital world, but traditional banks with their legacy loan books, branch networks and systems can win, too. It’s about how to utilize those assets alongside advanced digital capabilities to outmaneuver the tech bankers: product innovation, technology innovation, relationship change, incubate, partner, venture, acquire. These are all possibilities, but only by taking a measured approach to understand the value that exists within those assets already.
Banks and other financial services firms are systemically important to society, which is one of the reasons they are regulated so highly. However, they fall short of meeting the financial services needs of the underbanked, which are whole sections of business and society. The ‘tech bankers’ are increasingly meeting those needs, albeit to drive up participation in their own ecosystems. As banks look to shore up profits by diversifying they will inevitably compete with the tech bankers, but they can’t do that by copying them; they will have to out innovate them.
About the Author
Bill Murray is a Senior Researcher and Advisor for Leading Edge Forum. His IT career spans over 30 years, with 16 years as a Founder and Partner of Differentis, providing strategic IT consulting services to many industry sectors. Bill has experience of developing Digital and business technology strategies, business cases and change programmes involving technology disruptions such as consumerization, analytics and cloud-based services. Most recently, Bill has been helping clients develop IoT enabled business propositions and services in Connected Health, Connected Insurance, FMCG and supply chains, and advising on IoT platforms.
Bill is a chartered engineer by background and started his career with Arup in high energy impact analysis in the nuclear and automotive industries.
SEIZING THE OPEN BANKING OPPORTUNITY
Nick Maynard is a Lead Analyst at Juniper Research
Open Banking has made significant progress in 2020, having recently launched across much of Europe and now starting to emerge in other markets too. And there are two primary reasons why Open Banking is disrupting the banking industry so much:
- Banks have begun to discover the real competitive advantage of a more open approach to banking. Offering a superior Open Banking experience to customers can be a compelling differentiator from other competitors as part of a wider digital app experience. Open Banking also creates a level playing field in markets where regulatory intervention has led to Open Banking deployment. As all banks are required to deploy APIs in this scenario, the situation is the same and does not put any one particular bank at a disadvantage.
- Legislation – for example, in October 2015, the European Parliament adopted PSD2 (the revised Payment Services Directive). By early 2020, major banks in the EU had adopted Open APIs. There have however been many cases of late deployments of APIs and problems with the availability of APIs.
The Disruption Factor
Open Banking is a major disruptive factor for banks. The reason for this being that it opens up account data to both AISPs (Account Information Service Providers) and PISPs (Payment Initiation Service Providers), which can attempt to carve out a role in the banking area.
- AISPs: These new vendors are able to access transaction data and balance information, as well as related information. This has, in particular, led to the rise of vendors such as Emma, Yolt and Connected Money. These vendors combine information from multiple sources, adding value to the user.
- PISPs: In this case, the vendors are able to leverage Open Banking API connections to initiate payments directly from the bank accounts in question. This means that these players are able to bypass traditional payment methods, such as cards. Vendors such as American Express and PayPal have already launched solutions that have taken full advantage of this action.
Generally, the implementation of the new PSD2 European regulation for electronic payment services effectively reduces the entry barriers for new digital players. It also opens up banks to the potential for competition, enabled by their own APIs. This allows these players to compete with existing services in fields currently offered by the banks. In the case of AISPs, it is possible that third-party applications could displace the role of the apps from incumbent players, which would dilute the bank’s relationship with their users.
As with any fundamental change to markets in the banking area, there is the potential to bring a number of both opportunities and challenges to consider with Open Banking.
Open Banking Opportunities & Challenges to Consider
Source: Juniper Research
Banks and other parties that are looking to become involved in the Open Banking ecosystem must weigh these opportunities and challenges carefully. Open Banking certainly needs a more collaborative approach than traditional banking models, which will require significant effort to make them successful.
The Forecast for Open Banking
The total number of Open Banking users is set to double between 2019 and 2021, reaching 40 million in 2021 from 18 million in 2019. The ongoing Coronavirus pandemic is increasing the need for consumers to have the clarity of combining their accounts and gaining insight on their financial health, and also boosting momentum in the adoption of Open Banking.
This extraordinary growth is being driven by Europe, where the regulator-led approach to Open Banking has created a standardised market, with low barriers to entry. This contrasts with markets like the US, where a lack of central regulatory intervention is limiting growth potential.
Open Banking – Delivering Opportunities and Threats
It is worth noting that Open Banking can be both a threat and an opportunity for traditional banks. While Open Banking exposes user information and access to potential competitors, this threat has the potential to affect all players in the market equally. Consequently, established banks must create innovative Open Banking services that will provide benefits for the user, while also attracting customers from less innovative competitors.
Payments will be critical to the emerging Open Banking ecosystem; accounting for over $9 billion in transaction value in 2024. However, payments in this ecosystem are at a particularly early stage. While eCommerce is dominated by card networks, there is the potential that this role will be eroded over time by ‘direct from account’ payments. Consequently, card networks should look to offer Open Banking-enabled payment services, in order to offset the risk of future disruption.
Open Banking Users in 2021 (m), Split by 8 Key Regions: 40 Million
Source: Juniper Research
2021: THE NEW-NORMAL LIFECYCLE FOR BANKING
Laura Crozier, Global Director of Industry Solutions, Financial Services at Software AG
It would be impossible to talk about predictions for the banking industry in 2021 without mentioning the cataclysmic impact that 2020 and the pandemic has had on people, businesses and countries.
Unlike with the global financial crisis, banks have been able to step up as “good guys” this time around, rebuilding their reputations as well as accelerating digital transformation. One of the main outcomes is increasingly smart, efficient online payments.
In 2020, the banking industry innovated like never before. This is the new normal. Overall, customers and society will be the beneficiaries from the changing industry. Here are my predictions:
Reputations are reborn
Banks across the globe pulled out the stops to integrate and adapt systems and processes to help customers during the pandemic. They offered accommodations in loans, assisted governments with the distribution of financial relief, and supported consumers by upping contactless spending limits and virtual deposits.
In 2021, banks will risk losing that rosy glow as economic circumstances drive them to deal with non-performing loans, mortgage foreclosures, layoffs etc. But, beyond their role in society as providers of capital and liquidity, banks will invest to sustain their reputations as trusted and good corporate citizens and use their power to persuade their customers and providers to adopt higher environmental and ethical standards. This will be in the areas of bank carbon-neutrality, sustainable financing, serving the unbanked, diversity and gender equality (as the number of women running a major global bank will double from one (Jane Fraser at Citi) to two). It’s a start.
Coming of age in the way of working
Back in Q1, when bank employees cranked up their laptops on their dining room tables, banks that were strategically undertaking business transformation accelerated their efforts. Those that were tactical, or on the fence, now understand with painful clarity that this work must be undertaken strategically.
Cracks in process and the way of working and their resulting risks can be crippling. Especially from a back-office perspective, it is not enough to rely on “organisational memory” and collegial proximity for work to get done right. Advanced banks pushed the boundaries of remote work, and the proof of concept was successful. So, they’re doubling down on developing digital twins and moving to the cloud. They’re adopting the hybrid office/WFH approach to reduce health risks and reduce cost permanently. The watercooler will never be the same.
The death of cash
Ok, maybe the rumours of the death of cash are a bit exaggerated since there will always be the need for cash (and, to some extent checks; the USA, for example, cannot seem to live without them). But the pandemic has permanently changed the way that consumers and small businesses bank, and the demotion of cash has been accelerated by a decade by the pandemic. For example, the Norwegian central bank said that cash payments in that country have plummeted to just 4% of transactions since March.
Implications? It will be critical to continue evolving payments to be smart, safe and flexible to compete in new world, in both retail and commercial banking. Also, the permanent change in the mix of channels will see banks’ face-to-face engagement with customers fade. Branches aren’t going to go away entirely, but they will be reserved for high value activities – by appointment only. To compensate, the personal touch has to be delivered digitally and intelligently.
The role of the bank as a “financial wellness partner” is being born. Banks will use customers’ data, not just to personalise and differentiate banking experiences, but to make recommendations for products and services beyond traditional banking from across their ecosystem to serve their customers well. Just as customers own their cash (physical or digital), in the future they will demand that they own their data (and can share it with whom they choose). Then retail and commercial clients will share their data in return for value.
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