On March 9, Emma Dunkley wrote in the Financial Times about the new app-based banks aiming to steal a march on the incumbents. In her words:
“They are not expected to take a significant share of the market from the biggest banks.”
Whether or not this specific group takes market share, the threat facing incumbents from new competition, regulation and innovation is real.
To take a look at how we got here let’s rewind to 2007. Nearly ten years ago, on 9th August that year, the European Central Bank injected almost €100bn into the European banking system, after problems emerged in the sub-prime mortgage sector.
The banking crisis sent shockwaves running through the world’s largest banks that still reverberate today.
In response to the crisis, central banks across the globe cut interest rates to near zero. For many years now, this is where they have remained.
Low interest rates have placed significant pressure on bank margins. Coupled with higher compliance costs and increased capital requirements, this has pushed European post-crisis bank returns below their cost of equity.
At the same time, a new wave of start-ups, enabled by technology and a healthy appetite from venture capital investors, have emerged to challenge individual parts of the financial services value chain.
Everywhere a bank looks across its product offering, it is fighting new competition from a fintech company.
The challenge posed to banks by new technology and regulation is about to go up a gear. Business models of incumbent banks are coming under significant threat.
For years, successive UK Governments have puzzled over how to stimulate competition in the banking industry. While there is still debate on issues such as data privacy and customer consent, we anticipate the government’s wish will finally be fulfilled. Competition in the banking sector will explode as a result.
New, so-called ‘open banking’ regulations are coming into force in the UK and across Europe with the objective of stimulating further competition in the banking sector.
This is a marriage of two very dangerous business opportunities – new regulation and new technology – which will combine to reform banks’ business models.
The old world of ‘closed banking’ involves a single bank entity producing and distributing a wide range of commoditised financial products to apathetic customers that see little value in switching providers.
The new world of ‘open banking’ means competition for both who provides the products, and who distributes them.
Increased competition can’t just be driven by technology and regulation. Customers have to want change as well.
Switching rates may have been slow to date, but our data suggests a strong appetite for change.
We asked consumers what might induce them to move banks and the most striking thing about what they told us was the sheer breadth of ideas that customers would embrace.
For example, over a third told us they would switch banks if a competitor offered compelling biometric driven app access and security. And nearly half said deals and offers tailored to their personal circumstances would get them to switch.
New propositions are already emerging to fill these gaps and whilst customers already have an idea of which new services might be valuable to them, it is worth remembering that famous Henry Ford quote about the invention of the motor car:
“If I had asked people what they wanted, they would have said ‘faster horses’”.
We can’t necessarily predict what new innovations will transform the world of banking, or what great services of tomorrow will change the way we manage our money. But we do know that change is coming and banks must respond.
Banks must decide what role they want to play in the lives of their customers.
Our view is that the most likely future for banking is a new model, where customers can be offered the products of different providers from a single interface.
What is less clear to us, is which companies are best placed to own that interface.
There are compelling reasons why incumbent banks could fill this role. They have the trust of their customers, they understand financial regulations, and they have unparalleled insight into customers’ financial history.
However, there are equally compelling reasons why big tech giants, start-ups, or even price comparison websites might be better placed to take the lead role.
The bank of the future is just around the corner. It won’t look like the banks we know today. It won’t talk like the banks we know today. It might not even be a bank we know today.