Banking is very “digitisable”. Cash is the only part of the industry that is inherently physical and that is a tiny part of what a bank does. The rest is really about transferring and modifying property rights and information of various sorts, all of which can be digitised. Of course banks have invested huge sums in technology – automating processes and enabling customers to bank online – but we have not yet seen the fundamental transformation of business models that have taken place in other sectors, such as music.
It will happen and when it does, it will have a huge impact. Some of the consequences are clear from other industries. Intermediaries disappear or get marginalised unless they discover new ways of adding value. Look at what has happened to recorded music companies or book shops. Banks are the primary intermediaries of the financial world, so their margins will fall unless they reinvent what they offer their customers and how they work.
In the digital world, things work differently. Scale and network effects drive competitive advantage. Winners tend to take all, as Google and eBay demonstrate. Discrete products get turned into bundled services. Customers of Spotify, a music service, do not buy recordings of individual songs – they buy a subscription to a cloud-based archive.
Perhaps surprisingly, the transparency of the internet does not always lead to the disaggregation of bundles and the disappearance of cross-subsidies. Things get pulled apart and put together in different ways.
Monetisation, costs and customer value can be even more often disconnected than in the physical world. New business models will emerge, as we have already seen: Lending Club’s peer-to-peer model is changing personal lending. Some will thrive, many will fail.
Above all, customers will benefit enormously. Greater transparency will mean better prices for customers. Digital delivery will mean never having to go to a branch. More information and more flexible service configurations will put the customer in control.
Why is it happening so slowly compared to other industries? Part of the answer lies in the banks themselves. Contrary to what many believe, banks are extremely risk-averse. They do not like failing – and it is almost impossible to innovate unless you are prepared to fail. In a context where trust is so important, and where there is increasingly little tolerance of any kind of failure, that is extremely difficult.
But regulation is an even more powerful impediment – and not only because “financial innovation” is a four-letter word in banking supervision circles.
Technology-driven innovation that leads to big winners and big losers, that replaces established products with flexible service bundles, that overturns established business models and blurs the boundaries of banking, and that sometimes fails to deliver quite what was intended, does not fit well with today’s regulatory zeitgeist.
To be fair to the regulators, it is not like banks are straining at the leash. Mostly they are investing in technology to meet ever-increasing regulatory demands, or to reduce costs. There is relatively little investment in innovation that offers major changes in customer experience.
The prevailing “zero tolerance” environment is toxic to new ideas. Moreover cybersecurity and privacy issues are becoming ever more acute. The more finance becomes digital, the more important it is to prevent intrusion, disruption and digital theft.
Yet, despite such challenges, and whether they like it or not, banks and their regulators are going to have to embrace technology-driven innovation. Otherwise it will simply happen by stealth, driven by players outside the industry.
We have already seen examples such as M-Pesa, the mobile payments solution pioneered in Kenya, the ubiquitous PayPal or most recently Bitcoin – the online currency.
Given the scale of customer benefits, and the scope to seize competitive advantage, there are huge prizes for those who can innovate successfully. Too much of the debate about banking is about not repeating the mistakes of the past. We risk missing the opportunity to make banks much better in the future.
We are stepping up the pace of innovation at the bank I run: generating more ideas, implementing them more swiftly, being quicker to discard the ones that do not work. By making everything digital, exploiting the power of big data and the ubiquity of mobile communications, we see huge opportunities to enhance the value to our customers, to increase efficiency and to manage our risks more effectively. The upsides are huge, and the downsides are stark. That is why accelerating technology-driven innovation is a top priority.
The writer is group chief executive of Standard Chartered
Letter in response to this article:
Any innovation by banks has been self-serving / From Mr Andrew Mitchell