“Sustainable profitability is especially important at the current juncture: banks have been facing the dual challenge of persistently and unusually low interest rates eating away at their net interest margins, and growing competition from new technology-savvy players – big tech and fintech,” the Bank for Financial Settlements reported.
"Once [fintechs] do have the scale to disrupt they will be regulated as if they were part of the established order.”
According to Fabio Panetta, the deputy governor of the Bank of Italy, up to 60 per cent of the profits in retail banking are under threat from fintechs.
The BIS was focussing on competition, on the probability big tech like Amazon and the myriad startup fintechs would eat away at the established players. That’s almost certainly true up to a point but there is a further threat to the global system posed by these disrupters: they are outsiders, falling outside the established regulatory and supervisory order.
At the moment the officials interested in these non-bank competitors are securities regulators – those charged with protecting investors and ensuring fair markets. That’s because at this stage of evolution fintechs either don’t have scale themselves or where they do – as with what Amazon is doing – they are not systemically important.
So these regulators, like the Australian Securities and Investments Commission, have a mandate to provide a fair market for those providing capital in the form of funding rounds – where they are involved at all.
Theoretically, in a catch-22 for those non-banks wishing to disrupt the established order, once they do have the scale to disrupt, they will be regulated as if they were part of the established order.
In a little reported speech to a forum of the fintech industry in Shanghai Reserve Bank of Australia assistant governor (financial system) Michele Bullock made precisely this point.
“Traditionally, payment services have been provided by regulated financial institutions through transaction accounts," she said. "These institutions are prudentially supervised to ensure that the public can have confidence that they will be able to meet their financial commitments under all reasonable circumstances.”
That typically means, if the institution failed, retail deposits are protected. However some new entrants are holding client funds on their books as 'stored value'.
“This raises a number of policy questions,” Bullock said. “Should the funds being held be treated like deposits? If not, do the firms holding the funds need to be regulated in some other way to protect consumers?”
Moreover, she saqid, if "the new entrants are very large, like the big technology companies, they could potentially hold substantial amounts of value in their closed systems. What are the implications for systemic risk of such a market structure? Regulators are still working through these questions.”
In the Bank of Italy’s Panetta’s view the structure of the financial services sector will change fundamentally in the next decade – although he hardly expects banks to disappear.
“Overall, I do not expect independent fintech firms to be able to replace banks,” he argued. “The value chain of banks includes bundled services like deposits, payments, and lending. Fintechs generally carry out one or more of these activities in an unbundled way. Yet, bundling provides powerful economies of scope.”
Big tech though, such as Amazon, Facebook, Alibaba, Tencent, are fundamentally different. They have scale, they have huge data sets and very sophisticated customer service models. Like incumbent banks, they are also acquiring promising fintechs to further disrupt the industry.
They however are the very question the RBA’s Bullock sees regulators working through - although the RBA is clearly not out to protect incumbents per se. Something else Bullock says the regulator is paying attention to is whether banks can exploit their existing positions in the market by denying access to new competitors, or “regulators will need to be alert to potential anti-competitive conduct”.
While systemic stability is the prime directive of global regulators they are subscribers to the view that while banking is essential to a modern economy, banks are not.
Thus Bullock emphasised the potential role of open banking in bringing in more competition.
“It is expected that consumers will be able to use these data (their own financial services data) to access better products and services," he said. "For example, consumers could ask their bank to share their credit card transaction history, interest rate, fees and other relevant data with a product comparison website."
"Using this information, the website could provide a tailored assessment of the best possible credit card for that particular individual, including an accurate estimate of potential savings compared with their current card.”
Bullock accepted ensuring data security and customer privacy were concerns “these can be addressed”.
“The Reserve Bank is confident about the potential of open banking to deliver benefits for consumers,” she said.
Few informed observers deny the potential of open banking to wreak change upon the system, as ANZ’s Nigel Dobson says.
But whether the new competition is fintech, big tech or digital 'neobanks', Bullock reminds us “an important challenge for regulators is how to limit barriers to innovation while maintaining safe and efficient payments systems”.
That means coming under the auspices of central banks and prudential regulators.
Andrew Cornell is managing editor of bluenotes