Open banking: a game changer for business and operating models

in Industry Insights, 10.07.2020

This article was prepared together with Markus Lamest and Elma Memic.

The Covid-19 pandemic hit the worldwide banking industry when it was already experiencing a turning point in terms of its business and operating models. Banks haven’t faced this opportunity and need for change in centuries. More than ever before, customers expect a service experience adapted to their way of living, which, thanks to the pandemic, has become more digital – a trend reflected in the concept of open banking.

Why not take a moment to assess the benefits and sticking points that the industry is currently facing with regard to open banking? Here are, according to our recent discussions with industry experts, the most prevalent opportunities and challenges for the business and operating models of banks.

Outline of open banking key concepts

Business model: opportunities

Regarding business models, respondents viewed the enhancement of customer experience as the biggest opportunity. From the outset, the PSD2 regulation was seen as a catalyst of innovation for banks reluctant to change

However, when it comes to rethinking the customer value proposition, banks don’t need to go it alone: open banking thrives on collaboration and partnerships. According to our interviewees, belonging to an open ecosystem with a wide range of partners is the foundation of improved service offerings, especially via collaborations between traditional banking institutions and fintechs.

As one Head of Operations from a financial technology provider put it, “I’m sure that banks and fintechs have a lot they can do in partnership. Banks have invaluable data but sometimes have problems using it. We are in the business of using data and making the boundary between banks nonexistent, so I am firmly convinced that there are millions of things we can do together.”

With respect to the service scope of traditional banks, there was a consensus that open banking could level up the entire value chain. Through multifaceted partnerships, banks can extend their scope of services through their original sales channels, but also increase the reach of those services through the added distribution channels of TPPs.

Overview of the biggest opportunities and challenges for banks’ business and operating models

Business model: challenges

Opportunities often come with challenges, and here, the extended service scope enabled by open banking brings with it increased competition.  Imagine moving from a pond into the open sea. Now banks need to face competitors – ranging from small fish, such as fintech startups, to the bigger ones. Today, competition also comes from big tech platforms like Google, Facebook, Alibaba and Amazon, as well as from fintech players, more generally.

Competition is a key challenge to consider with respect to business models, but there are also technical roadblocks. Expanding user experiences demands the additional security measures that come with digitalization and open ecosystems. As an example, Strong Customer Authentication (SCA) is a security requirement through which banks can verify the identity of a customer. It imposes multi-factor authentication of a client via multiple elements (more info). While its intention of avoiding fraud is certainly welcomed by all market participants, SCAs also raised concerns among some of our interviewees.

Overall, both market and technology related challenges may be worth facing since it is unlikely that any market player will be able to avoid them in the long run.

Operating model: opportunities

The improved cost efficiency of open banking service models was reported to be the biggest opportunity – especially in the long run. Partnerships could also enable banks to lower costs by upgrading internal processes, applying the standards developed by digital natives.

“Banks will need to leverage the technology of external providers to either optimize existing internal processes, be more efficient and cost effective or, in the second phase, start building new products,” said one respondent and the co-founder of a financial technology provider.

In conclusion, advanced technology leads to cost efficiencies, but it comes with an initial cost, as the next section will highlight.

Operating model: challenges

According to our interviewees, improved long-term efficiency can only be achieved by a change in the operating model. Therefore, the biggest challenges are the reluctance of organizations to perform this change and the initial investments required for the transformation.

Participants claimed that the banking sector often faces inertia when it comes to the decision-making process necessary for opening up. In other words, the views of senior executives on disruptive innovation matters. Often, those in control were trained in conventional business programs and are accustomed to them, which can hinder innovation. Ultimately, our interviewees agreed that, in order to drive change, dialogue between top-level management and the lower levels is paramount.

Another roadblock for innovation is the high amount of initial resources required, often in conjunction with the legacy systems in place.

“Do we have the capacity to innovate where we have a legacy system? Do we have the capacity to innovate in terms of mindset, in term of budget and agility?” reflected one Head of Innovation at a retail bank.

Some respondents also noted that banks are facing plenty of requirements from the regulatory side that need to be tackled, nearly bringing innovation to a standstill:

“Today, banks do not have enough resources to work on other regulatory matters. They have to work on the reporting, so it is difficult to already think about open banking,” noted an advisor at a nonprofit banking association.

Mutualization could be a way to free up limited resources. In the spirit of partnering, mutualization means taking advantage of synergies by splitting the development and running costs of repeated tasks. It is worth mentioning that a recent study by Luxembourg’s Bankers Association (ABBL) shows that 93 percent of credit institutions consider mutualization of certain functions an opportunity for added value (find out more).

Conclusion

Overall, our discussions with industry experts revealed high expectations when it comes to the benefits that open banking will bring to the industry in the years to come.

Partnering with TPPs will help traditional players invent new products and services and respond to customers’ ever-increasing expectations. In order to seize the opportunities, banks need to rethink their strategies and overcome the hurdles that accompany changes in business and operating models. In the end, traditional players may need to strike a balance between the cost of innovation and the right level of process optimization: “A bank, in order to be sustainable, has to make decisions by looking as seriously at optimization as it does at innovation,” concluded one Head of Product Marketing at a financial technology provider.