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What is eating bankers’ lunch? The innovation you didn’t know aboutAre banks ready for the next wave of disruption?

By: Mun Tham, Industry Advisor, Banking
November 18, 2024
12min read

In a world where Amazon, Airbnb, and Netflix have redefined consumer expectations and the underlying industry business models, banks must ask themselves a critical question—are we ready for the next wave of disruption? Have we evolved sufficiently to keep pace with these changes?

Over the past two decades, I’ve seen the banking industry go through significant changes. From the rise of digital banking to ongoing innovations in the payments space, to the adoption of artificial intelligence and machine learning, banks have been on a relentless journey of transformation. However, despite advancements, many banks are still struggling with compressed margins, increased regulatory pressures, and the need to create new revenue streams. The time has come for banks to think outside the box.

Today, the platform economy, characterized by non-linear business models and exponential growth, poses both a challenge and an opportunity for the banking sector. In this article, I’m going to explore the impact of the platform economy on banking and why banks need to adapt and innovate — or fall behind.

But first, let’s establish what I mean when I say “the platform economy”:

The Platform Economy and Banking

To truly future-proof their business models, banks need to understand platform theory, figure out the implications and changes required to re-invent themselves. This is the next wave of disruption enabled by the fourth industrial revolution. Platform companies like Facebook, Amazon, Netflix, and Airbnb have succeeded by enabling interaction between individuals and businesses through scalable digital platforms, creating network effects. These platforms can leverage mobile technology to produce utility and value across borderless communities.

Output vs. Platform Economies

In traditional output economies, business models follow a linear flow with pre-set capacities and prices. Innovation starts internally and is typically restricted. For example, a hotel with 1000 rooms cannot expand further without significant investment.

In platform economies, business models are non-linear, focusing on outcomes rather than outputs. Producers and consumers exchange information in real-time, enabling innovation and exponential growth. Platform providers keep their business models open to enable ongoing innovation.

For example, Airbnb matches lodging seekers with providers, sharing information openly and scaling beyond physical borders. Airbnb profits from being the platform operator while both lodging seekers and providers gain benefits from the exchange. Within the boundaries set by Airbnb, both seekers and providers are able to add/consume lodging, provide feedback and share with family and friends. This openness enables exponential growth.

In banking, head office manufactures products and they get distributed via different bank channels. While recent digital-first strategies have shifted volume towards digital channels, it is still a linear output model where it goes from head office, through bank channels (digital included) to clients. The interaction is one-way and rigid, hence restricting growth. In this case, digitization doesn’t lead to a shift in economic model.

The Evolution of Banking Innovation

Let’s take a step back to look at the big picture – the timeline of banking innovation. As I look back at my career, the following innovations were once a business case or a project charter. They each had clear KPIs or metrics for conversion tracking. But gradually, projects become themes, functionalities become technologies.

As I considered the sheer volume and speed of change, it became clear that the pace is exponential. In the day-to-day, it doesn’t feel overwhelming, but when viewed from a broader perspective, it raises an important question: Is the banking industry headed for the same kind of disruption we’ve seen in sectors like retail and hospitality?

Chart depicting the exponential growth of banking innovation over the past 20 years.

Turns out, back in Jan 2016, Klaus Schwab, Founder and Chairman of the Board of Trustees, World Economic Forum, published an article on The Fourth Industrial Revolution. In it he says:

“We stand on the brink of a technological revolution that will fundamentally alter the way we live, work, and relate to one another. In its scale, scope, and complexity, the transformation will be unlike anything humankind has experienced before.”

“The possibilities of billions of people connected by mobile devices, with unprecedented processing power, storage capacity, and access to knowledge, are unlimited. And these possibilities will be multiplied by emerging technology breakthroughs in fields such as artificial intelligence, robotics, the Internet of Things, autonomous vehicles, 3-D printing, nanotechnology, biotechnology, materials science, energy storage, and quantum computing”

“A key trend is the development of technology-enabled platforms that combine both demand and supply to disrupt existing industry structures, such as those we see within the “sharing” or “on demand” economy.“

“These new platform businesses are rapidly multiplying into many new services, ranging from laundry to shopping, from chores to parking, from massages to travel”

“Overall, the inexorable shift from simple digitization (the Third Industrial Revolution) to innovation based on combinations of technologies (the Fourth Industrial Revolution) is forcing companies to reexamine the way they do business. The bottom line, however, is the same: business leaders and senior executives need to understand their changing environment, challenge the assumptions of their operating teams, and relentlessly and continuously innovate.”

What does this mean for the banking industry?

Industry challenges and the need for change

Despite significant advancements with digital-first strategies, technology innovations in operations and core modernization, banks continue to face compressed margins – something that will only become worse with increased adoption of open banking.

Higher Capital Requirements

Basel III and similar regulatory standards, require banks to maintain higher levels of capital to buffer against potential financial stress and economic downturns. These requirements while designed to bolster the financial system’s stability, cut into the banks profitability by tying up more of their resources in non-earning assets. As seen below, bank’s ROE has been fluctuating significantly for the past 10 years. Banks need to create new revenue streams in order to diversity income streams.

Graph showing US banks' return on equity (ROE) trends over 10 years, with ROE at 11.71% in 2024.

Increased Scrutiny on Fee Income

Traditional revenue streams have come under intense scrutiny, particularly the reliance on fee-based income such as non-sufficient funds fees, overdraft fees, and stop payment fees. Consumer advocacy groups and regulatory agencies are pushing for more transparency and fairness in fee structures, prompting banks to reevaluate and reduce these charges, directly impacting their revenue.

Higher Compliance Costs

The cost to comply with an ever-growing list of regulations continues to rise. As regulations become more complex and far-reaching, banks must invest more heavily in compliance teams and systems to ensure adherence. This includes increased spending on reporting, auditing, and monitoring processes, ultimately squeezing their profit margins.

Emergence of Fintechs

In addition to weakening fundamentals in banks’ business model, fintechs are rapidly innovating and chipping away at banks’ market shares. With modern tech stacks, they operate efficiently and can quickly scale viable markets. They changed the game on client service, through offering value-based banking, something discerning clients are more eager than ever to access. Are you confident your bank offers products sufficiently appealing to your customers? How can you expand your offerings to serve your customers better? That’s why banks urgently need to re-think their product development and explore new avenues for revenue generation.

Table showcasing the emergence of fintechs across various banking sectors.
Emergence of Fintechs

Strategies to Defend Market Share

To defend their market share, banks have adopted various strategies:

Digital Bank

Some banks have launched digital only brands to compete on cost and customer experience. ANZ Plus by ANZ, is a standalone digital bank offering checking, saving and money management tools. It includes a financial coach and cashback rewards.

Client Value Proposition

Banks are innovating on client value propositions, bank-wide rewards programs and tailored merchant partnerships for specific client segments. Bank of America Rewards Program offers progressive benefits, built into reward tiers that entice clients to deepen their banking relationship.

Banking-as-a-Service

Banks are venturing into banking-as-a-service (BaaS) as part of the Open Banking regulatory movement. Embedded finance is an emerging trend, with banks white-labeling services via API and monetizing them. BBVA is known as a pioneer on this front, having one of the most sophisticated open banking API ecosystems.

Collaboration with Fintechs

Some banks choose to collaborate with fintechs to drive segment-specific innovation. DBS on trade finance has made huge strides digitizing trade process flows and partnerships with blockchain-based ecosystems solutions. Stripe and Newline (Fifth Third Bank’s embedded payments arm) partnership enables software platforms on Stripe to offer embedded financial accounts to customers.

Limitations of Current Strategies

Despite efforts to embrace digital transformation, collaborate with fintechs, launch digital only initiatives, and embrace new customer value-based offerings, many banks still find these strategies have been insufficient to withstand disruption, increase engagement and ultimately the banks bottom line.

So why has it been so difficult? The compartmentalized nature in which banks continue to operate leads to inconsistencies in client experiences, undermines the effectiveness of bank-wide rewards programs or bespoke merchant partnerships. Also, the burgeoning Banking-as-a-Service (BaaS) model, while promising, does not structurally change how banks create value; instead, it often adds complexity without necessarily enhancing true differentiation.

Collaborations with fintechs, though innovative, can sometimes lead to dependency rather than capability-building within the bank. Without addressing these deeper issues, banks risk only incremental improvements and miss the opportunity to achieve the radical innovation required to remain competitive and reverse the trend of compressing margin.

Disruption is opportunity if your bank is ready

It’s clear banks face unprecedented challenges. The cost of operations grows, while ROI shrinks. Competition is stiff, and regulations are growing more numerous. Customers have more specific expectations than ever before.

The platform economy promises a beacon of light – a different approach, that can help banks break free of the linear trap that has stymied growth and profitability. But how can it be implemented at your bank?

In part II of our “What’s eating bankers’ lunch?” series, I’m going to offer actionable steps that your bank can take to reap the benefits of the platform economy and ride the ever-growing wave of disruption impacting the financial industry.

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