It will affect the majority of back office processes, impose modifications or enhancements of central systems, and, above all, have a profound and adverse impact on employment.
The technological revolution in banking began with payments. Banks’ competitors focused on the “last mile problem” as a way to secure immediate access to customers. Although in Poland this is inconceivable, in some countries bank transfers still take a few days to make. Such inertia on the part of banks opened the way for their competitors.
Access to customers allows banks to obtain their data, an asset that may later serve as a springboard when it comes to offering other services. It also generates “core deposits”, i.e. residual savings on non-interest bearing accounts. Moreover, it reconciles meeting clients’ needs with a radical cost reduction. It took banks some time to realize that even such a modestly profitable market cannot be simply given away. The last mile, however costly it might turn out, must be firmly kept in hand.
When leaders of Fintech innovation, such as PayPal, were joined by others, including small but technologically savvy start-ups, banks realized that they had to stand their ground. This is when the true race developed between Fintech companies and banks, which were sluggish, weakened by the financial crisis, and focused on implementing of new, post-crisis regulations involving immense costs.
Citygroup analystscalculated that investment in financial technologies increased from USD1.8bn in 2010 to USD19bn in 2015. More than 70 per cent of these funds were invested in handling payments, a significant part of which was in turn invested by banks to defend their market.
Banks, particularly in Europe, have been bruised by regulators and the PSD2 directive, which enters into force in 2018. The directive introduces two substantial changes. The first is the requirement of so-called strong authentication for payment transactions. The second is more important from the perspective of business – each bank will have to create an open application program interface (API) allowing all other payment-making entities to gain access to its clients’ accounts. Banks see this development as a threat.
Offensive code-named BLIK
Smartphones are an increasingly frequent payments tool thanks to installed banking applications. Polish banks, following initial hesitation, came to the conclusion that this is not the path they want to take and carried out a joint counter-attack. Its final success is not a foregone conclusion but it is already clear that they managed to establish a very strong position. Their offensive was code-named BLIK.
Five banks led by the largest, PKO BP — which used its IKO mobile payments system — jointly created a payment system currently used by 2 million customers. It is accepted by 130,000 merchants, including many internet retailers, and allows users to retrieve cash in 14,000 ATMs. The system is growing by the day. Plans call for building a client base of 3-4 million and a volume of 100 million transactions a year by the end of 2017.
“The critical mass is already there. Banks will be joining motivated by their customers’ needs,” said Zbigniew Jagiełło, CEO of PKO BP, at a press conference dedicated to BLIK.
Members of the BLIK consortium agree the system established a high entry barrier in the Polish market of mobile and instant payments. They also see interest on part of international systems, which want to establish an API with BLIK even though the market for international payments in Poland accounts for a mere 3 per cent of the total market.
“It is too late for a Fintech to get the foot in the door and join the payment market in Poland,” said Wojciech Sobieraj, CEO of Alior Bank. “I do not know of any system in the world that would not seek a connection to the BLIK.”
Even so, BLIK still faces challenges. The first is for the standard to be universally accepted – a realistic goal, likely to be met soon. The second, more daunting one, is challenging cash, which still accounts for about. 80 per cent of Polish retail payments. There are some signs of a change, with last year’s report by Capgemini and the Royal Bank of Scotland forecasting non-cash payments to grow by 8-9 per cent a year. Research shows that Poles have quickly grown accustomed to proximity payments with payment cards, but not with smartphones.
“There will be a sharp spike in cashless transactions. We are on the verge of a real boom in mobile payments,” said Cezary Stypułkowski, CEO of the mBank.
BLIK also has the potential to create a uniform API for the whole Polish banking sector, or at least a considerable part, which would entail lower costs. Technical standards for the PSD2 regulating the APIs set up by banks are due to be published by the European Banking Authority.
What dilemmas are posed by apps?
The key area in the payments market is customer comfort. The goal is to make payment as easy as waving Harry Potter ‘s magic wand. This is a challenge for all new payment applications and payment systems because ease of payment has to go together with transaction security.
“Customers are not interested in matters of security but in the comfort of transactions. Banks must take care of security on their own. Striving to make things simpler may compromise security,” said Grzegorz Kuliszewski, director at IBM Polska, during April’s Banking Forum.
This observation is corroborated by data obtained by ITMagination, a banking technology consulting company, which found that 68 per cent of customers expect the app to be intuitive and involve as few steps as possible. Secure access is a concern for a mere 27 per cent. Banks will have to solve this dilemma.
Another dilemma, not restricted to payments themselves, is banks’ ability to cash in on innovation. “Some bankers are beginning to believe that creating an innovation and putting it on the market is enough to achieve success,” warned mBank ‘s Grzegorz Hansen in an article published by the Obserwator Finansowy.
“Digitization consumes our budgets like wildfire,” said Marcin Kotarba, director of the analysis and strategy department at Deutsche Bank Polska.
Customer in the banking channel like fish in water
If apps are so easy to use, why not branches, call-centers or traditional internet banking? Customers should have a uniform and equally positive experience from all those channels. It is unacceptable for a customer to obtain a preliminary loan approval from the call-center only to come to the branch with all the required documents and realize that nobody even knows of their existence.
A uniform experience and intercommunication between various channels in such a way that an initiated process can be continued in any of them is called omnichannel. Barbara Smalska, deputy CEO of Alior Bank, described the history of omnichannel . “We began to digitize because we needed to cut costs. Than we realized that the new solution is not only cheaper but also more convenient. It turned out that such services become higher quality services. Now customers are urging banks, asking why they can count on some services in certain channels and not in others. Customers want digitization so we are doing it for their sake. We are also beginning to see what some of these ideas may be used for, or how they can be taken advantage of by the competition. It is a self-serving loop,” she said during the Banking Forum.
However, the omnichannel is not problem-free. It is easy to adapt communication channels to the needs of a particular person but the rapid development of technology means customer experiences vary greatly.
“We are dealing with three categories of customers. The first one consists of young ‘digital’ people who use technology on a daily basis. The second one is hybrid, and includes people who use technology to a certain extent but who also need physical contact with the bank. The third category is ‘physical’ customers, i.e. customers who will never learn to use digital technologies,” Jagiełło said.
“Wanting to be a universal bank, we cannot solely be a technological house. Older customers are much more cash-oriented. They cannot be digitized,” said Krzysztof Dąbrowski, mBank’s CIO/CTO during April’s Banking Technologies Forum.
The breakthrough destruction is yet to come
The pace of technological change creates difficulties in managing the adjustment. In principle, a new model of a bank should be designed like a factory. A production line here, another there, a loading ramp over there, and a paint shop, a road to the storehouse, and so on. Although the Polish Financial Supervision Authority encourages such thinking about IT system architecture in its Recommendation D, it has proven difficult to implement.
As in manufacturing, there is a problem with changes in demand, which can make investments redundant. Banks do not know what their customers are going to want in one or two years’ time, which makes it difficult to come up with a strategy.
“I do not believe in long-term strategies with a 5-10 year horizon,” said Norbert Biedrzycki, CEO of Atos Polska, an IT company.
A breakthrough in banking will be made by the arrival of self-learning machines and Artificial Intelligence (AI). Self-learning machines use algorithms (admittedly written by people) in order to recognize regularities in data and incorporate them into their pool of knowledge. Statistical techniques allow the transformation of data. The next step is for the AI to draw conclusions and make decisions.
“AI may be personalized and profiled for a specific customer,” said Karolina Marzantowicz of IBM Polska during the forum.
Where do you go looking for data? Everywhere. As some IT environment analysts point out, there is already a surplus of data. According to IBM, every day 2.3 billion gigabytes of new data is generated. By 2020, the flow of data through severs will amount to 40 zeta bytes (10 to the 21st power), i.e. 300 times more than in 2005. “I am terrified at the amount of data. Sorting them out and segmenting them is crucial,” said Biedrzycki.
The problem is that banks cannot cope with the data they already have on their servers. “Data must be de-cluttered. Eighty-five per cent of customers’ data are non-structured data,” said Adam Kępa, head of services for financial institutions with ITMagination.
Unstructured Big Data is big chaos. “Big Data is not a value. Data is surely necessary, but it is also transient (…) and it are stupid by definition. You cannot do anything with it, if you do not know how to use it and what for. It is the algorithms that constitute the true value,” said Peter Sondergaard, Senior Vice President of the Gartner Research think tank, at a symposium organized by this institution last year, as quoted by Information Week .
Banks have no choice and must try to create this value. This is the true battlefield for the future. Maybe it is not regulations but AI that will bring down weak institutions and zombie banks. Those that prevail will benefit from a steep improvement in effectiveness. Not only in customer service, which will soon include conversations between customers and intelligent machines about financial needs, but most of all in process effectiveness.
For example in processing loans, an intelligent machine will be able to identify the customer, accept documents, perform scoring and finally make a decision. It is easy to imagine an intelligent machine as an investment advisor. The customer obviously will not be able to assess the risk inherent in the banking offer but if his natural intelligence suggests caution, they will submit the offer to a comparison engine and the AI will screen it there.
The advantage of machines over humans is that they are not susceptible to corruption or sales pressure, unless they are infected with a virus. As Citigroup analysts claim, machines are equal to people, or even better, in proving theorems, chess, analysis of consumer purchasing patterns and financial reporting. “Human knowledge will be replaced by its machine counterpart on ever higher levels,” they said.
First to undergo this change will be call-centers where customer service can be handled by machines. Such a machine could even speak with Marilyn Monroe’s voice, which would certainly make the contact with bank sexier for male customers. However, it is only by replacing people with machines at higher levels of competence that will enable a new banking model to develop.
“With an ever less frequent contact of the customer with banking employees, algorithms can replace them and offer excellent service, not just boost sales,” said Barbara Smalska.
This ideal world of course has its shortcomings as well. Citigroup analysts forecast that in 2015-2025 about 30 per cent of bank employees will lose their jobs. In Europe, this process will affect more than a million people. Retail outlets will be the first to go.