Digital Banking Chapter 1 PDF

DIGITAL BANKING Course Code: BAN3018 Lecturer: Nguyen, T. T. Quang – Faculty of Banking Email: [email protected] CHAPTER 1 The Digital Transformation of Banks 2 CONTENTS 1. The Development of Digital Banking 2. Drivers of Digital Transformat...

DIGITAL BANKING Course Code: BAN3018 Lecturer: Nguyen, T. T. Quang – Faculty of Banking Email: [email protected] CHAPTER 1 The Digital Transformation of Banks 2 CONTENTS 1. The Development of Digital Banking 2. Drivers of Digital Transformation in Banking Business 3. The evolution of digital banking 4. Digital Transformation 5. Digital Transformation Models 6. New Digital Banking Models 1. THE DEVELOPMENT OF DIGITAL BANKING Banking organizations have continuously transformed over time. It is possible to divide the macro changes into five main periods to mimic the so-called industrial revolutions. Read chapter 2 - TL1, identify 5 Industry Revolutions with main innovations and corresponding changes in banking 4 1. THE DEVELOPMENT OF DIGITAL BANKING 5 2. DRIVERS OF DIGITAL TRANSFORMATION IN BANKING BUSINES Digital Technologies New digital technologies not only have the power to improve efficiency and the effectiveness in services, but they have also started exerting influence on banks’ products and delivery methods (Eg. JPMorgan Chase uses AI to deliver personalized financial products) Banking is changing as value chains become fragmented, products are componentized and new adaptive players emerge (Eg. Paypal, LendingClub, Prosper…) Technology can enhance economies of scale thereby changing the proportion of fixed versus variable costs and lowering entry barriers (automating many repetitive tasks, expanding the ability to provide digital services, cloud computing, etc.) Banks become more dependent on technology both at an operational and strategic level. Regulation Shifts in Consumer Habits and Behavior The financial disruptors 6 2. DRIVERS OF DIGITAL TRANSFORMATION IN BANKING BUSINES Digital Technologies Regulation Since the 2008 crisis, the financial sector’s regulatory requirements and controls have increased dramatically—both in volume and in complexity Key elements of the bank regulatory changes: An increase in the quantity and quality of capital; New measures for globally systemically important banks (G-SIBs); International prudential regulation of liquidity risk; A global framework for the recovery and resolution of banks Costs of regulatory breaches Shifts in Consumer Habits and Behavior The financial disruptors 7 SOME BANKING/FINANCIAL LAWS ENACTED AFTER THE CRISIS The UK Banking: Conduct of Business Sourcebook (BCOBS) — Insists that banks are fair, clear, and not misleading in their communication with customers. The Financial Conduct Authority (FCA) can now fine banks or even in some cases remove them from the register if they infringe on these rules. Banking Act of 2009 — Allows the Bank of England to close a bank before its balance sheet becomes insolvent, to keep the financial system stable. Banking Reform Act of 2013 — Implements a framework for compartmentalizing the largest banks to better protect customers’ deposits, legislates for bail-in measures to ensure that taxpayers’ money will not be used to save failed banks, introduces a Senior Manager Regime to hold key decisionmakers accountable, and makes severe misconduct a criminal act. Following the 2008 financial crisis, regulators reviewed how risk oversight operated and improved standards of conduct among senior management. European European Market Infrastructure Regulation (EMIR) — Introduces new requirements to improve transparency and reduce the risks associated with the derivatives market. This simplifies clearing requirements for smaller firms and simplifies the threshold calculations, removes frontloading requirements for derivatives trading, and amends reporting requirements. Capital Requirement Directives (CRD II, III, IV) — A supervisory framework in the European Union which reflects the Basel II and Basel III rules on capital measurement and capital standards. Makes banks safer by requiring them to hold more capital and improve their management of liquidity risk. Bank Recovery and Resolution Directive (BRRD) — Requires banks to prepare recovery plans and authorities to be ready to resolve failed banks without recourse to the taxpayer while requiring creditors to be “bailed-in.” Single Resolution Mechanism (SRM) — Complements the Single Supervisory Mechanism (SSM) and provides a structure within which to coordinate the resolution of a failed bank, including the possibility of creating a Single Resolution Fund. Deposit Guarantee Schemes Directive (DGSD) — Enhances protection for bank account holders by increasing the coverage and transparency of their deposit guarantee. MAR/CSMAD — These two pieces of legislation together extend the scope of the current market abuse regime to cover financial instruments traded on new categories of platforms and the OTC. This affects anyone who conducts insider deals, improper disclosure, misuse or manipulation of insider information, or who conducts business based on insider information. The revised regulations expand civil penalties to include criminal penalties as well for some forms of insider dealing. This will more closely align the way in which market abuse rules apply to commodity derivative and underlying spot markets, which include improper activities relating to benchmarks within the scope of market manipulation, introducing offenses of attempted insider dealing and market manipulation, ensuring national competent authorities have a minimum set of investigative and enforcement powers, and establishing a harmonized regime of minimum criminal and administrative sanctions across all of the EU Members States. Markets in Financial Instruments Directives (MiFID II/MiFIR) — Improves investor protection, increases transparency, and continues the harmonization of regulation across the EU. EC Bank Accounts Legislative Package — Increases access to basic banks accounts, improves transparency, and legislates to make account switching easier. Packaged Retail Investment and Insurance-Based Products (PRIIPS) — Increases the consistency and transparency of complex investment and insurance products for retailcustomers. Central Securities Depositories Regulation (CSDR) — Harmonizes securities settlement in the European Union. Multilateral Interchange Fees (MIF) Regulation — Reinforces the single market (meaning the European Union) by promoting more secure, innovative, efficient, and competitive card payments. 8  2. DRIVERS OF DIGITAL TRANSFORMATION IN BANKING BUSINES Source: https://www.elibrary.imf.org/view/journals/001/2019/127/article-A001-en.xml 9 2. DRIVERS OF DIGITAL TRANSFORMATION IN BANKING BUSINES Digital Technologies Regulation Shifts in Consumer Habits and Behavior The rise of Millennials Mass Adoption of Smartphones Modern financial consumers want a simple experience, using bank products that are easy to understand and that are transparent and accessible 24/7 The financial disruptors 10 2. DRIVERS OF DIGITAL TRANSFORMATION IN BANKING BUSINES Digital Technologies Regulation Shifts in Consumer Habits and Behavior The financial disruptors New fintech entrants are moving rapidly into traditional areas of banking as they expand their customer base (Google, Apple Pay, Walmart…) 11 3. THE EVOLUTION OF DIGITAL BANKING 12  4. DIGITAL TRANSFORMATION “It is not the strongest species or the most intelligent which survived, but one that is best suited to change.” - Darwin 13 4. DIGITAL TRANSFORMATION Digital transformation is a change in the corporate culture and the definition of an innovative business model => supply a better digital customer journey It requires a long-term vision and an in-depth analysis of the short, medium, and long terms steps that the organization should take 14 4. DIGITAL TRANSFORMATION Seven specific dimensions for describing a digital transformation: Change in processes: adapting or redesigning business processes to take advantage of digital technologies Creation of new organizations: departments specializing in big data, AI, or digital teams specializing in developing online platforms... (e.g. DBS establishes DBS Digital Banking, DBS Innovation Group) Change in relationships: Business-customer relationships, employees are more connected, more data- driven Change in user experience Change in markets: changing competitive dynamics, the emergence of new competitors and redefining business sectors (e.g., Santander launched Openbank in 2017) Change in the number of customers Disruptive impact (e.g., Uber) A solution must affect three or more of these dimensions to be transformational 15 5. DIGITAL TRANSFORMATION MODELS Stepwise. Transforming to a banking 5.0 organization can appear as a step into the dark for senior management. This transformation model is the most common. Many organizations run multiple rounds of pilots and iterations before fully committing to scaling up across the organization’s entire or substantial parts. Pros: risk reduction, avoidance of large investments, learning and improvement Cons: Slow conversion speed, inconsistency in customer experience, asynchrony between departments in the organization Eg. Bank of America 16 5. DIGITAL TRANSFORMATION MODELS Big bang. An increasing number of organizations get firm convictions on going on with a complete digital transformation. They fully commit upfront to move the whole organization into banking 5.0. Pros: deliver fast results, help ensure consistency across the organization, and improve the customer experience Cons: large investment costs, high risks, requiring significant management capacity and resources Eg. ING 17 5. DIGITAL TRANSFORMATION MODELS Emergent. It is impossible to plan a banking 5.0 transformation in detail from the start. Most banking 5.0 roadmaps have innovative approaches. Some organizations have chosen to implement their entire transformation through an agile, dynamic, stepwise, bottom-up approach. Pros: adapt quickly, encourage creativity and innovation, transformation takes place naturally and seamlessly Cons: lack of clear direction, leading to prolonged and asynchronous transformation, challenges in managing and measuring the progress of the transformation process Eg. Revolut 18 6. NEW BANKING BUSINESS MODELS Challenger banks A bank that is small and specifically designed to compete with the big traditional banks, through offering superior service and better deals Characteristics: Higher return, Lower cost More advanced and up-to-date software, User-friendly websites Small management structure More personalized service Technology: Algorithms, predictive analytics, machine learning… Eg. Revolut, N26, Chime… Neobanks Digital Payment Instruments 19 6. NEW BANKING BUSINESS MODELS Challenger banks Neobanks Neobanks are financial institutions that offer internet-only financial services and products and do not have physical branches Characteristics Low costs, Convenience, Fast processing time Comfortable with their solutions Less regulated than traditional banks. No physical bank branches Timo Bank Digital Payment Instruments 20 6. NEW BANKING BUSINESS MODELS Challenger banks Neobanks Digital Payment Instruments Personalized device and/or set of procedures agreed upon by the Payment service user (PSU) and the Payment service provider (PSP) and used by the PSU to start a payment order AI and machine learning application 21  END OF CHAPTER