Harnessing the shift to a digital economy Harnessing the shift to a digital economy Harnessing the shift to a digital economy

Banks must find their place in a world of new payment mechanisms, digital currencies and fintech disruption.

• Usage of physical cash sharply declined, as hygiene fears magnified the pre-existing trend away from physical currency. In some countries and jurisdictions, there was a spike in ATM withdrawals at the beginning of lockdown but following this, ATM usage also hit unprecedented lows.
• There was a corresponding surge in card/cashless payments, online banking and ecommerce. In the UK, online transactions accounted for around 60% of total transactions, up from 20-30% pre crisis,¹ while in Germany cashless point of sale (PoS) transactions rose from around 40% pre-crisis to 60-70% in April according to discussions with banking organizations.
• While banks’ payment systems stood up overall during the worst of the outbreak, lockdown nevertheless posed challenges for parts of their operations which are dependent on co-locations of people. Remote working also created challenges to dealing with payment exceptions and compliance controls. It highlighted the need for more digital and resilient solutions.

With increasing numbers of new entrants disrupting the payments/services market, COVID-19 has highlighted to mainstream banks the need for a step change in their investment and activity. Acquisitions and partnerships with agile fintechs, payments and e-commerce firms will be critical to creating straight through digital solutions and increasing speed to market. Already, since the beginning of March there have been some 420 deals in the payments space worth a collective £12bn.

As well as creating partnerships and joint ventures with fintechs, there will be a growth in banks forging alliances with major network players such as Visa, Mastercard, Union Pay and Worldpay. Through significant acquisitions of their own, these businesses are already curating capabilities that banks can leverage. Cloud will underpin many of these new partnerships and their new business models.

In an increasingly digital and cashless economy, the opportunities for niche fintech start-ups with innovative new ideas will be immense. For example, we have already seen significant consumer take up of ‘buy now pay later’ services from the likes of Afterpay in Australia and Klarna in Europe. These players have proven that consumers will embrace new services if they meet their needs.

Increasing numbers of central banks are beginning to look in earnest at creating a CBDC. The potential for this ‘programmable money’ in a digital economy is significant, with many use cases and related services possible beyond merely replicating physical cash. China could prove to be the first mover in this, given its generation of new tech banks and its determination to eradicate the black economy. Likely timescales are usually mooted to be 4-5 years for a central bank to actually implement and launch a CBDC once it has taken the decision to do so and finalized its concept – but COVID-19 and general digital momentum could bring it about even sooner. With China actively pushing forward, and European authorities potentially in a race to prevent Facebook’s Libra from getting the upper hand, we may see an acceleration of activity. It will be interesting to see the outcomes from France’s own CBDC program that is now underway.

As the digital economy rapidly scales and ever vaster amounts of electronic payments ping almost instantly around the globe, operational resilience will be a pre-requisite. Banks will need an unrelenting focus on the reliability and security of their payment services, particularly against cyber-attacks. Meanwhile, with margins extremely thin in an ultra-low interest rate environment, banks will need a focus on ensuring that operations are lean and cost-optimized – which may lead to increasing levels of outsourcing of non-core activities (such as payment switch systems or some compliance checks) to third parties or managed services.

In the wake of COVID-19, the change that would have happened over the next 5 years may now take place in the next 24-36 months. Are you actively building capability and looking for partnership and acquisition opportunities in the rapidly evolving payments ecosystem?

To keep pace, banks will need to innovate through the lens of changing lifestyles, evolving business processes and emerging smart technologies, rather than taking a traditional product approach. New skills will be needed in the organization, with fintech and entrepreneurial mind-sets at a premium, and a ‘fail fast’ culture may be needed to shorten time to market.

With increased competition from new players and services, and historically low interest margins, profitability will be hard to come by in payments. How will you respond to this and what new revenue streams can you create in related or adjacent areas?

Increasingly, transaction data will connect with other information to support new digital service development. Software is traversing traditional sector or retail/ wholesale payments divides and importantly connecting “real economy” use cases with financial services. These are the new business models owned by Go-Jek, Klarna, PayPal and many others. Banks will need to compete through their data assets, which will likely result in material acquisitions of data capabilities in order for them to retain relevance in the digital economy.