Reports on the risks and rewards of fintech for European banks
Financial institutions are becoming increasingly nimble in responding to fast-changing customer expectations and competitive forces. The EBA highlights the risks of being too passive – and too aggressive – in the pursuit of digital transformation, and in some cases, digital disruption.
EBA’s first fintech reports
Rethinking business models
Specifically, the EBA has identified two key trends:
- digital transformation of internal processes to digitise and optimise operations; and
- digital disruption of incumbent business using innovative technologies.
Some business lines more affected than others
The EBA finds that payments and settlement business lines currently appear the most affected by new entrants, particularly in relation to cross-border, micro and card payments. Retail banking is the second most affected, according to the EBA, given increasing competition in the space.
New technologies bring new opportunities
The EBA notes that institutions are finding the cost reduction and revenue growth returns difficult to quantify at this stage. That said, the current wave of technological change remains exploratory for the moment. Institutions are still at an early stage of use of big data, machine learning and blockchain technology
It is not all doom and gloom, however. The EBA notes that new business models are developing. Mobile wallets, aggregator services, robo advice, data analytics and SME tools are all identified as areas of promising opportunity.
Engaging with fintech firms
The EBA notes that incumbent institutions are keen to adopt new technologies without necessarily engaging with fintech firms. Incumbent firms can develop new products and services internally.
The EBA notes that incumbents consider engaging with fintech in different ways, potentially in parallel. For example:
- partnering with Fintech firms
- investing in Fintech firms through venture capital or via direct investments
- collaborating with other banks and stakeholders (consortia) to develop new technology
- developing fintech solutions internally
Change of governance
Prudential risk and opportunities
- Biometric authentication using fingerprint recognition
- Robo-advisors for investment advice.
- Big data and machine learning for credit scoring
- Distributed ledger technology and smart contracts for trade finance
- Distributed ledger technology to streamline customer due diligence processes
- Mobile wallets with the use of near-field communication
- Outsourcing core banking/payment systems to the public cloud
Balancing exercise in risk management
The EBA suggests the new opportunities presented by fintech could potentially outweigh the associated risks provided that effective governance structures are put in place together with appropriate risk management processes.
|Example opportunities||Example risks|
|Improved customer experience, e.g. more convenience, efficiency and transparency||Operational risk, including risks associated with IT changes|
|Efficiency gains and automated processes reducing risk of human error||Legal, regulatory and conduct risk, including regulatory fines and customer redress|
|Lower operational costs and administrative burden||Third party dependencies, notably outsourcing of critical functions|
|Reduced transaction time and costs in the financial system||Business risk, e.g. more competitive pricing|
|Potential for new business models||Reputational risk|
|Greater data accuracy and efficiency and improvements to data security, e.g. via encryption and strong customer authentication||Increasing risks and costs relating to data integrity, security and privacy|
What is happening next?
For the time being, the EBA has reserved its position on whether it needs to make recommendations to regulators to promote consistency and coordination on fintech. We will follow the EBA closely as it continues to monitor fintech developments in the financial services sector.