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With the emergence of challenger banks and big tech companies, traditional financial institutions are facing a rising number of competitors in the increasingly crowded payments space.
These competitors have begun to address some of the unmet needs of consumers, such as those of the largely underserved gig economy workers. However, traditional banks can find opportunities for themselves in big tech companies’ payments endeavors and through the utilization of API digitalization to streamline customer experience.
To talk more about the rise of challenger banks and what to expect in 2020, PaymentsJournal sat down with Eric Brandt, Senior Market Analyst at NCR Corporation, and Aaron McPherson, VP of Research Operations at Mercator Advisory Group.
Digital and challenger banks took off in 2019 and are predicted to grow
2019 was defined by a combination of big tech companies—like Google, Apple, Amazon, and Uber—entering the financial services space, and the take-off of digital-only brands created by challenger banks.
In 2020, Brandt anticipates the challenger banks that are “doing it right” will rise: “I don’t think that these traditional financial institutions can just create a digital-only bank and people are going to flock to it. They have to provide value and give people a reason to come and join the bank.”
Big tech companies will continue growth in the space as well, especially because they are particularly good at utilizing data. This could mean trouble for traditional financial institutions because they struggle to do the same.
Citing Mercator Advisory Group’s 2020 Outlook document, McPherson noted that another major emerging theme is the rise of virtualization. “We’re studying something we call ‘banking as a service,’ which is something that some of the legacy prepaid platform brands like Green Dot, Blackhawk, and Galileo are providing because many of these challenger banks are virtual brands—there are no physical assets.”
McPherson added that “this has also been accelerated by the open banking regulations in the European Union, which have enabled challenger banks to gain traction and grow rapidly to the point where they are looking to expand into the United States.”
He noted that while the U.S. doesn’t have an open banking rule, “it does have a lot of APIs and platforms that can be leveraged. That’s what is making this a big deal for 2020.”
Traditional banks aren’t meeting the needs of gig workers
Gig workers make up a growing portion of workers, with the Bureau of Labor Statistics forecasting that they will constitute 43% of the U.S. workforce in 2020, up from 35% in 2019. Gig workers have similar payment and financial needs as small business owners, who are largely underserved by traditional banks. As a result, said Brandt, “gig workers are absolutely underserved by traditional banks, and it will likely be awhile before these traditional banks catch up.”
Thanks to the advancement of open banking and API platforms, some companies have been able to step in to accommodate these underserved gig economy. A great example of this happening is Uber’s launch of Uber Money, a new Uber team responsible for financial products that support Uber drivers. Essentially, Uber saw the financial needs of its drivers and decided to provide them with money almost instantaneously, all while more or less bypassing the bank.
Due to the evolution of faster payments systems, such as the ACH processing that P2P networks like Venmo and PayPal rely on, a growing number of companies, including Uber and Google, can provide these services.
Another category of underserved gig economy worker is freelancers, who typically get paid through online payments systems like Venmo and PayPal—meaning banks aren’t seeing these deposits. To address this issue, “banks have to find niches to help serve some of those gig workers in particular,” said Brandt.
Small business bankers should be seeking out niches as well, he added, noting that “there have been new features making business banking tasks easier, which traditional banks continue to progress towards, but some of the technology and household companies may continue to better serve those skilled workers more quickly.”
Tech companies in the payments space provide opportunities to banks
Tech companies branching into the payments space isn’t all bad news for banks. In fact, some traditional financial institutions can actually enable non-banks to get into the banking and payments services in a way that benefits them. For example, there have been reports that Google is working with Citi Group and Stanford Federal Credit Union to begin offering checking accounts.
When speaking on the issue, McPherson commented that “Citi Group is about as traditional as financial institutions come, but clearly it sees this as a major opportunity to leverage its platform to enable Google, a non-bank, to use banking services and to see revenue from that.”
API virtualization has streamlined the consumer experience
Banking technology has historically operated in siloed “channels,” where legacy systems held data such as member profiles without sharing that data organization. This resulted in an un-personalized banking experience where each banking “channel” provided a separate consumer experience.
But now, the emergence of APIs and the “digital first” approach have streamlined consumers’ banking experience and allowed banks to focus on their strengths. “Some banks may want to focus on face-to-face customer experience and operate branches, but then they don’t necessarily need to operate their own systems,” noted Aaron, who added that “it’s becoming easier and easier for businesses to specialize and become superior in particular areas, rather than having to do everything.”
Mid-sized banks can use API-driven platforms to push back against being squeezed on both sides–right now, they are forced to compete with both “too big to fail” big banks and smaller institutions with more intimate customer knowledge and relationships. In what Brandt referred to as “what could become no man’s land,” regional-sized banks need to find ways to personalize interactions with customers.
He offered a simple example of how a regional-sized bank’s intimate knowledge of its customers’ interactions with a digital banking app can enable the bank to customize user experience: “Maybe the bank knows you get paid every other Friday and that you check your account between 8 to 9:30 a.m. Knowing this, they can simplify the experience by notifying you of a large deposit and updating you on your current balance.”
Customer experience and security are top priorities for consumers and retail banks
While customer service is a top priority for banks and customers alike, trust and security cannot be overlooked. Banks and credit unions in particular continue to be more trusted by consumers than fintechs and challenger banks, so it must remain a top priority to maintain that trust.
Brandt added that while it is true that “more Millennials and Gen Z consumers are willing to switch banks for a better customer experience, they will just as quickly switch if their data is compromised.” Thus, financial institutions must strike a balance between convenience and ease of use on one hand and trust and data security on the other.
In 2020, expect to see digital-only challenger bank brands and tech companies continue to grow in the payments space. With that continued growth, “business as usual” is no longer an option for traditional financial institutions wanting to stay competitive.
Banks must take advantage of opportunities that come with the emergence of tech companies in the payments space, like Citigroup’s partnership with Google, and also utilize the digitalization of API platforms to meet their customers’ needs and streamline the customer experience. At the same time, banks need to uphold their reputation as more secure than non-traditional options to avoid losing customer trust.