Open banking is booming in Europe. A quick Google Trends search shows how interest in the term has exploded over the past five years. However, we are currently witnessing only the beginning of a phenomenon that will revolutionize financial services. Who exactly will benefit most from open banking is widely speculated; my money is on the tech giants – here’s why.
When I founded Salt Edge in 2013, the company’s two products, an aggregation platform and a personal financial management tool, aggregated customer data through screen scraping. Open banking did not yet exist; it will be another five years before the revised Payment Services Directive (PSD2) comes into force. Until then, Salt Edge had neither access to banking APIs nor any idea how open banking would change its business model — let alone the face of finance — over the next decade.
The impact of PSD2 on financial services
By requiring financial institutions to share data with third-party providers (TTPs), PSD2 aimed to increase competition and innovation in the financial services industry, traditionally dominated by retail banks. Initially, it seemed that TTPs had the most to gain from the new regulations, since banks were barred from monetizing their APIs and had relinquished sole control over valuable consumer data. Two types of TTPs then emerged: account information and payment initiation service providers (AISP and PISP), and the number of use cases for open banking-focused financial solutions exploded.
The most innovative developments are currently taking place in payment initiation, which allows customers to allow third parties to initiate payments directly from their bank account via transfer systems such as Faster Payments, SEPA or Elixir Express. Removing the middleman is advantageous for both the customer and the merchant; the latter pays considerably less in fees, while the former gains in security against fraud because he does not need to provide his card details (which also saves him having to enter them). Since bank transfers now take 10 seconds, instead of 10 days as they once did, card payments no longer have the advantage of speed, putting their future in question.
Cards are technology from the 60s and 70s. Why carry around a piece of plastic when you can use your phone to authorize a payment?
Meanwhile, account information services continue to find new use cases. In the early days of Salt Edge, AISPs primarily targeted consumers, who benefited from a better understanding and control over their spending, borrowing, and saving habits. Many of Salt Edge’s early customers sought to use data such as account balances and transaction history to provide customers with access to all of their financial data in a single application. Today, AISPs are diversifying their customer base to include groups like private businesses, which benefit from real-time insight into their finances, and lenders, who can use personal financial data requested by consumers to perform assessments. transparent credit.
Why open banking isn’t bad news for retail banks
Now that the industry has time to adapt to PSD2, the benefits of open banking for retail banks have also become clearer. With far greater resources than TTPs, banks can combine newly revealed swaths of customer data with the power of machine learning (ML). By mapping a single customer’s data across their entire anonymized customer base, retail banks can make very accurate forecasts, especially when incorporating additional data such as inflation and market changes into their calculations. Salaries are a good example: if retail banks can predict how much a customer will earn in the future, they can use this information to suggest retirement or investment plans. The applications of ML are limitless, although good data management will determine how successful banks are.
Retail banks are only scratching the surface when it comes to finding use cases for open banking. However, it is not certain that they will be the long-term winners.
How tech giants could set up shop
Another stakeholder wields even more influence than the banks: the tech giants. Although they have yet to successfully compete for significant parts of the value chain, the tech giants are already moving into retail banking. Apple recently acquired credit scoring startup Credit Kudos, potentially allowing it to remove the need for credit cards from Apple Pay and offer buy-it-now, pay-later services. I imagine it won’t be long before we can ask Siri for our bank balance or transfer money to our friends.
Open banking will give financial institutions a much more accurate picture of people. On social networks, it is difficult to predict what people really look like because they can manipulate their image and choose what information to share. With open banking, banks have access to data that represents the real, unedited lives of consumers – that’s valuable data. Combine that with the power of companies like Google and the potential is huge.
In my view, the players who control the user interfaces have the most to gain from open banking – and those are probably the tech giants, not the banks. Bill Gates once said that we need banking services, but we don’t need banks; in my view, the arrival of open banking marks the beginning of this transition. I believe that our money will always, or at least for a long time, be stored in banks, but consumers will interface with and manage their funds through apps owned by the tech giants. With their digital expertise and focus on customer experience, combined with their size, tech giants are formidable competition.
Financial apps focused on tech giants would mean a better deal for consumers. Consumers today tend to rely on a single provider for the majority of their financial needs, hence the phrase “I do business with [insert bank name]”. While it would be much more efficient for consumers to choose the most attractive products from different banks, vendor lock-in often prevents this. In the future, a tech giant like Google may well have an open banking-focused financial app that selects the best checking account, savings account, retirement or investment plan from different banks and offers in a single solution. In this scenario, banks would likely compete with each other to partner with tech giants, which could lead them to specialize in specific solutions.
The short-term open banking system
In the shorter term, the biggest change we will see in open banking is the move towards open finance, which will likely be part of PSD3. Open finance requires different types of entities (not just retail banks) to open their data, which would give TTPs access to investment services, insurance companies, on-demand economy platforms and to pension providers. From a business perspective, managing accounts such as mortgages isn’t logistically much different from managing bank accounts, so the underlying technology will need to change little while still providing benefits significant to the consumer.
How banks and TTPs can stay competitive
There are still challenges to overcome if retail banks and TTPs really want to take advantage of open banking developments. In payment initiation, there have been several situations with banks, either where they have authorized payments but the merchant has not received the funds, or where funds have been settled into the account of a merchant who were not authorized by the customer. Resolutions in these situations can be tricky. Since TTPs have limited access to information, they can only trust the payment status response from the bank’s API – the rest is a black box.
The good news is that these problems are not insurmountable. Payment issues often arise due to problems with the bank’s API or its core banking and payment processing systems. In order to identify the causes of specific problems and minimize bugs in the payment process, TTPs and banks should thoroughly test their applications with real financial accounts, payment instruments and device/OS combinations. By multiplying the number of institutions, service providers and accounts that can be combined, open banking has simultaneously proliferated the number of scenarios that banks and TTPs must test.
The stakes are high. In the era of open banking, companies that provide consumers with the best digital experiences own the future of finance.
Want to see more?