The FIG Idea: Banging tech? No
Banks are doing whatever they can to attract some tech company glamour. JP Morgan's CFO Marianne Lake claimed the bank was a tech firm at its investor day on Tuesday. Lloyd Blankfein has made the same claim for Goldman Sachs. Now every self-respecting bulge bracket firm has an in-house incubator — even Commerzbank has a couple. Banks are desperate to inject some Silicon Valley sparkle.
The tech turn rests on three big trends. First, there has been a big increase in the automation of financial services.
Some 98% of bank customers' transactions are now done over automated channels. Behind the scenes, routine processes like mortgage processing and simple investment advice are being automated. Banks now have more computer programmers than filing clerks.
Secondly, technology has lowered the barriers to entry. An industry that had become ossified and oligopolistic is witnessing a surge in new entrants keen to take a slice of a lucrative pie.
The new firms use modern technology — they would be nuts not to — and so it may seem like the new wave is a tech wave, especially when charismatic tie-less chief executives talk about how their product is “disrupting” traditional banking.
Thirdly, recent technology developments have created new concepts in banking. Infinitely scalable systems with near zero marginal cost of transactions create new possibilities. For example, a whole sub-industry has sprouted around the uses of distributed ledger accounting, which includes blockchain.
Taken together, it’s clear that technology is of utmost importance to banking. It is crucial. This cannot be overstated.
But technology is not (literally) essential to banking. Tech does not contain the essence of a bank.
Of course, the old technology was never literally essential either. Banks in the 1950s were not logistics companies at heart, even though the bulk of their workforce was employed moving millions of pieces of paper around.
Must be in IT to win it
Banks are consumers of technology; they are enabled by technology; many of their offerings are highly or fully automated. Technology runs through all aspects of banking and consumes about a third of the cost base of a typical bank. Banks with better IT often have a competitive advantage, whereas banks with shaky or out-of-date platforms can run into serious problems.
The defining features of a bank, though, are how it designs and delivers the actual financial product. The technology hums away in the background, an obedient servant and a critical backbone. It powers the bank but never becomes the bank.
Banks need to understand their customers, and design financial services and products to meet their needs. There’s nothing inevitable about banks existing in their modern form — all businesses have to provide something valuable to customers, and banks are simply the providers of valuable services in the field of finance.
Technology is helping banks old and new with the insight, creativity and nimbleness to excel in this particular role.
Banks also need to know how to make markets work, whether or not those markets are highly IT-enabled. Loans need funding, currency mismatches need matching, buyers need sellers.
The most important role of a bank though, distinguishing it from a tech company, is risk management.
Finance is a risky business and poor risk management can lead to disastrous outcomes, as we know only too well from recent experience. The job of banks is to take risk and to manage it, making sure that financial losses are by-and-large predictable and the chances of surprises are adequately compensated.
Companies in the financial technology sector should be enabling banks to fulfil these key needs: for customer understanding, market making and risk management.
If the fintech firms are doing this themselves, then they are effectively new banks, not tech companies.The converse is also true: if a bank is not doing this stuff, it has ceased to be a bank.
On second thoughts, maybe the question of whether banks are tech companies doesn’t make sense. Modern technology permeates so many aspects of our lives that its presence is becoming less of a differentiator, and more of a background norm.
Pure tech firms will provide the servers, cables, satellites and user devices. They will write the code that instructs the machines. Processing power will be taken for granted, alongside ubiquity and universality of connectivity. The term internet banking will become tautologous.
Irrespective of how many programmers they employ, banks will be the companies that customers use to meet their financial needs.
Let’s keep the tech excitement in its place.
The FIG Idea is an occasional column taking an offbeat look at the weird world of banks. It is written by a market professional with more than 20 years involvement in the FIG market.