The idea behind open banking was to create a pretty straightforward way for the financial sector to reach new heights. By making payment data accessible to third parties through APIs, market players can offer more sophisticated financial services, drive innovation, and challenge the disproportionate advantage that big banks have.
Open banking is legitimized through the PSD2 legislative framework, which came into effect in May 2018 and now allows banks to exchange data with third-party service providers upon end-user consent.
Open banking is posed to decrease prices of financial products, enhance credit risk evaluation and fraud protection, and boost the economy overall. McKinsey’s analysis suggests that by 2030, an open banking ecosystem can increase the GDPs of the EU, UK and USA by up to 1.5%.
In an ideal world, the open banking initiative can bring immense benefits to all market participants, including financial institutions of all sizes, consumers, and third-party service providers.
Realizing the full potential of open banking calls for robust data governance systems that can’t yet be found in the majority of economies. Open banking can also lead to data protection and cybersecurity implications, which will remain critical topics in the coming decades.
Let’s dive deeper into the advantages and vulnerabilities of open banking for both consumers and financial institutions with Itransition and discuss the future of this innovative approach.
Article Contents
Value for Consumers
Here are the main benefits that open banking can bring to the end-users:
Democratization of service access
Data sharing will allow financial institutions to assess the creditworthiness of potential borrowers with better accuracy. This means that banks will have more financial indicators than credit history and current assets to assess the potential borrower’s ability to repay loans.
For example, data about customers’ utility and rent bills or the amount of money they spend on healthcare services can significantly increase the number of loans that banks can issue.
Enhanced user experience
To put it simply, customers can finally fulfill the mortgage application once and receive product offerings from all the ecosystem participants. This significantly enhances user convenience, eliminates the need for hiring mortgage brokers, and cuts unnecessary arrangement fees.
This convenience and ease of use will extend to the majority of financial services. Moreover, customers will be able to switch accounts more easily, effectively broadening the range of available financial products.
All-in-one solution
For example, instead of interacting with multiple applications to pay recurring bills, API integration would allow customers to use one app to automatically send funds where intended.
Better visibility of finances
The majority of today’s customers use multiple financial accounts with multiple financial service providers. Open banking enables to consolidate all of them into one, enabling customers to get a better picture of their finances.
Value for Banks
Enhanced fraud management
By having access to more payment data, companies can significantly enhance the accuracy of their fraud prediction systems.
Decreased operational costs
In essence, open financial data allows companies to rely more on automation, which leads to significant cost-cutting.
For example, if there is enough financial data about potential borrowers, the majority of standard mortgage applications can be processed autonomously, eliminating the risks of manual errors and allowing banking staff to focus on other tasks.
Efficiency boost
More customer data allows financial companies to streamline lead generation, increase the accuracy of creditworthiness assessment, and diversify their product offerings. Importantly, with the help of APIs customer data can be accessed much faster and with less friction, significantly boosting the speed of decision-making and service delivery.
Unlocking the Potential
Currently, the possibilities offered by open banking vary significantly depending on the region. In developing economies, open banking can often provide unprecedented value, especially for small and medium enterprises (in India, for example). However, the majority of potential value is linked to data privacy practices imposed.
For example, the Indian approach to open financial data management implies that both personal and payment consumer data have to be shared within the ecosystem (with consumer consent), significantly increasing the potential value of the technology.
In the EU, there is a very high level of data standardization, which allows for frictionless data flows, but regulations for data sharing are much stricter, which effectively hinders financial institutions to realize the full value of open banking.
In any case, the proliferation of open banking opens more opportunities for fintech and other third-party service providers than it does for conventional banks.
As consumers will have a bird’s eye view over their finances and product offerings, they will naturally lean towards less expensive and more personalized products offered by fintech companies. For conventional banks, it’s critical to assess if their market position and technological proficiency allow for competing in this space.
However, in the majority of cases, it’s far more attainable for banks to partner with these technology-led companies than to compete with them. Over the past year, we’ve seen examples of industry giants like Goldman Sachs and Citibank already applying this strategy.
Regardless of how exactly open banking is going to change the market, customers’ expectations will only be increasing. With all the information at hand, they won’t settle for mediocre offerings and experience.
Conventional banks need to assess their current market position and technological readiness and decide how exactly they are going to fit in the new landscape. It’s not that they need to play from a lagging position, it’s that they need to recognize the unprecedented value brought by fintech pioneers and open banking, and find ways to realize its full potential.
