Regulation of banking should be activity not institutions-based to account for digitisation, says trade body

The British Bankers' Association (BBA) said financial stability and consumer protection could be threatened unless banking is regulated on the basis of the services being provided rather than the identity of the provider.

In a new paper on digital disruption in UK banking (48-page / 3.89MB PDF), the BBA said that "it is not unreasonable to argue that the banks are encumbered by a raft of regulation that non-banks can avoid". It gave examples of regulations on capital ratios, funding requirements, liquidity and anti-money laundering that banks have to adhere to which non-banks do not.

The BBA said it is "vital" that the government and regulators "maintain a level playing field between banks and non-banks as digital leads to dramatic change across the industry"

"The challenge for regulators is ensuring that they do not damage consumer protection, the fight against crime, and financial stability by squeezing misconduct or prudential risk out of the regulated banking sector into the non-regulated digital sector," the BBA said. "They also have to do that while not hampering either innovation or competition. We know from our conversations with them that this is something they are aware of and are trying to respond to."

"In essence, they will need to focus on regulating activities, rather than just focussing on regulating types of institution. It is vital that they get the balance right. They must ensure that the banks can respond to the new competition, and that regulation itself does not create incentives for the provision of financial services moving to more lightly regulated sectors, with all the potential dangers that brings," it said.

Digital disruption in the UK banking market is now "mainstream", the BBA said, but it said the emergence of new technologies present opportunities for traditional banks to grow revenues, cut costs and better serve consumers, even if it has also brought new competition to the market too. It said 'big data' is "arguably the biggest potential opportunity for both banks and their customers".

"By manipulating the vast clouds of data that surround their customers banks have the potential to deliver a better service to customers – chiefly by making better and smarter use of the data they already hold internally on those individuals," the BBA said. "This includes making better credit decisions, targeting products and services more effectively, and even responding to the needs of their customers before their customers are even aware of them (e.g. by tracking life stages, spotting events such as the birth of a child in the data running through the customer’s account, and offering tailored long-term savings products)."

To flourish in the digitised market, banks must address issues such as cyber security and the question of how best to authenticate customers' identity in a digital environment, the BBA said. They must also grapple with how to integrate slick new digital product and service offerings into their complex legacy IT infrastructure too, it said.

"While modern middleware allows the banks to insulate their digital offering from their core systems, eventually they will have to be replaced by more advanced and simpler systems," the BBA said. "This is a major test for the banks given the pressure from regulators and politicians to ensure continuity of service, particularly as customers are increasingly used to being able to access banking services 24/7."

The BBA also said that banks need to anticipate disruptions to the market to prevent new market entrants "cherry-picking parts of their business". They also must find a way to speed up their product and service development cycles, and ensure they can deliver a "seamless experience" to customers regardless of whether they engage with them via physical branches or digital banking channels, such as websites or mobile applications, it said.

Banks also need to change their approach to respond to digital challenges and opportunities, the BBA said.

"The key challenge for the banks will be to generate the culture of entrepreneurship required to deliver change at scale, whilst continuing to manage the formal disciplines of risk and return on investment that investors demand," it said in its report. "This is an approach that must start at the core."

Ultimately, banks that fail to respond suitably to digital disruption face losing their share of the market to rival providers of banking services.

"From data analytics and biometrics to crypto-currencies and wearables, digital is reshaping the experiences and expectations of retail customers," the BBA said. "Banks must accept that they are increasingly part of the broader ecosystems that customers are constructing around themselves. However, their place in these ecosystems is far from secure."

"Those brands that emerge successful from the digital revolution will be those that ride this wave of change, putting their customers at the heart of what they do, and designing products, services and channel experiences that make interacting with the bank an enriching, rewarding and relevant experience. Going forward, banks must learn to live with and adapt to disruption. Otherwise they may struggle to grab the opportunities it will afford," it said.