The emergence of Open Banking into the mainstream in 2019 leaves many banks at a juncture.
Those who saw APIs (Application Programming Interfaces) as a threat, or a way to fulfill a regulatory requirement, now face a dilemma.
Do they keep investment in further APIs at a minimum? Or do they develop new premium APIs with valuable functionality to defend or extend market share and capture revenue? Banks with pre-requisite PSD2 (Payment Services Directive, an EU directive that regulates payment services and providers in the EU) mandated simple APIs face three scenarios for Open Banking in 2020 and beyond.
Scenario 1: Minimal investment
Certain banks may see the PSD2-required APIs as a burden. Costly to build and operate, the APIs must be provided essentially free of charge to any adequately licensed TPP (Third Party Provider). Exposing a core product such as the current account – the traditional link between a bank and its clients – as a standardised product via an API is bound to increase competition, reduce margin, and result in higher client churn as it offers an opportunity to compare and switch between suppliers. These banks may conclude that adding even more functionality to its API could lead to an attack on a larger part of its product offering, and consequently may decide to keep their Open Banking at a minimum.
Scenario 2: Expand the offering to stay relevant
With competitors offering more products via APIs, and aggregation app users on the increase, some banks may opt to expand API offerings to stay in the game. But if a customer using an aggregation app would like to access to a current account, a savings account, a credit card and car loan, this would limit a bank which only offers an API for the current account – the most commoditized and low margin product of all. If a bank can’t offer all required products in an aggregation app, it won’t compete with those who can. Some banks may reluctantly extend their API because of this, even if it paves the way for commoditisation of further banking services, as the alternative is even worse.
Scenario 3: Extend to create value and capture market share
Other banks may not be quite so defensive, instead adding APIs to increase market share. Some may do this where they have competitive advantage. Although this brings them into direct competition with others, this could be desirable if the bank has the best offering. Others may seek integration to new sales channels: for example with car dealerships, allowing the dealer to easily help the user obtain financing at point of sale.
Making the most of Open Banking
The OBIE – creators of the British open banking standard – reported 180 members in the September 2019 newsletter, up from just 104 as of January 2019. At Saxo Bank, we are seeing the same trend with connected apps doubling and transactions from third party applications increasing by a factor of three since Q3 2018.
Banks will continue to build more APIs, because they have to or because they want to. To thrive in the age of Open Banking, financial institutions need a considered response.
Any bank wanting to stay relevant must be capable of building and managing APIs. If a bank has done the bare minimum to comply with PSD2, it has very likely invested in a very limited product – the PSD2 interface. But as APIs are here to stay and bound to evolve, banks should aim to acquire the capability of API development. For most, this will mean integrating an API management system as well as designing an API development lifecycle model.
A more strategic consideration is for banks to revisit their key strengths and basis for competitive advantage. As more products and services will be exposed through APIs, they will be subject to rapid commoditisation and margin compression. As clients mix and match, a bank with the fourth best current account, fifth best car loan and third best credit card may not attract any business.
Open Banking is here to stay – it is transforming the financial services business. To stay relevant, banks must acquire the skills to create Open APIs and participate in Open Banking ecosystems. To stay profitable, banks must carefully evaluate the current and future strategy with the expected commoditization of many standard banking products.
Open Banking is still in its infancy, and banks still have time to respond. But the rate of change will only increase, and banks wanting to stay relevant in 2030 must design their Open Banking strategy now.