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Standardisation, regulation and technological innovation means payments are well on the way to becoming instant, invisible and free. This is good news for everybody.
Well, not quite everybody. Banks are now faced with the significant challenge of transforming business models and legacy technology systems to meet the demands of a new era in payments.
Banking is historically a conservative and risk-averse industry where the pace of change varies between sedate and glacial. But now is not the time to ‘wait and see’ and finding the right approach to payments transformation must be the immediate and fundamental priority for banks.
Understanding the need to transform
Firstly, we must ask: Why has payments transformation become an urgent priority?
For one thing, increased competition has seen banks’ market share of the global banking and payments industry reduce from 96% in 2010 to 72% today. Fintechs, challengers, payments companies and big tech have entered the playground and started taking banks’ lunch money, demonstrating a level of innovation and agility that incumbent banks are struggling to keep up with.
And of course, there is Covid-19. We have seen years, if not decades, of change in a matter of months. The crisis has torpedoed traditional and reliable revenue streams such as cross-border payments to accelerate margin pressure, while driving a rapid shift to online banking channels and a massive uplift in digital volumes.
Breaking the shackles
In the context of increased competition and unprecedented digitalisation, the banking industry is waking up to the fact that payments are about adding value, not just processing. There is increasing recognition that capitalising on the potential of emerging payment rails, monetising the standardised datasets unlocked by ISO 20022 and launching new external services are huge opportunities to diversify and retain relevance. The introduction of overlay services such as Request to Pay or the European Payments Initiative are also poised to spur on the move to digital payments.
Decades of inaction on legacy infrastructure, however, is limiting options. Banks across the globe find themselves lumbered with expensive, inflexible and unreliable technology estates. The ability to respond to marketplace innovation, let alone lead it, is constrained by the need to devote massive amounts of cash, time and ever-dwindling internal resource to simply keep the lights on.
It is apparent that doing nothing is no longer an option, but transformation is a nebulous concept. There is no one single way to effectively transform. Different organisations have unique considerations based on their technology, capabilities, resource and culture, and there are various routes to take.
‘Don’t outsource your heart, your soul…and your spinal cord’
One option is to make payments someone else’s problem and outsource them. This can be an appealing proposition to get a seemingly perennial cost centre off the books, particularly in the current climate. But speaking at Sibos, J.P. Morgan CEO Jamie Dimon cautioned against the risk of inadvertently “outsourcing your heart, your soul and your spinal cord.”
For it is true that payments are the beating heart and soul of an organisation. Payments represent 80% of all interactions, providing critical customer touchpoints, data and service opportunities. As for the spinal cord, not much can happen when mission-critical payment systems go down.
The big problem, as Dimon notes, is that a lot of companies who have outsourced “have no idea what they are doing.”
Banks can find themselves stuck with equally costly, complex and cumbersome alternatives, falling even further behind the innovation curve and losing control in the process. “You end up paying too much money and then you’re beholden to costs that are going up.” But most importantly, “you’re not even doing a better job serving your client.” Outsourcing a commodity execution service may well be the right strategic approach for some, but you need to ensure you have the other pieces of the payment process running smoothly and that you really are not leaving money on the table or developing risk longer term by constraining future choice.
Still, the alternative is not necessarily better. Modernisation needs to happen now, so it is not surprising that enthusiasm for years-long, ruinously expensive and inherently risky in-house transformation projects has dimmed somewhat.
Best of both worlds
Yet it is wrong to say that the only choice is buy or build. There is a middle-ground. A collaborative approach to payments transformation that allows banks to move quickly to seize opportunities, while retaining control, significantly reducing costs and adding value.
This begins with banks understanding their starting point, defining a crystal-clear strategic vision for the role that payments play within the organisation and identifying market opportunities. Indeed, as McKinsey notes, “success for banks will depend on thoughtfully assessing capabilities [and] determining the role of payments in market strategies.”
Banks should then consider low-risk and lightweight options for upgrading legacy infrastructure to meet their strategic objectives, while minimising business impact. Payment platforms based on Cloud-native, open source technology promote flexibility, scalability and independence, rather than restrictive and expensive vendor dependencies.
Collaboration also plays a critical role. Finding the right fintech and service provider partners can allow banks to simplify complexity, reduce manual heavy-lifting and lower their cost base, driving efficiencies that enable resource to be focused on delivering for customers. As Dimon explains, “If I can’t build it better than you can, I’m better off just using yours.”
This combination of strategy, enabling technologies and true collaboration provides a foundation for innovation. It can help drive new revenues, further develop existing business lines and, by moving payments from cost to profit centre, help banks thrive rather than survive.
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