Introduction to Fintech and Digital Banking
In this article, we offer an overview of recent changes in financial technology, particularly as they relate to digital banking. While these changes ease many problems faced by consumers, it also introduces new challenges for consumer protection and the regulation of systemic risk.
Because the development of Fintech is less advanced in emerging market countries, the chapter pays special attention to how those countries can increase the development of their Fintech sectors in order to improve financial inclusion and the overall capability of their financial systems.
From online payments to peer-to-peer lending and crowdfunding to mobile wallets, the financial services industry has undergone significant changes over the past decade driven by advances in financial technology, also known as Fintech.
Digital banking is the part of Fintech which provides its customers with the ability to perform all banking processes, such as deposits, transfers, and withdrawals, without physically visiting a bank. These developments are reshaping the sector in ways that have significant implications for the future, efficiency, and equity of financial services as well as for the regulation of markets and institutions.
The Rise of Fintech and Disruption in Traditional Banking
The technological advances of FinTech are impacting the economic development objectives of citizens and communities advanced by banks. But traditional banks have resisted investing in technology that their new competitors are using to capture market share.
For many bank customers, it is the FinTech companies that are addressing their needs for convenient, quick, and low-cost services in an otherwise complex and clunky environment of the banks. The challenge for banks is how to use its technology to be relevant in the digital era, to regain customer intimacy, and provide an omnichannel experience in the provision of financial services.
The transformation of the financial services landscape by digital technology, which at its core reduces costs, time, and effort involved in financial activities, is known as FinTech. The emergence of FinTech is attributed to the synergy of venture capital and investment in start-up companies and the application of digital technology in the provision of financial services.
Investment in FinTech has indeed been growing and is accelerating the transformation of financial services globally. The traditional financial industry is being carved up. Banks and financial institutions are having to downsize; they are faced with more regulation, higher compliance costs, and more demanding, better-informed customers.
The reduction in the barriers to entry into the provision of financial services has led to a mushrooming of FinTech start-ups. These new entrants are offering alternative financial products and services. They are also providing solutions to the inefficiencies and market failures exposed in the credit, insurance, and investment sectors during and after the financial crises.
Technological Innovations Driving Fintech Growth
The recent explosion in fintech startup activity is, at its core, a response to inefficiencies and unmet customer needs in traditional financial services companies. Banks, insurance companies, and investment management firms have developed business models with many barriers to entry for potential competitors - high capital requirements, extensive regulatory oversight, and established customer relationships being the most significant.
At the same time, these entrenched financial services firms have also been vulnerable to a certain type of competitor. Where their technology services have been outsourced, using external vendors that specialize in software for financial services, there is a long tail of smaller companies holding government charters to provide specific financial services.
These ant banks, financial holding companies, and insurance carriers have become Fintechs. With the maturing of a set of core enabling technologies, as we discuss above, incumbent financial services companies are now actively partnering with, or copying, the fintech approach.
While the term "fintech" may bring to mind the most recent startups that are changing the way people engage in personal and commercial finance, the technologies that underpin fintech innovation have a much longer history.
The increasing sophistication and decreasing costs of computing devices from the 1970s onward have led to regular cycles of technological innovation in both hardware and software. Companies providing financial services have, of course, attempted to leverage such technological innovations over the years with varying degrees of success.
However, the pace of change of financial service firms' technology use has, with some notable exceptions, been slower than in other sectors.
Challenges and Opportunities for Traditional Banks in the Fintech Era
Unfortunately, traditional banks are burdened with legacy information technology infrastructures, regulatory compliance costs, and organizational inertia that prevents timely and efficient responses to these challenges.
Internal resistance to change also comes from professional or trade unions and other groupings that represent the labor force likely to be affected by the rapid development of new technologies. It all adds up to a great dilemma for the traditional banks.
On the one hand, they can see their future survival in reconfiguring their business model around the opportunities offered by fintech. On the other hand, they face the threat of rapid decline if they fail to do so.
The emergence of non-bank technology startups offering a range of financial services has raised major challenges for traditional banks. Incorporating blockchain, artificial intelligence, and big data, these companies design financial products with the specific and often more immediate needs of the customer in mind.
They also operate at lower costs, greater speed, and with more agility than their bank counterparts. Demographically, they concentrate on the vast market of millennials and the younger generations who are heavy users of the digital technologies that enable companies in the fintech sector.
Future Trends and Prospects in Digital Banking
Other potential threats are more immediate. Governments are always keen to support fledgling industries, and it is not beyond the bounds of possibility that the established financial services sector might find itself compromised by legislative or regulatory changes that favor new entrants. To conclude, the main challenges for the existing banking sector will be to make the best use of new technology themselves, and to cope with the increasing rivalry from new, technologically advanced entrants.
One logical consequence of the application of new technology is that increasingly financial services will be provided by companies that, on an official classification, are not banks. Insurance companies, accounting firms, and other non-bank financial institutions have long been involved in the provision of certain banking services and payment services, in particular.
Their relative efficiency in these fields as against traditional banks has usually been dissipated by the need to utilize inefficient old technologies. Once this technological barrier is overcome, there is scope for a shift in market power away from the existing banks.
In many ways, the transformation of banking and finance into industries that are almost entirely reliant on information has only just begun. Increased competition will not only come from the established financial services sector but also from newer, more nimble enterprises.
'Fintech' is the current buzzword, used to describe the application of new technology to the provision of all sorts of different financial services.
Consistent with the overall tone and focus of the rest of this article, the concluding section offers some personal views on longer-term future trends and prospects in digital banking. Clearly, predicting the distant future in the internet age is fraught with difficulties.
As an ex-Governor of the Bank of England once said, "Economists were invented to make weather forecasters look good." Nevertheless, and notwithstanding those difficulties, it seems to be a safe bet that the relentless advance of technology and the continuing growth of the internet will be lasting influences.