Setting the House in Order

Rajashekara V. Maiya writes that financial reform is on the agenda and that banks are going back to basics

Rajashekara V. Maiya

These days the global financial news is dominated by regulatory developments. Earlier this year, lawmakers in the U.S. came to an agreement over a landmark bill that seeks to tear down failing Wall Street firms, prevent bailouts, toughen capital norms and improve disclosure. Although the U.S. administration says that it has no intention of shackling business, financial reform is very much a top priority.

This theme is echoed in other economies that were also badly hit by the crisis. Globally, banks and financial organizations are learning to deal with greater control, regulatory oversight and conservatism. A case in point is Europe’s $1 trillion shock-and-awe package, which will put further constraints on the recipient economies and their financial sectors. Since setting the house in order is an important part of this process, in my view, this is where the banking business is headed:

From abnormal to the new normal

The abnormal growth in business and economic indicators of yesteryear will reset to a ‘new normal’. Accretion in retail and manufacturing activity, bonuses and profitability, banking and stock market growth have all hit ground reality and, henceforth, will come under more stringent regulatory scrutiny. The banking regime has and will continue to shift from easy credit and low interest rates to the opposite scenario. With liquidity being tight, any abnormal growth of banking credit and balance sheets will be scrutinized carefully by the regulatory watchdogs. Across the board, institutions will have to practice greater transparency. Organizations, customers, investors and other agencies will have to accept this new reality.

From leadership to survivorship

Banks that grew abnormally to a size which was considered too big to fail have slipped from a leadership position to one of ensuring survival. Although they may support themselves in the short term on the crutches of government assistance, that is hardly a viable long term strategy. They will have to think of ways to wean themselves off this largess and still survive in the longer term.

From nicety to necessity

With the tempering of growth and size, the erstwhile condition of ‘nice’ prices, profits, rates and returns has dwindled to a situation in which all are fighting for basic necessities. In the banking context, for instance, banks and customers alike are striving for liquidity, which is no longer available in abundance.

From greed to generosity

A positive outcome of the upheaval of the past months is the emergence of ‘Generation Generous’. If the crisis was sparked by the unmitigated greed of a select few financial institutions—that garnered huge profits by offering risky, opaque products and rating agencies that ratified them without heed of consequences—the recovery is being driven by the generosity of a larger majority. Companies are giving more for less by way of preferential prices and freebies. Similarly, some banks are adopting a sympathetic stance, generously supporting problematic customers instead of throwing the rule book at them.

It is clear to see that where greed brought about the downfall of customers, partners, investors, economies even, generosity will pay back by way of higher loyalty. London’s newly launched Metro Bank is a firm believer in this philosophy, going so far as to install expensive coin changing and card vending machines within their branches, promising personal ‘human’ attention to every call, working extended hours and doing away with fussy ‘no pets’ rules to improve customer convenience.

From complexity to simplicity

The world has paid a heavy price for the unthinking actions of retail, investment and corporate banking businesses which outdid each other in peddling complex products that no one understood in full, playing upon investors’ desire to make quick, high returns that could never be matched by traditional instruments. By rubber stamping products including hedge funds and CDOs, rating agencies made things worse. Since the same real estate assets underlay all these complex products, when the bubble burst, it brought down the whole pack of cards. While a few players in the game had already made their money, investors and real estate owners lost out.

However, now, banks are going back to basics, spurning complexity for simplicity in their products, services, documentation and communication. Even as they cut back on resources, organizations will become more efficient in order to support business growth. They might take a leaf out of the telecom book which has progressively become cheaper, faster, smarter and simpler and offers so much additional value that voice calls have become incidental to the business.

From volume to value

As an extension of the preceding comments, one can anticipate that organizations will turn towards quality instead of chasing quantity in the value derived from customers, products, services, lines of business and partner relationships.

From identical to individual

In the future, the focus will be on fulfilling individual needs. In the past, financial institutions pushed identical packaged products to customers regardless of their financial goals, creditworthiness and risk appetite and the results are plain to see. That’s not true any longer; in the days to come, each individual will be rated on the basis of financial health, risk tolerance and earning potential and offered products best suited to that context. There’s a lesson to be learned from the likes of Amazon.com and Netflix.com, where every customer action is used to enrich the profile. Both leverage this deep insight into individual preferences to make intelligent product suggestions to their users. It is logical that customers will expect the same from their banks with whom they interact much more intensively.

From more to less

Linked to the earlier discussion on the moderation of market demand, profitability and liquidity leading to the creation of individual risk tolerance and need-based offerings, customers will move from multiple, generic to select, specific products. This will keep banks on their toes, questioning the status quo every time to find a better way of doing things. The drive to do more with less will lead to a win-win condition of improved efficiency and customer experience. To support this endeavor, banks will need more tools and automation to sharpen their understanding of customer behavior, which they can apply going forward. This will propel a shift from earning towards learning, subordinating the pure profit motive to a desire to learn about the needs of the market, customers and partners as well as the demands of regulation.

From simple innovation to disruptive

The runaway success of products in the past prompted banks to tweak them through simple innovation, with the expectation of further gains. Since simple innovation has come a cropper, banks will fall back on disruptive innovation and ensure that, this time around, it is packed with the right attributes of disclosure, simplicity, transparency, relevance and compliance. I can’t help but cite the example of Apple, which has continuously disrupted the status quo with its ground breaking designs, and chosen long term sustainability over a quick buck. Apple teaches us that it is more important to look at ‘how far’ rather than ‘how fast’ when offering products and services. Banks must also do some soul searching to arrive at what is right for them.

Interestingly, economic hardship is fertile ground for disruptive innovation. Throughout history, recession has spawned upstart companies and breakthrough innovations which have gone on to stand the test of time, whether it is IBM and Coke during the 1920s or Google, Amazon and eBay 80 years later. Through a combination of resilience and foresight, these companies turned adversity into opportunity and wrested market leadership, lasting to this day. What applies to other businesses holds for banking as well; although the last crisis hit the financial industry the hardest, wiping out hallowed institutions, the survivors have an opportunity to seize the initiative and lead growth in this new decade.

From aggressive to progressive

As a result of these shifts—from complexity to simplicity, from volume to value, from more to less—we will witness the metamorphosis of an aggressive financial services industry into a progressive one, which lays greater emphasis on creating a secure, compliant and value-packed business environment that’s capable of surviving in the long term.

From G8 to E8 (or 10 or 20)

Since growth will come not from the G8 countries but from a bloc of emerging nations variously drawn from Asia, Africa and East Europe—banks will have to adapt their business strategy to the needs of these markets.

From yours to ours

The mindset will change to one of inclusivity and togetherness. Banks’ previous approach of devolving tricky issues upon others including customers, investors and partners will be erased by a new collaborative attitude whereby they will work collectively with these stakeholders.

From option to compulsion in regulation

We have clearly entered a phase of strong and binding regulation where compliance is no longer optional. However, on top of regulatory oversight, one can also expect banks to come under the scrutiny of entities such as the G8, G20, WTO, WEF and various accounting bodies. Since financial institutions will have to set aside greater amounts of capital to insulate themselves from a downturn, the move will suck further liquidity from the system, push up rates of interest and inflation and spark a chain reaction that could potentially depress global economic growth anywhere between 100 to 300 bps.

Towards greater urbanization

In about 100 years, the proportion of the world’s urban population has risen tenfold, from 5% to 50%. In Canada, 90% of the population already lives within 200 k.m. of the U.S. border or major cities; Indian cities will receive 140 million immigrants by 2020 and 700 million by 2050! Undoubtedly, this will create opportunity, but it will also stress civic issues of logistics, transportation, and infrastructure, among others besides challenging the financial system’s ability to serve a vast unbanked population, which has relocated from the hinterland to the cities.

The urban unbanked will differ from their rural counterparts in that they will be better educated, conversant with technology and generally more demanding. Hence, banks will need to change their mindset and adopt a new approach to take up this opportunity and its associated challenges.

The past has taught us many lessons which have given us a roadmap for the future. As important actors on the world stage, banks have a responsibility to add value by creating simpler, more relevant and affordable products, efficient and effective processes and a richer user experience. The dynamics wrought by the ‘new normal’ demand that banks take a fresh approach to everything, forsaking greed for generosity, complexity for simplicity, self-interest for collaboration on the road to survival.

The author is Lead- Product Strategy, Finacle, Infosys Technologies Limited