Interview: PSD2 is a game changer for banking
We interview Erik Zingmark, Co-Head of Transaction Banking at Nordea, on the extraordinary pace of change that traditional banking service providers currently face, driven by both technological innovation and regulations. In Europe, PSD2 (the EU's Payments Services Directive) requires banks to open up their accounts infrastructure in 2018 to third parties wishing to offer financial services. This could be both an existential threat and an opportunity for banks, depending on their capabilities, mind-sets and attitudes.
You are Co-Head of the Transaction Banking business area within Nordea. How would you briefly describe your business area today?
EZ: Transaction Banking in Nordea has quite a broad scope and includes all forms of payments, including cards, as well as certain credit products like leasing, factoring and trade finance. These various units are all facing quite different business challenges.
How is digitalisation affecting payments in the economy, with electronic payment solutions gaining ground? How different is the Nordic region from the rest of the world, and why? Would you expect other countries to follow the Nordic trend going forward?
EZ: The Nordic region has been at the forefront technologically in this area for many years, but in the past five to ten years, markets that have lagged far behind have made big leaps forward, entirely skipping one technological development phase so that the Nordic region is a bit behind. Examples of such markets include Spain and the Baltic countries. If you wanted to make a comparison with the telecom sector, you could say these countries started with obsolete analogue fixed telephony, but skipped an interim technology like ADSL and went straight to modern fibre networks. But I would still argue that the Nordic region remains in the top tier globally regarding financial services sector technology, along with countries like the US, the UK, Singapore, Spain and Benelux.
"Not all banks will survive...Banks that lack an understanding of the need for change, or that are not sufficiently strong financially to undergo this change, are at risk."
Erik Zingmark, Co-Head of Transaction Banking at Nordea
If we simplify a bit, we could say the digital payments area today includes banks, payment service providers, credit card issuers, mobile phone makers and point-of-sale payment device makers. Do you think there will be room for all of these in the future? Which are best positioned?
EZ: Starting with the banks, not all banks will survive. This owes to a need for scale but even more to a need for change. Banks that lack an understanding of the need for change, or that are not sufficiently strong financially to undergo this change, are at risk. Banks as such will not disappear and will not lose their entire business to fintechs. Some may, but the industry will not.
Within cards, I expect existing payment infrastructure to be around for a long time. First, the technology is proven and works, and it will take time for new payment solutions to be so widespread globally that they could actually replace the card infrastructure. Second, the infrastructure is very sophisticated, with plenty of value-added services like insurance and fraud prevention. This asset will not be discarded at a whim. Long term, it could remain in use, be wound down, or be integrated into new payments solutions – no one can say for sure today. The first step will be cards migrating into smartphones, after which we could either see account-to-account payments without clearing or payments through card infrastructures.
As for other types of players, what solutions will be used in the future will be influenced by benefit to society, the relevance of legacy systems, customer demand and preferences and the constellations of players that team up and rally behind strong, common solutions. It could have a profound effect if one or more of the world's IT giants decided to fully enter the payments arena. What will matter greatly for any player is customer interface and customer data.
Players like Google, Facebook, Apple and Alipay have access to vast data on customer behaviour, needs, interests and movements, which could help them become very relevant in a customer payments offering. Banks also have plenty of customer data, but have until now not had systems allowing them to make valuable use of it. Among fintechs, you may find brilliant ideas or concepts. But without the interface or data, you will not get anywhere. In the past year or so, we have seen the typical fintech rhetoric towards banks changing from "we will eat your lunch" to "let us form a partnership". Banks are sitting on valuable assets, including the trust element. To whom do you want to entrust your pension savings? Through whom do you want to make your big international payment to your aunt in Australia? And the client base really matters. It will take a fintech startup a long time to build a base of 100,000 clients. Nordea has 11 million customers today.
A great customer interface needs to be simple. But simplicity can also be about one-stop shopping. There are many customers who may not be prepared to have relationships with ten different fintechs, each with a superb solution for one specific need.
Has it been a benefit for Nordic banks to see particularly sharp declines in cash use in their home markets? How costly is cash handling for banks? Or for society?
EZ: I don't have any specific figures on costs for cash, but I think few, if any, would argue against cash being a costly means of payment for society and for banks. It is on the other hand not expensive for the user, which could justify a reflection on the pricing of cash to drive behaviour. If there was a desire to speed up the reduction in use of cash, customers could be charged for withdrawing cash, instead of there being fees for card payments, as is the case today.
"PSD2 will fundamentally change banking as we know it forever. It is not a fad. Life will be different in 2018, when banks have to open up to third parties to offer services to account holders."
How would you expect the new PSD2 regulation in the EU to affect banks? Could it offer any opportunities, or just downside risks?
EZ: There are definitely opportunities. PSD2 will fundamentally change banking as we know it forever. It is not a fad. Life will be different in 2018, when banks have to open up to third parties to offer services to account holders. I believe few banks have understood the scope of the changes they will face. It could be something of "a perfect storm," with retail customers of banks being flooded by offers from totally unknown entities with flashy and enticing websites.
I think banks can approach PSD2 in either one of two ways. The first is to simply comply with the regulations, which I would argue would make a bank a sitting duck. It means opening yourself up to both new players and to competing banks, without being able to return fire. The second way, which is what Nordea has chosen, is to see PSD2 as an opportunity. We see potential possibilities to offer our customers new services together with partners, and we could offer our customers services in geographies beyond our home region. Large corporates today often have relationships with banks that are not strategic but serve to give access to daily banking services in specific regions. Such relationships may not be needed in the future.
Are banks prepared for the likely demand for digital payments in the coming years? How can they stay relevant versus the other types of payments players and versus other banks?
EZ: With what we see and know today, we can look back and say that it would have helped greatly to have addressed legacy systems forcefully ten years ago. That would have made us even more agile today. This is both about technology and business philosophy, and in the latter our journey is far from complete. We need to be able to work virtually, be agile, be quicker in decision making – without steering groups. We and other banks are catching up.
Again, I am sure the banking industry will survive. Some banks will adapt and thrive, emerging strengthened. Some will die. And the pressure for change could drive partnerships and mergers – perhaps less likely between banks, and more likely between banks and IT or technology companies. IT players can bring new solutions, services and interfaces, and banks can bring customers bases and banking licences. The licence is an asset, but carries a cost in the form of the compliance apparatus that needs to go with it. There are IT companies that claim to be able to build a bank platform – I have heard that Google claims that it could do it in six months.
And I recently met another IT group that said it has a technical banking platform ready, from which they can sell accounts, payments and Know Your Customer modules to companies that want to build a bank capability. But we have yet to see one of these tech or IT players take the steps to actually become a regulated bank. Building a banking system platform is not that hard today, but having to add the necessary compliance resources for actually operating as a bank seems to be a quite powerful barrier to entry into the banking industry.
Banking is arguably a business where scale is critical. Would you say this is even more the case for transaction banking? How could scale impact how banks position themselves within digital payments going forward?
EZ: The established truth about the importance of scale could be challenged. There seems to be a long term trend of the marginal cost of production in business going towards zero. But scale could mean different things. It could be volume of transactions, but it could also be about reach, customer relationships. As long as customers do not want to have only a digital relationship with their financial services providers, banks' customer bases are assets.
Does scale matter in system development? Sure, even if banks become much better at sourcing as an alternative to in-house development, a certain financial muscle and an organisation to implement new systems are needed. But I think that compared with the past, a new bank could be started from scratch today with a much smaller team and organisational platform, if they are truly great at sourcing.
"When we launched our open banking platform a month ago, we had 300 applications for access to our APIs – to co-create with us – in the first 72 hours."
What is Nordea currently doing within Transaction Banking regarding digitisation and simplification? Could you help us get a sense for the scope of change you are facing?
EZ: We are following our Payment Strategy, which is broader than just transactions, and oriented around how to ensure Nordea remains relevant in the future. It has four key components:
- Consumer and Merchant finance – How can it be seamlessly integrated into the solutions?
- Mobile payments – Personal banking is migrating into mobile devices, and we need to stay relevant through simplicity, user-friendliness and transparency. We are making multiple bets, like Swish, MobilePay, Samsung Pay, and our own Nordea Wallet.
- E-commerce services – Trade is gradually moving from in-store to online, and merchants need a one-stop shop solution since they deal with multiple payment partners. Nordea is establishing a functionality to meet this need. Going forward, this will also apply to B2B.
- Open banking platform – Compliance with PSD2, giving access to our APIs to third parties and allowing all business areas in Nordea to interact with "their" fintechs and third parties.
When we launched our open banking platform a month ago, we had 300 applications for access to our APIs – to co-create with us – in the first 72 hours. We have now reached 700 and have been forced to close it for a while. The applicants are from all over the world. We are now vetting all of them.
We are hoping to find very capable companies to partner with, creating new products or packaged solutions which would have a reach way beyond what we have on our own. Theoretically, we could offer mutual fund or card solutions to customers on the other side of the world, without having a single employee in those markets.
I would say we are a leader within open banking in the Nordic region, and having met with 60 international banks as of yesterday, I think we are in a good position in a bigger international context. We are not a first mover as a payment service provider, but we are moving fast, and we have the strength and determination to keep moving fast.
What is the greatest specific challenge Nordea Transaction Banking is facing today?
EZ: We have 500,000 corporate customers who need our support in running their businesses every day. We must keep functionality of all services they use at the high level they rightfully expect. And at the same time, we need to adapt and evolve with the greatest changes the banking industry has ever faced - technological, cultural and regulatory. We need to constantly prioritise between running our business and developing our business.
There is no way we can know exactly what our market will look like in 2020. Instead of guessing and making a big bet, we need to build capabilities, be able to track developments and be ready to act quickly and decisively when we see what the playing field is like. You could describe our ambition as if we are building a 3D printer, ready to meet the future demand when it materialises. I have talked to most of the big banks and the big management consultants, and no one knows even what 2019 will be like. All big and healthy banks are betting on several horses.
What do you think Nordea Transaction Banking could look like in five years?
EZ: The only thing I feel sure of is that we will not look like we do today. I would expect our business to be organised in a way that makes us quicker and more agile, perhaps with clearer distinctions of responsibilities between the current business and developing our business for the future. I could also imagine that we would be organised more along customer interfaces rather than along specific product lines.