Fintech, despite all the hand-wringing in recent years, isn't a full competitive threat to banks — yet.
For example, fintech companies that have become accomplished consumer lenders are limited in their ability to take deposits or offer wealth management services.
But now that the Office of the Comptroller of the Currency has proposed a limited-purpose bank charter for fintechs, they could provide more products and services without the help of bank partners. Will digital startups finally be able to compete head-to-head with banks?
It is difficult to predict exactly what will happen since the charter is still in the works, and the OCC declined to speculate further on the nature of the charter ahead of the Jan. 15 deadline for public comment. Experts estimate that it will be a long time before fintechs start putting banks out of business, though pressure could build gradually.
"A lot of consumers are still very happy with the way they are banking today," said Gilles Gade, the CEO of Cross River Bank in Fort Lee, N.J., which offers back-end services for fintechs. "Especially with community banking — they grab coffee, talk to a banker — that's something that isn't going away anytime soon."
Rather, Gade said, it is the money-center banks that are more likely to see competition from "a challenger bank with a sleeker interface."
Big banks "have something to worry about, but only from a full-service [digital] solution, not just someone putting out a sleek app," he said. "Big banks already have apps that are pretty slick."
The future in the U.S. will play out differently than in Europe, where in recent years, especially in the U.K., challenger banks have popped up all over, Gade said. That is because the U.S. market is far more fragmented.
"In many European countries, there isn't much competition — there's a few banks [in each country]," making it ripe for fintech startups to come in, Gade said.
Cross River resembles a technology company more than a bank, processing payments, funding loans and providing other services for fintech clients. The bank would be well positioned to advise any fintech that wants to become a full-fledged bank, Gade said.
"If you're going to start a bank from scratch, you need to be equipped with as many tools in the shed as possible," he said. "Debit, credit, overdraft protection, wealth management, [personal financial management] and things like using [artificial intelligence] to predict consumer spending. If you have that robust solution, it can compete with banks."
Indeed, fintechs that are "mono-solutions" will not be well equipped to become fully chartered banks, said Don Allen Price, a longtime banker who this year tried to start a fintech bank.
"The majority of fintechs are still mono-solutions — this does not equal a bank," Price said. "But the fintechs who already have a good customer base and a value proposition that resonates are going to be positioned very well. They will need to hire experienced, progressive bankers in order to get the regulators comfortable, but this can be done."
Price said the industry is poised for change and needs to be pushed by startup digital banks to move forward. His own attempt to do this has come to an end; his startup firm, Antithesis Holdings, ran out of seed money in September and could not raise the capital required to continue on.
"With the capital raise, no one questioned the business model, the customer demand, or the leadership team," he explained. "The problem was the traditional bank investors just couldn't get their head around a new way of banking, and all the [venture capitalists] think about is an app. In hindsight, we should have been spending more time with private-equity firms."
Price said he is still unsure of his next step, but he advised banks — especially regional banks — to do more than just make cursory investments in digital services.
"The regional banks have such a tremendous opportunity, and they are missing it," Price said. "Their reputations have not been tarnished like the big banks, they have the capital to do something and they have an existing customer base to build on; but banks continue to demonstrate their inability to change. They believe by adding mobile capabilities like online account-opening that it is going to keep them competitive."
Price said he was pleased to hear about the proposed fintech charter and hopes it signals new regulatory attitudes about banking.
"It will be interesting to see what happens in Washington," he said. "The rise of the fintech has primarily been driven by technology advancements and customer sentiment coming out of the Great Recession, which many hold the big banks responsible for. For fintechs it is a win-win situation. Deregulation helps the integration of new fintech ideas and technologies."
It remains unclear how many fintechs will be motivated to become fully chartered banking institutions. Many may be perfectly happy providing the service they do now or continuing to partner with banks, said Srikumar Ramanathan, a senior vice president at Mphasis, an infrastructure technology company based in India.
"Fintechs will need core-processing systems if they want to grow and become true banking operations," he said. "The back-end systems are still the core strength of many banks. The motivation for fintechs to do this end-to-end processing is much less."
Ramanathan, a former regional chief information officer at Citigroup, cited the examples of even the most successful fintech banks, such as Simple and Fidor Bank of Germany, which were both eventually acquired by established financial institutions. Another early digital banking pioneer, Moven, has also now shifted its focus to partnering with banks.
"In the end, Fidor was a tech play, not a bank play," Ramanathan said, referring to the company's acquisition by the French bank Groupe BPCE. "I think that's probably the real opportunity for fintechs: to innovate and change banks from within."
Corrected December 21, 2016 at 2:40PM: An earlier version of the chart accompanying this story mistakenly said that holders of the proposed fintech charter could collect deposits.