Bill Gates has said, “Banking is necessary. Banks are not.” Astonishingly, he made this statement 20 years ago. If banks do not transform soon, he may be proven right.
The story of banking is very much one of technology. From banknotes and wire transfers to credit cards and automatic tellers, banks have always adapted to innovation. But today's technology is different. While ushering in countless opportunities, technology is effectively bringing about an end to banking as we know it.
For the last five years, I’ve had the privilege of managing Leumi, one of Israel's largest and leading banking institutions. My first visit to Leumi branches as CEO was eye-opening: as I walked around, I saw many of our customers waiting to make deposits, waiting to pick up credit cards or waiting to open new accounts. Though they waited patiently, many seemed anxious, and I empathized with their frustration.
Around that same time, my then-16-year-old daughter asked if she could open her first bank account. Naturally, I suggested we go to the bank together. I remember the look of disbelief on her face as she said, “When I open a Facebook or PayPal account, I don't need to leave the house. Why do I need to go anywhere to open a bank account?”
Her question made perfect sense, and at that moment, it dawned on me that her disbelief was directly linked to what had frustrated me when I had visited our branches. I then understood my new mission: Embrace the transformation in banking.
Why banks still looked largely the same as they always had, despite dramatic changes in technology, baffled me — especially given the vast influence of millennials, whose personal preferences have profoundly changed our culture. The answer, though, was simple. For ages, banking had resembled a secure fortress. Profits were good, and a moat of barriers to entry served as efficient protection. Banks had no incentive to change.
But the barriers that once protected banks are disintegrating, primarily due to three major change catalysts. The first is cost. For decades, establishing a bank demanded enormous resources, primarily for real estate and IT. However, the dominance of digital banking largely eliminates the need for physical real estate. Since 2009, more than 6,000 branches have permanently shut their doors in the U.S. alone, according to 2016 data from the Federal Deposit Insurance Corp. In addition, innovations like cloud computing and open source software have led to a dramatic drop in technological costs. Consequently, cost is no longer the barrier to entry it once was.
The second change catalyst is regulation, which has traditionally protected banks from competition. In the past, the accepted axiom among regulators was that the biggest banks were the most stable and that regulators’ jobs were to protect them. However, the 2008 financial crisis proved that size could become a risk factor for local and global economies and it helped articulate the inherent complications of the “too big to fail” theory. As a result, many of the post-crisis regulations are tailored specifically for the largest institutions.
The third change catalyst is trust — the ultimate barrier deterring new entrants to the banking industry. This is not as counterintuitive as it seems. Banks may not be liked, but they are still deeply trusted. There is a unique emotional trust between a customer and his or her bank, a relationship so strong and so embedded in our everyday lives that most of us never question it.
Nevertheless, that trust is now eroding — especially since the financial crisis. Now customer trust is shifting from traditional financial institutions to the tech giants. A 2016 study found that 73% of millennials would prefer to obtain financial services from companies like Apple, Google and Amazon than from their own banks.
In the not-too-distant future, once millennials and tech-oriented consumers become the majority of our customer base, disruption will cease to be a threat. It will be a fact.
Today, some banks are embracing mobile technology to deliver groundbreaking banking solutions that millennials and other tech-oriented customers expect from their service providers. At the same time, leaders at other banks still believe that the traditional branch network is their main competitive advantage. They view technology mainly as a tool for improving internal operations and customer experience, abiding by the old phrase: "If it ain’t broke, why fix it?"
The banking industry must realize that honing the current model is not enough. By continuing to focus on improving existing products and services relevant to the most demanding and profitable customers, incumbents commit to higher profitability in the short term. New industry players, meanwhile, could identify the needs of overlooked customers and then deliver services and products suitable to their tastes, at a lower price.
This digital transformation in the banking industry will also bring about huge positive social change. Digital banking will not only drive new, better, transparent and personalized banking services at lower cost, it will also enable the financial inclusion of underbanked populations. Banks can utilize digital technology to create innovative platforms that promote equality and greater individual financial sustainability.
In this transformation, the main challenge for the leaders of the banking industry is managing the change by overcoming internal resistance, tolerating the risk of failure and avoiding the temptation to focus on the short term. This requires clear vision and strong ambition.
We have reached the end of banking as we know it and the choice for the industry is clear: We are either the disruptors or the disrupted.