The introduction of the Payment Services Directive 2 (PSD2) in Europe at the beginning of 2018 was the latest step on the region’s journey towards competitively fair, digital banking. With the introduction of the legislation, incumbent banks are now legally obliged to open their customer data (with that customer’s permission) to registered and approved third parties, who can then make use of this customer data to offer additional products and services to those of the bank via banking APIs. In this way PSD2 has become another fundamental building block upon which the financial landscape continues to develop the principle of Open Banking, the umbrella term used to describe the principle of bringing a greater selection of innovative financial products and services to the retail market.
The volume of APIs in the market is already growing rapidly, and this will increase as Open Banking principles filter further into the mainstream. This growth is being driven by the PSD2 regulation, but is also already been driven by customer demand. As consumers become more familiar to the digital economy and digital banking, and the hardware to enable digital banking such as smartphones becomes ever-more commonplace, these consumers come to expect the same user experience and range of functions from banking as they receive from other everyday services, including the digitally native tech giants (Amazon, Google, Facebook). For traditional banks that are hampered by legacy technology and an inability to innovate at pace, rising to the challenge of satisfying customers can only be achieved by offering services through third party APIs.
Customers are also more readily prepared to share their financial data with the same third parties; whilst it may be true that customer trust is still a competitive advantage of the banks, the percentage of consumers that are unwilling to share their financial data with new technology providers and disruptive Financial Service providers is undoubtedly dwindling. Consequently, it is pressing for incumbent banks to develop an innovation strategy that protects their market share through this customer change.
It can be argued that incumbents have been slow to react to this change in customer demand to this point, and are therefore on the back foot now and needing to respond as disruptive fintech takes a foothold in the market. The banks that will be most successful moving forward will be those that enable APIs to improve customer insights and experience, potentially developing new revenue streams in the process.
Connecting fintechs and banks: The case for conduit technology
It is in the interest of both fintechs and banks for the Open Banking transition to be as efficient and frictionless as possible. As the volume of approved third parties that the banks are required to share data access with is growing, it is essential that they take an agnostic approach to PSD2 compliance in order that supporting API access doesn’t become a cumbersome and unmanageable operation.
The optimum solution for this issue is to engage with software provided by a third party to act as an introductory portal connecting the bank’s core system with the API software. A solution provider with expertise in smoothly and securely providing fintechs with access to APIs, that affords appropriate contact with the core system to comply with PSD2 and provides quality user experience in sync with the bank’s business strategy, whilst also protecting the bank from inappropriate actors. A provider who can deliver this additional layer of technology and can oversee administration and management to the bank over the API implementation and delivery process, and additionally give both the bank and fintech the ability to control secure access to their relevant systems without risk of unauthorised access to actors in either party or unsecured access to third parties.
A promising approach adopted by some solution providers is to consider the open APIs as another channel within an omnichannel platform. As such, the rules that apply for users of existing digital banking channels – such as user authentication, access to accounts, pre-staging rules, etc – also apply to the user when accessing the third party’s application. Further, and based on this approach, any functionality provided by the bank within these digital channels – such as bill payments, transfers, etc – can also be offered to the third parties at the bank’s discretion. That means the bank does not need to worry about interface exposure; the vital requirement for correctly testing services to ensure that APIs are functional and secure is overcome.
As banks continue to offer API-driven services to customers that are increasingly integral to their core banking functions, on top of development portals sandbox environments are growing in prominence, which help provide the third parties convenience in developing and testing their applications.
Open Banking opportunities
Due to the onset of regulation in the region, Open Banking is very much considered a Europe-centric initiative. However, with successful initiatives leading to banking efficiencies and improved customer services, financial institutions and regulators across the globe will have their sights on how the initiative is moving forward.
To date, there are retail bank account aggregator services available in the market globally (one customer service that can be offered as a result of Open Banking) which have proved to be popular as consumers seek greater visibility and understanding of their finances. Emerging markets, such as Kenya and elsewhere, also seem to be considering Open Banking in their strategy. For example, concepts such as allowing customers to have a 360o view of their accounts across banks through the existing electronic channels (i.e. Bank acting as Account Aggregator), allowing cashing in/out of wallet from multiple accounts (i.e. Bank acting as Payment Initiator) and the formation of ecosystems through the deployment of ‘marketplace’ platforms seem to be under investigation.
The onus currently remains on fintechs and consumers to develop and demand solutions in parallel to the incumbent banks whilst those banks remain unwilling to share customer data. However, with fintechs already penetrating into consumer finance market, forward-thinking banks will inevitably consider APIs and Open Banking concepts in order to maintain their position as market leaders as customer demands for better services continue to increase.
The development of secure systems for implementing APIs is one of the fundamental question marks hanging over wider adoption of the Open Banking principle beyond Europe. The engagement of technology to act as the connecting function between banks and fintechs is a development that will be closely observed as banks consider their own API strategy.
There is an additional argument that supports the case for greater adoption of Open Banking protocols in emerging markets as well, namely that Open Banking promotes financial inclusion. The addition of APIs to traditional banking services increases the number of tailored products in the market thereby providing the unbanked and underbanked with greater access to products that help them access their finances.