Can virtual banks accelerate initiatives toward cashless and smart nations?
Fintech encourages the financial sector to innovate and improve their service offerings
In 2014, Singapore launched its Smart City initiative, and one of the tenets was to establish a cashless nation — the ideal being that people and businesses can simply go about with their transactions without physical cash ever having to change hands.
Efforts toward “cashless nation” accelerated in 2018 when technologies like near-field communication, QR-code scanning, and tap-to-pay started to become popular.
Cashless transactions are not exactly a new technology — the precursor of course had been credit cards and debit cards. However, today, technology is enabling innovations in finance that go beyond banking — decentralized finance, peer to peer transactions, near instantaneous cross-border payments, and the like.
Innovations in finance
An offshoot of the digital nation initiatives are innovations in finance — particularly with fintech startups. These platforms are providing financial services that go beyond traditional banking.
Credit- and debit-card transactions have become a norm in developed economies, with high card penetration rates. The incumbent popularity of cards have made it inconvenient for users to switch paradigms when it comes to making digital payments.
However, users in emerging economies — such as those in Southeast Asia, Africa, and Latin America — offer an encouraging opportunity for fintech platforms. It is in these countries where mobile payments and other digital modes of transacting have become primarily popular. In China, for example, Alipay and WeChat are popular means of transacting. Such mobile services are providing a means to serve the underbanked and unbanked.
Another example is the concept of virtual banking, which are essentially banks that do not have the traditional branch infrastructure. Also known as a “direct bank”, these institutions offer services remotely through online banking and mobile transactions. By doing away with physical infrastructure, there is significant reduction in overhead costs. An offshoot of this is the potential to extend financial services beyond borders— something that will take time for traditional banks to establish.
Speaking about banking infrastructure, Amar Shah, Director at Namana Investments (HK) Ltd. and former Managing Director at Morgan Stanley HK, highlights the advantages: “Most of the traditional banks have clunky infrastructure. This is not just in tech, but also physical infrastructure — they have branches, and they require office space. With virtual banks, we should start to see more efficient lending models. Hopefully this leads to more micro-finance and micro-lending. This will be key in propelling the rest of the business community toward better efficiency.”
To illustrate a use case for virtual banking, we can point to the Greater Bay Area initiative, which brings together 11 cities across China, Hong Kong and Macau, into a hub for finance, business, culture, education, and industry in general. The region has a population of almost 70 million across approximately 55,000 square kilometers — significantly larger than other major tech hubs across the world, like Silicon Valley.
Integrating regulatory and compliance services
One challenge that needs to be addressed here is how to integrate regulatory and compliance services into virtual banking, given the differences in financial jurisdiction across the GBA’s different locations.
“One of the biggest concerns faced by banks is compliance.”
“One of the biggest concerns faced by banks is compliance,” says Shah. “Post 2007 financial crisis, there had been a lot of checks and regulations put in place, and big financial institutions had to beef up their compliance departments. As for the KYC process, there has been a lot of manual processes involved, and data stored in centralized servers.”
Integrating the Know-Your-Customer or KYC process into financial services is already an established need. But with such a big geographic area and diverse economic and financial systems, there is a need for efficiency in this matter. There is also the need to overcome another challenge, which is data privacy amidst the rise of privacy frameworks such as the European GDPR and California’s latest CCPA.
In China, the closest regulatory framework that protects privacy are the Cybersecurity Law and the Personal Information Security Specification, which regulates the collection, storage, use, sharing, transfer, and disclosure of personal information. In particular, it provides guidance on compliance with relation to processing such information.
“With e-KYC, verification is reduced to a few hours.”
Hans Lombardo, Co-Founder and Chief Marketing Officer at KYC-as-a-service company Blockpass, weighs in on how decentralized KYC can significantly make compliance easier for businesses that have operations that cross borders.
“With e-KYC, verification is reduced to a few hours. This means you can open a virtual bank account much faster, as compared to a traditional bank, in which KYC would take a week for individuals or up to a month for corporate accounts.”
Such a decentralized approach also provides for better data control ownership for users — no central institution actually owns or stores the identity data. Users only share their data to financial institutions on an as-need basis. This approach also addresses the question of data sovereignty — something that may be a concern for users, businesses, or regulators in certain jurisdiction.
“Instead of allowing companies in the US for example to store data on their users, a decentralized platform lets users keep their data on their devices and only share what they want to share on a case-to-case basis. With an on-chain verification procedure, a user can still remain anonymous, but can be verified using KYC,” Lombardo adds.
This goes beyond individual banking activities. KYC can also be an integral component of due diligence for businesses that are into investing and fundraising. Shah cites how decentralized crowdfunding can benefit from such an approach.
“At the height of the popularity of crowdfunding, we did not have control over who was raising money or the companies behind them. Now, you have another layer of filtering — someone to do the KYC on investors.”
Trends in virtual banking
One interesting trend in the virtual banking industry is in how some virtual banks have traditional banking institutions backing them. Of Hong Kong’s eight institutions granted virtual banking licenses in 2019, four are backed by traditional banks or non-bank financial institutions.
Essentially, banks that already have the infrastructure are applying for virtual banking licenses in order to more quickly expand their operations beyond their traditional scope and coverage. A diverse region such as the Greater Bay Area will be a good testbed that can determine the success of such a decentralized approach. This can then perhaps be duplicated in other diverse regions, such as Southeast Asia for instance.
There is still room for growth in the virtual banking sector. In Hong Kong, a survey by KPMG expects virtual banking customers to be in the tens of thousands by the end of 2020 — the first year after the HK Monetary Authority started granting virtual banking licenses in 2019. However, this will only account for 2–3 percent of deposits.
To conclude, what’s sure at this point is that virtual banks “will be a major driver of change and improve competition in the sector, forcing traditional banks to innovate and improve their service offering,” as KPMG’s The Future of Banking 2019 report puts it. “This will all be for the benefit of the customer, who stand to be the real winners.”
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Hans Lombardo is a successful entrepreneur and enthusiastic proponent of blockchain technologies. He is a co-founder of Blockpass, a self-sovereign identity system and KYC-as-a-service provider. He is also a co-founder of Chain of Things, a Hong Kong-based startup integrating blockchain & IoT devices. In 2012, he sold his previous company, a data collection and analytics research firm focused on mainland Chinese high-technology industries. He is an Internet industry veteran with regional management experience. During the Internet boom, Hans managed the internet.com Venture Capital Fund in Asia, investing in a number of Internet startups in Greater China. As a tech journalist in the late 1990s, he interviewed Jack Ma, Jerry Yang, Vinton Cerf and Richard Li Tzar Kai. Hans earned a Ph.D. degree from the University of Hong Kong in 1997 and a Sir Edward Youde Memorial Fellowship in 1995–1996.
Amar Shah is Director at Namana Investments (HK) Ltd. and former Managing Director at Morgan Stanley HK. A global business leader, consistently delivering results, he is an expert in building strong, resilient and engaged teams that repeatedly provide effective solutions to complex problems. Shah is a leader with a reputation for integrity who transforms business performance by building global strategies, operating models, culture and governance.
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