Financial disruption in China: what can Western Banks learn?
Today’s competitive landscape has brought finance into the digital age, where speed to market with new product and service innovations is what wins wallet share. From FinTech challengers to Big Tech and Banking-as-a-Service, competitive pressure is consistent and growing. In this article, we’ll explore what lessons Western Banks can learn from China, particularly when it comes to the accelerating presence of non-financial Big Tech.
The World Economic Forum has cited Cloud Computing, AI and Big Data analytics as three domains that are becoming vital to competitive differentiation amongst peers. These are all areas in which Big Tech companies have far deeper experience than their finance counterparts. These technology companies have platform and network ecosystems that embed financial services, including payments, lending, investing and insurance, making it hard for traditional institutions to catch-up.
The WEF report highlights instances where financial institutions have had to rely on technology firms to supply those core functions. Amazon Web Services (AWS) provides services to multiple finance players, such as Aon, Capital One, Carlyle, Nasdaq and Pacific Life. Brazil’s Banco Bradesco Facebook app allows customers to conduct day-to-day banking via the leading social network, relying on its customer data analytics to target users. Capital One and Liberty Mutual’s Alexa solution allows customers to check balances, pay bills and track spending through these devices.
It’s clear from the WEF report that financial institutions are becoming reliant on technology firms for their most basic capabilities. From a traditional financial institution point of view, while these partnerships can accelerate innovation, we believe that they also pose a risk in the event that these large technology firms enter the market, putting them in direct competition with these legacy banks. In this scenario, tech giants would be able to pick and choose their point of entry into the market, capitalising on their strengths of large datasets and strong customer relationships, while benefiting from incumbent dependence on them.
We can see the effect of this direct competition from tech companies with incumbent Banks in China, who have seen their market caps grow at around 4% since 2014, well below the 7% growth rate of the overall Chinese economy. Their market cap growth also falls behind on a few key financial growth markers related to Banking, in the same period. For example, retail loans in China have grown by 19%, payments by 14% and savings deposits by 8%. However, despite these trends, commission fees for the four largest banks have grown by only 3% in the period.
Chinese Digital Titans such as Alibaba and Tencent, however, have experienced valuation growth of around 45%. Alipay & WeChat, the flagship apps of Alibaba & Tencent respectively, have already become the preferred mode of payment in most scenarios. They are doing so by harnessing strengths from their 960 million strong user base and their growth in digital commerce, mobile apps, and mobile payments. More payments are now initiated outside traditional banks, driving a massive rise in 3rd party payments at the expense of online banking transactions, slowing the commission income growth of leading banks. Both Alibaba & Tencent have already become the leading payment processors in China, surpassing the top three traditional banks. These Digital Titans did not, however, stop with payment services. In quick succession to their successful entry into the payment space, the Chinese Digital Titans entered other related banking services ranging from personal loans and small business loans to deposits and wealth management services.
The impact of these moves shows even more troublesome signs for traditional Chinese banks, specifically in the lending sector. Chinese technology companies identified a major pain point within the lending sector: loans to buy common consumer durables required heavy documentation along with waiting times of over a month. Alibaba’s SME lending business has taken advantage of this and utilised its data capabilities to provide a better and faster customer experience. It’s growing at a staggering 408%, making them one of the leaders in China. In 2017, Alibaba issued SME loans worth 446 billion CNY, almost 30% of Industrial & Commercial Bank of China (ICBC), the leading SME lender in China. In retail (personal, auto & credit card) loans, both Alibaba & Tencent, have been driving growth with a 600% increase in interest incomes. This growth reflects how far the traditional banks have fallen behind on personal loan interests, the three major banks have only seen declining interest incomes.
In the US, we again see Big Tech firms capitalising on their data analytics capabilities in the lending sector. Amazon offers credit to vendors that sell on its platform, using sales data to measure risk. If a merchant defaults on the loan, Amazon can choose to withhold sales on its platform. The company has already made loans worth over $3 billion using the platform and is expanding the offering to reach even more merchants as it experiences accelerated rates of growth.
In order to stay competitive, Banks will need to offer a better customer experience through, for instance, faster loans. Leveraging data automation technology to reduce costs and accelerate analysis of key data may be the best approach, according to the WEF. FinTech firms, unlike Big Tech firms, have generally not had sufficient access to the low-cost funding or customer base necessary to pose a serious competitive threat to incumbent financial institutions, though this is slowly changing.
According to a recent report, “the competitive impact of Big Tech may be greater than that of FinTech firms. Big Tech typically has large, established customer networks and enjoy name recognition and trust,”. FinTechs have reshaped customer expectations, setting new and higher expectations for user experience. Through innovations in areas of AI and data automation they’ve shown that the customer experience bar set by large tech firms can be met in financial services. Competing successfully with Big Tech will require Banks to collaborate with FinTech providers (both B2C and B2B), if the lessons in China are anything to go by.
At Scribe, we’re taking a research-led approach to artificial intelligence, bringing cutting edge technology into the industry, streamlining company analysis with end-to-end automation. We think every Bank has the opportunity to innovate and grow into one of the world’s largest companies, while unlocking growth for their clients, which we wrote about here. We see the huge potential of this technology and are working to deliver real, tangible AI-driven solutions.
