Digitalisation and the future of banking

Financial innovation has long been a defining feature of the financial sector, in the shape of new products (e.g. new types of securities), new technologies (e.g. credit scoring, automated teller machines or ATMs), and new institutions (e.g. venture capitalists, mutual funds) (Tufano 2013). The current wave of financial innovation is being supported by specific technological advances, involving: smart phone technology, the internet and application programming interfaces (APIs); artificial intelligence (AI) and big data technology; and distributed ledger technology (DLT) (Allen et al. 2021). These new technologies affect the way banks produce and provide financial services to their customers, as well as bringing new fintech and big tech players into the production and provision of financial services. This has potential implications for incumbent financial institutions and, notably, for traditional banks. It might also create new sources of systemic risk, which could pose regulatory and policy challenges. 

This column describes a recent report from the European Systemic Risk Board (ESRB)’s Advisory Scientific Committee (Beck et al. 2022), which discusses the impact of digitalisation on Europe’s traditional banking system and the rise of new sources of risk stemming from digitalisation, and offers three different scenarios on how digitalisation will shape the future structure of Europe’s banking system. 

A new wave of innovation

The recent wave of financial innovation based on the opportunities offered by digitalisation has come mostly from outside the incumbent banking system in the form of new financial service providers, either in competition or cooperation with incumbent banks but also with the potential for substantial disruption (Cornelli et al. 2020). 

• Mobile phones (especially smart phones), the internet, and APIs have enabled quicker information exchange, new delivery channels, and better exploitation of economies of scale. This has allowed new delivery channels, a move away from the traditional brick-and-mortar branch models, and the entry of new payment service providers – from mobile phone companies offering mobile money to fintech companies offering digital wallets. The internet has also enabled more competition, allowing customers to compare products and prices of different financial services across providers, with platforms enabling customers to shift deposits across banks as conditions change.
• The information technology revolution, including the rise of cloud computing, has facilitated the creation, processing, and use of big data and applied statistics for measuring and managing financial risk. AI and machine learning enable an improvement in screening and…