Leading the fintech revolution, open banking is a gateway to new kinds of payments. Open banking is universally and unequivocally regarded as a significant part of banking landscape. Many financial services firms such as PayPal, Wells Fargo, Visa, among others are embracing open banking to enhance service offerings, improve overall customer engagement, and drive revenue from new sales channels. In 2021, there were 26.6 million open banking payments, which increased by 500% in just 12 months. In coming next three years, open banking will be worth around USD416 billion.

The open banking services make use of the aggregated and authenticated data connected via application programming interfaces (APIs) to enable secure sharing of financial information electronically between banks and third-party service providers. The rising number of digital platforms enabling payments and rapid expansion of big data analytics in payment methods are boosting the growth of the global open banking market. As traditional banks strive to compete better in the industry, they are waking up to the value of open banking initiatives and the fundamental role of APIs.

Impact of PSD2 on Financial Services

Enacted with the aim to increase innovation and competition in banking, the PSD2 law (the revised Payment Services Directive) is driving the adoption of open banking in the European Union. The new law is one of the first regulatory initiatives to open up bank-held account data to reshape the European payments sector. The initiative aims to increase competition and innovation in payment services. United Kingdom leads Europe in the adoption of open banking, owing to significant political support and pro-innovation regulatory environment in the country. Besides, the country has the highest number of registered third-party providers in Europe, which promotes the development of open banking infrastructure.

Mandating financial institutions for sharing data with third-party providers, PSD2 aims to increasing competition and drive innovation. Since banks were forbidden from monetising APIs, TTPs had the most to gain from new regulation. Several account information and payment initiation service providers (AISPs and PISPs) emerged as open-banking financial services exploded post the introduction of regulation. AISPs are diversifying their customer bases who enjoy real-time overviews of their finances and lenders. Transfer schemes such as Faster Payments, SEPA, or Elixir Express are enabling customers to initiate payment directly from their bank account, removing the middlemen. The largest digital companies are pushing the retail banking across Europe and capitalizing in terms of both customer reach, customer proximity, often owning the “last mile” to consumers.

US Banks Embracing Open Banking

Currently, American consumers have a limited form of open banking, which requires consumers to provide a third party their account sign-on credentials. Since this process carries a huge risk that the third party holds the account access credentials, which makes the consumer’s information more vulnerable to a data breach. However, the US banking industry favours application programming interface (APIs) since they allow customers to use third parties without disclosing their login credentials. The US Consumer Financial Protection Bureau (CPFB) are moving forward with an “open banking” with an aim to boost competition in the consumer finance industry and increase access of Americans to financial services. As third-party integrations are making consumers’ lives easier, open banking is becoming fundamental for enabling customers and corporations to improve daily life. For instance, an investment app can recognize how much a consumer saves every week and invest that amount in a chosen fund automatically. This saves time and money of the consumer without determining how much to invest and in what period.

Four Market Forces Driving Open Banking

Rapid Digitization of Finance

More than 2 billion people use digital payments globally. Net transaction value is projected to reach USD2,041 billion in 2023. Financial institutions are experiencing the highest volume of open banking transactions as the banking sector is becoming more digitised. Computing has become more affordable and advanced more than ever. Moreover, ubiquitous connectivity, rising smartphone penetration, pervasive coverage, etc. are making fintech services accessible anytime and anywhere. Moreover, advances in big data analytics and growing need for real-time transactions are making accounts-based payments smarter and faster.

Growing Customer Expectations

Ease and convenience of automated transaction processes and quicker decision making on financial applications are driving the use of open banking. With open-source technology, transparency and privacy, open banking providers customers the control over how their data is used. Real-time payments are already a reality. Open banking APIs increase the appeal of banks as they meet the changing demands of existing customers and attend to their needs in a secure, agile, and future-proof methods. Hence, banks are opening their APIs to start-ups and financial services firms to better retain existing customers and attract prospective ones.

Enhanced Competitiveness among Financial Services

With hundreds of millions of active Internet users, Fintech service providers do not want to lose out on business. Hence, they are striving to provide consumers with best services and experiences using digital in a consumer-centric manner unencumbered by legacy infrastructure. Open financial data has put non-banking companies in a strong position to become financial-service players, accumulating a massive lead in customer attention. Hence, instead of competing directly against fintech and third-party institutions, incumbents can use open banking to remain competitive in the rapidly evolving Fintech industry. At a time when competition to attract new customers is high, banks require to embrace open banking. Data is one of the greatest assets that banks possess, which allows them to build credit risk models, structure and price new products and services.

As the world is becoming highly digitized and collaborations between FinTech is growing, financial institutions are expected to find more comfort in sharing their data and their clients’ data, with third parties to provide their customers with seamless banking experience. Generating new revenue with open banking would require a bank wide unified data strategy, leveraging artificial intelligence and other business intelligence tools. This would provide truly personalized offerings to the customers. Digitalization is primal to banks’ survival in the evolving ecosystem of fintechs. Today, banks across the world are reserving their place in the new digital reality by entering the Open Banking model and thus experimenting with FinTech partnerships.

Way Ahead

Mid-market banks must have fundamental data capabilities to acknowledge the benefits of open banking leveraging cloud services or SaaS technology solutions. The idea behind promoting open banking is to enhance experience of the end customer where they can have more trust in spending cash online and they will be able to do it faster and easier. Increase in consumer confidence will result in greater spending and boost in consumption and overall economy.  

However, one of the challenges pertaining to Open Banking is the security of customer data since it involves sharing information with third-party financial service providers.

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