6 Questions for Jesse McWaters
The traditional value chains of banks are breaking up, and big tech companies are stepping in as potential competitors and partners, says Jesse McWaters, who heads the Disruptive Innovation in Financial Services project at the World Economic Forum.
Your recent report “Beyond Fintech” suggests that innovative fintech start-ups might not be the most disruptive force that banks are facing. What is?
For some time, the dominant narrative around financial innovation has been banks versus fintechs, but that perspective tended to view the financial institutions as still combining all the functions and activities that they do today. The more disruptive thing may be a separation of activities that have traditionally been bundled inside of a bank. The most important division we're starting to see is the separation of distribution and manufacturing. Traditionally, banks have been very vertically integrated institutions, combining activities that engage with and advise the customer, as well as the more heavily regulated manufacturing of financial products. I think the key trend is a shift to move distribution of financial products outside of traditional financial institutions.
Who will be distributing financial products, if not banks?
Most of the discussions we've had are around large technology firms playing a greater role in the distribution of financial services. For example, accounting system providers like QuickBooks are bundling up customer data, shipping that data off to multiple providers of credit, and then allowing small business owners to choose the credit provider or the terms. All of that happens in the app or accounting software rather than in the bank branch.
But you also see instances where platform players are expanding into the underwriting of financial products in spaces where they have proprietary data. They believe this data allows them to write that product at a lower cost. A great example is Amazon, which has done around three billion dollars of lending to small businesses on their platform. Merchants who sell things on the Amazon platform are increasingly going to Amazon for credit. As you can imagine, Amazon has intimate details about the sales and seasonality flows of those businesses, and are able to make really informed choices on that basis.
How would the separation of the financial value chain impact manufacturing and distribution?
Imagine you want to succeed either in product manufacturing or product distribution in a world where those activities are separate. For the product manufacturer, you can no longer drive cross-sale or cross-subsidisation of products, because you don't own the customer relationship and you don't control the sales channel. More importantly, the ability for customers to easily compare products will give an advantage to scale players who can deliver the lowest costs, and niche players who can deliver the best fit – meaning that mid-sized producers of commoditised products could find themselves squeezed in the process.
How can banks maintain or regain control of the customer relationship?
If you want to own the customer experience – if you want to be a platform that provides access to financial services from many different manufacturers – then that requires you to make a shift from being a product-centric organisation, which banks are today, to a customer-centric organisation. It requires you to have a flexible IT infrastructure. It requires you to have a focus on recommendations and customisation that is based on more than just customers' financial data, but rather detailed locational or social data. And to bring all of that together will require financial institutions to rely on things like providers of cloud services and providers of artificial intelligence (AI) services. That doesn't mean there won't be really important tech roles within large financial institutions. And it doesn't mean there won't be people working on narrow, financial service-specific AI. But to make those customer-centric recommendations is going to take a much broader horizontal data set. So, inevitably, the providers of those distribution platforms will either be large technology organisations or closely partnered with large technology organisations that can provide them with the necessary technological capabilities.
Does this make it a dangerous time for incumbent banks?
I think this is a transformation that does involve some risk. Most financial institutions today have significant operations in both distribution and manufacturing. Will they be able to be successful at both of those things moving forward? And moreover, if you look at other marketplaces in which multi-provider platforms and just-digital platforms more generally have become the dominant players, you see that the natural number of players in the space tends to contract. I think banks will still have an important role to play. In Europe and North America, it's likely the product manufacturing will mostly be done by traditional regulated financial institutions. But it does mean that we're entering a transition period in which the strategic choices about manufacturing versus distribution – and who they choose to partner with – will have a major impact on their competitive positioning in the medium term.
What are the key takeaways of your research for banks?
The first is to think about where their organisation value chains could be broken up. In particular, where is there potential for separation between distribution and manufacturing? And if there is a risk of that happening, what is the plan for addressing it? I think that plan will require a choice about whether to focus on distribution, manufacturing, or both. In almost any instance, we're going to see a shift from financial institutions being able to pursue a “jack-of-all-trades” model to one where they're going to be more tightly integrated with partners.