The doomsday for traditional banking

Being a banker used to mean something. Now, the future for traditional banks looks gloomy for numerous reasons: social networks, low interest rate policies, and government regulations, to name just a few. If you become a banker today, you can count on your image dropping a few notches and on having to simply dream about the fat bonuses of recent years.

The downfall of banks stems from both the past and the future. Past burdens represent the smaller issues that will be amortized someday. The outlook, on the contrary, is much direr. Technological advances, low interest rate policies of central banks and government regulations threaten to destroy the existing business models for banking.

The real dilemma faced by practically all banks is – profit margins are under pressure from regulations, advancing digitization of the business, and the possibility that low interest rates will prevail in almost all banking sectors over the long-term.

Technological developments could lead to banks losing the businesses of monetary transactions and lending to other companies. This is a dangerous trend for banks, since technology will play an increasingly key role in the financial sector as well. Even stock trading is now almost fully automated.

Electronic banking is taking over both cashless payments through banks and cash payments with notes, a segment in which information providers are a technological step ahead of banks. Such firms could also challenge the banks’ privilege of money creation and lending by issuing their own crypto-currencies.

Social networks will play an ever greater role in lending. The emergence of crowd funding demonstrates that organizing social events can help bring savers and investors to the table. Hence, instead of asking a bank for a loan or trusting it with one’s savings, one can publicize one’s interests/concerns via social networks. The plus side of this approach is that such business transactions circumvent normal bank processing fees and, thus, can be cheaper for both parties.

Moreover, the low interest rate policies of central banks also crimp the profits made from traditional banking. Money creation through lending is profitable for banks, as long as interest rates hover above those for bank deposits. However, if central banks trim lending rates towards zero, the interest margins for banks disappear – since the bottom threshold for bank deposits is limited and, hence, the deposits can be replaced with cash. Therefore, the longer the low interest rate phase lasts, the greater the number of banks having to give up their business.

The business models of many banks are threatened, not least because of increasing regulations. The necessity to back businesses deemed risky under the regulations with more equity capital, forces investment banks to prune their lines of business and balance sheets. The supplementary equity capital required for relevant banks and their obligation to make it feasible to resolve a bankruptcy without taxpayers’ money, practically obsoletes the model of a global universal bank.

One can fantasize endlessly about what shape the new world of banking may take someday. The same goes for innovation. Technology firms will possibly take over monetary transactions and lending. Yet, regardless of any decisions made by boards of directors of banks, the fact is – there is barely any room for mistakes.

Real innovation demands unconventional thinking outside of a firm’s comfort zone. Consequently, banks must recognize the existence of new opportunities. In particular, they must reexamine their business models in order to perhaps break away from them and utilize novel perspectives to extract even greater benefits.

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