What is the reason for the strong desire of all major market players to rapidly build their own ecosystems and to develop non-banking services? How useful and justified is it from the economic point of view? Aren’t banks hindered by the constantly appearing fintech startups, especially when they are ready to provide certain banking and financial services faster and cheaper than traditional institutions? Vladimir Krasik, NES visiting professor and Vi Holding CFO, and Boris Kim, Qiwi co-founder and entrepreneur, discuss these questions.
Revenue from Inflation
A bank is an intermediary that provides people and companies with access to financial markets. The foundation of any bank's good state is its capital. And in general, the simplest conservative strategy for any of them is to invest capital in government bonds. Today, the yield on Russian five-year federal bonds (OFZ) is about 7%. This means that a bank in Russia cannot have annual return on capital below 7%. European banks with their rates at around 0% as well as American ones could only dream of such profitability.
Since banks’ profitability is largely a reflection of the level of nominal rates, which are determined by inflation, what would be their most profitable products, their Klondike? At these high nominal rates, it is the client's money that can be used without paying interest on them. These are debit cards, payroll programs, money in current accounts. They do not generate income for the client, but they continue to generate 6-7% yield for the bank. These liabilities are a very, very profitable product for the bank, and the more such liabilities, the more profitable it is.
Let's take Sberbank as an example: historically, it is an institution with a large credit of trust from the population, many people have accounts there, it has turned into a convenient and very high-quality system of settlements and online transfers. With a capital of about 5 trillion rubles, about 7 trillion rubles on transactional, debit and payroll accounts and a yield of 7% on five-year federal bonds, Sberbank can earn about 850 billion rubles. And the overall expected profit is 1 trillion rubles. Therefore, high nominal rates are the key to success. For the population, inflation is an erosion of purchasing power, and for banks it means higher rates and profits.
Elimination of intermediaries is nowadays a popular trend which affects the financial market as well. Balance sheet of a bank has two sides: assets and liabilities. So far, we were talking about liabilities. But banks also lend money, taking risks. If these risks are realized, then the bank may lose clients' money, therefore their activities are strictly regulated. And this is the original sin of the banking business: they risk only on the active side of their balance sheets, but not on the passive one.
Clients' money and their transactions, which go through the bank, are the juiciest and at the same time the lowest hanging fruit, the part of the profits from which some share can be taken. There is a wide range of services that can be provided without having a license and without being in the regulatory area. And this is a strategic challenge for the standard banking model, because if money starts to flow from deposits into more profitable products, then banks will have to raise rates and reduce their margins. Competition will become more aggressive. Yandex is already acquiring a banking license. And when competition grows, prices start to decline.
Today, there is, of course, no full alternative to banks and, most likely, it will not appear even in the medium term. The regulation of the active side of the balance will remain.
Meanwhile, digitization is just one of the trends that forces banks to share profits with other players. There is also the development of the financial market. More and more people are entering the stock exchange which is confirmed by the record growth of individuals’ brokerage accounts. We see a growing share of bonds in banks’ balance sheets: instead of borrowing from banks, companies go to the market and issue bonds. Individuals and companies will have more and more opportunities to allocate money at higher rates through the stock market and not banking instruments.
You Need to Become a Bank
To win in market competition, FinTech companies need to grow. Qiwi has come a long way and eventually became a bank.
Revolut also follows this path, receiving banking or similar financial services licenses in different countries, and building a more or less universal bank by extending the offering of new financial services.
Banks are actively introducing new technologies. Eventually FinTech companies and banks will merge. FinTech firms will become large, technology-based universal banks. And banks will use technological solutions, which, among other things, were prompted by FinTech companies.
Many have tried to challenge banks, but they are holding the lines. To paraphrase Mark Twain: the rumors about the death of banks are greatly exaggerated.
Yes, there are certain segments where FinTech companies manage to beat to a certain extent traditional banks. Then, the banks take their toll. In the early 2000s, it seemed that cellular operators would become major financial services operators. But they never succeeded in that.
Alibaba Group and Tencent with their ecosystems managed to do that in China and have taken an almost monopolistic position: the first one in b2c payments, the second one in c2c. This explosive growth is due to regulatory arbitrage and uncontrolled access to personal data that banks do not have. So this is not really fair competition. And that is why the regulator got very much concerned about such companies and is now paying much attention to both regulation and the use of personal data.
The largest Russian tech companies Mail.ru, Ozon, Yandex and Wildberries have gone through several stages on their way to starting to provide financial services. First were the sales of leads (potential buyers – ed.). There were partnerships with financial service providers. This collaboration failed. Then, there was the stage of mergers which also all fell apart. A captive bank will never be as efficient as a large bank. This means that you have to sponsor it.
Why are there few FinTech firms in Russia? It is because for realizing even a brilliant idea you need a bank which gives access to sub-accounts and identification. But if a bank likes the idea, it would rather buy the team of the respective project than help implement it. Banks were taking over such projects at a very early stage and were headhunting talented teams. That is why FinTech companies in Russia are mostly banks. There are no independent FinTech firms.
There are many announcements and plans for building ecosystems. But, as the Americans say, the jury has not returned yet. I cannot yet say that banks that are building ecosystems, provide services better than their competitors. Many large banks are not making something new, but rather come to market segments where there are already large and strong companies, and try to occupy a significant market share, using their capital, clients’ data and data about their transactions. I may be wrong, but I don’t see any serious success stories yet, although there are all the prerequisites for them. But there is also a serious challenge. Ecosystems require big investments, and in such huge structures as Sberbank or VTB, it is difficult to understand whether a new project will bring profit or not, or whether the right decisions are made. For such large firms it is normal and not really stressful to have some failures.
And another challenge is the attention of the regulator to ecosystems, since they should not, in their turn, create risks for the bank's stability.
For me personally, it will be most interesting to watch how companies like Yandex will go into the segment of providing financial services.