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What is Open Banking and Why Does it Matter?

The use of APIs by banks is becoming increasingly common as they help to drive speed and cost-effectiveness compared to traditional legacy systems. Developing a global Open Banking Standard would set the framework for security and consumer protection as data sharing increases.

Subscribe TodayAhead of changes in EU banking regulations, the UK established the Open Banking Working Group (OBWG) in late 2015 to not only meet government standards but to uncover how to propel banking into the modern era. The resulting Open Banking Standard, opens up a new set of banking models that will help consumers transact, save, borrow, lend and invest their money in better ways than before. Let’s explore how this initiative impacts the UK as well as what opportunities other markets may see in the future.

What is the Open Banking Standard?

In recent years, the UK banking industry has taken strides to improve customer satisfaction with the objective of encouraging bank competition and lower banking costs for consumers. In 2013, the Current Account Switch Service, popularly known as the 7-Day Switch, was introduced to encourage people to compare bank services and possibly change their provider. This initiative didn’t exactly take off as only 2% of bank customers had taken advantage of this system two years after the initial launch. Recognizing that more would have to be done, the Open Banking Standard is a more comprehensive plan that gives customers even greater control and insight into their financials.

Under the Open Banking Standard, banking data will be shared through secure open APIs so that customers, be it individuals or businesses, can more effectively manage their wealth. Open APIs would allow third party developers to create helpful services and tools that customers can utilize.

Currently, many small and medium-sized enterprises use commercial software for bookkeeping, but for the most part, these businesses have to add their transaction data manually. The introduction of an API from their banking service provider would give both customers and businesses the freedom to access all bank data in real-time, ultimately giving them more accurate and up to date information on finances. With this initiative, customers will be able to compare and save on their accounts and have access to more personalized resources for making sound banking decisions. Additionally, customers will have access to better loan terms as third-party lenders would now have access to historic transactional data to determine a borrower’s risk level. Of course, an endeavor on this scale would take years to implement and the Open Banking Standard is expected to be fully implemented by 2019.

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Open Banking in Other Markets

The use of APIs by today’s banks around the world is becoming increasingly common as they drive speed and cost effectiveness compared to more traditional systems. Innovative banking endeavors like the Open Banking Standard in the UK show promise in other countries and markets as well. For example, the Open Bank Project has existed in Germany since 2010 and already works with most German banks to create an ecosystem of third-party applications for customers.

There has been such prolific innovation in the finance industry within Europe that the Payment Services Directive (PSD2) was put into place in January 2016 to regulate financial innovation. Under PSD2, consumers must have a right to use online services that provide consolidated information from their payment accounts whether or not there is an arrangement in place between the information provider and the account provider. Banks have to open their APIs so their customers can access information and make transfers from their bank account through third parties. PSD2 is a big step forward for banking and financial technology in Europe.

Open Banking in The U.S.

In the United States, fintech companies like Mint pioneered the concept of independent financial apps that aggregate various bank accounts and credit cards to provide consumers with a 360-degree financial view and the ability to compare various banking products. Consumers were eager to try a service that would help them better understand their finances; 18 months after Mint’s launch there were 4,000 to 7,000 new users everyday. However, without an initiative like the Open Banking Standard, these finance innovators are vulnerable to the aims of established banks.

Some U.S. banks like J.P. Morgan and Wells Fargo have become hesitant to share banking data for reasons including overloading data servers, but their reluctance to cooperate with the banking community can also be seen as a strategic move. An initiative like the Open Banking Standard would help alleviate these issues and improve collaboration and fair competition within the banking industry.

Open Banking in Emerging Markets

Financial technology initiatives are rapidly spurring adoption in developed markets like we’ve seen with the UK, Germany and the U.S., but there is a huge opportunity in emerging markets that would greatly benefit from an open banking standard. For example, in Latin America only 51% of adults have a bank account. So, instead of promoting that people switch banks, there should be a stronger focus on helping those who are interested in banking services find a product that is right for them.

A recent survey of Latin Americans in Chile and Mexico suggest that they are eager for technological advancements in the finance industry. So much so that almost half of Chileans and over one-third of Mexicans think physical wallet won’t exist in five years time demonstrating their preference toward mobile payment apps. Establishing the Open Banking Standard in an emerging market could drastically increase the banking population and finally provide consumers with access to credit, loans, investment opportunities and more.

Open Banking as the Foundation for Growth

The Open Banking Standard cements the role of technology in finance and is a big step for both banks and consumers. Encouraging productive competition amongst financial service providers, sharing data securely and giving consumers more options when it comes to managing their wealth is the future of banking. There is a significant amount of value that lies in providing financial institutions with the tools and resources needed for adapting to the constant technological changes we continue to see in the industry. In the next few years it will certainly be intriguing to watch the developments of the Open Banking Standard in the UK and how other regions will begin to adopt similar policies.

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