It’s a good question, and it’s also the title of a recent presentation given by Lael Brainard, a member of the Board of Governors of the Federal Reserve System. Ms. Brainard believes that the evolution of smartphones holds lessons for where the fintech ecosystem is heading, and what banks role within it might be. According to Brainard:
“The iPhone is a key platform on which the app ecosystem operates. How did that happen? Apple made the smartphone a toolkit for third-party developers to experiment, innovate, build, and scale new apps. It developed open APIs that provided third-party developers open access to the iPhone platform. This strategy enabled those outside developers to build new applications that delivered Apple’s customers additional value by taking advantage of the existing functionality of the iPhone.”
Will this happen in banking? Brainard says that “there is every reason to expect financial services to make a similar transition to an increasingly interconnected digital world.” She does say, however:
“On balance, bank activities are much more highly regulated than smartphones. Those regulations enable consumers to trust their banks to secure their funds and maintain the integrity of their transactions. While ‘run fast and break things’ may be a popular mantra in the technology field, it is ill suited to an arena where a serious breach could undermine confidence in the payments system.”
Different Approaches to the Fintech Stack
Brainard sees a number of approaches emerging:
- Platforms. In this approach, banks develop APIs a way for third-parties to gain access to data and services. Brainard sees challenges for banks, however, in determining how “open” these APIs can be.
- Data aggregator. In this approach, banks partner with data aggregators who collect consumer financial account data from banks and then provide access to that data to fintech developers.
- Closed approach. In this approach, banks entering into individual agreements with specific technology providers or data aggregators.
Brainard recognizes that “for community banks with limited resources, the necessary investments in API technology may be beyond their reach, especially as they usually rely on service providers for their core technology.” I agree, and that’s why I believe we’ll see an emerging set of vendors — platform services providers — to address this limitation.
Brainard concludes her speech with a discussion of banking regulations. Citing the recent PSD2 regulations in Europe, Brainard expects a different path for the US. One quote, in particular, caught my attention:
“There may be value to examining the vendor risk management guidance so that it facilitates banks connecting more securely and efficiently with the fintech apps that consumers prefer.”
My Take: Is Banks’ Role in Fintech Stack The Right Question?
I’ve read the transcript of Brainard’s speech a couple of times, and I can’t find any definition of what the “fintech stack” actually is. I’m not one to argue with a Fed Reserve Governor, but I think the real question the banking industry is: What’s the role of fintech in the banking stack?
I’m sure I’m over-simplifying things, but the banking stack consists of three components (which, in previous posts, I’ve described as a hierarchy of needs):
- Security. The foundation of the stack is security–protocols and mechanisms to ensure that account access and transaction execution is secured and protected.
- Movement. The next level is money movement–the ability to move money (and data) between accounts and/or participants.
- Performance. The top of the stack is the performance level that enables capabilities that impact: a) the speed of money movement; b) the cost of providing capabilities; and c) the return on investments.
In this context, the role of fintech is one or more of the following three alternatives:
- Create new capabilities at a particular level (or levels) of the stack for banks to deliver
- Create new capabilities throughout the stack, and offer them as standalone services to customers
- Bundle new capabilities at various levels of the stack and replace existing banks
European startups like Starling and Monzo have gone this last route, but it’s proven a difficult road to hoe in the US. Startups have also learned that it takes a lot of money to build new brands, making the 2nd alternative a hard one to pursue, as well.
This makes the first alternative the most attractive and likely role. In fact, Brainard says in her speech:
“For all of the talk of disruption, more often than not, there is a banking organization somewhere in the fintech stack.”
I’m just not clear why she calls it the “fintech” stack.