The push from open banking toward the more encompassing approach of open finance is being driven by several elements, from consumer pressure to regulatory obligations to greater awareness around privacy concerns. However, there is by no means a unanimous approach to open banking, and certain players believe that we are at different stages of completion on the open banking roadmap.

This is an excerpt from Finextra Research report 'The Future of Payments 2021', which is exclusively available on the EBAday digital platform. Register here for EBAday to access the full report.

The regulatory backdrop: was 2020 a true reset for financial regulators?

Over the last decade we have seen that regulatory requirements are increasing, especially in the areas of privacy, payment services, and financial reporting. A more agile, nimble, proactive approach by regulators has been seen against this backdrop, does this equate to innovative supervision, or simply more regulations?

Teunis Brosens, head economist for digital finance and regulation, ING, explains that the Covid-19 pandemic has increased the perceived importance of having 24/7 online access, frictionless mobile payments, and ensuring fully remote access to banking services.

“It is clear that policymakers and regulators are well aware of the negative effects of having too much red tape, country-specific interpretations of regulation and different regulatory treatment of seemingly identical
financial services.”

We have witnessed recent efforts aimed at solving this issue, which build greater clarity across complex financial regulatory frameworks, and address new digital-specific issues as they emerge - the Digital Markets Act is a good example of this.

Yet, Brosens furthers, adapting the current framework is no easy task given its complex nature, and the rapidly changing nature of markets for financial services. “One area where we would welcome further progress is the better functioning of sandboxes that truly facilitate experimentation and innovation, by new entrants and incumbent financial institutions alike.”

The evolution of open banking into open finance

Mario Benedict, EMEA head of APIs and digital product solutions, J.P. Morgan, explains that as new business models emerge with such direct-to-consumer and subscriptions-based recurring revenue, corporates are looking for technology - especially open banking and APIs - to assist with their digital transformation. They are also seeking banking partners that are focused on innovation and can assist with the transformation journey.

“For financial services firms, open banking provides an opportunity to demonstrate digital leadership, and with the changes we have seen in business models generally moving to a more digital offering, clients are looking for real-time, instant and faster payment capabilities.”

As a result of this pressure from clients, very innovative solutions using open banking and Payment Initiation Service Provider (PISP) services are beginning to emerge and provide clients with alternative payment channels. What’s key, Benedict adds, is that clients will be able to provide this alternate method of payment across all their websites within the European Economic Area with a single API connection.

“Open banking transactions - combined with the Faster Payment Scheme in the UK and SEPA Instant across the EU - enable almost instantaneous transfer of funds from consumers’ bank accounts to a client’s account, giving instant access to the funds and playing an important role in overall working capital management.”

J.P. Morgan is finding that for subscription-based e-commerce clients, using open banking solutions for account validation as part of the direct debit setup also helps to manage against fraudulent set-ups and limit direct debit return rates.

Brosens argues that in addition to a general push toward digitalisation and regulatory influences, there is now more awareness amongst customers on topics like privacy, data protection, and data sharing.

“It would be ideal if customers are more in control of their own data. Initiatives like open data or open finance allow customers to use their data for value added services and having a customer centric view is key. Regulators see PSD2 as the basis for extended data sharing in the financial sector (open finance).”

It is therefore important to take on the lessons learned from PSD2 before moving forward around standardisation is key to realising a real ‘plug and play’ experience, equal cost sharing should be analysed and there is a need for a proper functioning cross border secure digital identity framework.

For Tony McLaughlin, managing director, emerging payments & business development, Citi, momentum toward open finance resides in the attraction of ‘the platform’, migration of the economy and the shift to a digital economy. Accelerated by Covid-19, the majority of footfall is on digital platforms rather than the high street.

“It’s simple, finance needs to be plugged-in to where the customers are, and the customers are in digital platforms. What's driving the evolution is that physical footfall is becoming difficult, and we have to be where the customers are.”

Seeking to draw a distinction between the nature of open banking and open finance in the US versus that seen in the UK and Europe, John Pitts, head of policy, Plaid, first confirms that the evolution of open banking toward open finance is being driven ultimately by consumer demand.

This is more clearly evidenced in the US, where without the mandated obligation of participation in open banking the true potential of open banking has been able to flourish without the involvement or restrictions naturally occurring with a regulated approach.

“With European open banking, it is a one-way flow where bank account information can go to a fintech, but data held by the fintech can’t go to a bank. This more than anything defines the severe limits of open banking, and is why this shift to open finance is a recognition that the thing that really matters, is consumers’ control over all of their financial information.”

Pitts believes this is contributing to the relative fast pace of open finance in the US, as there is a clear understanding that unless you take an open finance approach to build on the broad scope of data valuable to the consumer, you are going to structurally limit the benefits that open banking can deliver.

He views the next step after open finance as more of a multi-directional network which would address the unaddressed, undiscussed frontier of open finance being its one-way pipe of information sharing.

“What open finance should come down to, is that unlocking financial freedom for everyone should not be a one-way gate. Rather, wherever you have an opportunity to benefit from better tools, information transparency and choice, this opportunity should be realised.”

Strongly disagreeing with the premise that premium APIs will be the key to bolstering open finance, instead Pitts predicts that the only sustainable future for open finance will be one that bears a multi directional information flow – which is a philosophically different future from what has been seen and discussed for the open finance roadmap.

Which regions are perfecting open banking and cementing open finance?

Drawing on the example of China’s approach to open banking, McLaughlin explains that leading platforms such as WeChat and AliPay demonstrate that fintech is now delivering these fundamental financial services. The question elsewhere will come down to how banks plug in to these platforms as part of a broader acknowledgement that there is business imperative for banks to be where their clients are.

McLaughlin adds that beyond any form of regulatory push, if banks don’t publish the right APIs into digital platforms, then the platforms will simply find a way to deliver these services independent of the banks.

“I think it’s fair to say that large incumbent banks have been somewhat hesitant about fully embracing the potential of APIs. Banks have perceived APIs and open banking as being a regulatory tick box exercise – they’ve simply focused on delivering the minimum they are required to.”

Citi takes a proactive approach, by publishing APIs across its consumer and wholesale banks in a recognition that this is now the way in which its clients want to consumer our services. It is a new way of interacting with the platform economy, and “banks have a choice between doing it as a compliance exercise, or as part of a broader business strategy. We’ve chosen the latter route.”

This concern around banks’ ambivalence toward adopting open banking in a meaningful way as opposed to a box ticking exercised is echoed by Alan Ainsworth, head of policy at the Open banking Implementation Entity (OBIE).

In response to the CMA’s recent consultation on the potential evolution of the OBIE into a more permanent entity to oversee open banking in the UK, Ainsworth believes that this may jeopardise the progress already achieved, as core objectives of the OBIE’s original mandate are not yet complete. Transition too soon, he argues, could undermine the entire framework of open banking in the UK.

Largely, this is because the future funding models being proposed are somewhat reliant on the goodwill of nine banks - the CMA9 - which ultimately do not have a commercial interest in providing further significant funding toward open banking.

Structural differences inherent in open banking platforms from region to region present a significant concern to organisations with international aspirations. Pitts explains that Plaid is already experiencing this, given its presence across the US, UK, Canada, Ireland, France, Spain, and the Netherlands.

“If we end up in a world where every country or region has a slightly different version of open banking, it ultimately means Plaid has to effectively set up multiple companies that operate differently in each country. However, if the core open banking and open finance rules are similar enough it allows for easier global expansion and cross-border interoperability.”

While the US has not yet taken a regulatory approach to open banking and open finance, Pitts furthers that this is changing and there is significant interest in developing greater regulatory frameworks around the US sector. In its comment to the Consumer Financial Protection Bureau on section 1033 of the Dodd-Frank Act, Plaid stated that there should not only be a strong consumer data right that limits banks from blocking consumers sharing their information, but that open banking should be supervised by the CFPB as if it were a bank that is subject to prudential supervision.

“If we are going to have that very serious role, the government should have appropriate oversight into us. Plaid is a strong believer that access and responsibility go hand in hand.”

Nico Strauss, Tribe lead, B2B services, Rabobank, sees the US as leading the way with open finance, not only as a result of the difference in the way the banking industry works in the States, but the fact that SMEs are choosing alternate services than banks to secure their loans.

“It is strategically very important for Europe to be a part of this change too, and we as a bank are now happy to enter partnerships with large retailers to capture this shift.”