There are two types of regulation. One is just another annoying cost/process for the bank and a wonderful opportunity for consultants, lawyers, outsourcers & IT providers. Another type of regulation fundamentally opens up the market for innovation and threatens the control of the incumbents. PSD2 is the latter type. It is the key to the unbundling & rebundling of the bank. The regulators who drafted PSD2 also seem to have some tech savvy, which is very unusual, making this rather exceptional legislation.
Three levels of maturity in regulation:
- # 1. Created in haste by politicians and lawyers after a crisis
Two notorious examples are Sarbanes Oxley and Dodd Frank. The norm is reams of paper that can be interpreted different ways by lawyers and can be “managed” by banks with a smart internal process. The worst case for banks is lots of fines, which become part of the operating budget.
- # 2. Using a disruptive tech without implementation help
XBRL is the best example. The XBRL technology is disruptive and will enable a new value chain to evolve that will be good for innovation and a healthy capital market. However by leaving implementation details up to the market, the time to benefit is so long that those who want to kill the initiative have plenty of ammunition. This would be like Steve Jobs saying in 2007 “I insist that you use a smartphone”.
- # 3. Using a disruptive tech with implementation help.
PSD2 is a rare example of Tech Smart Regulation. We think of regulation as being rulebook driven. The regulator says you must do x. Banks say “that will take time because we have to develop the technology to support that”. During that time, lobbyists can work to tone down the regulation in the details. Lots of good intentions get lost during this process. Tech Smart Regulation is different. This is where regulators say “here are the technology standards, go implement them”. The regulators have to be technically savvy enough to only mandate something that is technically feasible. They have to launch a regulation like a startup does a launch, with good standards docs and a reference implementation. In EU terminology this is a Regulatory Technical Standard (RTS). XS2A (Access To Accounts or more formally Payment Initiation and Account Information Services) is the part of PSD2 where the regulators do this. It is not a commercial offering (that would not be appropriate for a regulator). This is not the equivalent of Apple offering a smartphone or even Android saying here is an operating system for a smartphone. This is more like saying here are the specs to create an operating system for a smartphone. For more on PSD2 and XS2A, go to this excellent explainer from Starling Bank (a Challenger Bank in the UK).
Unbundling the four consumer banking accounts
- # 1 Current Account aka the money I need right now to pay and to get paid. This is shifting to mobile wallets, using payment providers and a Bank Lite or Payment Bank regulatory framework. The amount of money at risk is less, so the regulatory framework is lighter.
- # 2 Wealth Account aka money I don’t need for a while but need to grow to fund a future need aka Robo Advisers of various types who shuffle assets to get the optimal risk adjusted returns. This is the world of Custody and MIFID2. You might choose to use a bank, but you don’t need to.
- # 3. Deposit Account aka between 1 and 2, the money that I might need soon which I need to keep safely and generate as much return as possible. For most people, the only solution has been a Bank deposit. After years of Central Bank easing, the rates are so low that people look for alternatives. One alternative is to use the new generation of Smart Beta Robo Advisers that offer “better than cash” (a better risk adjusted return). So the Wealth Account and the Deposit Account will merge (or be Rebundled in our terminology).
The first 3 are Liability Accounts (in bank terminology). You loan the money to the Bank, so the Bank rightly sees it as a Liability.
- # 4. Loan Account. This is an Asset for the Bank. By using a Deposit Account, you are loaning money to the Bank which they loan to you and to people like you, earning an interest rate spread. The Fintech alternative to a Deposit Account is to use Marketplace Lending to find short duration loans to buy. The Fintech alternative to a Loan Account is to use Marketplace Lending to borrow on short duration to fund a cash flow gap. Corporates have always done this kind of juggling using money markets (lend or borrow short term based on cash flow needs). When this capability becomes democratised, consumers and SME will have the same flexibility.
Deposits is the hardest nut to crack
The ability to take Deposits is rightly highly regulated (a scamster would simply set up a “Fintech” and take the money and even honest Fintech entrepreneurs run out of cash and go bankrupt leaving consumer deposits at risk). Finding short dated self liquidating securities is hard; it is possible via lending against invoices and other collateralized receivables such as Credit Card receivables, but this has not yet been democratised to the consumer level.
We believe that this is where the puck is headed. Any time you see sophisticated functionality that Corporates and Wealthy people use, it is only a question of time before an entrepreneur figures out how to offer that to consumers.
To do that, an entrepreneur will need a brilliant UX that abstracts the complexity. This is what we call Rebundling via a liquidity dashboard
Rebundling via a liquidity dashboard
The difference between the 3 Liability Accounts – Current, Wealth and Deposit – is simply Liquidity aka “how quickly can I access that cash?” What consumers need is a mobile liquidity dashboard that optimally shifts money around, using the Loan Account when sensible and needed. That needs a) a brilliant UX and b) API access to all the underlying Bank Liability Accounts. To get that API access you need to get the Bank’s permission. It is not in the Bank’s interest to give that permission. PSD2 tells the Bank that they have to give that permission.
That Rebundling opportunity is available to entrepreneurs within Banks (the sort of people we interview in our Pirates with Ties series) just as much as it is to VC funded entrepreneurs. It is simply a level playing field. Ensuring a level playing field is a classic job description for a regulator and they seem to have done a good job in that regard with PSD2.Banks still have an advantage on that level playing field but will lose it if they don’t innovate at startup speed.