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Understanding digital banking

 

The term ‘Digital Banking’ is widespread but it’s an often misunderstood concept. What is the definition, how does it compare to online and traditional banking, what are the benefits, challenges, and risks of digital banking, and what do you need to become a digital bank? The question ‘What is digital banking?’ will be answered on this page so you will fully understand its meaning.

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What is digital banking?

In short, digital banking means the full digitization of banks and all its activities, programs and functions. It’s not just about digitizing your services and products — the front-end that customers see — but also about automating your processes (the back-end) and connecting these worlds with middleware. Digital banking is about the automation of every step of the banking relationship, and it goes way beyond an online or mobile banking platform.

Digital banking contains a full transformation to a digital environment — frontend and backend and anything in between — for both customers and employees. Digital banking relies on big data, analytics and embracing all new technologies to improve the customer’s experience. You will only be considered a digital bank if you have digitized all the functions you have — from product development to customer service.

There are several reasons why digital banking becomes increasingly important in the banking industry:

  • To reduce costs: Banks are under pressure to reduce their costs to remain competitive. For example, LeasePlan Bank has cut its operational costs by 60%. If you don’t make the switch to digital banking, you must, for example, continue to invest in expensive legacy hardware and software to keep these systems up to date.
  • To increase revenue: Established banks don’t have a 360-degree view of their customers. They lack intelligent systems to gather customer intelligence and help them become more customer-centric. Poor customer experience leads to a lower market share.
  • To attract and retain customers and stay ahead of the competition: Fintechs and other newcomers have shaken up the banking landscape. As a result, the demand for improved customer experience and personalized services grows, and the products and services of established banks are more expensive. Digital banking enables you to improve customer experience and lower costs, which is needed to stay ahead of the pack.
  • To remain compliant with new legislation: A greater effort by established banks is needed to remain compliant. Legislation such as PSD2 and GDPR means the threat of financial penalties. Legacy systems make embracing this legislation difficult, reducing the return on expenditure. This leads to banks seeing legislation in purely compliance terms and missing the opportunities that it brings.
  • To explore the benefits of new technologies: New technologies, such as data analytics, open APIs, blockchain and cognitive banking are predicted to impact banking business models. However, legacy systems limit the ability of banks to react quickly to these developments. You need full digitization to explore the benefits of these technologies and future-proof your bank.

Customer expectations are evolving, new regulation is put in place, and competition from tech giants is increasing. These changes force banks to look at the very core of their existence and to plot a way forward in an increasingly digital world. They need to reinvent themselves to survive. It’s as simple as ‘do or die’.

Digital disruption changes the banking industry

Banks are affected by digital disruption and penetration, and they know they need to act fast to manage it. New entrants or startups are changing customer expectations and impacting revenue streams. Banks need to improve customer experience, increase operational efficiency and respond faster to industry changes if they want to succeed in a digital economy. They need to make a fundament switch in their (day-to-day) operations, yet stay true to their own identity; they need to handle digital in a way that suits their organization, customers, and workforce.

Two main trends regarding the way digital disruption changes in the banking industry can be observed: large banks have the financial means to invest in digitization which creates a greater distinction between small and large banks and there is also a strong increase in the number of new, smaller players who are responding to specific customer demand, serving a particular segment or niche within the market. These developments change the banking landscape.

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Digital banking vs. online and traditional banking

The most important difference between digital banking and online banking and traditional banking is that customers’ relationship with a digital bank starts and stays strictly online without the need to visit any physical location. Traditional banking is based on manual actions and face-to-face contact.

However, digital banking goes a step further than online banking. In online banking, many core activities are available online, but there hasn’t been a full transition to the digital world. The front-end is digital, but behind-the-scenes processes remain largely the same.

Digital banking includes the digitization of this legacy back-end.

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The benefits of digital banking

Going digital means more than just having a fancy website or app. However, making the switch to a full digital bank is critical to improve customer relationships and ensure viability. Banks can take advantage of a digital transformation in the following ways:

Cost reduction:

With digital banking, operational cost savings could be achieved due to automation of functions, processes, etc. It eliminates costly back-office processing operations, leads to fewer errors and requires less staff.

Agility:

Automated functions of digital banks can easily be trained to perform differently and react quickly to market changes. Digital banking provides quick and simple process adjustments, fast product launches and swift adapting to new regulatory changes.

Viability:

Full transition to a digital environment is what banks need to survive, and compete on costs and usability. Digital banking allows banks to offer services at the same quality level as fintechs and tech giants which is needed to reach a broader customer base and build closer relationships with clients.

The risks and challenges of digital
banking

Digital banking doesn’t only create opportunities for improving efficiency and reducing costs and creating high-value digital services; it also leads to major challenges and risks.

  • Legacy platforms: For most banks, legacy infrastructure is the biggest challenge and highest hurdle to digitization. Having been built up piecemeal over time, they allow banks to replicate certain parts of a given process online – but that is the limit to what they can achieve. They are the source of siloed information and siloed operations: the direct opposite of the agile, nimble digital processes banks now require. Their complexity and old-fashioned architecture is the reason for such immense maintenance spends. Legacy platforms reach into almost every aspect of the businesses, and replacing them is not always the right thing to do. Re-engineering core systems and processes to be built upon a digital core foundation can be a smart solution.
  • Finding the right people to transform: Digital transformation is a complex process, and you need specialists to become a digital bank. Finding the right people, who can guide you through this transformation, is a real challenge for many banks.
  • Winning or retaining customers’ trust: Trust is the essential prerequisite for widespread adoption of digital banking by customers; they must be sure that their identity will not be stolen, that fraudulent payments will not be made from their accounts, and that electronically-signed bank contracts retain the same legal value and validity as hard-copy contracts.
  • Meeting regulatory requirements: Banks must comply with increasingly stringent legislation, like PSD2. They must also protect themselves from cyber-attacks, etc., to fulfill risk management obligations.

The challenge for banks to protect themselves against cyber-attacks and digital fraud is also a risk. Threats have become extremely advanced, and the attackers are smart enough to identify the kind of precautions that the banks can take, and they design their attacks accordingly. It’s something banks need to be well aware of.

You need customers' data to improve their customer experience, but it can also lead to reputational damage as customers may feel that you have too much data. Privacy becomes increasingly important, so trust is key.

What do you need to become a digital
bank?

On this page, we’ve told you all about digital banking; what it is, how it compares to traditional and online banking, what does digital disruption in banking means, what the benefits are, the challenges, and the risks. But what do you need to become a digital bank, what are the digital banking basics?

The essential elements can generally be reduced to just three:

1. A three-tier banking architecture with a digital core
Many banks that are digitizing their services are starting in the front layer with portals or apps. We believe it is more effective to focus on all three layers of the core banking platform: the presentation layer, the client and orchestration layer, and the product layer.

Customers expect seamless customer experience, yet many banks have multiple back-ends for different types of products that mingle product and client information. These systems need to be separated into:


  • A thin presentation layer of information for customers (and employees who also use the system)
  • A client and orchestration layer focused on handling all client related processes and information that orchestrates between the presentation layer, the back-end and the fintech ecosystem
  • A product layer focused on handling products, ideally containing no client information
  • A true digital core banking system takes this process a stage further by using APIs. At the client and orchestration layer, these interfaces unlock the potential of the fintech world, enabling customers to make use of providers developing niche services.

The processes are adjustable in the client and orchestration layer and products are configurable in the back layer, meaning banks can make changes and introduce new products and services in a matter of weeks rather than months.

2. Fintech collaboration

Banks can’t and shouldn’t approach the new world on their own. Successfully making the digital switch requires a collaborative ecosystem. It is recognized by banks that partnership with fintechs not only create a next-generation technology ecosystem – and fulfills the visions of the future – but also ensures rapid response to changing market conditions and an enhanced customer experience.

3. Trust and attraction

For banks, the traditional method of selling has been to push information about products through advertising on online and offline channels. However, new technologies mean that the digital bank of the future will be organized around its core database and its customers rather than around its products.

Banks need to build trust around their brands and attract people naturally to become clients, and eventually, fans instead of pushing ads through channels.

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