Increasing online competition in the banking sector is shaking up traditionally staid business models around the world. But for Chinese banks—already struggling to adapt to liberalisation—this shift is turning out to be seismic, as the country’s institutions face a wave of competition from internet finance companies that is changing the industry landscape, write Jonathan Woetzel and Jeongmin Seong in Financial Times.
Increasing online competition in the banking sector is shaking up traditionally staid business models around the world. But for Chinese banks—already struggling to adapt to liberalisation—this shift is turning out to be seismic, as the country’s institutions face a wave of competition from internet finance companies that is changing the industry landscape.
Where existing banks have legacy systems and processes, companies emerging from the technology side have the advantages of agility and deep technical talent. Now they are quickly building the financial capabilities to compete head-to-head with traditional financial institutions.
The Chinese government has announced a pilot programme of banks owned entirely by private companies such as Alibaba and Tencent, as it steps up liberalisation of its financial sector. Tencent is one of the participants in Webank, which will focus on lending to small firms and consumers. The official entry into the banking sector of online groups further blurs the boundary between internet companies and financial institutions.
With competition heating up, banks are under greater pressure than ever to increase their online offerings. Chinese consumers hold roughly 60 per cent of their personal financial assets in bank deposits (far above the 12 per cent held by US consumers). But as the internet lowers the minimum threshold for investing while improving financial literacy and convenience, customers are diversifying their portfolios.
In June 2013, Alipay launched Yu’ebao; just a year later, its assets under management had swelled to about Rmb570bn, making it the largest money market fund in China and the fourth-largest in the world. Yu’ebao’s success has spurred competitors such as Baidu and Tencent to follow suit with similar offerings.
As consumers move away from bank deposits toward other asset management products, however, they are largely doing so via websites such as Yu’ebao or online discount brokerages that produce lower margins.
Chinese banks, securities firms, and insurance companies have already built online channels for distribution, marketing, and transactions—and Chinese consumers have been quick to shift with them. According to iResearch, almost 80 per cent of banking transactions in China took place online in 2013.
The Securities Association of China found that 98 per cent of customers at securities firms have registered for online accounts. Meanwhile, the Industrial and Commercial Bank of China estimates an online transaction is typically one-seventh the cost of a transaction at a branch counter.
But while the move to online channels lowers transaction costs, it requires investment and erodes margins by empowering consumers to compare products, fees and interest rates. China’s banks and financial firms will have to counter this effect by using their online channels to become more efficient in sales and marketing and to reach previously unreachable customers.
Beyond the customer-facing side, it is critical also to update back-office and logistics functions to streamline and cut costs. Big data analytics could provide an answer to one of the biggest problems looming over China’s banking sector: a rising tide of non-performing loans.
Ecommerce platforms typically own a huge amount of information on both small merchants and consumers, including payment histories, point-of-sale data, stock levels, and social network activity. With the right capabilities, banks can analyse this information to reduce risk and increase lending to the underserved small businesses and retail segments.
In addition to providing banks with credit information, some ecommerce companies—including Alibaba, JD, and Baidu—have established their own micro-lending arms.
China’s banks and financial firms will face increasing talent shortages, particularly for highly specialised roles in big data analytics, and some may opt to increase their skills pool through acquisitions or partnerships.
What is clear is that institutions willing to embrace these changes and stay at the forefront of innovation have the potential to capture enormous value.
Research from the McKinsey Global Institute projects that by 2025 Chinese banks could save some Rmb800bn each year by using big data analytics to reduce non-performing loans and another Rmb230bn by moving more of their operations online.
But the potential ripple effects beyond the banking sector are even larger. Better allocation of capital to small and medium-sized enterprises could add 1 to 2 percentage points to China’s overall GDP growth from now until 2025, creating up to 11m jobs.
This article originally ran in Financial Times.