With the arrival of open banking seven years ago, the financial world dreamed of a renaissance. Championed as a win for consumers, it promised a standardised way to connect with banks and manage finances effortlessly. Marshalling a vast network of over 151 regulated providers (as of June 2023), the UK seemed set to lead the charge in a financial services revolution.
However, the current reality pales in comparison to the initial hype. Growth has been slow, and the Open Banking Group estimate that only one in seven digitally enabled end-users were using at least one open banking-enabled product or service in Jan 2024, which is vastly different from the industry's earlier optimistic projections.
So, what stopped open banking reaching its full potential? Let’s find out.
Regulation: A Double-Edged Sword
Regulation in finance is a double-edged sword. While it promotes standards, safeguards stability, and protects consumers, it can also stifle innovation. In recent years, financial services regulators like the Financial Conduct Authority (FCA) and Prudential Regulation Authority (PRA) have prioritised operational resilience, forcing banks to address their technology debt – aging infrastructure hindering agility. Consequently, open banking innovation has often taken a backseat, with banks prioritising the minimum requirements of Payment Service Directive 2 (PSD2).
Technology Debt: A Systemic Hurdle
Technology debt is not just an issue that banks are facing. The entire payments industry is undergoing modernisation through the New Payments Architecture (NPA). Progress has been slow, however, with only faster payments currently being addressed (and not even fully operational until 2025). This glacial pace will further hinder open banking's capabilities.
Innovation: Where are the Apps?
The initial vision for open banking was a dynamic landscape, filled with innovative applications that can harness its standardised APIs. However, the actuality has fallen short of expectations. Apart from virtual cards, the improvements have primarily centred around enhanced efficiency through bank account integration, integrated payments, and loan services. Yet, how many truly innovative products have we seen adopted? This dearth of diverse use cases can be partially ascribed to regulatory obstacles and technological constraints, as we’ve discussed.
Despite these roadblocks, innovation is springing up and finding ways to bypass traditional banking. Unregulated ecosystems built on decentralised finance (DeFi) – where APIs are a cornerstone – are a prime example. DeFi allows for faster, more efficient financial transactions, often outside the control of traditional banks. This demonstrates the potential of innovative products when freed from regulatory constraints.
The Road Ahead: Compliance or Disruption?
With PSD3, the next iteration of the Payment Services Directive, on the horizon, banks will likely prioritise compliance over ground-breaking innovation. PSD3 does not seem to have any groundbreaking proposal and is generally an uplift to Strong Customer Authentication (SCA), confirmation of payee (COP) and greater sharing of payment fraud data.
The continual focus on meeting regulatory demands could further stifle open banking's progress within traditional institutions. Meanwhile, DeFi, with its potential for faster and more innovative products, is poised to benefit from increased regulation in the crypto space. This trend suggests that true disruption might come from outside the traditional banking system.
Unlocking Open Banking's Potential
Open banking holds immense potential for a more dynamic and user-centric financial services landscape. After all, it has certainly helped to make payments more efficient and provide a standard integration layer. However, its true potential remains unrealised due to regulatory burdens, slow adoption, and a focus on compliance over innovation.
With the crypto space maturing and facing regulation, a standardised open DeFi layer could be the key. This layer could ensure regulation, security, and consumer protection while fostering innovation and a diverse financial ecosystem. Could a standardised DeFi layer and open banking work together to bridge the gap between the traditional and the new financial world?
At NTT DATA, we have collaborated with customers and partners and have helped develop products in payments, open banking, and the crypto space. If you’re beginning a journey in legacy modernisation or digital transformation, learn best practices and receive a free consultation by contacting us today
Data is in our name – and NTT DATA has a strong legacy in AI and natural language processing. So, we also specialise in Generative AI in Banking, which you can read about here.
For the next blog in our Future of Money series, we’ll be addressing the future of payments in-depth: exploring the rise of decentralised payment models, the value of payment data, and the geopolitical implications of digital currencies. Stay tuned to understand how businesses can navigate and prepare for this digital payments revolution.