The Payments Services Directive 2 (PSD2), due to be implemented by EU members in January 2018, aims to kick-start competition while making payments more secure, according to The Economist.

IN BRITAIN alone millions of people make formal complaints each year about their banks. For them, Sebastian Siemiatkowski, founder of Klarna, a Swedish payments startup, brings good news. New European rules, he says, will open the door to a host of innovative services that analyse transactions, so “an app could tell you there’s a cheaper mortgage available and start the switching process for you.” Apps could warn account-holders if they spend more than a predetermined amount or are about to become overdrawn, or even nudge them to save more. Customers need barely ever interact with their bank.

To date, despite dire warnings, European retail banking has been remarkably unscathed by technology-driven disruption. Customers stay loyal, and banks still do the most of the lending. Financial-technology (“fintech”) companies are beginning to mount a challenge, most conspicuously in the online-payments industry in northern Europe: Sofort, iDEAL and other fintech firms conduct over half of online transactions in Germany and the Netherlands, for example. But their reach is more limited elsewhere in Europe. Physical payments are still overwhelmingly made with cash or bank cards.

One reason incumbents have proved so resilient is that fintech firms lack the customer-transaction information they need to provide many financial services. Banks can be slow to respond to requests for access to such data, or may block them altogether for security reasons. It is often either cumbersome or insecure for customers to share their own information. Banks, on the other hand, have easy access to transaction data, which they can use to sell their customers other services.

Regulators, however, are about to transform the landscape. The Payments Services Directive 2 (PSD2), due to be implemented by EU members in January 2018, aims to kick-start competition while making payments more secure. Provided the customer has given explicit consent, banks will be forced to share customer-account information with licensed financial-services providers.

This should change the way payment services work. They could become more integrated into the internet-browsing experience—enabling, for example, one-click bank transfers, at least for low-value payments. Security for payments above €30 ($32) will be tightened up, with customers having to provide two pieces of secret information (“strong authentication”) to wave through a transaction.

With access to account data, meanwhile, fintech firms could offer customers budgeting advice, or guide them towards higher-interest savings accounts or cheaper mortgages. Those with limited credit histories may find it easier to borrow, too, since richer transaction data should mean more sophisticated credit checks.

None of this is good news for established banks.

Profitability is already threatened by rock-bottom interest rates. According to Deloitte, a consultancy, banks’ lockhold on payments serves as a handy source of income, earning European banks €128bn in 2015, around a quarter of retail-banking revenue. Many see PSD2 as a threat to their business models; they fear becoming the “dumb pipes” of the financial system. In a survey conducted last year by Strategy&, a unit of PwC, a professional-services firm, 68% of responding banks believed that PDS2 would leave them in a weaker position. The same proportion feared that they would lose control of interactions with customers.

Perhaps predictably, resistance is manifested as a concern about data protection: more than half of respondents to the PwC survey voiced concerns about security and liability. Such concerns are legitimate but also, argue fintech supporters, offer a convenient excuse for banks to block competition. Newcomers will be regulated, after all, and will have to convince the authorities that their data-protection systems are robust. As they are also required to be insured against losses from fraud, they will need to convince insurers, too. They will not be subject to the same capital and stress-testing requirements banks face: but nor will they be licensed to undertake the riskier business of lending.

For his part, Klarna’s Mr Siemiatkowski thinks PSD2 is “perfect on paper”. But he worries that, as implementation approaches, the rules will be watered down. Banks could also interpret them subjectively: they might delay sharing data or make them too confusing to be useful. But regulators have already bared their teeth: last year German competition authorities, citing the changes proposed in PSD2, ruled that banks were illegally restricting customers’ online-banking activities.

Hot data

Banks will have to improve, in other words. Several incumbents are already adapting to the reality of the fintech challenge through partnerships and purchases. Santander’s British arm, for instance, has teamed up with Kabbage, an American startup, to offer small companies working-capital loans; BBVA, a Spanish bank, acquired Holvi, a Finnish startup that helps companies track cashflow and invoices.

Yet for all their complaints, customers still trust banks with their money. In Britain only 3% of customers move current accounts each year. Familiarity, huge customer bases and low funding costs are all attributes entrants want to gain by association, just as banks want to exploit newcomers’ technology. PSD2 will improve the services available to European bank customers. Whether via co-operation or confrontation is the question.

Source: The Economist