• Reto Gareus, Partner |

The latest report on Digital Finance issued by the Federal Council summarizes the technological playing fields, their immense opportunities but also the related risks. While the untapped potential is huge, traditional players and their new competitors face some common yet different challenges.

There seems to be a common agreement that the potential for tech firms, platform-based business models and digital ledger technologies is endless and the pandemic accelerated the formation of new ecosystems, the redistribution of the value chain and the digitalization of our daily life in general. Record-breaking investments in the global fintech industry are witness to this (see our latest report: KPMG Pulse of Fintech).

In 2019, we wrote that the Banks and the Swiss regulator (FINMA) have to keep up their efforts in order to continue to play a central role as a financial center in financial intermediation on the world stage. Three years later, this statement is more valid than ever and as a result the Federal Council published its Digital finance: areas of action 2022+ report setting out 12 areas of action for coming years. In addition to the areas of action, we would like to highlight some of the common yet different challenges the traditional banks and their new competitors from the fintech industry face.

Sustainable business model

In 2021, the Swiss fintech industry continued to attract considerable funding to fuel growth with ongoing momentum in the digital asset and blockchain space and the traditional Swiss insurance sector joining the tech party to become a major hub for insurance innovation in Europe. However, the transition from a nascent fintech startup to an organization capable of sustained and profitable growth appears to be as difficult as the transformation to leaner business models with reduced costs and more agile organizations to deliver services beyond traditional banking.

Regulatory hurdles

Cloud computing offers a number of advantages (scalability, cost reductions, innovation and tailoring of services, etc.) – in particular for data driven industries. The initial concerns about possible infringements of confidentiality obligations have generally declined among market participants. However, a number of legal and technical questions (e.g. data protection, banking secrecy, the US CLOUD Act) remain open and currently prohibit – in particular banks – to make full use of the opportunities of cloud computing.

Cost matters

Looking back over the past three years, banks continued efforts to address their structurally high-cost bases through expense programs, simplification initiatives and repositioning. However, the burden of designing and building complex compliance and risk systems continues to consume efficiencies gained in savings programs. The new market participants on the other hand that were first movers with regards to the offering of Distributed Ledger Technology (DLT) or that focused on the client interface and the simplicity of their frontend face challenges as the processes in the middle and backend are not robust enough – with the consequence of expensive remediation programs and continuously increasing customer acquisition costs. Despite numerous sandbox initiatives by governments and regulators, the regulatory cost burden remains a real barrier with the consequence that some fintech companies degenerate to pure software houses.

Disruptive elements still limited – will big tech change that?

Clearly many fintech firms offer products that potentially challenge the traditional business models of financial institutions. However, fintech firms appear to compete more effectively in narrow product areas or niche markets by optimizing and automatizing existing business models. The disruptive elements are currently still limited. The entry of the big tech firms will probably expedite or amplify these effects through these firms’ existing wide customer base, trusted customer relationships, agile value chain and potentially different business focus that is more data rather than directly product driven.

Ready? Steady? Go(ne)!? – Collaboration will be key

The decoupling of the real economy and financial centers is more and more apparent. Digitalization will – and already has – significantly decreased the dependency to the actual location of the financial center. In the pandemic, we learned how little local presence matters and that infrastructure, digitalization and automation, data availability and transmission speed, became the new all-determining factors. It is therefore probably not pretentious to claim that competition will continue to increase as a result of improved global cooperation and will not stop at the borders of a country.

In this context, it is absolutely vital for the financial industry in Switzerland that all market players including the Government and regulators continue to collaborate closely. While Switzerland as a financial center had a pioneering role from a fintech licensing and crypto perspective, the financial industry was and still is less adventurous with regards to the use of new technologies and as noted above there remains still a lot to be tackled. In particular, as the fairly rapid moves towards open banking around the world could change the competitive dynamics in financial services even further and might become the disruptive element.

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