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With a recession in the United States remaining possible (perhaps likely) in 2023, top-line revenue growth will become more challenging for most banks. Banks will focus on maximizing their net interest margin as interest rates stabilize and competition for deposits increases. Managing credit will also be at the top of most bank executives’ agendas going into 2023 as the economy slows. Given the significant growth in costs we expect banks to look hard at cost reduction and efficiency improvement in the coming year. Banks are pursuing three distinct types of efficiency-related initiatives, sometimes in tandem: First, institutions looking to close earnings gaps in the nearterm are reexamining the “low-hanging fruit” of cost reduction, including optimization of spans and layers and staff capacity, and reductions in procured costs. Second, institutions are investing in digitization and automation of core processes, transformation and cloud-migration of core infrastructure, and development of “digital-first” business models for segments such as commercial and small business. These initiatives will require up-front capital expenditures and have longer payback periods but will yield more efficient and scalable business models over time. Third, we also see banks working to break out of “boom and bust” cost management cycles by developing more disciplined and proactive continuous performance management approaches, including supporting metrics, incentives, and cultural change.
Finally, while we expect significant near-term focus on cost, forward-looking banks will also be positioning to deliver strong revenue growth when the economy recovers from its anticipated downturn. One important consideration to that end is ensuring that any near-term headcount or capacity reductions will not impair the institution’s ability to originate and service new business in the early stages of the recovery. Missing out on revenue opportunities due to overaggressive capacity management and being forced to re-add capacity in a hot labor market, are serious potential risks to earnings growth in the latter half of 2023 – or whenever an economic downturn reverses. A second important consideration is continued investment in alternative, innovative business models. API-led open banking, embedded finance, open platform, and banking-as-a-service strategies are, for most institutions, nascent at best, but likely to drive significant earnings growth in 2024 and beyond for institutions that invest and execute decisively now.
