New challenges in Banking

by W. A. Wijewardena, Deputy Governor, Central Bank of Sri Lanka Continued from last week

* A global financial market can successfully tackle the global liquidity problem by shifting financial resources from surplus centres to deficit centres at a lower cost. When markets are restricted, geographically or otherwise, this process gets retarded and users are forced to bear the costs.

* With funds flowing freely across the geographical borders, the currently observed wide variation in interest rates among different markets would be significantly narrowed making any deviation only due to the different tax regimes in force.

* The transaction costs involved in either raising funds or placing savings would fall to a bare minimum as a result of the high volume of transactions being undertaken in a large market compared to a small market.

Foremost challenge

The foremost challenge which banks face today is how to shape themselves to be an active partner of this global single financial market. If a bank has confined itself only to the limited domestic market, it would find it difficult to compete with global financial giants who could produce financial services at a cheaper cost. Such domestically oriented banks will not only lose business but also be competed out by more efficient international banks.

Hence, it is always advisable for them to recognise the emerging developments early and be prepared for the same.

Since financial services are to be produced in global factory processes, the workforce to be employed for such production takes the form of an international banking service. In this service, workers are hired globally, similar to the international civil service system found in the UN System or the hiring method adopted by the multi-lateral lending agencies such as IMF and the World Bank.

Hence, a formidable challenge for banks will be to hire the best and after hiring, retain them in service. The globally competitive market for bankers will eliminate the remuneration differences among bankers in different countries.

The race for adoption of new technology

A salient feature in the modern era is the fast obsolescence of the existing technology and the introduction of more sophisticated and user-friendly technology to replace the same.

This occurs both in the information technology and communication technology fields. Bankers who have employed new ICT to cut costs and provide a more efficient service to their customers would find that their competitors have outdone them by moving into the latest technology.

When the margins of banks are thinning due to the fierce competition, it becomes extremely difficult for them to incur additional costs to remain competitive and survive in the market.

Many small banks which are unable to adopt high cost technology have gone into difficulties due to this reason. This has become one of the serious challenges for bankers today. Whatever the new technology they employ, it soon becomes outdated pushing them backward in the race for market supremacy.

Problems with outsourcing

Advanced ICT has enabled banks to run a virtual type of office structure with a minimum number of core employees.

The labour intensive operations have been transferred to low-wage countries through a well-developed system of outsourcing. It has not only facilitated banks to cut costs in an era of thinning of margins, but also helped them to compete effectively with their rivals.

Today, customer services, maintenance of accounts, provision of management information, credit analysis and research on new products have been outsourced to such low-wage countries. Though outsourcing has been beneficial to banks, it has also engendered new challenges in the form of risks.

. Reputation risks if the operations fail for reasons beyond their control.

. Operational risks due to the failure of systems.

. Fraud risks if accounts are manipulated by the outsourced employees.

. Data control risks if sensitive data are revealed to rivals or unauthorised parties.

So far, no satisfactory method of mitigating these risks has been developed by bankers. It has therefore, become one of the formidable challenges for a modern-day banker.

An important question at this stage is the function and the role of the CEO and the top management in this technology driven virtual type of office structure in banks. Should they just spend time happily sipping tea or coffee? Of course they have to sip tea or coffee.

But, they have now a much more important job to perform which is more difficult and complex than their previous job. This is because banks are now exposed to new types of risks as explained and the top management has to be ever vigilant on the occurrence of such risks and adopt suitable risk mitigation devices.

Take for example, the electronic payment system which completes transactions at the speed of light. Given the swiftness of the transactions, errors and frauds, if they occur, they would come to light long after they have taken place. But, by that time it would be too late to take any preventive or remedial action.

Similarly, the risks arising from outsourced operations are unknown to the banker in advance. Hence, just like keeping a close watch over their own bank, the top management has to keep a similar watch over the providers of outsourced services.

These new responsibilities would definitely make the lives of those in top management very uncomfortable and difficult.

The new challenge would require them to keep in place new check and control systems which are proven reliable. It would also be necessary to continuously monitor such systems, for those systems themselves could fail entailing huge costs on the banks.

Conclusions

New challenges which bankers have to take require them to be vigilant on the entire banking system. In the past, when banking was purely manually driven, there was no necessity for them to be mindful of the developments in the entire system.

In that era, one bank's failure did not matter much to the rest of the banking system, except in cases where they had lent to each other. But today, banks are linked electronically to each other and therefore, they are vulnerable to the shocks that occur in the rest of the financial system.

Banks should also be vigilant over the developments in the global market as well. The current globalisation wave has pushed the financial markets toward the establishment of a global single financial market. The business of banking is to be found everywhere in the globe and bankers who confine themselves only to the domestic banking business will have to pay the highest price.

This is because even without their knowledge, they would find that they have lost business to other smart operators and are no longer able to survive in this fierce global competition.