Is Internet banking the way forward?
Introduction
In recent years the various forces that are shaping the global economy, in particular processes of globalization, innovation and technological development, international money forms have had a critical bearing and role in the development of capital and securities market that have expanded rapidly as a result (Garrett, 1995). For example, compared with the 1980s today’s mergers and acquisitions continue to break all records the value of these being in 1997 placed at $1 trillion and the current trend for this pace makes it look set to continually and rapidly expand (Gugler, 2001). In relation to these processes then banks play a vital role. They are a key element of global economic activity and thus the trends driving changes in banking are in and of themselves reflective of these global trends. Adaptation and evolution are the key indicators and determinants of continued success and expansion for banks and the transformative technology associated with the rise of the Internet represents both a challenge and a response to challenges for banks. In considering the future role of the Internet in banking it is worthwhile examining the historical development and delineation of the functions of banks
The emergence of models of banking familiar to us is associated with the rise of Italian merchant banks during the Renaissance. Both historically and currently then banks have been associated with developments in accounting procedures, systems dealing with the transfer of payments, new forms of services rendered and the application of technological developments. Additionally to these banks have thus played an important role in the development of the global economy (Hughes & MacDonald, 2002). The emergence of these types, forms and functions of banks can be argued to correspond historically to the emergence of global trade systems in the 16th and 17th centuries which eventually resulted in the ‘commercial revolution’ across the European continent. It is also then not surprising to note that continued processes of globalization are at the heart of trends in banking in the 21st century.
At the heart of banks role within trade was the need for a way for participants in trade to do so safely and conveniently. From this the system of credit was first used and this had a bearing on the acceleration of the development of international trade, a fact which holds true today even if forms are varied. The expansion of banking thus can be seen as a process of developing financial systems which were closely linked to trade and in particular free trade. This fact is reflected in developments subsequent to World War II when the largest growth of the U.S. economy occurred in tandem with the creation of a new order in the international monetary world within the framework of the Bretton Woods agreement and one in which banks became major financial intermediaries.
By the end of 1990s it became apparent that new technologies were driving the financial markets to be truly global in the midst of intense competition. It saw the rise of non-bank financial institutions which sought to provide alternative financial services at both personal and commercial levels. For example, General Electric Capital the financial services subsidiary of General Electric Corporation, supplies credit card facilities to department stores and is the largest insurer of homes in the US (Heffernan, 2002). Similar developments in the UK have seen Marks and Spencer, Tescos and other department stores enter the market offering financial services to their customers. Consequently the globalization of capital markets can be to seen to have pushed banks to seek to develop themselves and differentiate their services utilising new means in both technological applications and service provision to adapt to an ever increasing competitive environment.
As such it is readily acknowledged that for modern banks the strategic use of technology is now a key factor both in terms of restructuring banking systems and as a method of creating new demands for financial services (Heffernan, 2002). Thus considering the dynamic growth and expansion of the Internet at the close of the 20th century it is not surprising to note that the phenomenon of internet banking has expanded dramatically. Indeed this expansion has been accompanied with increased attention on whether this form of banking will become the dominant form of banking in the future. The use of which it is argued will allow banks to keep abreast of trends of globalization and increased competition allowing them to capitalise on continued technological developments associated with internet technologies that break down geographical as well as functional barriers. However, the survival of a banking form depends on whether it is able to adapt to providing the most effective and efficient intermediary and payment service for its customers. Therefore in order to maintain competitive advantage in financial markets banks have to keep pace with the changing nature of what constitutes the roles and functions of being such an intermediary (Bryan, 1991).
According to Heffernan (2002), the existence of traditional banks is due to two main reasons: the necessity of intermediary and payment functions. The role of banks as financial intermediaries is one which sees them as providing a whole range of deposit and loan products but the nature of this role may vary in different ways. The traditional function is one of taking deposits and then lending a percentage of the deposit and according making profits from interest charges. Additionally because of the high cost of generating useful information for lenders in order for them to find the most appropriate borrowers the role of banks in providing such information has become an essential one. Although modern banks operate on international and global scales dealing oftentimes now with truly global customers as well the basic model and functions of banking has not changed even if forms are varied. Yet numerous risks for banks and banking structures have emerged due to this wave of globalization and developments in technology.
Examples of these can be seen in the processes of deregulation which have led to the disappearance of old banking regulations (Mayer, 1993). As a result the range of new products and services which banks must adapt in offering with increased global competition has led them to face new risks as well as new competitors outside the banking system, such as business corporations who have become eager to provide debit services as well. In general then we can surmise that these risks have emanated from increasing competition, product innovation, the movement of capital markets, increased market unpredictability and the removal of old barriers to the provision of financial services (Bessis, 1998). Accordingly because of the significant pressures on banks to minimize risks and the requirement of maintaining capital capability, many banks have made the strategic decision to focus on two stable fee-based profit areas, namely retail banking and private banking.
Retail banking refers to the provision of banking services for individuals, including deposit taking, consumer lending for house, car, credit card services and so on (Hughes & MacDonald, 2002). However retail banking is a challenging and tough area due to the amounts of product differentiation between services offered and provided which gives rise large amounts of competition between new entrants and established bank branches. In tandem with retail banking private bankers offer services which include deposit-related activities, credit extension and personal lending, and corporate lending (Hughes & MacDonald, 2002). Because they more likely focus on providing services for more well-off individuals, the service demands of these consumers are more sophisticated and professional ones. For example, private bankers may offer complicated financial analysis systems to help clients manage their investment or stock portfolios. Moreover an increasing phenomenon related to clients of banks today are their demands for new money types represented for example by e-cash developments and better profits from their investments all of which contribute to increased pressures for banks.
It is expected an suggested that internet banking may help to solve the problems existing in both these kinds of traditional banking as well as responding in and of themselves for the continued growth of demand for banking online due to customer preferences and needs. First of all internet banking has been suggested as being able to offer economies of scale and low transaction costs. Additionally due to the new target markets which have emerged as a result of internet banking which research suggest seems to be more educated and affluent the advantages of convenience and lower costs are attractive for online banking users. Furthermore the continued emergence and use of e-cash it has been argued may cause an evolution (or revolution) in the traditional banking world lead to increased values and returns in the field of private investment.
However, online banking has its risks some of which may be seen as especially problematic for competing banks. An example of these risks is the networked and online nature of internet banking which increases the risks of security problems from hackers as well as scam artists, ‘phishing’, or the collection of private and personal information from online activities is a growing and prevalent concern. Banks thus must not only compete in terms of the services which they offer but also as to the relative security of their services in comparison with others. It must also be noted that the first investment towards creating an online banking network requires huge capital investment and due to the levels of competition within the sector may in itself led to new entrants failing to make a profit and return on their initial investments. With these factors in mind then we can summate that online banking forms should correspond to the main trends in financial markets as well as display characteristics of a sound organizational risk management system which helps protect customers and is able to contribute to minimizing existing risks for banks and maximise returns on investment for banks.
New Trends in Banking Industry
To understand the future of banking, it is essential to first appreciate the major trends and changes that have a bearing upon banks in terms of how they operate. As such as has been noted one of the most important changes in the financial service sector is due to the process of globalization (Harper & Chan, 2003). This refers to the fact that the geographical location of financial markets operations is no longer important. Examples of this can be seen in the rapid increase of cross-border capital flows and international cooperation in financial regulations and frameworks. Globalization is neither a new phenomenon nor a coincidental one it is inextricably linked with the forms and functions of banks and the provisions and overall structures of financial services provision (Kofman & Youngs, 1996). Thus information based services such as financial services because of the emergence of these world wide informational networks have enabled electronic channels to form which coordinate and manage information relevant to the business of banking (Holland, Lockett & Blackman, 1998).
As a result the demands of global customers have pushed banks to adapt and evolve their organizational structures and the way in which bank products are offered. This has both provided opportunities and new challenges for banks concerned with delivering the most appropriate and effective way of dealing with international/multinational customers. For example while the growth of financial credit markets has bee dramatic and profitable recently it has been rocked by a series of scandals global in their proportions in the UK, US after a brief recovery in international systems as a result of the Asian economic slump (Strange, 1998). Additionally, from a political and social functional perspective of globalization there is an increased awareness of problems focused on the weak points in the traditional financial system. For instance this can be seen in the fact that people are more engaged in financial markets, that this market is more volatile and less workable regulatory frameworks exist arising from national frameworks inability to globally regulate (Eatwell & Taylor, 2000). Consequently customers demand that bank minimize the failure of investment by using sophisticated financial instruments and effective services. It is necessary to ask whether there are possible changes that might be made in the traditional financial system as a result of these trends.
In recent decades, the relationship between financial institutions and regulatory organizations has changed because of the acceleration of globalisation. Historically since the 1930s the financial industry was significantly related to governmental operations (Jordan & Majnoni, 2003). Both in theory and practice, political considerations on the economy and the pressures on and from banks were linked (Aronson, 1977). In this aspect banks have been able to put pressure on governments in order to force governmental changes in policies to improve efficiency and productivity. Thus one of the main reasons for regulating banking activities then as well was in order to enhance the ability of governments in raising revenues. However the emergence of a globalised economy has led to a significant re-conceptualisation of this factor, (Spong, 2002).
As such this analysis presents the reasons for regulating banks today as being related to issues of taxation, of maintaining money supply controls, of protecting some financial suppliers from competition, and the protection of depositors and bank solvency (Benston, 1992). In addition, due to globalization banks have expanded their business to include foreign trade finance lending in different countries which can be called international banking or multinational forms of banking. Unsurprisingly international banks have suffered the stresses of increased government influence and controls over the ways in which they invest and what types of business they undertake. As a result of this it is argued that the process of selection of the most effective banking form is less through competition as opposed to being through the actions of politicians and regulators (Jones, 1990). Research has been carried out in the USA, UK, Japan and European Union which has demonstrated that there is still a large deficit in the coordination of international bank supervision (Canals, 1997). Although it is said the governments have gradually reduced the importance of their roles in banking innovation within the relationship between banking activities and the supervision of government is a key element for the growth quality financial products and services in the global economy (Avgerou and La Rovere, 2003).
The banking industry is also highly affected by the evolution of technology. In this area some of the most dramatic changes in banking business have occurred and are occurring. Compared to past perspectives in which banks were afraid of the uncertainties in relation to making heavy investments in technology, today for those who seek a competitive edge investing heavily in the development of technology is a major factor of their respective strategic operations (Meric & Meric, 2001). This is not surprising when it is considered that technology has enabled the banking industry to innovate in terms of new ranges of financial products, distribution channels for these services and better customer relationship management systems. For example, the computerization of the standard transaction model has reduced the need for paper records and checks. In addition, taking Egypt as an example there have been many changes in banking such as the way of delivering financial services by using the internet and electronic cash a feature then we can say that is being replicated both in developed and developing countries (Kamel & Hassan, 2003).
However, these changes present both opportunities and threats. The developments taking place in information and communication technology have increased the levels of competition for financial institutions. For new players entering the market they even it can be stated have an advantage in its ‘legacy system’ compared with traditional banks and the ease of access to technological implementations has attracted many new entrants to the sector. Therefore the usage of technology in order to create competitive advantages is essential for banks particularly for those involved in retail banking (Harper, Randall & Rouncefield, 2000).
Powerful forces then have shaped the banking industry including it must be noted changing customer needs and their choices of financial services. By the middle of the 1990s internet based services had rapidly emerged in usage and coverage, such as for example E-mail and these non-financial usages have led to their application and deployment in creating a new way of banking (Wiggins, 1995). Furthermore, there has been a trend for individuals to invest their savings such as their retirement money rather than saving it in traditional deposit accounts in banks so as to seek higher return rates on their money which reflects these changing customer needs. While traditional banking systems offered high level of commercial risks a growing emerging feature has been the alternative of non-banking sectors, including for example mutual funds.
One of the end results of these trends is that because global customers’ needs have changed, their preferences in turn have become more complicated and sophisticated in outlook towards the financial services they have a preference for. They are more aware and indulge more in financial analysis and the possible options available to them for increasing the value of their monetary assets, thus traditional banking systems appear to be less attractive to these sets of customers than they were in the past. This makes banks develop or seek to develop ways of meeting this challenge and be responsive to the key trends related to effectively operating in the banking sector. Customers it seems are enthusiastic in relation to these development with research for example from Canada showing a majority declaring their willingness in dealing with all of their bank bills or investments via the Internet by 2003 (Hien, 2000).
What Do Banks do?
To consider modern banking in the context of a traditional model, banking activities in industrialized economies can be seen as being a function of their role as financial intermediaries between depositors and borrowers as well as being instruments of payments. In regards to the former the intermediary and payment instrument have been identified thus it is necessary to address the organisational structure of banks which are most successful in carrying out these identifiable functions. According to Kovacevich (2000), winners in this industry will be those who can master the management of information and use it to give their customers what they want as well as when and where they want it, or in other words those who can assimilate knowledge in such a manner as to be responsive to dynamically changing customer needs and preferences. Therefore effective banking structures are those that are able to support the interactions of information and financial services.
Such a structure is also efficient, according to Williamson (1981), it is argued to those who are able to ‘economise’ on the costs of banking services. In other words banking activities that can be divided into four levels are closely related to profitability. Namely treasury and banking transactions, intermediation, financial assets, and long run activities including fixed assets and equity plus long term debt management and financing are major sections of banking operations. However the relative weight accorded to these functions will depend on the different kinds of banks involved (Beaver & Parker, 1995). For example, many banks are engaged in international or multinational business for a short time due to globalization, their presence in which does not contrary to the basic banking model, but makes them pay more attention to the needs of their global customers and which requires links to global targets matching with their business decisions.
New challenges can be created during the process of internationalisation as a result of the major trends in banking analyzed previously (Classens and Jansen, 2000). Nonetheless, a recent view on traditional banking model holds that the contribution of physical banks to the growth of the global economy has been diminishing significantly over time; new financial instruments and technologies such as online banking will not be then be seen as a one component of a new strategy but in effect the new strategy for banks to maintain their traditional functions in the face of external competition (Baker, 2002). Therefore there is a multiplicity of arguments concerning the new form of banking model yet a recurring emphasis on the dominance of the internet to the future form of this model. Furst and Nolle (2000) defined the term of electronic banking as meaning a distant delivery channel which is used for banking services. Thus with the increased competition, increased costs, changing customer needs and preferences along with the rapidly changing global context in which banks operate one of the key questions to be asked is that along with the electronic provisions of services will there be a reduction in the actual physical presence of banks and thus an end as such to the physical bank to be replaced by an online electronic one.
The Future of Banking
E-banking is a global phenomenon yet the newness of technologies associated with it should not be taken to mean that electronic banking itself is new. We can see developments in electronic banking as far back as 1871, when the West Union Telegraph Company headquartered in New York began to offer a nationwide money-transfer service (Ridgway, 2000). Similarly in 1951, the first credit card was issued by Franklin National Bank and the first ATM machines came into operation at City National Bank of Columbus in America (Gup, 2003). . It is estimated that by 2000 there were about 285000 ATMs in operation in the US (Spong, 2000) with similar large network coverage of such across the EU, the UK and globally increasing also (McDonald and Keasey, 2002). The internet exploded onto the international scene in the 1980s and 1990s and the rapid evolution of the technology and the possible applications led to many surmising and trialling the offering of banking services making use of the medium, yet such efforts were viewed as being risky as well as generating only minimal profits.
This may be the main reason for low levels of popularity towards banking online historically and to a degree presently. Because of the low percentage of customers who have access to such services and the huge cost of setting up internet banking web sites, it is unlikely that at present internet banking is having a major influence on the profitability of most institutions. Yet the continued roll-out of internet technologies such as always-on broadband connections may it can be hypothesised dramatically alter this situation over the coming period. Those banks that rely primarily at present then on internet banking must be able to afford the huge costs involved in setting up their operations as well as run the risks feared by smaller institutions that has led to their closure related to making such a large investment and risking it on future profits. Therefore with the exception of the largest institutions most efforts towards performing banking online failed or did not have a detectable strong influence on the banking model in smaller banks (Furst & Nolle, 2000). However the usage of ATM machines has spread rapidly because of driving forces in the economic situation at that time. Analysts such as Moore (1984) believe that rising inflation and interest rates are key contributors to the strategy made by banks towards attracting customers through using ATMs.
On the one hand customers require cheaper and more convenient ways to withdraw and access their money; on the other hand banks are able to afford the investment of installation of ATMs to maintain consumer loyalty through charges levied on the use of such systems. By the 1980s another factor which had a major bearing on the usage of ATMs was that the construction and operational cost for traditional bank branches increased significantly, including the cost for human resources and other fixed costs associated with the construction and maintenance of physical branches (Cobas, Mote & Wilcox, 2001). ATMs were seen to be a vehicle to help banks compete with other financial sectors world wide at a much lower level of cost than through the opening of physical bank branches. In addition customers were more likely to accept this form of dealing with their banking business including the payment of bills and withdrawing of money. As a result, banks required less of a physical presence. This trend of reducing a banks physical presence can be seen in the ever increasing exhortation towards internet and online banking which occurred. In 2000, using West Union as an example again, which is now owned by First Data Corporation started to offer its services over the Internet (Ridgway, 2000).
The rapid development of internet and its growth of usage among not only companies but also individuals has accelerated the development of internet banking. At first financial institutions only offered web sites that provided information about services which they offered rather than actually offering to perform the services themselves. Such trends are common in relation to the internet and replicated in other industries, such as the travel industry. However banks and other financial intermediaries gradually realized that one of the emerging characteristics of their industry was the in provision of financial information which required they provide services and financial products that enable them to have closer and better relationships with customers. It thus came to be held that the internet makes such a function possible.
Customers are encouraged to use a computer in order to access banks by using banking software installed on their personal computer while they may use internet service providers in order to access banks through their websites. Importantly research among internet banking users has found that high net worth customers preferred a combination of internet based tools as well as a close relationship with a personal banker (Labate, 2001). As such there is a dual trend both for reducing physical presence but increasing the ‘personal touch’, a difficult balancing act for many banks to maintain. Additionally a leading online broker has reported that about 70 percent of its new accounts are opened at branch offices rather than online ones (Bekier, Flur and Sinham, 2000). The most successful e-banking institutions therefore are likely only to be those with strong brand identity and which are able to balance the competing and often contradictory needs of its customers. Therefore before make a conclusion as to the future direction of banking it is vital to have a clear understanding of the role of electronic banking in the context of the global financial industry.
Internet banking it is claimed is faster, better and cheaper for all concerned than traditional forms and methods of banking. Convenience, which refers to an overall reduction in the capital, labor, time and other resources that are needed and expended in order to make transactions is one of the key advantages for both customers and banks (Hunter and Timme, 2001). For example, customers are able to control their finances by easily accessing their online account for where they can perform a variety of financial functions without the need for a cashier. The services of reviewing bills, initiating payments and so on online are provided by most banks now. The reduction of costs of time and money expense is ranked as one of the most important considerations by consumers who prefer use of electronic bill paying services. In addition online banking services also benefit the business to business sector in the financial industry. According to Mester (2001), by 1998, 86 percent of households used some form of e-payment system with ATMs and direct deposit being the most widely used, and the growth of retail e-payment is being driven by the increased use of credit cards, which is the second most popular means of non-cash payments. Although it is assumed that the bank’s leading role in the home mortgage market will be reduced over time due to increased competition from non-banking institutions some insurance products however such as term insurance and long-term care insurance are expected to do well online and represent new areas of activities for traditional banks (Barta, 2001).
Secondly traditional banking risks are defined as credit risks, liquidity risks, interest rate risks, market risks, foreign exchange risks and solvency risks (Schroeck, 2002). Internet banking may be viewed as having certain definitive advantages compared with traditional banking models in managing, controlling as well as minimizing these risks. For example the Identrus Global Trust Service helps banks and their customers carry out secure payments online and deal with other risk management systems (www.identrus.com). The role of information and impacts of adverse selection have been examined extensively in connection with lending money, and today, a substantial amount of lending is done over the internet with forecasts all suggesting that this is set to increase and replace the traditional model of a customer meeting in person with a loan advisor (E-banking Strategies in Europe, 2003).
Although internet banks can provide a wide range of financial services the incidence of specific risks which include operational, security, and legal risks, affect both the users and providers of such services. First of all the efficient flow of information to and regarding customers is at the heart of the industry but the ease of gathering customers’ personal information in an online environment creates security risks which are a factor in customer decisions on which bank to bank with. Measures such as privacy notices contain the type of information that can not be collected and how it may be used (Gup, 2003) and are often backed by national and supranational regulation, such as EU directives on freedom and use of information. However, financial service providers argue that the cost of restricting the use of consumer information and the costs of extensively securing this information will reduce the services that can be offered to customers, such as slower responses to loan applications.
Secondly, as mentioned before the extensive use of ATMs offer a response to demands of convenience in making deposits and withdrawing cash which can be seen as competing with online banking. Additionally, research has revealed that cheques continue to be seen as an important transactional tool for customers and will not be replaced due to its perceived higher level of security over other methods (Munir, 2004). Therefore e-banking can be seen as part of complex set of arrangements emerging in response to dynamic customer needs and specifically related to a younger demographic element making use of extended banking services. Therefore it is unsurprising to note that most e-banking users seem to be younger, more affluent and more educated. It is fair to say that greater convenience may increase security risks, and greater complexity may reduce convenience resulting in a difficult task for banks to blend and balance all of these elements.
Thus in summation it can be suggested that while internet banking has been foreseen as the way forward the reality of its uptake leads to the conclusion that it has become one part of the way forward, leading in particular to increased differentiation among banking products and access to these products to a wider set of customers (Clemons and Hitt, 2000). However the existence of online transaction channels alone may not be sufficient for many customers in that while some services are demanded and preferred online other services still are seen as requiring both a human and physical element in conducting the transaction (McDonald & Keasey, 2002). As while the use of internet banking is growing there is still a strong demand and it is likely to continue to be a demand for the foreseeable future for physical banks.
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