Financial Innovation and its Undeniable Role in Society

By: Anne-Laure Mention

Innovation in the area of financial services has undergone increased criticism since the start of the difficulties in international banking. This has fueled a general negative perception of innovation in financial services. In this article Dr. Anne-Laure Mention argues that innovation is not something to be feared as such, actually it is a driver of competitiveness and that the full benefits for society might not yet be visible.

The business and political environment should indulge financial innovation more time to prove its overall value and to assess its impact on the long run, as its consequences may not yet be fully understood. Beneficial financial innovation is the type of innovation that serves the interests of individual customers, households, states, thus positively affecting the functioning of society as a whole.

Mobile banking solutions are deemed to be the rising star in the area of innovations for financial services. It needs to be emphasized that the importance of knowing the customer’s behavior as a guiding tool for innovation. Therefore the origins of financial innovation should be the needs of the customers. The Schumpeterian view on creative destruction, the initiation of radical innovation, is supported by this evolution since the decentralized nature of information and communication technologies in banking will lead it to “disruptive innovation”. Technology is a unique tool to that must be used to satisfy customer needs and it needs to be translated into customer values for a holistic implementation.

Mobile banking solutions are deemed to be the rising star in the area of innovations for financial services.

The importance of information technology in financial services is undeniable. However several factors can inhibit the realization of innovation. These can be e.g. the desire of the shareholders to achieve a quick short term profit, the migration of the financial sector from being product centric to customer service provider, the heavy use of technology that goes beyond the capacity of the banks (extreme level of high tech), and cultural issues related to risk taking.

The financial sector is also suffering from persistent manual processes, implying a possible lack in process innovation. Whatever innovation is taking place in the financial process, it is incremental innovation and not radical innovation. To actually move into radical innovation for the financial sector, we need to re-examine the entire process without looking for new technologies. The latter is already available but its embodiment in the financial processes is not optimal.

Another example of innovations aimed at meeting customer needs is the increased integration of social networks for the provision of financial services. It has a multitude of advantages such as reduced costs and increased time savings. Financial services through social networks can actually achieve a higher level of transparency. The latter is needed since it provides customers with less biased advice, although financial institutions (like any other commercial company) will target profit-making.

The importance of information technology in financial services

To succeed in the new economic environment, banks must not only avoid excessive risks, but also rebuild and strengthen client trust and mindshare. Smart banks in both emerging and mature markets should invest in sophisticated insight to specialize their operations and offer products and services at prices that are aligned with their clients’ needs. Specifically, banks should leverage their insights to better manage risk, become more client centric, and enhance operations by reducing or avoiding complexity.

While mature market banks should focus on eliminating complexity and reducing costs, banks in emerging markets need to diversify their income sources, while maintaining costs. And banks worldwide need to invest in analytics to help them specialize operations and deliver superior products and services that best meet their clients’ needs.

While mature market banks should focus on eliminating complexity and reducing costs, banks in emerging markets need to diversify their income sources, while maintaining costs.

Building innovation capabilities within financial services requires a holistic approach since it needs to be part of the strategy and constantly present in its internal cultural climate.

The following is required for innovation to be part of the financial institution’s strategy: the goal to develop something new and useful for clients and employees, taking into account the stakeholders’ point of view and expectations, the willingness to understanding the customers’ perception of innovation, develop new processes with associated portfolios, and the transformation of concepts into reality.

Innovation as an internal cultural climate can be fostered by the creation of dedicated innovation awards (contest) and innovation days (awareness), stimulating management creativity and reinforce communication from and with the employees. Trying to understand the point of view from the stakeholders requires a thorough development of market intelligence strategies, the elaboration of partnerships to foster open innovation for financial services and the integration of the various opportunities offered by information technology.

The ambiguous relation with regulation

Many business leaders have been talking about the proliferation of regulations for financial institutions, making it hard to cope with them and creating more complexity. They also noted that the compliance with such regulation is costly and has led to a decrease in the revenues in the financial institutions in some leading financial centres such as Luxembourg.

On the other hand, regulation could be a means to increase transparency, reinforce consumer protection and even stimulate innovation. The latter can be illustrated by the elaboration of the UCITS (Undertakings for Collective Investment in Transferrable Securities) at EU level. The financial crises also led to a regulatory response from the European authorities. This regulatory response has targeted two levels: one at the macro level led by the European System Risk Board and another at the micro level led by a number of authorities.

New regulatory structures to supervise the financial regime in the EU at both the macro and micro levels should provide more security to the regime against breakdowns. However, the powers of these supervisory bodies may be limited and better cooperation amongst these individual bodies and with other national and international regulatory bodies may be needed.

 By Anne-Laure Mention