Article 17: Banking in 2035- Three possible futures

Report by SAS

Summary

The document is an introduction to a report on the future of banking in 2035, discussing the major forces that will shape the industry and presenting three potential scenarios. It highlights the challenges and opportunities banks will face and emphasizes the need for adaptation and alignment with environmental and social values. The subsequent sections discuss two possible scenarios; one where fintech start-ups and big tech companies disrupt traditional banks, and another where collective action on climate change transforms the banking sector. The document also delves into technological breakthroughs that have facilitated the adoption of renewable energies.

Let’s get started! The banking industry is facing multiple accelerating forces of change, including long-term trends such as climate change and demographic ageing, shock events like the COVID-19 pandemic and the Ukraine war, and the growing threats from fintech and big tech companies. As a result, banks are evolving their business models to meet new societal expectations and engage customers in dynamic digital environments. This evolution raises fundamental questions about the purpose of banks, and they are shifting towards a balance between short-term profit-driven models and a human-centered approach focused on sustainability, resilience, and inclusion.

The Big Picture: 5 Megatrends Reshaping Banking

1. The digital revolution is accelerating:

• Data and digital economies are growing rapidly across sectors including banking, generating new business opportunities.  However, this growth is also increasing regulatory risks and competition as data becomes an essential asset and competitive differentiator.  
• The rise of the Internet of Things will provide more data to power innovation but may also advance the power of tech companies, raising government concerns. However, this growing economic and social influence of tech companies is likely to draw government attention and possibly lead to more stringent regulations. As a result, corporations may face increased complexity on a global scale due to differing approaches to data governance and digital trade

2. Economic fragmentation is gaining momentum:

• Globalization is facing challenges due to increasing populism, nationalism, and protectionism. Instead of strengthening economic interdependence through international trade, investment, and technology, there is growing uncertainty in global supply chains and international agreements. The influence of institutions like the World Trade Organization (WTO) is waning, particularly amid rising tensions between the US and China. 
• The global order is fragmenting as major economic powers establish their spheres of influence. The economic decoupling of nations, particularly in the aftermath of the Russia-Ukraine conflict, is exposing banks and corporations to operational, financial, and reputational risks. More governments are using economic policies and financial tools for geopolitical purposes, forcing companies to take sides in the global landscape.

3. Shared global challenges are multiplying and intensifying: Apart from climate change, there are other global crises that necessitate coordinated international efforts:

• The risk of pandemics is increasing due to factors such as population growth, urbanization, greater contact with animals, and global connectivity.
• Humanitarian crises are on the rise, driven by conflicts involving non-state actors, anti-immigration sentiments, and the impact of climate change.
• Events like Russia's invasion of Ukraine in 2022 are straining global food and energy systems, elevating the potential for a global food crisis.

4. Efforts to combat persistent economic and social inequities face headwinds:

Several factors contribute to the risk of vulnerable populations being left behind:

• Climate change has a disproportionate impact on less developed countries and regions.
• Digital transformation, accelerated by the COVID-19 pandemic, is creating disparities within countries and between generations. .

5. Ethics are moving toward the core of business practices:

• In today's age of social media and activist investors, companies, including banks, are increasingly held accountable for their social and environmental impact. Impact investing, which aims to generate positive social and environmental outcomes, is gaining prominence. Regulatory initiatives to reduce carbon emissions and promote sustainability will continue to expand. 
• As digital technologies like artificial intelligence and genomic sequencing advance, demands for "ethical technology" and regulatory oversight will increase. Companies may also face financial incentives linked to ethical practices.

The document talks about three possible futures for Banking in 2035:

Scenario 1: Transformed banks regain trust

By 2035, fintech start-ups and big tech companies will have revolutionized the banking industry, outpacing traditional banks in Europe and the US. Their success will be driven by superior customer experiences through trusted smartphone apps and seamless mobile payments. In response, traditional banks will have adapted with new business models, focusing on open banking innovations to stay competitive.

The industry's transformation will have diminished traditional profit sources, pushing banks to collaborate with third parties and operate within data-driven innovation ecosystems. Customers will enjoy a seamless mobile banking experience, making payments using fingerprints and benefiting from a unified digital platform. New regulations will prioritize data privacy, cybersecurity, and transparency, giving customers greater control over their finances.

The covid-19 pandemic accelerated digital transformation in the banking industry. Customers embraced fintech, leading to new business models like open banking and platform banking. Banks responded with mergers, cultural shifts, and digitalization. Partnerships with non-banking institutions allowed for personalized customer experiences. Security threats were addressed using technology, data, and AI. To regain public trust, big tech and banks lobbied for stricter regulations on data privacy and consumer protections. Enhanced regulations increased the use of technology in financial services, while transparency and inclusive engagement helped build trust with governments and the public. Challenges:

• Updating legacy systems
• Downsides of AI & potential job losses: To address these challenges, banks should focus on upskilling employees for the AI era and fostering diversity and inclusion within their organizations to combat cognitive biases.
• Re-establishing trust: banks should focus on addressing customer needs, collaborate with governments and civil society to create new regulatory frameworks, and enhance transparency to combat issues like money laundering and fraud.

Opportunities:

• Making services more equitable and accessible: Lower costs for digital banking services have the potential to benefit underserved populations. Banks can use digital tools to fine-tune credit assessments and offer tailored financial products to these groups, increasing access to credit and digital services while boosting their own revenue.
• Seizing data-driven benefits: More efficient transaction monitoring using tech and screening could reduce the cost of complying with Anti-Money Laundering/Countering the Financing of Terrorism regulations

Scenario 2: Climate action paradigm shift

• In 2035, collective action to combat the climate crisis has gained significant momentum, with the world on track to limit global warming to 1.5°C above pre-industrial levels by the end of the century. This has been achieved through substantial changes in how individuals live, businesses operate, and society functions.
• Key developments include the decarbonization of infrastructure, transportation, and energy.
• Water management systems have been overhauled for sustainability.
• The shift away from carbon-intensive commutes has become the norm, thanks to the widespread adoption of the hybrid work model, accelerated by the COVID-19 pandemic.
• Public transport has increased & sales of internal combustion engine vehicles have been banned in many advanced and some emerging economies. 
• Electric vehicle charging stations are common, and approximately half of vehicles on the road are electric or hybrid.
• In the aviation sector, some airlines have transitioned away from jet fuels, significantly reducing carbon footprints. Zero-emission commercial aircraft that rely on hydrogen fuel produced from renewable energy sources are now in service.
• Consumers are consciously minimizing air travel to reduce their carbon footprint, and digital currencies have become mainstream. Cryptocurrency mining has become more energy-efficient at scale.

Path to 2035:

ESG investing accelerated as consumer demand mounted:

• ESG investing gained momentum with increasing consumer demand, prompting institutional investors to divest from carbon-intensive industries for a rapid shift to a low-carbon economy. 
• A significant development was the introduction of mandated ESG reporting for corporations, driven by regulators in Asia, Europe, and the US, resulting in standardized, high-quality ESG data. 

The transition to a low-carbon economy was also accelerated by the introduction of a carbon tax by the planet’s major polluters.

• The transition to a low-carbon economy was further hastened by a carbon tax from major polluters. The EU's Carbon Border Adjustment Mechanism (CBAM) was implemented, requiring companies to pay a carbon tax in the EU market, leading to reduced carbon emissions and the establishment of a global carbon price floor at US$35 per ton.

Technological breakthroughs powered by public-private partnerships proved consequential.

• Governments invested in early-stage R&D, while banks, venture capitalists, and other financial institutions provided capital to scale up and mature cutting-edge renewable technologies. For example advanced batteries, capable of long-term energy storage, played a crucial role in enabling the widespread adoption of renewable energies. 

Challenges:

Internal culture change: Banks can introduce incentives for both executives and employees to adopt ESG-related practices and policies.

Opportunities: Managing climate risks: Wide availability of ESG data will allow banks to better forecast and manage climate risks. Scenario 3: A fragmented world

In 2035, the era of global integration has ended, giving way to a multipolar geopolitical landscape. Regional trade agreements now take precedence over the World Trade Organization (WTO). Emerging economies, empowered by robust domestic economies and increased regional trade, have gained independence. The global monetary system has shifted, with a coalition led by BRICS+ establishing an alternative to the SWIFT payment system, making the Chinese Yuan the third-largest currency reserve.

Intense technological competition between the US and China has resulted in distinct spheres of influence. China excels in high-tech areas like AI, quantum computing, and autonomous vehicles, while the US leads in semiconductors and operating systems. Internet governance rules have fragmented, with the US and Europe advocating for an open and decentralized internet, China maintaining a closed and centralized system, and India following a hybrid model with multi-stakeholder governance.

The path to 2035:

Following the COVID-19 pandemic, global fragmentation occurred as the EU, US, and China prioritized individual interests, leading to a decline in global trade. Disagreements between the US and China resulted in unilateral and plurilateral measures outside the WTO, with China's protectionist policies aiding its technology firms' global competition.

Leading up to 2035, like-minded BRICS+ nations, including Turkey, Egypt, and Indonesia, formed new trade agreements to assert geopolitical influence. Developing nations aimed to reduce dependence on the US, strengthening trade ties with Asia, particularly China, leading to agreements similar to the Asia-Pacific's Regional Comprehensive Economic Partnership. A new payment system, incorporating central bank digital currencies (CBDCs), emerged as an alternative to SWIFT, competing with both non-digital and crypto-currencies.

Challenges:

• Rising intermediation cost: banks will face higher intermediation costs. This means the cost of financial services like lending and deposit rates will increase. 
• Rising reputational and cybersecurity risks:  The higher digitalization and polarization will also elevate the risk of digital conflicts.

Opportunities:

Maturation of digital currencies: The increasing regulation and safety of digital currencies can boost consumer demand. This enables established institutions to provide faster and more cost-effective services, improving their competitiveness against fintech challengers.

Overall, these scenarios paint a picture of a transformed banking industry that is driven by digital innovation and sustainable practices.

• The future of banking is marked by significant changes driven by new technologies, evolving customer expectations, and emerging risks. 
• Banks need to proactively adapt to these changes and take a leading role in addressing various global challenges, such as extending financial services to the unbanked, promoting economic equality, and advancing the transition to a low-carbon economy through better ESG data.
• The extent to which banks boldly embrace change and a broader ethical approach will determine their success in the 21st century and their contribution to addressing economic, social, and environmental challenges. The coming years will reveal the path they choose.

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