Banks - The invisible network

Welcome back to bitesize payments where we discuss the history, how they work and who does what? 

Today we are going to discuss banks, what do they do? We have discussed a little of their history in previous episodes, we talk through them as key stakeholders as well,  banks are right at the top of the list.   

So we're zooming in on banks - institutions as ancient as civilization yet as contemporary as the latest fintech news.

It may well seem obvious what they do but as I think you will see it both much simpler than you think and much much more complex than you think! Well we’ll see…

Today I am super please to be with my good friend Vincent Brennan ex Head of Payments at BOI amongst his many other roles, I have also been lucky enough to work with Vincent on Industry issues and at the EBA.

Lets discuss banks, the invisible network. 

Hold on to your hats,  here we go…. 

Payments Industry Insights

History of Payments

Payment System Explained

Corporate Payments Strategy

Payment Regulations Impact

ISO20022 Standard

Digital Payments Evolution

CBDC Advancements

Cryptocurrency in Payments

Financial Technology Education

Transcript

SPEAKER_00: 0:01

Welcome back, dear listeners, to Bite Size Payments, where we discuss their history, how they work, and of course, who does what. Today, we're going to discuss banks and what they do. We've discussed a little of their history in previous episodes, but today we're going to talk about them, just about banks. And frankly, they're right at the top of the key stakeholder list. So, zooming in on banks, institutions that are as ancient as civilizations, and as contemporary as the latest fintech news. It may seem obvious what they do, but I think you'll see it's much simpler than you think, and frankly, much more complex than you think. Hold on to your hats. Here we go. Today, I'm super pleased to be with my friend, Vincent Brennan, ex-head of payments of Bank of Ireland, amongst many of his other roles. I've been lucky enough to work with Vincent on industry issues and, of course, with the EBA. Welcome, Vincent.

SPEAKER_01: 1:17

Paul, delighted to be here. Love your podcast series, so it's a thrill for me to get a shot of being part of it. Thank you.

SPEAKER_00: 1:25

Thank you very much indeed. It's really great to have you here. But look, the banking sector often... hides complex terminology, but at its simplest, the concept remains consistent. Banks today have evolved, but they mirror the principles of the Merdici Bank of 1397. Banca Monte del Pesce de Sena, I'm sure I've got that incredibly badly wrong, but that was established in 1472, and it's still operational, and I've been lucky enough to go and visit them and have to say it was very cool. Anyway, Our historical discussions have taken us in the past episodes here from the Knights Templar Network to the establishment of the Bank of England for Charles II as his personal bank. Always makes me smile that. Yet at its core, banking's role is fundamentally simple. Banks serve as intermediaries, providing a secure system for managing financial transactions, bridging savers and borrowers.

SPEAKER_01: 2:27

Yeah, you have it absolutely right, Paul. Banks do act as intermediaries between those who have surplus money, the savers, and those who need money, the borrowers. But they also provide a secure and efficient system for managing financial transactions. So if you look at these in the three parts, so from a savings and deposits perspective, banks offer a safe place for individuals and businesses to deposit their money. And that money can then earn interest over time, which is an incentive for the saving habit. On the loans and credit side, banks use that deposited money or part of it to provide loans to their customers for various purposes, whether that's buying a home. starting a business or purchasing a car. And then the third leg is the payments and transactions where banks facilitate transactions, everything from transferring money between accounts or from person to person or paying bills and for paying for goods and services. But beyond that kind of simple definition of banking, they also provide a range of financial services, including, for example, investment advice, wealth management and insurance products. And providing credit, by providing liquidity, by safeguarding deposits and managing financial services, banks also contribute to maintaining financial stability. In summary, Paul, as the Chief Operating Officer at Bank of Ireland said to me when I was appointed Head of Payments there back in the day, at its simplest, banks take in money, they lend out money, and they move money around. But, and here's the rub, because banks range in size from local community and savings banks... to national and regional banks and right up to global banks. And because as a result, their customer bases range from consumers, retailers, SMEs up to corporates, the range of that moving money in, moving money out and moving money around ranges from very simple to complex. And then behind the scenes in the invisible networks of bank and banking, there's an awful lot of inherently complex processes going on to make sure that all of that happens in the interconnected global economy seamlessly, smoothly, securely, and in a timely fashion. So simple, but of course it's

SPEAKER_00: 4:33

not. Well, I think that's right. I mean, we like to think of these things as being simple, but we know in our hearts that they're complex. And of course, once you get into being inside of the bank, it's like, ah, that's even much more complicated than I originally thought. But it's also true to say that nearly everything in business is resolved through a payment. Of course, they are regulated by governments and some would like less, some would like more, so different parties, but at least we forget it is key that they are regulated. And if you want to know more about regulation, please listen to that podcast that we did. However, it's fair to say that regulation is very high on the minds of all of the banks.

SPEAKER_01: 5:16

Yes, Paul, and I suppose... It all comes down to the fact that trust is essential to banking. Customers have to trust their banks with their savings, with their investments, their loans, their insurances and their payments. And so banks' adherence to regulation is key to that trust. And so regulation is, as you said, very high on the minds and agendas of banks. And with so much change happening, both in payments and banking generally, there is a matching increase in the volume of regulations. And so banks have an awful lot to balance, to understand, to implement and adhere to. And most regulations give rise to a very significant level of process and system change for banks and in turn to their risk, their control and their governance frameworks. And go back to my complexity of banks piece, this is magnified if you're a bank that's operating across many countries, many currencies, many regulators and different interbank systems and payment schemes. And while the goal and principles of the regulations are or can appear at least quite straightforward, there's always an awful lot to do. And the timescales are always tight, both for the banks and for their clients.

SPEAKER_00: 6:24

I think that's absolutely right. The timescales for these things always seemed much, much tighter than we thought they were going to be. However, I think it's important to say that it wasn't that long ago that payments was just a bit of banking. It was the bit that happened at the end but payments grew and somewhere around the 70s with the growth of cards wires etc it began to feel like it was a separate business but really it's just a conclusion of a business transaction

SPEAKER_01: 7:01

yeah no that's absolutely right i mean in the end every product or service in a bank ends up with the money moving or payment part to it. So you're right. And we started out giving a very simple money in, money out and moving money framework. But when you think about it today, in a global instant and electronic commerce world, and with more and more ways to pay and more and more firms specializing in different parts of the payments ecosystem, it's become increasingly diverse and complex activity for banks. Like back when I joined the bank, if your listeners could even think back of how that would be. It was very simple. I stood in a cash box and I processed cash and I processed checks. Today, they're declining in use while at the same time, electronic payment cards, wallets, cross-border payments, open banking, open and embedded finance, crypto, everything is growing at a rapid pace. And in fact, in some parts of the world, they're growing at extremely fast rates. But payments... is also a very important part of the P&L of a bank. It's very obvious now that interest rates have risen again. We can see the value to banks of the net interest margin they make in that gap between the taking in and the lending out money side. But within that, the money that banks make from the free balances they hold on transaction banking accounts is really important, as are the fees they make and the charges they have across payments, cards, foreign exchange, etc. So, it's a really key part of banking, even though, as you rightly said, it is just a concluding transaction part of everyday life, whether that's just people's living experiences or their business experiences.

SPEAKER_00: 8:53

Very few people wake up in the morning and say they want to make a payment, but nevertheless, it's a very crucial part of everything that we do. Many regulators around the world have sought to bring in competition to the banks and now we have many successful fintechs which frankly wasn't always the case but they are right now and many of them are very agile they bring in new technologies to take on various segments of the market and i'll try and focus a little bit on fintechs another time but they are really starting to be a key part of this ecosystem But least we forget, most payment transactions are executed by banks, either a traditional high street bank or a bank that you know, a new bank, and there's plenty of those coming on, a neobank. Either way, they are effectively the key stakeholder of the operations of our industry.

SPEAKER_01: 9:47

Yeah, that's absolutely true, Paul. I mean, banks still remain at the heart of it. And In the time that you and I spent at the Eurobanking Association and on different work groups, if we had a penny for every time we were told that fintech was the demise of banks, we'd be doing something other than podcasts at the moment. But at the same time, as a result of those regulatory drivers, but also the profitability of the payments industry is another reason why payments has been one of the fastest growing and most attractive areas for fintech activity and investment. So, you know, it's almost like a self-fulfilling prophecy where because it is still largely dominated by banks, but because it's a very important and integral part of life and commerce, it's an attractive area for the fintechs. And so now you've got traditional banks and the new payment institutions that are on the one hand competing and on the other hand collaborating with one another for a share of this very fast and rapidly expanding payments pie.

SPEAKER_00: 10:53

The fabric of payments is woven literally with countless threads, a tapestry of transactions stitching together our global economy. Every day, millions of transactions crisscross the globe, frankly within a blink of an eye. Whether it's a simple coffee purchase or a corporate paying its employees, there are many facets to the way the banks interact with their stakeholders. And I think the best way to dive into this is to focus on how the banks, from a payments point of view, separate their business. Most large banks will focus on their key stakeholders separately, as frankly, they have different needs. So let's dive into this from a bank retail payments business. They are generally serving customers like you and I, citizens, and sometimes the S of SMEs. And I think the easiest way to think about this is the service that they provide for us.

SPEAKER_01: 11:57

Absolutely, Paul. And just before I delve into it, I was smiling there because like everybody, you know, when I came home as head of payments, my kids would say to me, Dad, what did you do today? I never thought to say that I was weaving a tapestry of transactions, stitching together our global economy. That would have been a killer line for me. But there you go. But coming back to us and what banks do, you know, Typically, from a payments point of view, if we take the consumers and small businesses first, they need a bank or at least a payment account in which they can hold their money and have access to receiving in and paying out money services. Receiving money can be as diverse as cash flow, payroll, retail sales, receipts, micro incomes from the gig economy. And paying money can be equally diverse. We talked about cash and checks before, but you've also got direct debits and standing orders and everything from immediate to cross-border payments. And typically, in the payments part of the business, that part of the business also looks after debit and credit cards. So it looks after issuing cards, the services for topping them up, but also enabling spending anywhere in a vast global network. And getting back to basics in terms of services, linked to payments are also the facilities for providing overdraft facilities and savings accounts. So there's a lot tied in around the payments piece.

SPEAKER_00: 13:25

No, absolutely there is. And in some countries, and certainly from my experience, you know, history, a lot of this was focused around what we call the branch network. And of course, there are still branch networks out there in some countries, much more. But, you know, some countries also, there is a lot less. And as ever, the economies of providing those branches differ, i.e. the UK has chosen that you need to have a bank account that is free. And while other countries, frankly, charge a small fee to manage their accounts. I have a French bank account. I know exactly how that works. So, frankly, you take your money and you pay your choice whether you provide money in to get these branch services or, frankly, you don't. But it's also typically where the merchant services side of the business is managed.

SPEAKER_01: 14:23

Yeah, so... When you're talking about merchant services, you're talking about that part where the bank issues cards to customers, but also provides the services to merchants to enable them to accept card payments. You know, very much taken for granted post-COVID particularly, where, you know, contactless and card have just become such a predominant part. That part of the business, you know, is referred to on the one hand as the card processing side and then alongside of the merchant acquiring side. And it's always been a large and complex area because you've got the interaction of everybody from the card holding customer, the card issuing bank, the card schemes like Visa and MasterCard and the merchants, which range from anybody from the man in the van to the local shop right up to the global retailers. But alongside that, you've also got the service providers for fraud, for security and for other essential services to make the whole thing work. Now, somebody banks do manage those activities in house but in my experience the vast majority have long since leveraged large third-party providers either as card processors for the banks or for those merchant acquiring services and this whole side of the business the whole card side not the issuing side, but also the merchant service side, has always been a very profitable activity. And again, it's one of those areas that has been increasingly competed for by the new fintech and also the open banking payment services providers.

SPEAKER_00: 15:50

Yeah, perhaps the best way to look at this side of the business is it's very high volume. It's something like 70, 80% of all the transactions are here, but it's a relatively low value. It's also mostly in local currency, whether that's the euro or the dollar or what have you. And it's relatively low touch. If we switch to the corporate side or the transaction banking side or the wholesale side of the bank, it's almost the exact opposite.

SPEAKER_01: 16:21

I mean, it couldn't be more opposite. And here you're talking big business, big numbers.

UNKNOWN: 16:28

Yeah.

SPEAKER_01: 16:28

I remember one of my first forays in the payment side was just being staggered. If you contrasted what I was exposed to when standing in a cash box to the numbers that were passing through our decisioning portal for corporate and wholesale payments, it's just staggering. But that's the nature of global commerce. So at its simplest, managing cash flow is key to the survival of and the success of every business. And so for businesses, that whole piece of managing money in from all its sales activities and paying money out, whether that's to employees or to suppliers, and also investing some of those receipts in assets and projects to grow the business, it's a huge balancing act for every company owner, manager, or accountant. And of course, the bigger and more diverse the firm, such as corporates, then the bigger and more important is that task. And as you said, the higher the values involved the values that are involved. And typically, they'll also be paying bills cross-border in many currencies. So typically, they'll be using cross-border services and they'll be using schemes like SWIFT and other foreign exchange services. So relative to the retail side of the business, corporates, as you said, have a low number of transactions, but very, very large values and across currencies. And the added complexity is that they have their own internal systems that they need banks to integrate with, or alternatively, they need to have access to our connectivity between those corporate ERP systems and the bank's corporate online banking platforms. And the treasury management side of it, that whole moving and managing money side is big, big business for corporates. And banks play a huge role in facilitating a corporate's cash flow needs. And due to the nature of the values involved, there tends to be a very high touch between the bank and treasury departments of corporates, including for liquidity management, for trade finance, and for the holding of accounts in a whole variety of different currencies.

SPEAKER_00: 18:39

Yeah, I can remember actually going down to one of the EBA summer schools and going through a simulation of this. And I can remember just thinking, wow, this is very, very complex.

SPEAKER_01: 18:56

Yeah.

SPEAKER_00: 18:56

And critical at the same time. Yeah,

SPEAKER_01: 18:58

and you know, as I do, that it's complex. critical and complex for the corporates and and and the the customers in terms of managing their liquidity but equally the whole liquidity and cash positioning of banks gets an equal amount of focus and the level of reporting that's required to regulators who want to ensure that banks remain at all times liquid to enable the commerce and and and uh transactioning that's happening is is a huge side as well so we could spend another podcast and that's baseball

SPEAKER_00: 19:29

Yeah, yeah. But look, so in fact, they are very different businesses. And the truth of the matter is they have very little interaction between them. In fact, they have very different cultures, almost like separate businesses with the overall banking brand. Okay, so what is common is that they... have to work with central banks. And we've talked about central banks before, but typically they have accounts at the central bank so that they can facilitate the settlement and clearing of payments. And we've discussed regulation of their bodies, but banks must be involved with all of these bodies all around the world in every country they operate in as they orchestrate all of these transactions.

SPEAKER_01: 20:29

Yeah, and whether it's SEPA in Europe, BAX in the UK, SWIFT globally. instant payments like each of these payment schemes operate within a strict regulatory framework and so the bank must understand and comply with it but alongside that they have scheme rule books which are also updated in intervals that they've got to keep pace with as well so the payment practitioners at banks need to understand the requirements of implications of regulations and scheme rules in all the markets in which they operate and they need to understand the changes to them not only in terms of the requirements and consequences for the bank, but also, of course, and most importantly, what those changes mean for their customers. And returning to our earlier theme of trust, banks always have to ensure that the payment services they provide, whether directly or through other banks, schemes, or third parties, are conducted in a safe, secure, and timely manner.

SPEAKER_00: 21:29

Yeah, I think that's absolutely critical, Vincent, Sam. We've all been around when sometimes these payments haven't gone through and trust has been broken and it's straight to the front page of the news. Nobody wants to see that happen. So this is all very critical information. But what does strike me and didn't strike me, if I was honest, when I first started in the industry is just how much of a network business it is. It's super easy to think of the bank as we started off with just moving money from A to B. But the reality is they provide a network of knowledge as well as the physical network of the payment systems. Some, for instance, like an RTGS system. But it is an incredibly powerful network.

SPEAKER_01: 22:21

Yeah, it is. I mean, it absolutely is a network business and a really important, powerful one. So, you know, whether you're conducting payments through corresponding banking network, through regional or global clearing and settlement systems, whether it's through the card schemes or, you know, increasingly through locally organized interbank schemes or some bank fintech merchant collaborations, it's all dependent on the network. And, you know, from an operation resilience point of view there's an interdependency to avoid the the breakdowns that you talk about and every part and every player in the network you often hear the expression you know the network is as strong as its weakest link and and that's just so true in in payments but you know paul keeping with your podcast theme of the invisible network you know most customers don't know and frankly they don't need to know how their money gets from a to b i you know i often said you know my customers and my colleagues long since lost interest in how money gets from here to Guatemala. That's the role of the bank and within the bank, that's the role of the payment practitioners to make sure that it does. So from a customer point of view, they simply want to trust their bank when it's a bank that they're using for their payments to look after their money and to ensure that their money comes in and goes out seamlessly, securely and in a timely manner in the theme of the podcast, you know, invisibly.

SPEAKER_00: 23:48

I started one of the podcasts saying that we treat payments or some people treat payments like it's magic. It just happens. And I think we forget just how powerful the network is. But we're just about to go through, if just about is the right term, because I guess we've been in it for some time, really. We're going to move further into the digital age. And in many parts of many other industries, it seems to have already happened. The payment industry is getting there. But how do you see the payment industry really moving in this digital age?

SPEAKER_01: 24:23

Well, for me, Paul, digital drives changes in payments from three angles. On the one hand, it drives rapidly changing expectations and needs of customers, whether that's the consumers, the retailers or the corporates, as they live their lives and they go about their commercial activities. And these are changed for them by digital advances. So banks have got to keep up with their customers' requirements and the way in which life and commerce has been changed digitally. On the other hand, digital facilitates how. So for example, wallets, open banking, embedded finance, crypto, but it also facilitates by whom. So payment service providers, fintechs, neobanks, traditional banks. So digital facilitates both how and by whom payment services are provided to these customers. And that's going to be an increasingly changing and rapidly changing domain driven by digital. But then finally, as that change is driven by digital and digital payment progression, advances, the industry will continue to experience more regulation, more competition, and more collaboration in what I've described as an important and profitable field. So when you get back to where we started in the podcast, Paul, in banks, every product and service has a payments dimension to it, and that's always been the case. And so the payment practitioners, which you and I were for a period in banks, will continue to be at the center of a rapidly growing, changing, and exciting industry. I mean, If you're a pyramid practitioner, you have to be excited by the prospect. If you're not, you're in the wrong job.

SPEAKER_00: 25:59

Yeah, I think that's absolutely right. I always like to think about, you know, we talk about fintechs driving change and all that. And you can imagine in 1659 when the first check was issued and somebody said, that's it, the world's going to change. You know, checks are going to take over the world and we'll never see these things again. In fact, what you do see is that the banks have been extraordinarily agile and adopting to change, whether it's fintechs, whether it's the digital age, whether it's regulation. And it's probably a once-in-a-lifetime opportunity to be part of this digital change in payments. So, as you say, it's great to be here at this moment in time. Absolutely. Well, look, Vincent, thank you so much for your help and your insight and, frankly, your friendship over the years. It's been great to have you on the show and I look forward to working with you in summer at EVA Day.

SPEAKER_01: 26:55

Yes, interestingly tying in with your finishing comment there on fintech, you and I get to be adjudicators along with some other good colleagues at the fintech zone. So really looking forward to that. But more particularly looking forward to engaging again with that really broad network of colleagues and friends from across the industry and chewing some more over these topics that we just touched on briefly this morning. So I look forward to seeing you in the summer.

SPEAKER_00: 27:24

Yeah, look forward to it too. Thank you so much, Vincent.

SPEAKER_01: 27:27

You're welcome.

SPEAKER_00: 27:37

Well, there you go. Thanks. I told you it was extraordinarily simple. Oh. but I also told you it was extraordinarily complex too. A big thank you to Vincent for helping us get through that. What I think is extraordinary is actually when we think of payments from the retail side or the corporate side, just how different they are while doing extraordinarily similar things. I think the other side of it, as I mentioned, is this network. The network that is online, around payments, especially from the corporate side. It's extraordinarily powerful. And we just take it for granted. Anyway, there you go. Banks, probably the key stakeholder in terms of processing our payments and probably will be for a long time. And while fintechs will come in hurry and chase and partner, it is also true to say that, in my opinion, banks can be around for a long time yet. As ever, if you have any questions, please do let me know via BitesizePayments at gmail.com. And if you've liked it, please tell a friend. Thanks so very much. Cheers.