Neobanks are gaining popularity around the world, and even big banks are developing 'flanker' brands to break into the market. But how will this banking innovation impact the future?
What exactly is a Neobank?
A neobank is a completely digital bank that supports its customers using apps and online platforms rather than traditional physical locations.
Most people believe that Monzo, Starling, and other neobanks' rapid growth is due to them originally introducing beta products with an e-Money licence (a licence granted by the FCA that ringfences customer deposits and prevents them from being used to earn profit, such as by lending them out). Despite their continued success, several neobanks are evolving. To develop their goods and services, some have obtained for full banking licences with the FCA (for example, Starling and Monzo), while others have bought fully-licensed banks (for example, Tandem acquiring Harrods Bank).
Some incumbents have begun to create their own digital-only brands (RBS has Bó, for example). Although the majority of these new digital brands leverage their parent bank's existing licence, they are distinct in that they operate on new technologies rather than burdensome legacy platforms. This will make it easier for them to compete with newcomers, although there are still some questions:
Can they overcome established banks' lengthy decision-making and approval processes in order to introduce features and products as quickly as the newcomers?
Can they persuade customers that they're not like their parent?
Only time will tell if this is true.
To what extent do neobanks pose a challenge to incumbents?
In comparison to neobanks, incumbents have a number of advantages, including finance and client trust. However, with legacy systems dragging companies down, it's been difficult for them to create novel user experiences.
While neobanks do not have the funds or client base to completely replace traditional banking overnight, they can offer services and partnerships that consumers want much more quickly.
This combination of strengths and limitations results in an intriguing knowledge transfer. Neobanks have pushed conventional banks to improve their customer service and assistance in some cases. For example, Barclays rapidly followed Monzo in allowing customers to restrict specific sorts of expenditure, such as gaming, on their accounts.
What other consequences do neobanks have?
Neobanks have been able to access vulnerable or underserved consumer categories by starting from scratch, allowing them to be more flexible and inclusive than incumbents. Monese, for example, provides services that are valued by migrant workers.
Neobanks, like other FinTechs, are helping to fragment the market even further. Initially, most businesses concentrate on supplying a single product or service to customers. To bring the offering to market, they can surpass banks in terms of customer service, products, and margin. Habito is a good example for mortgages, and Revolut and Wise are good examples for foreign transfers. In the past, incumbents have made the error of being indifferent about new entrants, believing that their size or range of products allows them to compete. However, if new entrants continue to drive clients away from these revenue-generating areas, they may start to struggle.
Will the banking industry become overburdened?
Even with the FCA promoting more competition, making a profit is difficult, and profit margins are razor-thin. There isn't enough room for everyone, and several challengers have already left. As the industry matures, we should expect to see more mergers and acquisitions.
For neobanks, business banking for small and medium-sized firms is a key development sector. Many people believe the industry is underdeveloped and that clients are underserved. As a result, we expect to see others join Starling and Tide in this venture.