Msc International Banking and Finance

Banking Operations and Strategy Assignment 1999

John Hargreaves

Written by Konstantinos Kostoulas 9910284 (F/T)

"Analyse the reasons behind the Institutions offering these `low cost delivery channels,and
the impact that this will have on the Bank's strategy,and how this will affect other
'conventional' customers,and the traditional network of Branches throughout the UK.In
addition comment on the relative advantages/disadvantages that new entrants into the
Financial Services sector have over existing providers."

(1500-2000 words)
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The globalisation of financial markets today has brought about a change in financial transactions.
One of the most recent innovations in the financial marketplace is Internet banking on-line, or
carrying out transactions from home that would normally be held elsewhere. On-line banking is
the facility to perform common banking transactions from your home pc or work anywhere in
the world and (coming soon) from your television set, that you would normally need to visit
your local branch to carry out. This saves time and therefore it makes it much easier to keep track
of ones finances.

Basic facilities may include reviewing your balance and mini-statement and paying bills. Extra
facilities may include transferring funds between accounts, ordering printed statements , cheque
books, downloading statements into applications on your pc, budget planners etc. What the
on-line banks offer customers, often at attractive interest rates, is an electronic relationship that
allows people to hop on the Internet and point and click to open accounts, get account balances,
transfer funds, pay bills, apply for loans, and other banking services. Although the interest in
banks that offer on-line banking is not as much as expected, more and more people do use the
Internet and on-line banking services every day. Most estimates are that six million consumers
use Internet banking and that number will go up to twenty four million by 2002. UK research
company, Fletcher Research, has reported that by 2003, seven million UK residents will be
banking on-line.

There are sufficient reasons behind the Institutions offering these new delivery channels. Banks
tend to attract new on-line customers because the new on-line system offers more opportunities.
The costs are significantly lower, in fact much lower than when carrying out traditional
transactions. Banking regulators expect that competition and low costs will drive cyberbanking.
It costs the bank about a penny to execute a transaction on-line, compared with almost a pound
for a manual transaction in a branch bank.Banks can also achieve delivery economies with the
new system:it requires more operational staff than management staff,and the real estate
management cost is greatly reduced .The battle for the right to mind the money of the customers
has now moved from the high streets to the Internet. While the banks used to try to lure
customers off the pavement into their branches they are now trying to steal each others
customers by seducing them into cyberspace.Britain's largest retail bank, Lloyds TSB has
decided to launch a newly branded Bank, and is already considering attacking the Internet
market. Halifax has already impressed its shareholders with its plans to choose a new image for
the Net. Under the working title of " Green field. co", Halifax aims to reach new customers to
the net. While it remains to be seen whether these facilities will be good news for customers, the
band and marketing experts are having a field day. Marbles is spending £10m on advertising to
build up public awareness of its new product ,while the brand consultants are busy dreaming up
newer and wackier names for the banks which have yet to make their offerings public.Brand
experts believe that the banks are using new names for the Internet because the are trying to win
customers who have not already been attracted to believe in the Internet solution. They need to
persuade customers that this new way of transactions will rule the world and PCs are the best
tool for banking. They're also more convenient and do not require nothing but a telephone or a
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computer.
There is considerable speculation about the impact that these will have on the strategies of the
banks. Regulators are worried about how assets will be invested, about the volatility of deposits,
and whether bank managements are planning to sell their charters. "It creates more concern
because it absolutely is the unknown, " a regulator specialist said. Another specialist said that
traditional banking risks - such as loans - take on a different shape on the Internet because
territories are not defined and instant credit decisions are possible.The latter means that the banks
will have to go through different credit scoring procedures in order to grant loans for their
customers. The banks will also have to face increasing competition and therefore, will have to
spend more of money on advertisements. Internet banking will diversify the bank's strategies,
because banks can now move into new countries without incurring the expense of setting up
branch networks. In theory, Internet banks should also be able to offer more competitive rates
because they are cheaper to ran than hundreds of expensive branches. It is yet to decide whether
banks will offer high yield savings rates and lower borrowing rates available to customers to
continue to use their branches. Some banks , though, will also allow all their Internet customers
to visit branches and use the phone which might make pricing more complicated.Banks will have
to diversify the allocation of their investment funds. More funds will have to be spent in order to
face competition. This is because traditional costs will be reduced. The cost structure now
moves from the credit union to the member. The member pays for the Internet access, the phone
call, and they are conducting the business in their own time. Expensive ATM transactions will
decrease with less usage. Expensive branch networks can be decreased in some distances. There
will be better service delivery at a branch level as well because time consuming transactions will
be taken care of electronically.

The statistics show that three thousand people every day are using Internet banking for the first
time. However, there are still many conventional customers, who have demonstrated their fears
about this new technology.These fears are justified by the increasing number of hackers that
illegaly enter into public computers all over the world. In this case the risk that customers and
banks undertake is very big compared to the costs. There is little doubt that conventional
customers lay the importance of the low-cost delivery channels, but they also know that
entrusting their personal savings to cyberspace can be very risky. It goes without saying that
security is critical and important. That is why banks try to develop encryption systems.
Encryption is the transformation of data into some unreadable form in order to ensure privacy by
keeping the information hidden even from those who can see the encrypted data . However, the
everyday achievements of hackers , penetrating top-secret files, tampering with elaborate
computer systems, stealing credit card numbers, disseminating sensitive information, are an
indication that internet transactions are not a hundred percent safe at the moment. What the
conventional customers think is that,once it happens,it is very difficult to prove that money has
been secretly and illegally taken out of their accounts,which justifies up to a point their fear of
internet transactions.

Internet will very much affect the traditional network of branches throughout the UK. The rush
to establish an Internet presence is sweeping the UK banking industry.Lloyds TSB plans to
launch a new fee - paying Internet banking package next year that aims to bring in 1 million
online customers. The new package, will include present Internet capability, telephone banking
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and remote account management. The new package would carry a separate brand, but would use
existing Lloyd's back office and Internet systems. It would target customers who don't use
branches much and aimed to charge fees for services on top of a number of current accounts,
including the differential savings and lending rates and home shopping. Lloyds intends to keep
its internet operation integrated into the main bank, unlike on-line competitors such as Bank
One's Wingspan Bank or Halifax's Greenfield.co, which are established as separate entities. In
other words, companies have differed on the best way to approach on-line banking. Increasingly,
banks appear to be opting for the creation of an entirely separate Internet bank. This is the
approach adopted by a Halifax, which has pledged to put £750m behind the creation of
Greenfield. co.

However, the traditional network of branches will not be seriously affected at once, because
people are afraid of losing their money in electronic transactions. It is beyond a shadow of a
doubt that the new delivery channels will not dominate and attract traditional customers in
banking from the very beginning.People cannot expect too much from the expansion of on-line
banking at this point.Even the target of one million customers would represent - 1 in fifteen of
Lloyds' client base. So the argument that this is going to magically reduce the distribution costs
of banks is quite wrong. About fifty per cent of Lloyds TSB's customers remain " branch
loyalists ". They want to use the branch and nothing but the branch for their banking.That is why
the traditional network of branches in the UK will probably remain, at least in the short term. In
the long term, it is difficult and risky to make predictions. A relative reduction in the number of
branches throughout the UK, however, is very likely to happen, because simplification of
banking transactions will eventually become a necessity.

Let us now examine some of the advantages that new entrants into the financial services sector
have over existing providers.The main advantage is that costs are significantly lower.In
addition,transactions become quicker end easier and there is no loss of time to visit branches or
communicate with members of staff. Internet is becoming more and more essential for banking
transactions. It simplifies the way in which commands can be processed. Internet banking offers
also better ways of advertising. There is instant presentation of statistical information to those
customers who wish to compare and analyse bank - related data, for those customers who wish
to have a look at insurance packages, for those who want to invest in the bank share issue, and
those who thoroughly examine the financial service products before making a decision.

However few credibility is given at a moment to such transactions. The safety issue is a very big
issue. Encryption techniques, no matter how sophisticated they maybe, are not convincing at the
moment.Customers do not fully trust them. On the other hand, existing providers are better
organised at the the moment and the bulk and vast majority of transactions is held by them. The
existing providers seem to dominate the industry for the time being.Since branches work
properly and not many complaints regarding their operation and customer service are being
made, there is no immediate need for a fast and dramatic shift in everyday banking transactions.
One must also bear in mind that not all customers can afford or need a PC or interactive
television to keep up with the latest improvements of technology.Internet banking ,however, will
probably turn out to be succesfull,no matter if it requires only a PC with Internet access or a
digital interactive television or a combination of both.The fact is that it wins more and more
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customers day by day from the high-street banks,and will,in all possibility, dominate the financial
services sector in the future given its development rate.

References

"The Management of Financial Institutions",by Philip Bourke,Bala

Shanmugan,Addison-Wesley
Publishers Ltd.,1990

"Financial World-the Chartered Institute of Bankers Magazine",October 1999

"Online Banking - Follow The Virtual Money",by Cindy Skrzycki,The Washington

Post,Washington D.C,U.S.A,22 Oct 1999

"Banks attempt seduction in cyberspace-News Analysis Brand identity is crucial in move from
street to web",by Jill Treanor,the Guardian,Friday October 22,1999, web reference:
www.newsunlimited.co.uk/business/story/0,364,94635,00.html

"Lloyd's prepares E-banking",by Bernard Hickey,The Industry Standard-the newsmagazine of

the Internet economy,October 21,1999 ,web reference:
www.thestandard.com/articles/display/0,1449,7110,00.html

"LLOYD'S TSB:UK's largest bank sets out internet stall",by George Graham,Banking
Editor,Companies News/UK & Ireland,October 22,1999,web reference:
www.ft.com/hippocampus/q28b946.htm

Other Web Sites related to Online Banking:

"Benefits and Security:Online Banking", www.mylesrix.demon.co.uk/banking

"Online and PC Banking", www.tagish.co.uk

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