By Jan 13th 2018, EU banks will be required under the Revised Payment Service Directive (PSD2) to open payment and account services to third-party providers. Fintechs will only need simple licenses to plug into banks via Open Banking APIs for payments and client data, without resorting to traditional methods which are often clunky and bank specific.
Plain boring? Maybe, but the directives are absolutely disruptive. They will redefine how the industry works as a whole in a banks+Fintechs world. This is the breakthrough that massively scales collaboration, and redefines business models.
Banks may have been blind to Fintech at first, and Fintechs may have said they’ll take down banks, but now both parties have come to a simple conclusion: They’re each equally just as bad at what the other is doing, and they need to collaborate to create value. Since then, banks and Fintechs started to live their happily-ever-after in castles built in regulatory sandboxes: innovation labs everywhere, hackathons boom, four feet on the accelerator. Partnerships, Collaboration, Love. But no common language. And that’s where EU regulators are helping.
In a recent survey, 53% of banks said the PSD2 regulations will be a driver to change their business model. Some banks have even moved ahead of the regulation to capture these new opportunities. Yet, these regulatory changes went fairly unnoticed by the wider audience and were barely mentioned in mainstream media. There were always more catchy headlines on blockchain technology and robo-advisory startups, leaving minimal bandwidth for the less fancy aspect of banking and Fintech (try talking regulatory changes over dinner).
So, let's bring back the attention to what really matters today. Let me share a disruption analogy so as to quantify the magnitude of the upcoming revolution. Not digital. But surprisingly very related. Keywords of both stories: API, open standards, disruption, disintermediation, massive investments, business models overhaul, and unprecedented business growth.
The APIs and the Shipping Container: A Tale of Two Industries
For hundreds of years, friction surrounding any type of transaction has been hindering business growth: goods, money and data are never transferred fast enough. For hundreds of years the same problem, and for hundreds of years the same answer: “More”. More manpower for more goods, more bank counters for more money, more keyboards for more data. Simple. Costly. Absolutely not practical. Completely unscalable.
Fintechs are now on a mission to solve the “money and data problems”. Similarly, just sixty years back, a truck driver thought he could solve the “goods” problem. His solution? An Open API. Most likely the first ever, and some thirty years before the internet.
Malcom McLean was an entrepreneur who built one of the major logistics trucking fleets in the U.S, starting with one truck. McLean was very frustrated with the amount of time his trucks were spending at ports waiting for loads to be transferred to ships, and so he did what any entrepreneur would do: He got an idea, invested in a ship, and took action. On April 26th 1956, McLean’s “Ideal X” left port Newark, New Jersey to deliver goods some 1,600 miles south-west, in Houston. On its deck, the load looked nothing like what anyone had seen before: 58 metal boxes.
The shipping container that McLean had invented may have looked at first like a large metal box, but it was much more than that. More than 30 years before the internet, it was created as a global collaboration platform running on a steel protocol, i.e an old fashioned physical API for seamless trade. Businesses could trade anything, in any quantity, and on any distance with very minimal manual intervention between them as long as it was containerized. When McLean invented the container (i.e the "McLean API", in today's lingo), he actually allowed truck drivers and shipping lines to talk the same language. And that caught the world off guard.
The McLean API had disrupted a historically labor intensive industry overnight: thanks to containers, ship loading suddenly became insanely faster, and 40 times cheaper. “More goods” didn’t necessarily mean “more loading time, or more dockers in the port”. A new word was coined: Intermodalism, i.e passing containerized goods between two "modes" of transport seamlessly. It meant that ports could do away with manual batches and start running as on-demand platforms for ship loading. Intermodalism triggered a massive wave of disruptions that wiped out jobs, disintermediated entire industries, and pushed major historical trading hubs to obsolescence. But more importantly, after investments in new capabilities and a wide adoption of the container as the industry standard, it had an incommensurable contribution to global economic growth.
As PSD2 regulations will now containerize money and data via standard APIs, here are some comparison points and lessons the old fashioned steel container can teach us:
1 Removing friction via APIs has a much bigger impact on the economy than what you can imagine.
The widespread adoption of the McLean API (i.e the container) had ruthlessly disintermediated dockers and disconnected old ports, but it also contributed to the global economy way beyond expectations. In fact, it fueled globalization more than all free trade agreements did over the last half century. That’s now a proven fact. Yet, back in the 60s, this concept of intermodalism was only applied for goods. Imagine the impact that PSD2 regulations and Open APIs will bring about as they remove all friction from money and data transactions between Fintechs and banks in a globalized economy.
2 APIs remove operational bottlenecks not by automating manual tasks, but by redefining how businesses collaborate. This inevitably leads to a dramatic drop in the manpower required to transact, and to massive disintermediation.
Until the widespread use of the McLean API, shipping had historically employed tens of thousands of dockers. But its standardization also drove its extremely fast adoption worldwide, and disintermediated even the most unionized dockers. Immediate costs of restructuration were largely compensated by long-term savings produced by this new technology. One example: In the 1960s the port of New York employed about 35,000 longshoremen. They are only 3,500 today. That’s 90% less, despite a notable increase of the volume of cargo handled at the port due to globalization. Banks today are the ports to regulations and finance, and they hire office longshoremen. Adding a layer of standards will remove the need for manual data loading, downloading, and reconciliations between banks and their partners.
3 If your legacy infrastructure cannot be upgraded to use APIs, your organization is in danger.
Most historical ports could not keep up with this new technology as they were not able to accommodate large container ships. The Port of San Francisco had been a major marine terminal, and London upstream docks were once hosting the world’s biggest port. But for both, no upgrade was possible on their legacy infrastructure, meaning both could not use the McLean API. As a result, they became disconnected from trade. Their historical legacy and size simply did not matter anymore. No port was too big to fail. It was simply the end of an era. Now, you are probably thinking the majestic ports of yesterday could be the banks of today and their legacy systems. For some banks, you are probably right.
4 Early adopters catching the network effect of APIs will be the biggest winners.
Countries did not only invest in the McLean API for cost savings and efficiency. They invested primarily to connect to a world of new trade relationships, and there was a premium at being the first. When Taiwan and Korea adopted it, their exports tripled within 3 years. In this race for connectivity, investments flocked into new port infrastructures and shipbuilding. Soon, a global network of seamless trade connections providers emerged: Hong-Kong, Rotterdam, Singapore, Shanghai, Hamburg, Los Angeles overtook New York. In 1966 around 1% of countries had container ports. This rose to 90% by 1983. A number of banks are moving ahead of regulations today. In fact, some banks like SolarisBank in Germany are being built on a complete Open APIs architecture and are calling this Banking-as-a-Platform. They're starting from scratch, but their aim is to capture a first mover advantage.
Today, Banks and Fintechs still transfer data or money between them the same way that loading/unloading of ships was handled before 1956. With PSD2 regulations, transactional data sets (digital containers) will flow back and forth between parties and their own systems: This is Digital Intermodalism. Seamless flow between banks and Fintechs front-ends, robo-advisory engines, mobile payment providers, frictionless user experience with 100% regulatory compliance and all KYC/AML checks in place (most probably automated by regtechs plugged to the banks), in one word: The Future.
Why Doesn't Anyone Talk About PSD2 if it is Indeed SO Big?
That is the last lesson from the McLean API: Persistent beliefs and misplaced spotlights (blockchain) are causing us to miss out on big changes.
Everyone knew that the McLean API was coming and how disruptive it could be (it took 13 long years for the container to get its global ISO standard, the trigger point being the open source release of its patent by McLean). Yet, the world was caught off guard by the rapidity of its adoption once its global ISO standard was rolled-out. The 13 long years taken to agree on a standard had created a persistent belief that worldwide adoption would remain slow. Most stakeholders had underestimated one basic rule of B2B innovations: standards are a much stronger driver for adoption than word-of-mouth.
So, despite what you may have read here and there, disruption is not always ten years away. It is almost always one B2B standard away. And today, we know the standard for containerization of money and data will be rolled out from Jan 13th 2018.
Ironically, it is the banking regulators of the old commercial ports that are leading the way today, London being ahead of all. The question that remains is whether the major container ports of today, like Singapore or Hong-Kong, will embrace a similar mindset to strengthen the global economic relevance that they’ve acquired over the last 60 years.