The Rise and Stagnation of Digital Banks

The rise of digital banking is a global phenomenon. Not only do new digital-only banks emerge, but traditional banks enter the field through subsidiaries. Is it worth it for traditional banks to establish digital banking subsidiaries, or should they focus on developing their own digital banking services?

The arrival of digital banks into the banking industry has encouraged banks to innovate, forcing them to be more responsive. These disruptors have been more creative and mission-driven, with a particular appeal to future generations of consumers.

Traditional banks have faced a tough battle as Covid-19 pandemic drove global adoption of the digital model. It turned out, however, that banking leaders have become extremely focused on it. Launching digital banks with their own distinct branding has become popular among established traditional banks. They own dozens of Indonesian digital banks.

Learning Customer Better

Perhaps the pressure from digital banks was just what traditional banks needed to get a better understanding of their customers. And maybe they can finally seize the momentum, given that they have a solid foundation and are familiarizing themselves with the technology required to retain customers who would otherwise leave them for the upstarts.

In Indonesia, it must be admitted that for a customer, the advantage of a digital bank is the promise of higher returns and cash back. Their expense base is significantly reduced because they do not have to pay for physical branch offices or personnel to staff them. However, the strategy is also a need to convert traditional banks’ customer bases to their side.

According to Bank Indonesia data, despite the predicted growth of 27.3% in digital bank transactions, the realization in 2023 increased by only 13.48%. Predictions for 2024 have also been significantly reduced, with only a 9.11% year-on-year increase expected.

So, why haven’t digital banks flourished?

Currently, digital banks are a niche market because they have not yet realized their potential to provide the necessary customer experience and range of products, services, and support to gain significant market share.

Customers are still concerned about the security of their financial information due to their distrust on cybersecurity resources imposed by some digital banks. In 2022, the Center for Digital Society at Gadjah Mada University conducted a research and revealed that 66.6 percent of respondents had been victims of digital fraud.

To compete with traditional banks, digital banks must provide an exceptional online customer experience. It creates another barrier for Indonesians who want to see someone in person when they have a complaint. Customers are unwilling to give up access to physical branch offices, no matter how much they dislike the concept, because it serves as a safety net in case it is required.

Even though digital banks initially offer the convenience of conducting banking activities without the need for branches to serve the unbanked group, traditional banks continue to shift their branches into unbanked areas, leaving the large cities that are more familiar with digital banking with fewer branches.

There are three ways to set up a digital bank

The first is a new entity created from scratch under a new brand name and with a completely new IT infrastructure. It has not yet been proven that completely new can outperform traditional. Aside from the fact that traditional banks are rapidly catching up, they outperform digital banks in terms of reliability, offers, and payroll connections. If it is a subsidiary of a traditional bank, it may also compete for the same customers as its parent. Most of these types of digital banks rely on cash back promotions and discounts, which are not sustainable in the long run.

The second option is to create a new entity and brand name by combining existing or acquired infrastructure with newly acquired capabilities. Some banks keep certain services, such as pensions or retail loans, while transitioning them entirely to no-branch services. It causes headaches for the customers. Changes to the system and technology, as well as the culture and human resources within it, require significant effort.

The third category is digital banks, which are subsidiaries of traditional banks, use their parent database and network. It is based on existing infrastructure and capabilities developed in-house. It can supplement what the parents’ traditional methods cannot provide, and vice versa.

A need or no need to set up a digital bank?

The lesson is that traditional banks that want to launch an independent, digital bank offering must offer a distinct incentive to attract clients and coexist with the parent banks. It must not only offer lower fees, but also provide a better customer experience and products and services tailored to new generations of customers.

For conventional banks that have yet to move to the third, do so now or merge the subsidiary back into the parent. It would be better if they just improve their digital services.

This article was originally published in The Jakarta Post.

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