Embedded, Generative, and Inflationary: Banking in the Crucible of 2024
Managing Margins and Technology to Emerge Stronger
Executive Summary
In 2024, the fintech funding environment will be more challenging. Investors will seek clearer paths to profitability from startups, while incumbents acquire fast-followers. Generative AI promises cost savings but regulatory risks. ESG falls down the priority list, with social initiatives taking focus. As economic conditions tighten, financial inclusion becomes a revenue growth driver.
Environmental initiatives lose commercial appeal. Fees face regulatory scrutiny. High inflation forces nimble pricing and disruption to longer-term products. Hybrid work normalizes again with minimum office days.
Gen AI benefits incumbents through cost reductions but risks deploying too quickly. Personal finance management dies as decision support persists through notifications. The cyber skills gap is partly alleviated by AI, but laggards in zero-trust adoption struggle.
Many digital banks still chase profitability, shifting focus to lending. BNPL diversifies as funding costs rise. Chatbots drive call center investment but don't fully replace humans yet. The crypto winter ends amid macro rebound, bitcoin halving, and spot ETFs.
Personalization via machine learning helps banks strengthen customer bonds. Autonomous finance via IoT stalls. AI and embedded finance collide with privacy laws. Big data keeps improving credit risk. Social media super apps expand despite antitrust concerns. Embedded finance flourishes for SMEs as banks struggle with required agility.
Fintech Faces Profitability Reckoning
In 2024, fintech startups and established firms will prioritize profitability over growth amid a difficult macro environment. Investors will demand shorter, clearer paths to profitability and focus on core revenue-generating products. With tight focus on unit economics, acquisition vanity metrics and new product/market expansion will face far less tolerance.
Money will keep flowing to generative AI startups, but near-term this will mostly benefit incumbents through beta or hybrid deployments, improving cost structures. However, some will push the technology too far in 2024, facing reputational and regulatory blowback.
As economic conditions tighten, financial inclusion around underserved segments will become a priority revenue growth lever. This will help discover valuable new sub-segments to serve.
Environmental Initiatives Lose Momentum
Despite momentum after COP26, environmental initiatives will slip down the priority list for bank employees and consumers by 2024. Ongoing fossil fuel financing by major banks will continue, with little consumer account switching impact.
Banks will need true 'water into wine' innovation to achieve environmental goals while satisfying consumer desires. Instead, most will rely on partnerships for new green products, while their own environmental innovation pretences falter.
Regulatory Pressure on Fees
Bank fee models vary by region, but 2024 will remind that banking is not free – it’s just a question of how providers charge. 'Free' banking previously eliminated pricing signals, affecting service development.
Many challengers highlighted fee transparency to build trust. But as conditions tighten, they will raise fees, impacting customer goodwill. Opaque overseas transaction fees in the UK will draw particular scrutiny as violating Consumer Duty.
Inflation Reshapes Banking
Per the IMF, global inflation will fall to 5.2% in 2024 from 8.7% in 2022 but remain above target in most countries. Individual monetary policies will see further tweaks, but ongoing high rates in most markets will constrain loan growth amid high borrowing costs and the need to offer elevated deposit rates to retain customers and liquidity.
High inflation will force all players to be very nimble on pricing and features. Longer timeline products/services will be most disrupted. Rate increases will dramatically boost net interest revenue, favoring those with large loan books, while fixed rate portfolios lose value.
Banks with higher staff costs as a percentage of operating costs will be most affected. This will resonate differently across regions.
Gen AI: Short-Term Incumbent Play
Generative AI offers tantalizing potential for human-like engagement across the value chain, which could equate to billions in cost savings for large banks when prototypes are mapped across their structures. In 2024, incumbents will rigorously test Gen AI in beta and hybrid deployments focused on improving cost structures before scaling the most proven use cases widely and rapidly to drive major cost reductions.
Rather than replacing functions, most deployments will augment existing capabilities in areas like information retrieval, advisory, communications, and fraud. However, risks will rise commensurately around reputation and regulation as deployments scale quickly. Overly aggressive applications by some incumbents and new entrants will lead to serious consequences in 2024.
Personal Finance Management Out, Decision Support In
The personalized money management application era ends with the closure of pioneering services like Mint and Money Dashboard. However, money management will be more important than ever in 2024. Rather than standalone apps, capabilities will be embedded bite-sized within banking channels as highly integrated, contextual recommendations and advice.
Banks will continue offering financial wellness programs, incorporating wider health drivers into financial health. Spending at high-risk locations will trigger mental health referrals based on merchant codes. But consumers consistently rank money management advice below rewards and offers for provider selection - they want advantages, not insights.
The emphasis will be on using enhanced data to pre-qualify customers for products, generate targeted offers/rewards, and surface better deals on existing subscriptions. The end goal will be nudging customers towards financial stability.
Cyber Skills Gap Partly Alleviated by AI
AI will help close the cyber skills gap. Rising cybercrime and increased awareness have put huge strain on cybersecurity teams. Attacks are growing more sophisticated, including AI-powered social engineering. With the persistent skills shortage, attracting and retaining talent remains challenging despite security being a top spending priority.
Organizations will be mandated to implement zero-trust capabilities by 2024. This assumes all access attempts are untrusted until identity/hygiene is validated, requiring stronger security like phishing-resistant MFA and traffic encryption. Success or failure implementing zero-trust will be clear by late 2023.
In 2024, AI will power a major breach. As attacks get more complex, AI will increasingly become a tool for developing advanced threats. But organizations will also deploy AI-based defenses more widely for detection and response. And biometrics, especially behavior analysis, will grow in importance for fraud prevention.
Hybrid Work Normalizes Again
In the pandemic's wake, many firms trumpeted permanent work from anywhere policies. But since then, most large banks have mandated minimum office days and taken steps to ensure they get them. Even tech giants like Amazon and Google now require some regular office time, driven partly by AI competitive pressures.
With layoffs and sustained economic restraint, employers have greater leverage than during peak pandemic labor shortages and recognize that some employee attrition is acceptable to regain workplace fundamentals. This is consistent across banks and tech firms, with nearly all demanding a minimum 3 days per week in office to foster bonds, culture, and operational rhythms.
Digital Bank Profitability Push
In a tougher funding climate, new digital banks face particular struggles. Despite over 450 new digital banks globally, less than 5% are profitable - even with strong customer acquisition numbers. More will fail in 2024's challenging conditions. Many current players have already shifted focus to accelerate profitability via measures like premium pricing and lending.
We'll see more premium features and transparent fee structures, often subscriptions with extra value-added services - like Revolut's new Tinder/Deliveroo subscriptions for account payments. But the path to profitability for most will center on turning on or ramping up lending. The fastest growing players will remain concentrated in specific localized markets, with business models closer to incumbent banks - lending with digital service and advisory.
BNPL Providers Diversify Offerings
With central banks tightening lending conditions, demand for some short-term credit products like BNPL and cards will stay high given cost of living constraints. But with rising rates, BNPL provider funding models like securitization and commercial paper issuance have become prohibitively expensive.
Major players will seek bank charters to ensure a steady, low-cost funding source. We'll also see more BNPL offerings for SMEs, where incumbent banks already compete. But higher funding costs at over 3% will challenge many providers already losing money. Consumer groups will continue to portray BNPL as a debt trap, and US regulators opened investigations into major players in 2023.
Call Centers: Unsurpassed Despite Chatbot Hype
Chatbots remain the least favored channel for nearly all consumers across all tasks - except 18-24 year olds in select markets like Lithuania. For everyone else, bots consistently disappoint for issue resolution compared to call centers. Thus, successful new entrants like Nubank focused on call center service quality.
Development philosophy at many digital banks states that "if the customer has to call, we've failed." They aim for the fastest possible self-service, and if that's not feasible, then assisted service for the lowest cost via bots over agents. But even new digital banks accumulate complexity quickly, complicating straight-through processing. Non-customer-facing bots can help here by connecting operations. But customer-facing bots continue to erode satisfaction.
Cryptocurrency Markets Rebound
For the first time since the $3 trillion peak in November 2021, crypto markets will enter a bull cycle in 2024 driven by macroeconomic improvements, bitcoin’s fourth halving event, and the first US spot bitcoin ETF approval. Despite severe setbacks like FTX's collapse, industry sentiment is optimistic for 2024.
As forecasted global rate cuts start in Q3 2024, excess liquidity may return, reviving interest in higher-risk assets like crypto. April 2024 will see bitcoin's fourth halving, cutting mining rewards in half and historically spurring price increases from increased scarcity. Bitcoin's gains during past market expansions have in turn boosted interest and investment across the wider crypto ecosystem.
In August 2023, a US court ruled the SEC wrongly prohibited a bitcoin ETF. This paved the way for the first spot bitcoin ETF filings from major asset managers like BlackRock.
The US will also push for clearer crypto regulation. Thus far, efforts focused on applying standard securities rules via the SEC, while other jurisdictions created tailored frameworks like the EU's MiCA regulation. With the XRP ruling, the groundwork is laid for a purpose-built US framework providing clear guidance on crypto assets and services.
Personalization Narrows Focus
Amid tighter conditions, banks will focus on boosting loyalty and forging deeper customer relationships to help achieve basic financial goals. Our research shows declining numbers say they turn to their primary bank for financial help, reducing the potential to become the 'aggregator of choice' in a crowded market.
Advanced modeling techniques will be needed to deliver predictive insights at any touchpoint through transaction analysis. Consumers expect modern, bespoke digital experiences as traditional product, provider, and industry borders disappear. Banks will identify the personalization capabilities that can unlock the most value and outcomes, then work to expand access to the associated data, integrate it, run ML algorithms on it to prove results, and report those results internally and to customers.
The ability to deliver personalization spans technology, engagement channels, and processes - a multifaceted approach with many underlying investments is required.
Autonomous Finance Fails to Materialize
IoT appears more vendor push than empirical fact in banking. IoT has clearer use cases in industries with more physical 'things' to connect, like retail and manufacturing.
However, the IoT promise in banking centers on a 'connected consumer' enabling more dynamic, real-time personalization across digital ecosystems and all facets of customer experience. Many enabling technologies already exist like wearables and smartphones, but experiences rarely achieve closed-loop automation based on gleaned insights.
We expect this to incrementally improve in 2024, partly due to economic factors. For example, demand for smart thermostats will continue growing as customers seek to better monitor and manage energy consumption amid supply chain disruptions, rising fuel prices, and climate change impacts.
The cost of living crisis may also drive demand for automated savings allocation, leveraging open banking for automated sweeping to maximize interest rates earned. Geo-located savings prompts when near high-risk spending locations offer another use case. But to collect and act on data from sensors and devices, banks must also invest in advanced analytics and automation.
Privacy Collisions With AI, Embedded Finance
The lack of fully autonomous generative AI applications is striking. Retail banks are acutely aware of the reputation and regulatory risks of an AI consuming then generating targeted outbound communications without consent. As more generative AI concepts emerge in 2024, privacy collisions will almost certainly occur, resulting in backlash.
Attempts to emulate super app economics will also raise concerns. This is the fundamental logic of mega apps in Asia freely exchanging data across integrated services to inform financial offerings. But regulations like GDPR and CCPA have specific requirements for safely and effectively sharing data across partners, presenting new risks and compliance challenges from increased data transfers.
We'll also see greater emphasis on privacy-enhancing technologies like anonymization and pseudonymization. For any bank-tech collaboration, unambiguous clarity on data control and protection will be required.
Big Data Continues Driving Credit Risk Improvements
Alternative lenders can collect and analyze a wider range and higher number of data points thanks to big data, with some assessing over 1,000 variables per applicant. More granular data has proven valuable for improving risk models, especially for underserved groups like small businesses.
Most fintech lenders focus on machine learning approaches rather than classic default modeling. ML has consistently proved strong predictive power in stationary contexts but its performance under dual structural shocks like Brexit and COVID remains debatable. However, research suggests ML predicts defaults better in crises too.
Many players entering SME banking are also providing tailored resources on pain points and growth barriers. As more SMEs transact online, offerings like e-commerce integrations, ads, and selling guidance help smooth expansion. Some banks leverage e-commerce platforms directly for more effective underwriting, monitoring, and enforcement.
Super Apps Expand Despite Antitrust Concerns
After introducing a savings account in Germany in late 2023, Klarna labeled itself the “Swiss Army knife of consumer apps.” PayPal, PayTM and others have also outlined super app ambitions. But outside Asia, the concept has failed to gain traction. With antitrust enforcement strengthening, mergers and acquisitions would be required for existing players like PayPal and Meta to expand offerings, but will face intense regulatory scrutiny.
In the US, two recent cases have underlined the government's determination to block Big Tech acquisitions, including Microsoft's attempted acquisition of Activision and efforts to force a Google ad tech divestiture. In Europe, the Digital Markets Act and Digital Services Act represent the region's growing focus on antitrust regulation of Big Tech over the past two decades.
Uncertainty around when, where and why to compete or collaborate with Big Tech persists. Partnering allows Big Tech's network strengths while keeping banks in regulated activities. However, banks risk ceding expertise in key areas like risk management, while Big Tech may use positions to disadvantage banks. Expect ongoing flip-flopping strategies between competition and collaboration in 2024.
Embedded Finance Flourishes for SMEs
Twenty years of fintech disaggregation culminates in embedded finance, enabling new forms of bundling and unbundling that will render many processes, products, services and business models obsolete. Boundaries between product, provider, and process will blur. Many business models will become outdated, especially those failing to adapt now.
In the new paradigm, risk takers (licensed banks) and relationship owners will capture disproportionate revenue shares (Big Tech, distributors). BaaS offers a pragmatic way to counter Big Tech’s network edge. However regulatory capital and interchange reforms could significantly alter the model's economics by 2024.
Embedded finance will thrive in SMEs by 2024, with players like Allica Bank, Tide, and Starling Bank leading the charge. The benefits are especially appealing for SME owners, who navigate immense complexity across personal and professional facets. Highly contextual, integrated capabilities directly embedded into daily workflows are a natural fit to manage multifaceted SME complexity.
However, many legacy institutions remain unprepared to externalize workflows and processes. Deficiencies in public API performance, security, and scalability make integration difficult since legacy APIs differ greatly from natively API-based architectures. Critical capabilities include handling exponential volume increases at lower transaction sizes, as with BNPL. Real-time processing can be particularly difficult for legacy systems when it comes to embedded payments.
Conclusion
In 2024, the banking and fintech industry will be impacted by a difficult macroeconomic climate. Funding will tighten; investors will prioritize profitability over growth, and consumers will be more cautious.
Incumbents will capitalize on opportunities through acquisitions and fast-follower strategies aimed at their existing customer bases. New entrants in untenable niches will face pressure to refocus on core offerings and sustainable economics.
Technologies like generative AI and advanced analytics will create opportunities to improve efficiency, personalization, and risk management. However, there are risks involved with aggressive deployment that must be carefully navigated, particularly related to privacy and security concerns.
Regulations will tighten in areas like fees and data privacy. Inflation and rate hikes will require agility in pricing, products, and managing margins. The merits of new offerings like embedded finance will be proven in delivering value to time-constrained SMEs.
Banks will balance tactical and strategic imperatives, maintaining day-to-day operations while striving to digitally transform. Significant investments will be required to modernize while managing complex hybrid technology footprints and evolving consumer expectations.
Success is determined by foresight, discipline, and execution. Leaders need to prioritize building strong and adaptable organizations that prioritize customer needs and sustainable outcomes. By using technology and partnerships wisely, they can emerge stronger in 2024. The future looks promising for both established companies, new players, and those willing to rethink financial services.
Share your thoughts. Will new technology drown banks in regulations or shower them with profits?