The early signs from the current recession suggest that a similar pattern is developing. In mid-2009, margins began widening as nonbank and foreign competitors exited markets and the remaining banks used this opportunity to reprice lending, especially in their loans to businesses. However, by September 2009, it was clear that this would provide only temporary relief. Competition is increasing as stronger players use this opportunity to reposition and enhance their market share, and in the medium term, securitization and nonbank lenders will reemerge, driving renewed competition and, with it, continued margin compression.
Building a Better Bank
These developments do not change the core capabilities required for banking success, but they require that those capabilities be retooled to better respond to the demands of the post-crisis environment. (See Exhibit 3.) Distinct improvements will be required for banks in a variety of domains.
Stakeholder management and investor relations. The need to be more proactive in dealing with governments and to provide more transparent and relevant information to others will require improvements in stakeholder and investor relations management capabilities. Banks will need to explain how they can fulfill the fundamental social roles of the banking sector; they will need to engage in the debate over optimal regulation, and in its development, to help establish a robust and sustainable industry.
To do this, banks will need to show that they understand the needs and objectives of public officials, particularly the need for systemic stability. They will be called on to help achieve those goals and to demonstrate the progress they have made toward restoring confidence and stability, particularly in the areas of compensation and risk management. The recent and very public efforts of some banks, such as Commonwealth Bank of Australia and Deutsche Bank in Germany, to cut executive salaries and reduce exception fees (consumer charges such as overdraft and late payment fees) represent a good example of this approach.
Performance management. Regardless of the regulation and government ownership that arises from the crisis, banks must be prepared to respond to demands for much greater transparency from all their stakeholders — including investors, governments, customers, and communities. No longer can metrics be focused solely on short-term financials, such as profit growth, cost-to-income performance, and dividend payout ratios. They must expand to include longer-term measures that offer insight into funding durations, loan-to-deposit ratios, and capital management through the full course of an economic cycle. Banks will be asked to show their contribution to the stability of the larger financial system, reporting in greater detail on credit liquidity, the balance of assets and liabilities, and the safety of savings. And they will need to demonstrate strong ongoing institutional financial performance.
Customer management. Bankers have been reminded that their core asset is their customer base, both individual customers and businesses. Like successful businesses in most other industries, the leading banks are sharpening their capability for capturing customer information in a timely manner. For banks, this means analyzing their customers’ product holdings, cash flows, behaviors, and personal circumstances. Depth of relationship will be more important than breadth. It will be more valuable for a bank to have an 80 percent wallet share of 1 million customers than a 10 percent share of 8 million customers. Greater wallet share permits greater insight into buying patterns, credit risk, and loyalty, enabling a stronger, more profitable lifelong customer relationship. For their part, customers will find that scarce credit lines are more accessible when they concentrate their banking activities among fewer providers.
Risk management. Both the effectiveness and the efficiency of risk processes must be improved. To enhance effectiveness, banks must price accurately for risk and make full use of the improved information flow that results from retaining more direct ownership of their assets. They will need to regularly review risk management approaches within the different parts of their portfolios, and to complement external ratings (by agencies such as Moody’s and Standard & Poor’s) with their own more robust internal analyses. This will yield other benefits: It will broaden the base of information available to banks, and it will minimize their reliance on the narrow and potentially skewed analysis that resides at centralized credit bureaus.