Digitisation of consumer finance is getting closer to disrupting the resilience of traditional players

The customer experience with traditional high street banks and card issuers feels more cumbersome or expensive or indeed both with each passing day.

Whether this is because of credit card fees or because of traditional banks' clunky efforts to fight growing cases of fraud – efforts that sometimes end up causing pain for their end consumers - the model needs updating if it is to survive.

Perhaps Gen Z and Generation Alpha find it hard to empathise, but as a millennial, my loyalty still lies with traditional banking and big-name credit cards. Time to switch to Monzo?

Case in point: I recently tried to order a medicated skin product through my debit card, only to be told that my bank does not allow card payments for "online pharmaceutical sales". Mind you, this was not through a website, but a medical clinic's online portal.

Whilst credit cards are better on this score and may make for smoother transactions than debit cards, the fees attached to them are less than ideal.

And it seems I'm not the only one feeling the pain. Data suggests that the digital finance and fintech boom is on the cusp of disrupting the traditional banks and cards model. According to The Economist, in 2019 crypto firms and fintechs accounted for around 9 per cent of the global market capitalisation of large listed and private payment firms, including banks and card networks. By the third quarter of 2021, their piece of the pie had almost doubled to 15 per cent.

However, it has since fallen back to around 10 per cent. Banks and card networks have proved resilient.

Part of the reason is the interest rate "spread" captured by banks by virtue of the difference between their lending and deposit rates.

In addition, banks have been able to adopt technology quicker than newer players could acquire customers. Not only that, but banks also manage to retain customers through the lure of coveted reward points that can be spent on myriad things including shopping, hotels and air miles.

Retailers also accept the fees they have to pay card issuers as credit cards encourage consumers to spend more per transaction, with the bill due later in the month.

Not only are smaller retailers at a disadvantage given the high fees, but poorer customers who may not even be using credit cards bear the brunt too – as some retailers pass on the fees universally through increased retail prices.

However, this resilience may soon find its limits. The COVID-19 pandemic hastened the digital wave of disruption and encouraged unprecedented numbers of customers of various generational and societal segments to adopt a more tech-savvy approach. Boston Consulting Group, a management consultancy, found that between February and June 2020, mobile banking usage grew by 34 per cent, while banking at branches declined by 12 per cent.

The clear consensus is that end-consumers will not go back to their pre-covid habits. In addition, new financial services products are putting pressure on traditional banks.

Ernst and Young (EY), a management consultancy, points out that Point of Sale (POS) financing is one such innovation. This "Buy Now, Pay Later" (BNPL) consumer lending product appeals to merchants and buyers alike. It lifts merchant sales whilst allowing consumers to spend more flexibly.

Klarna, one of the most well-known providers of BNPL services, offers various options. These include "Pay in 4", that is, four equal monthly instalments but also more traditional longer-term financing with a term ranging from six months to three years.

EY estimates that POS financing is expected to grow at a compound annual growth rate of 28 per cent through 2023. POS's popularity is negatively affecting transaction volumes for card processors, issuers and networks. Many are attempting to collaborate with other providers to offer similar solutions.

In another challenge to traditional card providers, governments have turned to regulation capping card fees. In 2015 Europe capped interchange fees for credit cards at 0.3 per cent – that does not account for all fees, however.

Another solution is direct payment options by large retailers and Big Tech. For instance, US retailer Target's RedCard offers 5 per cent discounts to repeat customers. Target takes the payment directly from the customer's bank account, completely avoiding traditional fees. According to a report by The Economist, RedCard is responsible for 20 per cent of Target's annual GBP 80 billion revenue.

Similarly, Apple, whose credit card already has 7 million users, announced in March that it was joining the buy now pay later business. In April, Apple joined forces with Goldman Sachs to offer a 4 per cent interest savings account.

Three-quarters of iPhone users also use Apple Wallet.

Given the massive user base of the iPhone and Whatsapp, the brand is poised to become a global payments giant.

Traditional banks are wisening up to the potential threat. In May, it was reported that digital payments giant, Nexi, was in the running to work with leading European banks UniCredit and BancoBPM – to power their payments and retail cards businesses.

Nexi uses modular services such as processing, card management, dispute resolution and security services in a more agile way than the legacy systems of traditional banks.

EY has highlighted how traditional card platforms must modernise through this kind of offering. It specifically mentions microservices architecture – which structures an application as a collection of services that are organised around business capabilities and are independently deployable.

McKinsey, another management consultancy, acknowledges that traditional banks face genuine hurdles, such as in transitioning to better credit-decisions models, which would target the considerable losses they face in the form of fraud. At the same time, it is clear in its conclusion that without being agile enough to face the digital age, banks will not survive.

In other parts of the world, digital platforms are allowing for burgeoning account-to-account transfers. UPI in India allows transfers via fintech apps such as Google Pay.

It has grown from around 17 per cent of 31 billion digital transactions in 2019 to 52 per cent of 88.4 billion transactions in 2022.

Brazil's Pix, which was inspired by UPI, is also taking off. It launched in 2020 to facilitate bank-to-bank transfers and now accounts for around 30 per cent of Brazil's electronic payments.