Born out of social innovation in the 19th century, Europe's co-operative banking model is now struggling to stay relevant in an increasingly globalised, technology-driven and heavily regulated banking market. Silvia Pavoni looks into ways the model can stay afloat.
At the most recent biannual gathering of the European Association of Co-operative Banks (EACB) in March, the big talk – and main concern – remained centred around regulation. At the meeting, Jonathan Hill, the European Commission’s commissioner for financial stability, financial services and capital markets union, stated that policy-makers are aware of the peculiarities of co-operative lenders and the role that they play in Europe’s economy, and that because of this better regulation would be tailored towards such entities.
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Many co-operatives remain sceptical, however, and are concerned about how regulation designed for large, internationally active banks will impact upon their businesses.
Testing the hypothesis
Regulation is not the only threat facing co-operatives, however. Changing client behaviour and competition from technology firms both have the potential to unsettle co-operatives to an extent much greater than tougher banking rules. What is more, this threat is magnified by the fact that very few inside the industry seem to have acknowledged it, and even fewer are taking steps to guard against it.
Speaking at the EACB’s conference, the chief executive of Canadian co-operative Desjardins Group, Monique Leroux, detailed the lender's top priorities for the future. “One of my biggest concerns right now is innovation," she said. "How do we compete with the Apples and Googles? How do we provide multi-channel services? How do we keep our traditional products profitable in a low-interest-rate environment?”
When she asked the mostly European audience if these concerns were shared, only a few hands went up, something that Andrea Moltrasio, chairman of Italian co-operative UBI Banca and vice-chairman of the EACB, described as "very worrying". “It will devastate [the co-operative model]; we will have a very different type of job in the future," he says.
The origins of the co-operative banking model can be traced back to the 19th century, when the structure was established in response to the credit vacuum left by banks unable to reach rural communities. The member-client structure essentially allows members of a community to lend to each other, basing credit decisions on the assumption that close relationships with borrowers and a knowledge of the local economy would minimise insolvency risks.
Now, evolving relationships between banks and customers, as well as new social dynamics, are breaking the foundations of this hypothesis.
Trickles of innovation
Tom Dahlström, head of strategic planning at OP Financial Group, a Finnish co-operative group, says that physical proximity has lost much of its importance in a world where most transactions are carried out on the internet or via mobile channels. OP has gathered some eye-opening evidence on this.
“As far as we can gather, our average customer visits the branch roughly once every two years," says Mr Dahlström. "Even though we have frequent digital touch points, the relationship with our customers has changed. There is no longer the same intensity [or] knowledge of what goes on all the time. And even when the customer does come to the branch, often it is for unproductive reasons – our processes required it, or the customer simply wants to perform a quick transaction.”
This prompted OP to develop Pivo, its mobile wallet app that has become widely used in the local market and has recently added contactless payments to its capabilities.
In Italy, in response to the same trend, UBI Banca has created a peer-to-peer payments system to allow the transfer of money via customers’ mobile phones. Desjardins is also researching new ways to relate to customers and provide new products and services. All three institutions say that the search for talent from the tech sector is high on their agenda.
What seems to differentiate technologically minded co-operatives from their less tech-savvy counterparts, says Mr Dahlström, is the structure of the co-operative itself, and whether the central office has a strong enough mandate, as well as the budget, to take most strategy decisions related to innovation without the need to present plans to each individual bank that is part of the group, in order to get their buy-in. “Perhaps, co-operative groups that are more fragmented, that haven’t pulled all the resources in the same way, and have a dispersed agenda, find it more difficult to [innovate] because the individual retail banks don’t necessarily see the disruption [of technological innovation],” he says.
The risk equation
The increasing sophistication with which credit risk is being assessed has created another dilemma for co-operatives. “The methodology of analysing risk, mainly credit risk, was not as sophisticated in the past – in the 1980s, for example – as it is today. This requires capabilities that go beyond the personal relationship,” says Mr Moltrasio.
“The [importance of the] risk profession has to be well understood by the board of directors. Once, [risk analysis] could simply be left to common sense, now it requires statistical analysis. Co-operatives need to let in the right professional figures, alongside their members, to manage the risk function.”
Appropriately managing risk is at the heart of the new European banking rules on capital requirements and data reporting that are being so vehemently criticised by many co-operatives, as well as the small businesses that they serve. Speaking at the EACB gathering, Gerhard Hofmann, a board member of BVR, Germany’s association of co-operative banks, made his opposition to the rules clear. So too did Peter Faross, secretary-general of UEAPME, the European association of crafts, small and medium-sized enterprises, who said: "Banking regulation should look at small businesses first; large banks should be the exception."
Despite policy-makers’ new commitments to co-operatives, many within the sector judge the current banking rules to be out of sync with the reality of small banking groups with close ties to the local economy. A further complaint is that existing rules do not do enough to regulate non-banks. "Regulators should look at [technology firms providing financial services]. Too-heavy regulation on traditional providers and not much on others would create disadvantage for traditional lenders. Excessive regulation is almost the best ally to shadow banking,” says Mr Moltrasio.
Nightmare scenario
Mr Dahlström has a more optimistic view of the matter. While he agrees that regulatory oversight should be extended to all financial services providers, whether banks or not, he notes that heavy regulation creates a barrier to entry that, unintentionally, deters newcomers and protects existing players.
This is particularly valid in Europe, where rules can vary quite considerably between national markets. “Regulation is a bit of a pain and bankers don’t like it sometimes. At the same time, it protects us, because nobody wants to invest in an army of lawyers to get to know 30 different banking markets and how they work,” says Mr Dahlström.
He further points out that technology firms active in the payments market have very different aims to banks and, ultimately, pose a threat only to this specific line of businesses, rather than to the banking entity as a whole. “Most people who build start-ups don’t intend to become bankers or take over the banking industry,” he says. “Facebook and Google are not interested in banking for the reason we are; they’re interested in payments because of the high-frequency data that they get through them, and the value they can derive from it, by combining it with other data, for example, to sell their services to merchants.”
The biggest threat to co-operative banks, according to Mr Dahlström, is from within the banking community. The increased weight of regulation, evolving nature of the customer-bank relationship and technological innovation, mean that larger banks could cause the most problems for co-operative banks. They have the right size to support costs related to new regulation, well-oiled risk functions and the ability to buy technology from those inventive start-ups, according to Mr Dahlström.
“It may be that major disruption will in fact come from the big incumbents – existing large banks that will use technological innovation to become global or at least larger regional players because they can then combine knowledge on banking, regulation and processes, with new technological capabilities – that could indeed be [the co-ops'] worst nightmare," he says.
