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“The Future of Banking in Hong Kong - the Impact and
Implications of Internet Banking”
David CarseDeputy Chief Executive
Hong Kong Monetary Authority14 June 2000
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The “Age of the Internet”
Ignore the hype about dot.com companies
The internet is here to stay and will revolutionize banking
Banks that neglect the internet do so at their peril
How to handle the challenge posed by the internet and technology in general is the biggest strategic issue in banking
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The potential in Hong Kong
Internet banking will succeed in Hong Kong because there is the supply, the demand and the infrastructure
Penetration rates for electronic delivery channels are among the highest in the world:
» over 50% of households have PCs» 80% of households have access to broadband» 55% of the population use mobile phones» about 30% of the population are internet users
Electronic Transactions Ordinance provides legal basis for electronic commerce
» recognition of digital signatures and certification authorities
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The current situation
So far about 14 banks have introduced transactional internet banking services either directly or using the JETCO virtual ATM service
More are planning to do so in the near future Main focus at present is on the consumer
(B2C), including on-line stock broking But a number of banks are also exploring
business-to-business opportunities (B2B), including bill presentment, payment services and trade finance
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The economics of the internet
The internet offers banks the chance to cut costs and to increase revenue through more effective marketing and cross selling
But cost savings are expected to be minimal over the next few years
Spending will increase on front and back-end IT and associated expenses such as advertising
» though the operating expenses seem manageable for the time being - average of about 1.5% of annual total
Revenue gains from cross-selling are uncertain Margins will come under pressure from greater
price transparency
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The strategic challenge for the banks
Despite the uncertain benefits over the next few years, the banks have no alternative except to embrace the internet
Internet capability will be necessary to provide credibility (“respect rather than revenue”) and to fend off new, low-cost entrants:
» virtual banks» e-lenders» portals and aggregators
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The nature of the dilemma
“For many institutions the Internet is a double bind. Embrace it, and you may still find yourself losing business, or at least seeing profit margins dwindle. But ignoring it could be terminal.”
The Economist
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The strategic opportunities
Despite the threats, banks are not defenceless» multi-channel distribution (including via revamped
branches) seems the best model at present» the virtual bank model is unproven» e-lenders need to obtain funding» established customer base and brands are important
– “online banking from a company that’s been around longer than a week” (American Express)
But the banks need to get it right» must be greater focus on quality of service (ease of
access, range of products, degree of personalization)» must migrate customers to low-cost channel» must integrate front and back-end systems
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Security risks
Although banks face all sorts of security risks day to day, the internet poses new challenges because of its open nature
Security is the biggest concern among customers and therefore the biggest barrier to customer acceptance of internet banking
The technology does exist to provide protection but it requires continuous review and upgrading
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Reputational and legal risk
Successful hacking of a system or system breakdown may cause bad publicity and undermine customers’ confidence in internet banking even if they suffer no loss
If customers do suffer loss it is necessary to determine how this should be apportioned between them and the bank:
» terms and conditions should be clear and fair» customers should be warned of their responsibilities
on security» customers should not be responsible for direct losses
due to security breaches etc unless they have acted negligently or fraudulently
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Banking risks
The internet may heighten the risks inherent in conventional banking, eg:
» liquidity risk may increase if depositor loyalty is reduced and/or it becomes easier for depositors to transfer deposits at the touch of a button (the “virtual” run)
» credit risk may increase if the relationship with the customer becomes more distant and transitory, or if competitive pressures lower credit standards
However, the enhanced ability to gather and interpret customer data can reduce these risks
» reinforces the need for banks to enhance their management of customer data
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The role of the HKMA
The HKMA’s role as regulator is to help minimize the risks of internet banking while not standing in the way of progress
This requires us to upgrade our own skills, eg by hiring examiners with specialist IT knowledge
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The regulatory framework
Existing banks seeking to offer an internet banking service should consult with HKMA in advance
» security is a major supervisory issue Banks should also keep us in touch with plans
for internet joint ventures - need our consent for investments of 5% or more of capital base
New companies wishing to take deposits in Hong Kong (including virtual banks) require authorization under the Banking Ordinance
» note that the ability to set up a new local bank from scratch is limited under the current law
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The regulatory framework (2)
Issuers of smart cards also require authorization under the Banking Ordinance
E-lenders, portals and aggregators need HKMA’s consent to use a “banking name”
Offshore internet banks should comply with rules on advertisements directed at persons in Hong Kong
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Virtual banks Some local banks have already indicated
their intention to set up separate virtual banks
HKMA has recently issued a Guideline on VBs
» objective is to accommodate VBs without disruption to the system
Underlying theme is to remind sponsors that VBs must have substance rather than simply be concepts
VBs are subject to the same risks as conventional banks and should be subject to the same prudential criteria
Don’t be blinded by the technology!
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Key features of our Guideline
VBs must fully address the various risks to which they are exposed (including security)
» need for independent assessment of security controls Appropriate balance to be struck between
acquisition of market share and earning a reasonable return
Local VB cannot be newly established except through conversion of existing local AI
Local VB should be at least 50% owned by a well established bank
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Offshore internet banks
One of the features of the internet is that it removes physical boundaries
Will make it easier for overseas banks to use the internet to attract offshore deposits from Hong Kong residents
In doing so, they should comply with our advertising rules but,
» how to enforce? » what is the legal position of ISPs who transmit advertisements?
Cross-border cooperation with other regulators will become more important
Meanwhile, depositors should beware!
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Conclusions
Internet banking is clearly the way forward for the banking industry and the banks in Hong Kong are well placed to capitalize upon this
However, the task of managing the change will not be an easy one and the economic benefits, in the short-term at least, are uncertain
It will be another factor in increasing the intensity of competition in Hong Kong and it may help to accelerate the industry consolidation which must inevitably come