Dear Reader,

We are pleased to send you the second edition of the Financial Services Dialogue, the interactive window of the Centre for Financial Services of the Vlerick Business School.

We hope you will find the articles informative, thought provoking and contributing to a relevant and insightful perspective on the challenges the financial services industry is facing.  We aim to achieve this through providing a complementary and sometimes a contrasting academic, regulatory and market practitioner angle. The articles cover a broad range of subjects. Some being more strategic, others more technical.  

The financial services industry continues to be impacted by external events with new countries getting into rough waters and others having difficulty to get out of turbulence. The response from the authorities is still too much reactive. Sometimes they make the already difficult economic conditions even worse by insufficiently thought through communication or by allowing measures, which are possibly appropriate for specific situations, to spill over as bad ideas to other European countries. This undermines even further the already fragile confidence  of investors and consumers and makes it of course even more complicated for the financial industry in restoring stability and getting back to sustainable growth.  The article “Dangerous experiments of Europe” of Prof Dr Freddy Van den Spiegel looks at the broader implications of some of these, what the author calls “panic” measures extinguishing one fire but creating the risk of other fires. The article makes the point for the urgent need of a credible and comprehensive master plan to tackle the problems in a more pro-active effective manner. Last year, a discussion forum was organised by AT Kearney together with the Vlerick Business School and CEPS, of which a synopsis is attached (“Regulatory Fatigue in Financial Services”). At that event, speakers debated about the effectiveness of regulations, described the relationship between regulators and industry participants as antagonistic at best and discussed ways forward.

Several studies demonstrate that post-crisis, banks after a short period of recovery around 2010 struggle again to achieve profitability levels in line with their cost of capital. The profitability as highlighted in the McKinsey “Value Creation in European Banking” and the KPMG/Vlerick studies , is not uniform across all business lines but is particularly (not surprisingly) under pressure in corporate and investment banking. The macro-economic environment is of course not a help, however such environment is likely to remain a challenge for a while. The regulatory measures already imposed or considered to be implemented are by definition focussed on past and current events. Banks however, despite this difficult business and regulatory environment, don’t have any other choice than to focus on their strategic challenges. They need to do this by assessing their strategic options, by reviewing and where opportune to revise their business model, look for more competitive differentiation to achieve sustainable growth and better client alignment. Their strategic positioning is of course first the responsibility of the banks (see also article from Prof Dr Ingo Walter “Thoughts on Reputational Risk in Banking”), however, time may have come for authorities and banks to move into a more collaborative spirit with the objective to put more emphasis at identifying and setting positive conditions for growth with more breathing space for financial institutions, within of course their economic role.

Insurance companies have not been in the midst of the financial crisis such as the banks have been.  Given the legal framework (and the return commitments) within which they are obliged to operate, the low interest rate environment is likely to be  a major challenge particularly for new business going forward. In addition, as witnessed in the attached interview with Bart De Smet (CEO  Ageas) and Antonio Cano (CEO AG Insurance) “A View on the Insurance Business – Interview”, the delay of and the uncertainty around Solvency II ( and as a result of such delay diverging lobbying from the industry, European and national interests) create the risk of  regulations going  beyond the core issues it wants to address and make it more difficult for insurance companies to reposition themselves. Business models of insurance companies indeed need to be revisited because of economic and regulatory changes, as well as to address opportunities such as those being created from gaps left by the banks because of Basle III impact. Long term and infrastructure projects is an example where it is becoming too expensive for banks to cover given the capital impact. It might therefore be worthwhile to look at ways banks and insurance companies could consider collaboration in order to best deal with the constraints imposed by new regulations. In the interest of the client and the economic needs they could look at how they can best leverage each other’s expertise and competence.

Innovation will prove to be an important lever for financial institutions to reposition themselves and to align them to client expectations. Except in financial products, financial institutions don’t have a tradition in innovation and can certainly learn from other sectors how to better allow innovation ideas to surface in the organisation, how to be more responsive to trends and client expectations using technology and learning from e.g. social media, and how to transfer ideas in sustainable competitive advantage and differentiation. The Accenture Award and the review done by Prof Dr Walter Van Dyck  “Innovation in Financial Services – Report from the Accenture Financial Services Innovation Awards 2013”  shows that there is innovation happening in the financial sector (but in my view still too much hidden in the organisation). The review also shows that such projects are still dominantly in the domain of optimization whereas it would be of more strategic value if there were more ideas and projects in the domain of newly defined eco-systems, what Walter calls “Creative combinations”. Accepting  that the projects submitted for the award may not be a sufficient sample of representativeness  for the sector, more research in this domain and learning from other sectors   might help to identify and remove barriers and as such also be an effective contributor to the transformation of financial institutions.  

The necessary transformation of the financial industry for sustainable return on capital and client alignment as shown in the McKinsey study spans a broad spectrum of changes necessary for a revised business model to operate efficiently and effectively through optimal regulatory leverage, product and service innovation and cost and capital effectiveness. Unfortunately, financial institutions don’t excel in terms of leveraging technology to achieve competitive advantage. However, new technologies , are increasingly becoming an important lever . The Accenture Award shows that there are positive signs of innovation certainly in the domain of digital distribution, nevertheless more initiatives  with more strategic value will be needed. The SAS article  “Challenges in the Banking and Insurance Industry and the Role of Technology” shows that technology should be more of a strategic lever to take advantage of e.g. new regulations. At least those that are designed for a more risk controlled and sustainable financial environment should be leveraged to do better than the competition in terms of capital management, liquidity management and client alignment.  This is even more true given the open economy within which Belgian institutions operate and given the proximity of European authorities, creating the opportunity to be an early adopter of relevant new regulations. This is not only true for the banking industry with Basle III but also (and maybe even more) for the insurance industry with the forthcoming Solvency II  as the insurance companies don’t (yet) have a strong track record in using technology effectively.  

The financial crisis has demonstrated the shortfalls of risk models. The article “Thinking Coherently for Everyone” looks at VaR and lists a number of situations where VaR would be incoherent as a risk measure and even dangerous if the information is not used coherently.

Financial institutions and federations focus increasingly on their social responsibility and on actions to restore consumer confidence as demonstrated by among others the Febelfin report “Vers un Secteur Financier Durable et Vital (la banque au service de la société)” . The attached article “Financial Efficiency and Social Impact of Microfinance Institutions Using Self-Organizing Maps” analyses to what extent criticism from microfinance policy makers is justified that the financial self-sustainability has pushed the business away from its original social objective.

We wish you an interesting reading. We would appreciate receiving feedback and views as well as new angles and perspectives  on the different contributions. Ideas you may have for other topics you would find interesting are of course also welcome.

Ignace R. Combes
Centre for Financial Services


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