Open banking is a term to describe a business model that includes the use of application programming interfaces (APIs) to share financial data between different parties. This includes data shared between financial services providers (banks, insurance companies, retailers, and the like), between providers and their customers, or between individuals. It isn’t a particular technology or solution but is a new way to offer a greater choice of products and services to customers. This new approach is changing the business model of banks, who have depended on non-digital processes, some of which were established hundreds of years ago.
It’s important to point out that the “open” in open banking does not mean that there are no structures or protections in place; rather, it’s a way to describe the open exchange of digital banking information with the customer’s consent.
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Customers want better solutions from their financial services providers. Traditional models are becoming less relevant in today’s cloud-based digital banking landscape. Open banking helps to streamline digital transactions, strengthens online financial data security, and has the potential to change the way people interact with financial institutions.
Open banking also presents a number of new opportunities for banks and financial institutions by opening up more revenue streams. New products and services can be personalized for the individual, which can enhance the relationship between the bank and the customer.
Open banking (also called connected banking) is already widely in practice in many countries where banks and other firms work with each other to create new products and services, such as paying for goods with a digital, or e-wallet. In today’s digital economy, consumers are demanding better products and services from financial institutions and many banks have been inspired to embrace this new model to stay competitive. In the European Union (EU), the Second Payment Services Directive (PSD2) requires banks to give consumers the ability to share their own financial data with third-party providers. Several countries are quickly following suit. In the US, the Electronic Payments Association (NACHA) has an open banking framework in place; however, regulations are not yet established. Whether banks are mandated or voluntarily adopting open banking the benefits are the same—creating new ways to provide financial services to customers.
Primarily, open banking works through the use of APIs. The core function of APIs is to allow software programs to exchange data with other programs. In this case, one bank can exchange data directly with another bank, even when they use different software programs.
Some personal financial management apps today use what’s commonly known as screen scraping—essentially reading and copying text data directly from a website. These apps use data to perform tasks (making payments, managing accounts, etc.) on the customer’s behalf. While this can do the job, it’s inefficient and fraught with complications, not the least of which is the requirement for the customer to give the passwords for all of their accounts to the management app. This method also opens all of the customer’s data—purchase history, balances, salary, etc.—to the company that owns the app, even when that information is not necessary for the given task. With new data breaches being reported regularly, a heightened awareness of data privacy is forcing the financial services industry to rethink how they interact with their customers.
The APIs in open banking work to solve this problem by establishing a direct connection between providers that doesn’t require the customer to share their passwords. It also helps to bolster security by allowing the customer to determine exactly what information is shared and with whom.
Traditional banking is unlikely to go away anytime soon. However, open banking is being adopted at such a pace that the traditional model will become less prominent over the next several years. It’s not enough for established banks to just move their existing products and services to the digital space; they have to rethink their business model to compete against digital firms who already have a foothold in the open banking industry.
Customers want more power in terms of where and how they do their business. It’s in the best interest of the financial industry to embrace open banking as the core of their business model. A more collaborative, open environment that fosters innovation will become central to their success.
Because we believe that banking can't be truly open without open source. Red Hat’s open banking solution can help financial services companies create a foundation that can support open banking while keeping legacy systems functioning and establish a framework to support future changes.
Transforming technology, processes, and culture is at the heart of open banking, which relies on innovation and collaboration. Together, we can help you build a foundation for your open banking strategy.