The discussion of the Basel disintermediated bank scenario is a discourse that encapsulates a
plethora of concepts which need to be dissected meticulously for enhanced understanding and
comprehension of the subject matter. This write up seeks to ultra-carefully scrutinize the subject
matter of the Basel disintermediated bank scenario, it’s impact on incumbent banks’ business
models and areas of existing product risk associated with the scenario. Key to this discussion are
exhaustive definitions of financial technology and innovation (Fintech); and the concept of
disintermediation. The Basel’s disintermediated bank scenario is an offspring of an expose on the
impacts of financial technology and innovation by the Basel Committee on Bank Supervision. In
accordance to the Financial Stability Board (FSB), “Financial technology (Fintech) refers to
technologically-enabled financial innovation that could result in new business models,
applications, processes, or products with an associated material effect on financial markets and
institutions and the provision of financial services” (Davila et. al 2007). Financial technology
(Fintech) is used to describe new tech that seeks to improve and automate the delivery and use of
financial services, (www.investopedia.com).
The term financial technology has not yet been exhaustively defined by most scholars as it is an
emerging topic and a broad cross-disciplinary subject that combines Finance, Technology
Management and Innovation Management. One of the enthralling definitions is by K Leong
(2018) which says, “Fintech is any innovative idea that improves financial service processes by
proposing technology solutions according to different business situations, while the ideas could
also lead to new business models or even new businesses”. Interlinked to Fintech is the concept
of disintermediation which is defined as a move from the intermediated provision of financial
services via banks to direct financial relations between borrowers and lenders thereby
eliminating the need for financial intermediaries (Chetty 2011). Bank disintermediation does not
necessarily imply an overall decrease in financial intermediation however can imply that the role
of banks shifts to the provision of financial services on a fee basis rather than the traditional
interest earning basis (Pati and Shome, 2006).
In a bid to assess the impact of financial technology and innovation on banking the Basel
Committee on Banking Supervision proposed a multi-thronged scenario approach composed of
five scenarios namely the new bank scenario, the better bank scenario, the distributed bank
scenario, the relegated bank scenario and the disintermediated scenario. Of interest in this
particular assignment is the Disintermediated Bank Scenario (Dean & Giglierano 2018) N.
According to Leong (2018) the disintermediated bank scenario entails that incumbent or existing
banks are no longer a significant player in the financial system because the need for balance
sheet intermediation or for a trusted third party is removed. Banks are displaced from customer
financial transactions by more agile platforms and technologies, which ensure a direct matching
of final consumers depending on their financial needs (borrowing, making a payment, raising
capital etc). In this scenario, customers may have a more direct say in choosing the services and
the provider, rather than sourcing such services via an intermediary bank (Chishti and
Barberis, 2016). However, they also may assume more direct responsibility in transactions,
increasing the risks they are exposed to. In the realm of peer-to-peer (P2P) lending for instance,
the individual customers could be deemed to be the lenders (who potentially take on credit risk)
and the borrowers (who may face increased conduct risk from potentially unregulated lenders
and may lack financial advice or support in case of financial distress); (Ernst and Young, 2014).
An example of this scenario is the emergence of crypto-currencies such as Bitcoin which use
public Distributed Ledger Transactions (DLT) such as blockchain technologies without the
involvement of incumbent banks.
For a successful detailed analysis of the impact of the disintermediated bank scenario two
questions are crucial which are (i) which player leads the customer relationship, that is the user
experience and interface, and (ii) which player eventually provides the services and bears the
risk. Further question to take into consideration relates to potential changes in banks’ business
models and the various roles traditional banks and other fintech companies may play in either
owning the customer relationship or supporting banking activities as service providers. The latter
question instead, involves who will ultimately be responsible for the tradtional core banking
services, such as lending, managing risk and offering payment and investment services (Famma
& French 2019). Fintech developments could lead to more competition for incumbent banks
from non-traditional players in an already challenging market environment, which could impact
the sustainability of banks’ earnings (BCBS, 2018). The emergence of Fintech under the
disintermediated bank scenario could also put pressure on banks to improve digital interfaces to
better meet customer expectations. Incumbent banks may find it increasingly difficult to respond
quickly and competitively to emerging technologies so as to keep control of customer
relationships. The proliferation of innovative products and services may increase operational
complexity and risks.
Disintermediation is often associated with an increased burden on the company using the
strategy. Since it removes an intermediary from the process, the company may have to dedicate
more internal resources to cover the services that were previously handled elsewhere. When
associated with issuing bonds, the company will have to dedicate more time and personnel to the
management of the funds (The Economist 2015). In regard to wholesaling, this could include
shipping products directly to consumers instead of just supplying retail outlets. In terms of
investing, disintermediation puts a heavier burden on investors, as they are personally
responsible for all actions and decisions. This can lead to higher levels of research being
necessary on their part, as well as additional time and dedication to complete any transactions.
Some investors may find these aspects more challenging, depending on the nature of their
investments and personal strategy.
Key risks associated with the emergence of fintech include strategic risk, operational risk, cyberrisk and compliance risk. These risks were identified for both incumbent banks and new fintech
entrants into the financial industry (PwC 2016). Strategic risk has to do with the decisions and
plans banks would make in reponse the emergence of fintech especially in line with
organisational goals. Spurred by competitive and peer pressures, banks may seek to introduce or
expand financial technology and innovation without thorough and adequate cost-benefit analysis
leading to losses or decrease in profitability. The organization structure and resources may not
have the skills to manage financial technology and innovation. Moreover the profitability of
individual banks is put at risk by the swift transition of bank services to fintech companies; if
new players are capable of applying innovations efficiently and provide customers with cheaper
and more tailored services, then incumbent financial institutions could lose a considerable slice
of their market share along with part of their profit margin (Sorkin 2016; Wood & Buchanen
2015).
Poor financial technology planning and investment decisions can increase a financial
institution’s strategic risk. Early adopters of new fintech services can establish themselves as
innovators who anticipate the needs of their customers, but may do so by incurring higher costs
and increased complexity in their operations (Blitz et. al 2016). Conversely, late adopters may be
able to avoid the higher expense and added complexity, but do so at the risk of not meeting
customer demand for additional products and services. In managing the strategic risk associated
with fintech services, financial institutions could develop clearly defined fintech objectives by
which the institution can evaluate the success of its fintech strategy. The emergence of financial
technology and innovation is on its own accompanied with a new set of regulations which may
be steep for incumbent banks to meet. The increasing interaction between banks and fintech
companies through the exchange of products and services may result in a lack of transparency in
the transactions processing and who holds compliance responsibilities (Kauffman et. Al 2015).
Such situation could lead to an increased conduct risk for incumbent players, since they could be
held liable for the fintech partners misconducts if consumers encounter losses or regulatory
requirements are not reached. The surging use of big data to provide better financial services and
products could lead to compliance risk concerning data privacy rules, as the fierce contention for
owning the customer relationship may lead to inappropriate exploitation of personal data
(Juengerkes 2016). As more parties are included in the supplying of financial services and
products, ambiguities related to the accountability of the players involved could spread out,
increasing the probability of operational mishaps. Therefore, financial institutions will face the
challenge of monitoring and managing outsourced activities conducted by third parties.
Moreover, incumbents will have to adjust their operational control processes in order to assure
the safety of both the bank and its customers (Afuah and Utterback 1997).
The Basel Committee on Banking Supervision defines operational risk “as the risk of loss
resulting from inadequate or failed internal processes, people and systems or from external
events (Benner 2007). This definition includes legal risk, but excludes strategic and reputational
risk.” The emergence of fintech is usually fueled by people risk which is incompetency or wrong
posting of personnel as well as misuse of power, information technology risk which is the failure
of the information technology system, the hacking of the computer network by outsiders, and the
programming errors that can take place any time and can cause loss to the bank and processrelated risks which are the possibilities of errors in information processing, data transmission,
data retrieval, and inaccuracy of result or output (Acker & Keller 1990). The growth of fintech
heighten operational risk both on a systemic and idiosyncratic level; as the financial market
players become more interdependent on an IT level, a failure of the information technologies
infrastructures could easily lead to a systemic crisis. Moreover, the increasing presence of fintech
companies in the banking industry results in a more complex system composed of novel actors
which may have little expertise in IT risks management. As for the idiosyncratic dimension, IT
systems inherited by traditional banks may not be adjustable enough, or simply obsolete with
respect to the ones owned by fintech firms (Dunkley 2015). Thus, incumbents would increase
their use of third parties to provide up-to-date services, which may lead to higher risks related to
data protection, money laundering, cyber-crime, privacy issues and customer tutelage
(Christensen 1997). Additionally, banks may have to sustain fintech partners in financial distress
due to their common involvement in the supply chain of financial services. The wide adoption of
technologies to ease interconnection between different players and sectors require the banking
system to increase controls and innovate its regulatory system, as it may be more exposed to
cyber-threats, putting to risk huge quantities of sensitive data. Such threats highlight the urgency
for financial institutions, fintech companies and supervisors to update their monitoring processes
and stress the importance of withstanding cyber-risk (Buchack et al 2017). Liquidity and
volatility risk: Customers are facilitated in changing saving accounts for the sake of greater
returns thanks to new technologies and neo-banks, which are rapidly lowering fees with the
objective of enlarging their customer base. While the increased competitiveness could improve
efficiency, it could also worsen customer loyalty and raise deposits’ volatility, resulting in
notable liquidity risk for banks.
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