Industry4th December 2023

EMIs may beat some banks, but not all banks are created equal

EMI vs Banks blog 1
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The line between bank and non-bank provision of financial services is becoming increasingly blurred due to the significant growth in the number and use of electronic money and payment institutions. I’ve read several pieces regarding ‘EMIs vs Banks’ recently, and specifically, why e-money institutions (EMIs) are a better option for firms.

I loved reading them.

Now, I appreciate that this may seem odd for a bank CEO to write. But every advantage these articles listed, from agility, time to market, and the ability for smaller firms to offer payment services that were once solely the domain of large banks, are all fundamentally good things. It’s one reason the UK has such a thriving financial services market.

The narratives describe how banks have failed to serve businesses and emerging firms, such as fintechs, sometimes viewing them as a threat. They noted that a reliance on outdated and legacy systems has created a working museum to the last 50 years of technological development, where more money is spent to keep the lights on than innovating. That has created poor user experience as the high operational expense is, ultimately, passed on through fees to their customers, as well as the other businesses they choose to work with.

Finally, and this seems pertinent given recent market events, they asked whether banks are particularly safe given EMIs cannot lend customer funds and so, therefore, are a lower-risk option.

The conclusion was that EMIs are better in every aspect.

So why did I find myself agreeing? Because through the lens of incumbent banks, they were correct.

However, they also unintentionally encapsulate why we built ClearBank. It was with the belief that banking infrastructure would no longer slow down progress and make payments faster, safer, more reliable and accessible to all.

Let me explain.

How safe is ‘safe enough’?

The reality of the benefits of an EMI or a bank are, of course, more nuanced and complex. For example, it may depend on the services you need. Is it the movement of funds, or direct access to payment rails? Is it accounts (including IBANs and virtual IBANs)?

While a more relaxed regulatory framework is often viewed as a benefit to delivering greater agility, there are potential downsides to the EMI model. The increased attention paid to these firms by regulators should not be underestimated, leading some to revoke their licences due to significant Know Your Customer (KYC) and Anti-Money Laundering (AML) failings.

So how safe is ‘safe enough’ when we’re talking about customer funds?

At EMIs, customers' funds are safeguarded in case of failure. But this protection is entirely down to an orderly winding down or closure and an individual firm's culture and governance. That process is unlikely to be quick, and clients may not get all their funds returned if either the safeguarding, investments or insurance to cover these funds were inadequate or the cost of managing the insolvency eats into the funds available.

In other words, there is no guarantee.

Regulated banks, on the other hand, are members of the Financial Services Compensation Scheme (FSCS) that guarantees up to a maximum of £85k per person per licenced institution will be automatically returned in the event of a firm failing within seven days.

Indeed, the FCA has raised its concerns via its “Dear CEO” letter on four separate occasions in the last four years, each highlighting safeguarding as an area in need of improvement. Its most recent letter to EMIs and payment institutions suggests that banks are still best placed to do this, as they have the regulations, backing and protections to hold funds safely.

Are banks any safer?

Another tenet of this discussion is that banks aren’t, despite the higher regulatory burden and capital adequacy requirements, any safer than EMIs. Recent events would add some credence to that, given the high-profile failures at SVB, Silvergate, Signature Bank and Credit Suisse. The recent Metro Bank struggles reiterate that being a bank is a complicated, complex business.

There is now, rightly, a question mark over whether the banks that lend money are fit to safeguard it.

A recent Financial Stability Report from the Bank of England claims that there are no long-lasting effects from these global banking stresses on UK banks, yet uncertainty remains. Can we really be sure another failure isn’t imminent? Could there be wider effects? Given that bank failures occur when there is a collapse in trust, these stress tests are perhaps less important than the effects on perceptions.

While holding funds with a licenced bank means deposits are insured, this does not always reassure customers, perhaps because the promise of getting everything back in the future cannot be as reassuring as withdrawing funds today. By offering additional insurance, such as holding funds at the central bank or in other high-liquidity places, customers are reassured that their money is safe.

The Bank of England study may seem reassuring right now, but what about when the choice is to withdraw cash from a bank or potentially lose it all? This signals a crucial need for change—the need for a different kind of bank that places safeguarding and insurance at the forefront of considerations.

Why we need a new kind of bank

The UK has brought forth multiple types of banks with different business models and focuses. For example, we have SME-focused banks like Allica Bank, construction-focused banks like GB Bank and agriculture-focused banks like Oxbury Bank. Each of these banks looks to serve a different purpose or meet the unique needs of various sectors. This approach is one that can be emulated across the industry—banks don’t need to do everything or be everything to everyone. They can be designed to serve a specific purpose.

So, in these discussions around the benefits of the EMI approach, they perfectly summarised why ClearBank was founded.

A unique type of firm addressing the gap in the market between the stability of a fully regulated bank and the agility and technology-first model of EMIs for firms to deliver innovative services without the cost and complexity of acquiring a banking licence. Recent market stress has reinforced the fact that our model works with a sole focus on safeguarding client monies at the Bank of England and ensuring stability and liquidity.

The banks that can provide security for their clients—and make their customers feel secure—will continue to benefit from the inflow of deposits from those unsettled by recent events.

So, while it’s certainly true that EMIs have been hugely advantageous in the UK and EU and presented a route to market, are they ‘better’ than banks? Perhaps many of the incumbents.

But ClearBank has been built with a different purpose and one that sets us apart. We work with other banks to support their services. We work with EMIs, too, because our core belief is that cooperation and collaboration provide more options and, ultimately, better services for consumers and businesses.

And that is what really matters.

Charles McManus is ClearBank’s Chief Executive Officer and Executive Director. He is an experienced international banking professional with over 30 years in global investment banking, wealth management and retail banking. Prior to joining ClearBank in 2015, Charles was the Group CFO of RBS Ulster Bank Group until 2013, before which he spent 13 years with The Royal Bank of Canada (RBC). His time with RBC culminated in a role as CFO of Europe and Asia and Global Head of Product Control.

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