Banking Bailout: "It's All About Restoring Confidence"
But Main Street banking institutions and their customers will be the ultimate beneficiaries of this financial boost, says one industry analyst.
"It's all about restoring confidence in the banking system," says Guillermo Kopp, Executive Director and Global Research Fellow at TowerGroup, the Boston-based financial services research and advisory firm. "This is an interdependent system, and it's important to ensure that banks don't hurt, because they sustain the economy."
In an exclusive interview, Kopp discusses what this investment truly means to the banking industry, sharing insight on:
- Ways financial services organizations of all sizes will benefit from government investment;
- How banking institutions can step up and reinforce customer confidence;
- Immediate business priorities for these institutions;
- Outsourcing trends in the near term.
TOM FIELD: Hi, this is Tom Field, Editorial Director with Information Security Media Group. The topic today is the state of the banking industry and we are speaking with Guillermo Kopp, he is Executive Director and Global Research Fellow with TowerGroup. Guillermo thanks so much for joining me today.
GUILLERMO KOPP: Thank you Tom, it's a pleasure.
FIELD: Earlier today we heard from President Bush and government leaders outlining part of their rescue plan for financial institutions. I'd like for you to put this in perspective for us, what does it mean to the banking industry?
KOPP: Tom, this is a much-needed move. It's all about restoring confidence in the banking system, in the financial services system as a whole. You know the financial services has been suffering from the sub-prime crisis, so this move by the government is injecting capital into banks to make sure that they can respond to the liquidity needs of the moment. And I would point out that business is on interdependent systems so it is very, very important to ensure that banks don't hurt because they enable the functioning of the economy; and there is systemic risk, there are interdependencies between banks and commercial companies. So if anyone were to fail, a big one, it would create an effect on the other banks and on the underlying economy.
FIELD: Well, you make a good point there about the banks and the interdependencies. I wanted to ask you, what are the ramifications for institutions of all sizes, both from Wall Street and from Main Street?
KOPP: First, there's been like a controversy between Wall Street and Main Street, it's one or the other, and I would say it's both and the two work together. The two are interdependent. Like, Wall Street provides credit to commercial, industrial, media companies, government entities, you name it and that credit needs to come at a fair price, and the financial services systems, banks, enable economic growth. So to the extent that financial capacity is available from Wall Street, Main Street can grow.
On the other hand, as economic momentum in Main Street drives the economy further and enables job creation and expansion, there is an opportunity for banks, financial services companies, to take part in it and then at the reasonable premium benefit from everybody's growth.
What we are seeing because of the liquidity crisis, the trading in complex, various instruments and having capital in the form of assets that are, today they don't have a certain value, then liquidity came to a stall, there is less availability of credit in the inter-bank system, there is less credit available for commercial and industrial companies and for the public in general, and therefore there is a big danger that overall the economy may hurt.
FIELD: Now you have worked in banking institutions. How can banks and credit unions now go about reinforcing customer confidence, which we have heard is so much in danger?
KOPP: Yeah, banks and credit unions, financial institutions in general, have a business that is predicated on trust, or if you wish, customer confidence and investor confidence. Now, trust has been damaged because the banks and services systems had a major shock given the liquidity crisis, and there is this big concern whether deposits are insured, whether loans would still be there, whether consumers have access to credit, companies have access to credit. So to the extent that the capital injection translates into an availability of funds and it guarantees that the funds that customer deposit with institutions will be there, progressively there will be a rebound of confidence.
I feel at this very moment there is uncertainty in the market; too much volatility in the financial system has impacted on the wealthiest of companies and individuals. So that has hurt the trust and the confidence. It will take time to restore it, and I would say that it is not just the capital, it is the behaviors, the credibility of the leadership teams in institutions, what they do in the form looking after customer service, what the do in the form of walking the talk and making reasonable credit available and also financial responsibility and accountability showing that banks in spite of all the problems, can still perform.
And one of the challenges as earnings get announced in the next few weeks, and probably earnings are not going to show too much of a pretty picture when it comes to banks and credit unions, at the very least put in perspective that they have the support, the financial wherewithal to move further and to move forward and to hammer out of this liquidity crisis in good health and continue fulfilling the role of the enabler of the overall economy growth.
FIELD: So as they do come out of this liquidity crisis, what do you see as being some of the top spending priorities of banking institutions in the coming months?
KOPP: Well, one thing that we saw very clearly is the ability to provide better risk management and financial reporting, more transparent, more granular. Really understanding the interdependencies between risks like the liquidity risk and credit risk and market risk and that is prompting more sophistication, if you wish, technology upgrades in the banks.
We in TowerGroup have found that there are other priorities in the technology standing categories that are equally important, you know like predictive analytics that supplement the analysis. Another example is technology advances are relentless, so we see a lot happening in the world of electronic delivery channels. You are very familiar with the internet as a delivery channel and how companies outside financial services have been tapping vehicles like social networks and other creative delivery models to reach out to customers. And information security is an enabler, a key enabler of this electronic delivery capability.
Now what we see is with broadband connectivity banks finally embracing the mobile delivery channel, and this is likely to continue, particularly we saw successes in high growth areas in international markets, but it is also picking up speed in the U.S.
So anything to do with integration and modernization as well. You know, the ability to pull data together to feed risk management analysis, customer intelligence analysis, and the analytics that get banks to work smarter. Another area where technology plays a big role is that we see a lot of consolidation and rationalization of duplicative technology resources is the use of virtualization technologies, or if you wish, integrated architectures like SOA. And in that vein, the use of business process management tools, BPM, as a driver of restructuring and re-engineering business prophecies to gain better efficiency.
I just published the report the TowerGroup is calling the TowerGroup Top Ten and it looks like business drivers across the industry, and we also have analysis that go in detail for every vertical, like retail banks for example. And in those lists, what are the business drivers, what are banks doing in the form of strategic responses and what are the technology needs that address those strategies. And most of the top ten technologies are the ones that I just mentioned.
FIELD: Now obviously there has been a lot of regulatory focus on vendor management this year. What do you see is the future of outsourcing with banking institutions in the near term?
KOPP: I would say in the near term it is going to be a mixed agenda, and the reason for that is there is so much consolidation happening in the industry, so many banks are busy with just that. The agenda is mixed because outsourcing continues with strategic force.
So in spite of the overall downward momentum in IT spending, third-party services, outsourcing in particular, are seen by many banks as a solution to pull the efficiencies, and in many cases it is very hard to consolidate technology resources under one umbrella. So a third-party fulfills the role of the catalyst and, you know, getting the best in breed out or at the very least offering banks a way to immediately afloat the fixed technology cost and trade it for some valuable cost that the outsourcing companies transparently [ph] do pass that to the banks.
So the net effect in the fourth term for the bank is a reduction in the overall technology spend and the gain for the outsourcing vendor is with the ability to effectively consolidate and rationalize resources, push the technology costs even further down. Also the advent of new technologies facilitates that, I mentioned -- virtualization for example -- that is a resource that many banks have been polling.
The outsourcing movement will continue. The only offset to the double-digit growth that we have seen in past years is that the overall spending in the industry is rebooting for a while. and that tactically in the short-term many banks are going through the pains of mergers and deciding what remains and what goes out, and they may not all be ready to make an outsourcing decision at this moment.
FIELD: Makes sense. Guillermo, one last question for you. With the announcement today of the rescue plan, we saw nine major institutions named as recipients of this initial investment into banks. The question becomes what are the other 8,000 banking institutions in the United States, what are they going to see from this investment that is being made in banks?
KOPP: Yeah Tom, this is important. The announcement today focused on multi-billion dollars, $25 billion dollars here, $25 billion dollars there, that go to the big names. But by the same token, the U.S. government, the Treasury in particular, had the wherewithal to invest in smaller institutions and they have announced that they will communicate a package later on.
The big issue here is the ability of the government to maintain a fair playing field. Like it is easy with the big ones because there are few of those remaining, so it is a matter of deciding what goes into whom and making sure that they are all qualified to receive and wiling to receive and just making it happen.
In the case of the 8,000 maybe 10,000 smaller institutions out there, there needs to be some sort of criteria and rules because I would say that one of the goals is that the injection of capital be used productively.
To the earlier point of Main Street and Wall Street, what you want to understand is that help, that financial help doesn't go into just securing the financial results of a bank. You want to make sure that it is passed on to the economy, that it is passed on to companies, and that it is passed on to consumers. So once those criteria are well established, it is going to be a straightforward job of saying who gets help.
Now another challenge there is the auditability and the big names that are getting help now have been working at this closure and making a more accurate of reporting of their financial condition. In some of the smaller institutions they may not yet know what they don't know. Meaning some of the holdings that they think are okay or some of the customers and the companies that they are doing business with and they believe they are okay, when push to come to shove they may not be in such good health. So the big surprise is not going to come any time soon, I think it is only when auditors get to look at the financials from smaller banks that some surprises may come to light.