Overcoming inertia around digital currencies could boost banking innovation
By Sergio Barbosa
Digital asset infrastructure like blockchain, digital currencies, and unified ledger technologies are consuming the attention of central banks around the world with new central bank digital currencies (CBDC) pilots popping up almost monthly. Despite the regulators’ fascination with the new technologies, local banks seem to remain fairly cautious about their adoption. The reasons for the incongruous response are varied, but banks should be aware that they could be missing out, and that playing catch-up later could prove difficult.
There are currently 44 countries piloting central bank digital currencies (CBDCs) and, according to the Atlantic Council’s Central Bank Digital Currency Tracker, 134 countries and currency unions (amounting to 98% of the global economy) are now actively looking into digital versions of their national currencies.
The South African Reserve Bank (SARB) has been no slouch when it comes to exploring opportunities relating to CBDCs. On 18 April 2024, SARB released its Digital Payments Roadmap which aims to accelerate digital payment uptake in South Africa. And, as part of Project Stimela, the SARB is investigating the feasibility of a CBDC as an electronic legal tender for general-purpose retail use, complementary to cash.
Consumers have also shown their appetite to use digital currencies for retail payments, with Luno sharing that Pick n Pay customers are now spending in excess of R1 million per month on groceries using crypto currencies - up from R25 000 just a year ago.
However, despite the growing interest from governments and consumers, the interest from local banks remains relatively muted.
Local banks take a cautious approach
Local banks have dipped a toe into the crypto the water. For instance, ABSA allows Luno customers to buy and sell Bitcoin and Ethereum directly from their ABSA accounts. Nedbank, meanwhile, offers banking services to crypto exchange Ovex, enabling it to operate more efficiently and has been involved in the SARB’s trial of CBDCs.
Nonetheless, interest hasn’t been as strong as one would have thought.
Our work with banks takes us deep into the core space including ledgering and payments integration. We expected there to be a flurry of activity around putting better settlement rails in place using blockchain technologies or latching onto the CBDC efforts from central governments.
But core modernisation projects remain the focus at the moment with just a sprinkling of digital asset infrastructure projects. This thinking may need revision. When you are looking for ways to significantly reduce costs while still staying at the forefront of innovation, taking a baseball bat to your mainframe will not be sufficient.
The reason for the relatively low number of new digital currency and blockchain projects could be due to a number of reasons.
Most banks are heavily invested in their existing core banking systems and processes. Transitioning to new crypto-based payment rails and technologies is perceived as requiring significant effort and investment, which banks may be reluctant to undertake, especially if their current systems are functioning - albeit sub-optimally in some cases.
One way to approach these new technology opportunities is an incremental one. You don’t have to throw the baby out with the bathwater. You could take one payment stream in the bank and use the new open rail, test it for six months, see how it works and then do the next one. An incremental approach could help boost adoption.
In addition banks are facing the systemic risks that come with managing the sheer volume of integrations which are growing at a staggering rate.
At the moment banks are dealing with between 10 and 20 integrations for AML (anti-money laundering), strong authentication, payment rails, and other value added services at any given time. This is likely to grow to around 100 in just one or two years.
You would need a dedicated team just to manage these vendor relationships. And it’s not just the capacity issues, banks may be hesitant to fully embrace digital currency and blockchain technologies due to concerns about systemic risks and regulatory uncertainty. The regulators are doing a great job, but the role in managing these emerging technologies is still evolving, which can make banks cautious about adoption.
Missing out
While there are often legitimate roadblocks to crypto and blockchain adoption, banks could be missing out on some very real opportunities.
Companies like Wise and Ripple have been using crypto rails to facilitate cross-border transfers and remittances to great effect. By not adopting these technologies, banks may be missing out on opportunities to improve the speed, cost, and accessibility of cross-border payments.
Another of the challenges faced by banks is around assessing creditworthiness for customers with limited credit history. This is especially the case when it comes to vulnerable groups such as immigrants. Blockchain-based identity and credit scoring solutions could help banks improve financial inclusion and help banks better serve underbanked populations.
Even those banks that remain primarily focused on core system modernisation could be leaning into blockchain technologies to streamline operations, reduce costs, and improve efficiencies.
We see another industry bubble on the horizon with a surge in consolidation in the next few years. Banks that don’t want to get swallowed up must stay nimble. By not actively exploring and adopting digital asset infrastructure technologies, banks may be missing out on opportunities to radically drive innovation, improve operational efficiencies and overall competitiveness. The trick will be to find a partner that can help explore new ventures while ensuring day-to-day operations continue.
Sergio Barbosa is the chief investment officer of enterprise software development house, Global Kinetic, and CEO of its open banking platform, FutureBank.
BUSINESS REPORT