Bank Strategy and Performance - Essay Example

Examine the impact of technology on bank operations. Has technology reduced costs in banking? The advent of technology in the banking industry has mainly brought about a shift form paper to electronic mode of transaction. One of the reasons for adoption of newer and more sophisticated technologies is cost reduction. This is however based upon the idea that gains in productivity or efficiency will result from the electronic proceedings of back office transactions. This automatically implies that scale economies will result from this, which in turn will bring about cost reduction in the long run. Factors working behind the adoption of information and communication technologies by the banking sector are – “cost-reduction, mergers and acquisitions, strategic alliances, competition, globalization, operational risks, cost reduction, time to market, surging volumes, e-commerce, enhancing flexibility, business diversification such as non-financial services and becoming ‘‘service aggregators’’, etc” (Centeno, 295). Holding a desirable market share, enhancement of cost efficiency and expanding the reach to customers are the main reasons why banks use the Internet banking facility. On an overall basis, IT investment in banks especially in hardware, software and IT related services are assumed to bring about improvement in bank performance. However a research shows that despite the banks being one of the key investors in IT, there is little association between IT related investment and the efficiency of bank operations. This gives rise to a contradiction in profitability. However the impact is mixed for different products. For instance, investment in IT services seems to bear a positive impact on accounting profits and profitability. On the other hand, investment in hardware and software related products tend to reduce the performance of banks. There might be certain factors working behind it. For instance, there could be lowering of entry barriers, which lead to loss in market power. (Beccalli, 2007, p.2229) Technology of Internet banking is changing pretty fast. Essentially the technologies in rural markets have been lagging behind and therefore community banks are slow in taking on this technology. For such banks cost of adoption of Internet banking itself might be expensive. Internet banking helps the banks to compete across a large spread of demography and facilitates the access of modern technology by the customers. Therefore community banks need to adopt such technologies in order to be at a competitive advantageous position. (Sullivan, 2000, pp.12-13) Internet has brought in a new wave of technological innovation for the banking sector and is supposed to have reduced time and cost. Transaction cost estimates over a range of tools like physical branch, phone, ATM, dial-up connection reveal that Internet transactions are most economical (“1–2:100 compared to physical branches, 1–2:30 compared to ATM_s and 1:2–10 compared to PC-based dial-up Internet”). (Centeno, 2004, p.297) Certain studies with respect to cost reduction are mainly based on Federal Reserve and then extended to generalize for the private organizations as well. Results of one of the researches showed that there were two types of electronic payments adopted by the Federal Reserve and both had showed sharp fall in unit costs over a certain period of time. For instance, results on ACH electronic payment processing revealed a fall in the nominal unit costs from $0.869 per item to $0.176 over the span of 1990-2000. Applying the GDP deflator one finds a fall of 83 percent in real unit costs. Data on Fedwire (electronic process used for transaction) revealed a decline of around 59 percent in real unit costs (from $1.029 to $0.518 in nominal terms and from $1.135 to 0.466 in real terms). Therefore these results may be applied to private banking systems as well and one may say that similar level of cost savings have taken place through electronic payments method. Studies of the cost function on ACH processes found that there were noticeable improvements in cost efficiency. These improvements were however lesser during the end of the period taken (1990-2000). Analysis shows that such improvements might have resulted from enhancement in information technology and also partly due to the reaping of scale economies. Fedwire process related researches showed that the scale economies and advancement of technology made has helped the ban come down from 36 operating sites to 3. Normally adjustment costs are difficult to deal with in case of moving on to a new technology but Fedwire has helped in overcoming some of these costs as well. (Berger, 2003, pp.8-10) In conclusion we may say that researches reveal application of some technologies have brought about reduced cost but efficiency but viability such technology depends on the awareness of customers and the access to modern applications in baking. For instance, Internet banking technology is difficult for some customers to adopt especially if they are not skilled in IT. Also installation of such technologies would be difficult for banks in certain regions especially where the cost of access to technology is low. So in order to make this successful and yield desirable results for the banks, proper education and training of staffs as well as the customers are required. (Worthington, 2007, pp.9-10) References 1. Beccalli, E. (2007). Does IT investment improve bank performance? Evidence from Europe, Journal of Banking and Finance, 31, 2205–2230. 2. Centeno, C. (2004). Adoption of Internet services in the Acceding and Candidate Countries, lessons from the Internet banking case, Telematics and Informatics, 21, 293–315 3. Sullivan, R.J. (2000). How Has the Adoption of Internet Banking Affected Performance and Risk in Banks?, Financial Industry Perspectives. 4. Berger, A.N. (2003). The Economic Effects of Technological Progress: Evidence from the Banking Industry, Journal of Money, Credit, and Banking, Volume 35 5. Worthington, A.C. (2007). Personal bank account access and awareness: An analysis of the technological and informational constraints of Australian consumers, Faculty of Commerce, University of Wollongong. What are the relative advantages and disadvantages of branch and subsidiary structures from the perspective of a bank expanding internationally? What are the implications for bank regulation of the branch/subsidiary decision? With globalization and advancement of technology, cross border banking have gained a momentum. Within the euro zone loans across the border have increased from “€ 152 billion (bn) in 1999 to € 361 bn in 2006” (more than two fold) and deposits across the border have risen from “€ 221 bn to € 316 bn” (Heuchemer, Kleimeier, and Sander, 2008, p.2). When a bank plans to expand internationally they may do so through setting up branches and subsidiaries in different nations. Some studies have shown that banks build branches in those countries where the customers of the home nation have their connections. However this might not be the only reason why banks open branches abroad because they tend to lend mainly to the borrowers rather than customers and this shows that ‘follow your customer’ strategy does not work (Buch and DeLong, 2008, p.13). There are other significant reasons for setting up branches and subsidiaries such as profit opportunities. When a foreign bank becomes an extension of a bank in the domestic nation, the former will comes under the regulation of the domestic supervisory agency. The deposit insurance is also shifted to the domestic agency. Thus apart from bringing about reduced risk and increase profitability, which are the advantages of opening up, branches abroad, the shifting of regulatory responsibilities to the domestic governing agency is a problem. This kind of regulatory system will not provide any incentive for the regulatory bodies to loosen up the banking norms and enter into a competition between nations or a ‘race to the bottom’ approach (Buch and DeLong, 2008, p.22). Again capital needs will decrease or at least inclined to be lower if there is no international harmonization of the supervisory towards the foreign banks’ subsidiaries. Regulators tend to increase in incentives such that asset quality is improvement. The responsibility of the supervisory body is becomes more and more important with time and brings on more challenges in terms of regulations. For instance, the Scandinavian bank of Nordea was given the shape from the combination of banks from four Nordic nations. Societas Europaea allows European Union’s banks to branch abroad. Norea, which is a part of Sweden, is therefore under the Swedish supervision. The Swedish supervisory body also looks after the deposit insurance of the unit. Under this framework, branches operating in countries like Finland and Norway are governed by various supervisory bodies, which are different from that of the host nation. This cross border branching by the banks have put up certain policy issues like “transmission of systemic risk across borders, the governance and supervision of multinational financial institutions, and the extent to which foreign-owned institutions will provide sufficient services in times of local crises” (Buch and DeLong, 2008, p.24). The developing nations need to address these challenges and it is crucial for them to answer them suitably. On one hand such nations do gain the advantages through foreign investment when banks from other nations set up their branches here, but the supervisory body need to be more efficient. Adjustments need to be made in the structure within the supervisory body and information should be shared among the supervisors. Also skills particular to supervision should be developed and refined. Though some researches showed that performance of foreign bank subsidiaries declined and banks with foreign ownership are shown to be less efficient compared to those under domestic ownership, this is not the only conclusion. With the help of foreign entry, the emerging nations hosting these banks would gain in terms of “technology transfer, competition, and demonstration effects” (Buch and DeLong, 2008, p.17). Studies have revealed that foreign branches or subsidiaries opened up within an emerging economy have greater opportunity for success because the local banks are not financial well organized and these foreign subsidiaries have an upper edge. Therefore success of branches and subsidiaries set up across borders vary from one case to another depending on the way the host country deals with the regulatory issues as discussed above and the supervisory body’s performance. References 1. Buch, C.M. & G. L. DeLong (2008), Banking Globalization: International Consolidation and Mergers in Banking, Discussion paper, IAW, available at: http://www.iaw.edu/RePEc/iaw/pdf/iaw_dp_38.pdf (accessed on May 3, 2010) 2. Heuchemer, S., Kleimeier, S. and H. Sander (2008). The Geography of European Cross-Border Banking: The Impact of Cultural and Political Factors, Working Paper Version. Read More