By David Parker, Managing Director with Accenture’s Financial Services practice
When the Banks children in Mary Poppins start a run on the bank, customers take fright because they are worried the bank is going to run out of cash. In the digital age, the critical issue for banks is not cash but server capacity. The run on Northern Rock in 2007 at the onset of the financial crisis, started because the bank could not handle the online traffic on its website as customers tried to transfer money out.
The critical nature of bank IT infrastructure has become a central preoccupation of regulators. Indeed the main financial regulators, the Financial Conduct Authority, the Prudential Regulation Authority and the Bank of England are now carrying out a joint review into banks’ IT systems and their recovery plans.
The immediate catalyst for the review is the increasing number of high-profile outages at the big banks. Between 2011 and 2013, the number of failures involving banks’ core IT systems doubled, attracting damaging publicity for the banking industry. But underlying the bald trend, are deeper problems with ageing IT infrastructure at many UK banks and the growing demands being placed on systems as a result of the digital revolution.
IT is at the heart of running a high street bank but the challenge for UK banking is that much of it rests on systems dating back decades.
The problem lies with the basic bit at the heart of a bank’s IT infrastructure – its so-called “core banking system” – which credits and debits money to your current account and calculates fees and interest. Most of the big banks still have core banking systems that date back to the 1970s or even 1960s. Rather like an old house built on ancient foundations with new additions over the centuries, the banks have added on new modern bits around the core over the years to provide new functions and services. But the vulnerability at the centre remains – in IT you are only as strong as your weakest link – and this vulnerability is becoming harder to patch up. In one recent case, a UK bank had to call an elderly former employee out of retirement to help fix the system because the skills need to tackle problems involving mainframe computers and batch processing are now in such short supply.
In many parts of a bank’s operations, technical problems with systems are not evident to customers. If the mortgage system goes down for a couple of days or credit card statements are delayed, few outsiders will notice because mortgage applications can take several months. But customers expect transactions on their current accounts to be virtually instantaneous. In the digital age, 99% reliability is not considered good enough by customers and the advent of social media means that IT failures now become public immediately and the reputational damage can be immense.
At the same time the digital revolution is placing ever greater strains on the legacy IT infrastructures as mobile and online activity skyrockets. The banks’ antiquated core banking systems were developed at a time when most personal banking was done through branches and the transactions were processed overnight in batches. In a world of real-time, multi-channel banking – ATMs, call centres, internet and mobile – the volume of real-time payments is increasing exponentially, roughly doubling since 2004. Over the same period we estimate that multi-channel banking has led to at least a tenfold increase in balance enquiries.
On top of all this, customers have become accustomed to a constant diet of innovation in the form of new functionality and services and banks are seeking to provide a deeper, richer service to customers. This in turn requires banks to analyse huge volumes of customer data to tailor services for individual customers.
It is no wonder that IT systems are creaking at the seams and the banks know they need to modernize their legacy core banking systems. The big question facing the industry is whether to opt for an evolutionary approach or go for more radical change.
Replacing the core banking system in entirety – an IT replatforming in the jargon – has been likened to the banking equivalent of open heart surgery or – to use an aviation metaphor – the equivalent of changing the engines on a 747 while in flight. It is certainly a difficult and costly undertaking but it is far from impossible. Nationwide’s implementation of a new core banking transaction software platform and the transformations brought about through Lloyds Banking Group’s integration of HBOS and Santander’s integration of its UK acquisitions shows what can be done.
However, there have been costly failures too, and chief executives are understandably nervous about committing to such ambitious IT programmes, which can be expensive, take years to deliver and would only benefit their successor in the job.
One alternative is evolutionary transformation by gradually migrating to a simpler, more resilient IT system. This kind of phased approach is less risky than a ‘big bang’ migration but it depends on the bank’s ability to implement in a consistent and disciplined fashion over a number of years. That is not easy either.
A more attractive approach for many banks would be to outsource their core systems to a third-party, which could operate as a utility, providing a similar service to a number of banks. Switching to a proven provider like this would be relatively quick and cheap and this model is well-established in the US, where mid-sized banks have the choice of a number of core banking utilities.
For the moment, this option is not available in the UK for any reasonably-sized banks but we expect to see the market developing in the near future. It would also have the merit of helping to address government’s concerns about barriers to entry in the existing banking system.
For years banks have coped with the growing IT demands they face by adding layer upon layer to their ancient core banking systems, with all the problems and complexities that entails. But IT pressures on banking are now escalating at a much faster rate than before. The combination of elderly core systems, the coming of age of the digital generation and the growing pressure from regulators means that the patchwork approach is simply no longer viable.
The UK banking industry needs to make fundamental changes to its IT infrastructure in the coming years. It always pays to be wary about any major IT project but it is time for banks to grasp the nettle.