In Europe, incumbent banks are responding to rising competition from platform players, neobanks and payment providers by launching their own digital-only subsidiaries, investing in technology and providing banking-as-a-service (BaaS) offerings.

These strategies are arising as banks are perceiving considerable threat coming from new-age digital players, and most particularly from payment service and technology providers, findings from a new study conducted by Economist Impact and commissioned by Swiss enterprise software provider Temenos reveal.

The findings, shared in a report titled “Challenging the challengers: Europe’s banks face the competition”, were drawn from a global survey of 300 executives in retail, commercial and private banking spanning Europe (25%), North America (23%), Asia Pacific (18%), Middle East and Africa (17%), and Latin America (17%) to understand emerging trends in the banking industry.

Results of the survey reveal that European banks are more likely than banks elsewhere to expect neobanks to be their company’s biggest competitors in the next five years. Despite this, payment players and tech providers continue to be at the top of mind, with payments being the space banks predict new entrants will gain the most market share moving forward.

Electronic payments have soared in recent years, accelerated by the COVID-19 pandemic. In the European Union (EU), the volume of electronic payments hit EUR 240 trillion in 2021, up from EUR 184.2 trillion in 2017, data from the European Commission show. Fintech growth has been particularly strong in the space, with 93 of the global sector’s top 335 unicorns in June 2023 providing payment solutions, showcasing the rising threat these digital players are putting on financial incumbents.

Recognizing the growth of new-age paytech companies, European banks are planning to maintain their own products all the while becoming aggregators of third-party banking and/or non-banking products, more so than banks in other regions.

They will also be focusing on providing banking-as-a-service (BaaS) offerings to brands and fintech companies with hopes of diversifying their revenue streams, scaling their operations more efficiently by serving a broader range of customers through partnerships, and deepening their relationships with existing customers.

Banks are also realizing that they are losing ground to fintech companies due to poor digital customer experience, a predicament they aim to address by investing in technology such as artificial intelligence (AI) and augmented and virtual reality (AR/VR).

European banks see AI as a key part of their tech investment strategy, the study found, in particular to improve the customer experience and support digital marketing, with three quarters (75%) of European bankers believing that the banking sector will be significantly impacted by generative AI. Some are also investing in AR/VR to improve customer experience.

European banks are also migrating to public cloud services and software-as-a-service (SaaS) in greater numbers than their counterparts in other regions. Over a fifth of European banks (21%) view cloud as a strategic priority that will ensure that their operations are agile and secure, allowing them to compete with more nimble competitors. Digital channels are the most focus of migration for European banks.

When asked about their innovation strategies, European banks cited investing in fintech startups as their top strategy (43%), followed by building their own greenfield digital bank or fintech company (36%). These strategies are aimed at offering innovative services, reaching new customers and/or tapping new digital capabilities.

The study also found that the European banks surveyed are more concerned than their peers in other regions that environmental, social and governance (ESG) regulations will lower the financial profitability of the banking sector. However, European banks are lagging behind their peers in offering embedded ESG/sustainable banking propositions to their customers.

ESG considerations are growing ever-so critical to European banks. Firstly, regulatory authorities are increasingly emphasizing ESG compliance, necessitating banks to disclose ESG-related risks and adhere to environmental and social regulations. Secondly, ESG considerations can directly impact a bank’s financial performance.

For example, investments in environmentally sustainable projects may generate positive returns while reducing exposure to climate-related risks. Moreover, integrating ESG factors into risk management processes allows banks to identify and mitigate risks associated with climate change, social issues and governance practices.

In December 2022, the European Banking Authority (EBA) published its roadmap on sustainable finance, outlining the objectives and timeline for delivering mandates and tasks in the area of green finance and ESG risks.

The EBA’s objectives include enhancing transparency and disclosures regarding ESG risks, integrating ESG factors into risk management and supervision, assessing prudential regulations related to environmental and social considerations, contributing to the development of green standards, and monitoring developments in sustainable finance and institutions’ ESG risk profiles.