Open banking explained: everything you need to know

What you need to know:

Open banking enables innovative Banking-as-a-Service and promotes financial inclusion by leveraging AI and machine learning to enhance efficiency, security, and creditworthiness assessments.

Account-to-Account (A2A) payments revolutionize transactions by providing direct bank transfers without intermediaries, reducing costs, and increasing speed and security.

Payment Service Providers (PSPs) like Zimpler offer instant settlements for businesses, facilitating seamless payments locally and across borders, and enhancing financial efficiency and customer satisfaction.

What is open banking?

The value of open banking transactions worldwide reached $57 billion in 2023, which is expected to increase sharply in the following years. Open banking is estimated to add over $416 billion to the revenue of the global financial services industry by 2026. This demonstrates the significant economic impact and growth potential of open banking as it revolutionizes the financial landscape.

Europe accounts for 49% of all open banking users. Within Europe, the UK stands out as a major hub, reaching a milestone of 5 million users in early 2022. The growth of open banking is so rapid that Europe is expected to see nearly 64 million users in 2024, an increase of over 400% in just four years. Globally, the number of open banking users is increasing at an average annual rate of 50%. The global number of users is projected to reach 132.2 million by 2024.

But what exactly is open banking? Join us as we demystify open banking, its benefits, risks, and future prospects.

Defining open banking

Open Banking is a financial technology practice that allows third-party financial service providers to access consumer banking, transactions, and other financial data through application programming interfaces (APIs).

Open Banking promotes financial transparency and fosters healthy competition among banks and financial institutions, enabling consumers to manage their finances more effectively.

Traditionally, consumer financial data was controlled by big banks. With the advent of Open Banking, consumers can now securely share their financial information with third-party service providers, such as fintech companies. Open Banking allows consumers to access and manage their financial data across different platforms, leading to a smoother, more personalized experience and improved financial management.

Open Banking also levels the playing field for startups and tech platforms, stimulating innovation within the financial sector. Large banks are pushed to improve their offerings to compete with smaller and newer banks, ultimately benefiting consumers through lower costs, enhanced technology, and better customer service. In recent years, Open Banking has revolutionized the financial industry by enabling the secure sharing of customer financial data between banks, non-bank financial institutions, and third-party financial service providers.

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How open banking works

Open banking operates using Application Programming Interfaces (APIs), which serve as software intermediaries enabling communication between different programs. These APIs ensure secure and efficient sharing of financial information between banks, third-party providers, and consumers. APIs play a crucial role in maintaining the security of open banking platforms, offering a robust framework for transmitting sensitive financial data. They facilitate the exchange of information while adhering to strict security protocols, ensuring that consumer data remains protected throughout the process.

Once a third-party provider obtains access to the user’s financial data through these APIs, they can utilize it to offer personalized solutions. For instance, leveraging open banking APIs to aggregate and analyze user financial data, providing insights into spending habits and financial management. The number of API calls within open banking systems is projected to surge significantly in the coming years, reaching an estimated 580 billion by 2027. This growth underscores the expanding integration of open banking services across diverse financial ecosystems, driving innovation and enhancing customer accessibility.

A notable application of open banking is in Account-to-Account (A2A) payments, which enable direct electronic transfers from one bank account to another. Unlike traditional payment methods, A2A payments bypass conventional payment rails, settling funds immediately into the recipient’s account. This method supports various transaction types, including Peer-to-Peer (P2P), Consumer-to-Business (C2B), and Business-to-Business (B2B) payments, offering a secure, convenient, and cost-effective alternative to traditional banking transactions.

In addition to payments, open banking facilitates several key use cases:

Account aggregation: allows customers to view multiple accounts from different providers in a single interface, enhancing financial transparency.

Personal finance Management (PFM): provides comprehensive insights into financial situations by integrating data from various accounts, aiding in budgeting and financial planning.

Instant Credit Risk Assessments: speeds up credit application processes by allowing lenders to assess applicants’ financial data quickly, improving customer experience.

Subscription management: this service helps customers manage recurring payments and subscriptions efficiently, reducing financial institution costs and enhancing customer satisfaction.

Opening new accounts: this service simplifies the account opening process by streamlining verification procedures through secure data sharing, ensuring quick and accurate customer onboarding.

Impact of open banking across financial ecosystems

Open banking continues to reshape the financial services landscape by benefiting both consumers and businesses across various sectors.

For consumers

Empowers consumers with enhanced financial management tools and greater control over their financial data.
Facilitates access to efficient and personalized digital money management solutions.
Enhances financial transparency and enables informed decision-making.
Broadens consumer access to financial services by fostering innovation among banks and third-party service providers.
Results in more diverse and tailored product offerings.

For businesses

Provides new opportunities for innovation and revenue generation.
Enables businesses to gain deeper insights into customer needs and behaviors.
Facilitates the effective tailoring of products and services.
Improves customer engagement and satisfaction through enhanced understanding.
Enhances risk management capabilities with better data insights for proactive decision-making and strategic planning.

Regulatory framework of open banking

Open Banking regulations are not just a local trend but a global movement, gaining traction worldwide. This is evident from the successful implementations in countries such as the UK, Europe, Australia, and Brazil, which have inspired similar initiatives in other parts of the world.

European evolution: The impact of open banking is best illustrated by its evolution in Europe. With the implementation of the revised Payment Services Directive (PSD2) in 2018, open banking became a reality. This directive mandated banks to open their APIs, allowing authorized third parties to access customer data with consent. The aim was to enhance security, data protection, and competition in the financial sector, and it has been largely successful in achieving these goals.

Customer experience redefined: Open banking has transformed the customer experience by enabling personalized financial services, expanding access to a broader range of products, and empowering consumers with greater control over their financial data.

Impact on security and competition: Open banking has bolstered security measures and data protection while fostering competition. Fintech startups and tech giants have capitalized on open banking opportunities to introduce innovative services such as user-friendly applications, personalized financial advice, and streamlined payment solutions.

Driving factors: The growth of a robust third-party ecosystem is a significant driver of open banking’s impact. Fintech startups and established tech companies participate actively, fostering cross-border collaboration and standardization efforts. The European Union has played a pivotal role in promoting the harmonization of practices despite challenges such as regulatory compliance, data security, and building customer trust.

Objectives of PSD2: The main objectives of PSD2 include fostering an integrated and efficient European payments market, leveling the playing field for payment service providers, enhancing payment security, and improving consumer and business protections. PSD2 facilitates easier third-party data sharing among financial organizations, payment providers, and other entities, facilitating the development of new products and enhancing customer experiences.

Open Banking regulations continue to evolve, driven by the goal of enhancing financial innovation, improving consumer protections, and fostering a competitive financial services landscape globally.

Open banking: Expanding horizons and technological integration.

As the financial services landscape evolves, open banking transcends its original scope to encompass broader applications and technological advancements.

Expansion to other financial services. With the strong backing of regulatory frameworks like PSD2, open banking is not just shifting, but evolving towards open finance and smart data. This evolution is enabling companies to confidently offer Banking-as-a-Service (BaaS) capabilities and platform banking across sectors such as insurance and investments, instilling a sense of security in the audience.

Increased use of AI and machine learning. With increased AI and machine learning integration, open banking serves as a robust foundation for sophisticated algorithms. This integration harnesses structured data, ranging from transaction histories to account balances, to empower AI-driven analysis, decision-making, and operational enhancements. By aggregating data from multiple financial institutions, open banking expands AI’s capabilities, promising efficiency gains, enhanced security, improved customer experiences, and more effective risk management within the financial services sector. The potential impact of these developments is profound.

Financial inclusion and social impact. As open banking evolves, it’s a game-changer for financial inclusion and social impact. By unlocking access to detailed bank account data, it supports eligibility for social support, lending affordability assessments, regulatory compliance, and identifying financial vulnerabilities. Moreover, it offers alternative methods to assess creditworthiness for individuals without traditional credit histories, transforming financial services accessibility and affordability.

Customized financial solutions. In a rapidly changing technological landscape, businesses must adapt to meet evolving consumer expectations and competitive pressures. Embracing the principles of open banking positions organizations to innovate and customize financial solutions collaboratively with fintech partners. This approach contrasts with traditional banking models, which often rely on rigid, one-size-fits-all approaches.

As open banking continues to evolve, its transformative potential holds significant promise for shaping the future of financial services worldwide.

Conclusion

Open banking is revolutionizing the financial services industry. From its regulatory foundations like PSD2 to its evolution into open finance and smart data applications, open banking enables innovative Banking-as-a-Service across sectors. The integration of AI and machine learning enhances efficiency and security while promoting financial inclusion by redefining how creditworthiness is assessed and supporting social impact initiatives. Embracing these advancements allows businesses to stay competitive by offering tailored financial solutions and improving customer satisfaction in a rapidly evolving digital landscape. The potential long-term impact of open banking on the financial industry and consumers is far-reaching:

Payment Service Innovation: Open banking has driven the development of account-to-account (A2A) payments, enabling direct bank transfers without intermediaries. This reduces transaction costs and enhances payment speed, security, and cost-effectiveness.

Payment Initiation Service Providers (PISPs): PISPs are third-party entities authorized to initiate payments on behalf of consumers or businesses using open banking APIs. They offer an alternative to traditional card-based payments, increasing convenience and control over the payment process.

Payment Service Providers (PSPs): PSPs like Zimpler enable businesses to onboard, pay, and receive payments locally and across borders in seconds, with instant settlements, transforming business operations and enhancing financial efficiency.

Why choose Zimpler?

Zimpler stands out as a leader in instant bank payments, offering unparalleled speed, simplicity, and security. Our cutting-edge solutions are designed to radically uncomplicate your business operations, allowing you to focus on growth. With a strong emphasis on compliance and customer support, Zimpler ensures that your transactions are safe, seamless, and efficient. Our innovative platform connects businesses with over 350 million customer bank accounts across 25 markets, providing you with the tools to scale your operations globally. By choosing Zimpler, you join a network of forward-thinking businesses that prioritize innovation and customer satisfaction.

Join the payment revolution.

The information contained in this post is intended for informational purposes only, and should not be relied upon for professional advice of any kind. Zimpler does not make any representation or warranty as to the completeness or accuracy of the information, and assumes no liability or responsibility that may result from reliance on such information.