Too Small to Fail: How the Financial Industry Crisis Changed the World’s Perceptions

Editor's Notes

• #3: As an industry, we’ve talked a lot about the financial meltdown and how to navigate the volatile economy it created.The Great RecessionBank failuresUnemploymentConsumerization of our industryAnd how to navigate forward These issues have weighed heavily on all of us … on your institutions, your employees and your customers.  It’s hard to believe it’s been only three years since some of the most revered banks in the financial industry like Bear Stearns, Lehman Brothers and others imploded and the government ushered in TARP, the beginning of what will be another decade of intensified oversite.  For some of us, it seems like a lifetime ago. Through all of this we are still in an environment of rapid global change: geopolitical, economic, demographic, technical shifts, including education rates, per capita income, shifts in global power impacting the U.S. and other countries around the world.My book, “Too Small to Fail” was really a response to all the things that were happening around the world and how they were affecting our industry. We’ve been talking about it ever since with the media, at industry events, and with regulators and policy makers.
• #4: Interconnectivity of economies is the biggest lesson we have learned from this. While the global economy has improved from the lows of 2009, the financial meltdown created an economy full of risk.
• #5: “China’s rise, along with that of India and the continued weight of Japan, represent the third great shift in global power: the rise of Asia.”- FareedZakaria, NewsweekRemain strong; no longer – Macro shight
• #6: 25% of the population of China with the highest IQ is greater than the total population of the U.S. In India, the top 28% exceeds the U.S. population totals.
• #7: With regard to education, the U.S. no longer dominates.The percentage of U.S. college graduates continues to rise annually, but other countries have raised the bar.China saw the number of college graduates increase by a factor of five between 2002 and 2007.Per Capita GDP, while substantially lower in China, grew at a substantially faster pace in this same period.Investments in human capital (education) will likely rise in importance relative to investments in other forms of capital as the transition to a post-industrial, knowledge-based economy accelerates.
• #8: Through this period have experienced demographic shifts as well:From 2000 to 2008 the African American population has grown by 3.2%The Hispanic population has grown by 2.9%. While, the population of White Americans has dropped by 3.9%. In 2008, we elected our nation’s first African American President.Barack Obama’s election represents a major shift in the U.S. geopolitical landscape, and a stunning reminder of how far the U.S. has come on racial issues.
• #9:  GDP – the economy grew 3.1% in the 4th quarter of 2010. Economists caution to expect a modest pace of recovery. The economy is expected to grow at the 3.0% level in 2011.Retail Sales -- 2009 saw a significant decline in US retail sales, but 2010 data was up by over 6.5%, indicating a rebound from historic lows.Unemployment may have peaked in October 2009 at 10.1%. Most economists do not expect a rapid decline in unemployment – it will be a “jobless” recovery in the short-term.Although not shown, vehicle sales increased in 2010 from an all-time low in 2009, but have a long way to go to reach pre-recession levels.
• #10: Alongside these macro changes, in the US we are still experiencing the effects of a depressed housing market.Through the 4th quarter of 2010, we are still seeing:Pullback in consumer borrowingHousing starts still at historic lowsHome values remain lowForeclosures actually increased in 2010 by 2% over 2009
• #11: This all results in uncertainty on the part of the consumer. Consumer Confidence, as measured by the Conference Board, has been moving sideways since rebounding from historic lows in 2009. In March 2011, it is still significantly below the 1985 benchmark norm of 100.
• #12: From Subprime Bubble to Dodd-Frank: An Industry in Transition
• #13: For many financial institutions, the economic collapse masked the fact that their basic business model was eroding.Intensifying competitionChannel proliferationMargin compressionFee erosionAdded fraud, security and regulatory costsCapital constraintsAll leading to industry consolidation. And we have to address these issues while lowering costs. In spite of all your advantages, the current financial environment and regulatory challenges have caused some institutions to place their businesses on “hold.”
• #14: Net interest margins have declined steadily over the last 15 years. This places more pressure on sustainable fee income and increased operational efficiency. As fee income is eroded, community based institutionswill need to diversify their revenue streams.The increase in bank net interest margin was due to the implementation of new accounting rules (i.e., application of FAS 166 and 167) that caused a large amount of loans in securitized pools to be consolidated into the reported loan balances of a relatively small number of large insured institution (particularly credit card lenders). As a result, these firms recorded increased net interest income. Further, many insured institutions also have changed their deposit mix away from expensive time deposits to core deposits, which reduced their cost of funds.
• #15: We have ever-expanding channels to offer and maintain for our customers and members. The very nature of how financial institutions deliver is changing exponentially. We need to work together and innovate to stay ahead of the curve and compete with the “too big to fail” banks.The new ways consumers connect with financial institutions are changing rapidly. Consider the first iPad was just released a year ago.
• #16: Costs have also been increasing Adjusting for inflation, operating expenses per household has risen 52% since 1995.Compliance Technology costs going up. 64% of financial institutions reported in 2009 spending more on technology to deal with compliance. Must educate consumers, must have consumers opt-in, must send notices to consumers – all increased spending for institutions.We’ve also seen a 208% increase in Loan loss provision since 1995. The provision has been increasing steadily over the last 15 years and more abruptly post-crisis.
• #17:  Regulatory compliance places a disproportionate burden on community-based financial institutionsThis is forcing consolidation. I was asked by Pimm Fox on Bloomberg if I thought the regulators’ agenda was to create consolidation because they really wanted fewer financial institutions. I said, I couldn’t speculate whether or not it was calculated, but if that was their intent, they are being successful. Community-based institutions don’t have the economies of scale that exist with the “too big to fail” banks in dealing with the heightened regulatory environment. We need to create “economies of collaborative scale” by working together to drive down operating costs and dramatically accelerate technology innovation to enhance customer value and level the playing field with our “too big to fail” counterparts.
• #18: There are 35% fewer financial institutions (banks and credit unions) since 1995. We’re actually projecting about 3,000 fewer banks and credit unions by 2015. Enter the crisis stronger, exited the crisis worse-offPolicies are exacerbating “too big to fail” 
• #19: It is also becoming a crowded marketplace, with new entrants seemingly every day. ING Direct – offering commodity savings product that is high-volume and low-margin with no branches and only retail stores (i.e. ING Cafes).USAA – internet-based delivery model with only one traditional bank location in San Antonio. Only started offering services to the broad US market in 2009, prior to this, membership was limited to military personnel and related individuals.Prosper – a P2P service that allows peer lenders and borrowers to find each other without a traditional underwriting process. Dollar amounts range from $1,000 - $25,000. P2P lenders include Kiva, Zopa and LendingClub.PayPal – allows individuals to send electronic money online, but does not replace financial intermediary since an account is still required to pay or receive fundsFacebook launched a payments subsidiary in March, with 49% of the US households on this leading social media platform, they should be watched closely. With Apple’s iPhone poised to disrupt the payments market, Microsoft announced in March they will be entering the payments market as well.
• #20: On top of the global shifts, economic uncertainty and business model changes, today, we are dealing with a different problem: a “policy hangover” from the financial crisis.  We’re coming up on the one-year anniversary of Dodd-Frank being passed into law. And through the debate over implementation of many of these policies, we are starting to see how ill-advised some of these measures are.We have seen some of the most sweeping regulatory and policy changes ever introduced into the financial system. Unfortunately, these interventionist policies – like TARP and Dodd-Frank – have failed to recognize the difference between capital markets banking that large banks engage in and the unique role of community-based financial institutions: You are the true engine of the economy – supporting small businesses and families50% of small business loans under $100k, disproportionate lend on mortgages and autosLargely didn’t participate in the subprime market – carry most loans to maturity and maintain lower delinquency rates A unique close relationship to the people you serve -- you live, work and are active in their communities And a reputation that’s far better than large banks’ – people love youWhile recent policies have helped large banks benefit from record earnings and lowered costs of capital, they created significant unintended consequences for community banks and credit unions: Increased your costs of complianceMade it harder to extend loans to businesses and consumersReduced your fee income without recognizing that you have few resources to make up for it Failed to address your more limited options for raising capital In short, made it harder to do what you do best.
• #21: As we struggle with all these challenges, it is clear that we can’t succeed by doing things the same way we always have.  You know you need to diversify revenue streams and fully understand the relationships you have with each person at your institution. Willing to think differently You know you need to cut costs. But you have been there and done that.And it is still not enough.  The challenges we face today have created a moment of clarity for community-based institutions. You realize that you need to do things differently, to…Re-examine who you are, why you exist and how you are differentMake this difference more obvious with every interactionRe-examine your people, processes and systems… to support this differenceStop doing things that don’t reinforce why you are uniqueRemind customers of the role you play in the economy and the communities you serve  It’s time to recapture the role of trusted financial intermediaryWhat are our sustainable differences compared to competition?How do we make our distinctions more discernable with every human interaction?Is our organizational culture unified around these qualities?Is our cost structure targeted around marketing, delivering and supporting these differences?Do we have the right people, processes and systems?Are we willing to commit to a leadership role?
• #22: National banks have steadily moved into a position of dominance in the US market. Regulatory, technology and demographic shifts have exacerbated “too big to fail.” The measures put in place to prevent “too big to fail” has made the situation worse. The top five banks now control over 37% of deposits, have 20% of branches, and 60% of industry assets. Need common sense regulations to prevent the risky business practices of “too big to fail” banks, without applying undue constraints on community-based institutions.Community-based institutions need to differentiate to remain viable as pillars of economic strength.
• #23: Despite the big banks’ dominance, Consumers prefer to do business with local community banks and credit unionsCommunity-based institutions have become more critical than ever. You represent the true engine of the economyYour balance sheets are strongIn large, you stayed away from subprimeYou have a uniquely close relationship to your customers and membersYour reputation is far better than large banks’ – people love you
• #24: Consumerization, Challenges & BrandEvolution of consumerizationExposure to disintermediationDifferentiationImpact on business model Consumerization of Financial ServicesMystery and mystique has erodedProduct information easierChoice acceleratedAccess to services and product increasedDemographic shifts acceleratingThreat of commoditizationRetail differentiation attributes begin to impact decisions 
• #26: It is time to position your institutions to win   This is not the time to go into hiding or be risk averse. We all need to embrace change, or risk being left behind. To make change happen, you will need to tap the ingenuity within your organizations – as well as the ingenuity of your technology partners.In doing so, you will find that you have a unique opportunity to become more relevant than ever before and to capture share from the largest institutions Now is a time to go back to basics and rethink what you’re good at --think about your competitive difference. Make it known to your customers. Make it known to your regulators and policy makers. Reinforce the fact that you are the lubricants of local economies and YOU can lead an economic recovery – one community at a time.Importance of brandInfrastructure to winWith changes comes opportunityGive customers a reason to smileHere’s a video of a credit union taking a humorous approach to differentiate itself from the “too big to fail” banks.
• #27: Technology Has Always Played an Important RoleSocial ImpactHistory of Breakthroughs in Financial ServicesEmerging TrendsStrategic ShiftsPartnering for Future Areas Emerging in TechnologyRegulatory and compliance spendingSecurity and fraud prevention and detectionMobile bankingIntegration technologiesBusiness intelligenceInfrastructure improvementsCore processing technologiesVendor managementSocial media
• #28: Technology should both reduce costs and improve revenue.Technology StrategyTie technology decisions directly to strategic goals of the financial institutionReinforce brand and value propositionOpen architecture allowing flexibility to add new products easily without high integration costs or service limitationsShould service all distribution channels consistently from a single enabling platformIntegrated real-time and relational information in order to serve customers better and more profitablyOnly as good as weakest link
• #29: Now is the time for collaboration. Collaboration is nothing new. There are a growing number of ways that organizations collaborate from the most common and expensive to the newest and least expensive.In areas considered a commoditySharing resources reduces costsSharing ideas improves flexibility Benefits of Collaboration: Share costsAccess to developed skillsAcquire new ideasImprove purchasing powerShare resources (ATMs, advertising budgets, tellers)We have seen the enemy and it is not each other. Community-based institutions have a lot of similarities. Consider the collaborative effort by CUNA, the ABA and other associations calling for a “stop and study” delay in the implementation of the Durbin amendment. Banks and credit unions can work together toward a common goal. Not everything you do is a differentiator. Not everything you do is experienced by customers.We need to look for ways to lower costs by working together. Collaboration on regulatory issues is one example. Collaboration in technology is another. When what you are doing does not make you unique, look for an opportunity to collaborate. When you don’t have scale to get the best prices, or can’t do something meaningful because of cost of entry – collaboration may be the answer.For the sharing of new ideas, best practices, operational efficiencies… collaboration is key.
• #30: Shared Sourcing - OTS (a shared operations center in Denver Colorado serving Bellco Credit Union, SECU, Bethpage Credit Union and FirstTech) exists to create value for the partners by adding scale and efficiency to the process of providing information services. By sharing the expense of operating computer systems and other technologies, the partners were able provide increase skill sets, improved service, and reduce costs than these organizations could have accomplished alone.Choosing the same systems is where these organizations began their shared interest community. The partner’s vision is to collaborate not only on IT, but on other key initiatives (such as vendor and product selection, contract negotiation, and purchasing) as well.Client owned in Avon, CT, COCC manages item processing, core solutions, BI and much more. Their clients are a combination of Community based savings banks, commercial banks and CREDIT UNIONS.Celero was formed in 2003 and is owned by credit union centrals of Manitoba, Saskatchewan and Alberta, and Concentra Financial, along with credit unions in Alberta, Manitoba, and Saskatchewan.With just 300 employees they manage products and services for 150 Canadian Credit Unions representing $43 billion in assets, 9,000 CU employees, 1.7 million members, 600 branches, and 500 ATMS. If averaged equally, that’s 2 FTEs for each credit union supporting Core, CRM, Digital Documents, ALM, Loan Origination, Internet Banking, Risk Compliance, Email, Network Services/LAN, ATM Switching, On-line Member support and more.
• #31: One of the most obvious, largest growing collaborative technology ventures to date – is the Apple iPhone and application store. With over 350,000 apps and over 50,000 paid developers with an easily available software developers kit the possibilities are endless. How can we, in financial services expand on that idea. Opening up innovation on the technologies we rely on so that we can build out our solutions, share solutions and do it faster and less expensively than ever before.
• #32: Open Solutions is leading the way. We are accelerating global collaboration with our recent launch of the DNAcreator and the DNAappstore. DNAcreator is a revolutionary development environment that breaks boundaries by providing everyone in our community – customers and third party developers alike – with the ability to enhance, extend, and add new functionality to core technology by developing “DNAapps.”  We are handing you a rich set of tools that give our community unprecedented access to the DNAcore technology. In fact, these are the same tools that Open Solutions uses to enhance DNA now and we’ll continue to use. Using these tools, anyone – anywhere – is free to enhance DNA for their specific needs and add capabilities that nobody has even thought of yet. With DNAcreator, the possibilities are limitless. If you can imagine it, you can build it, and you can share easily with the community. The DNAappstore is the center of a digital ecosystem where clients and developers can collaborate on common problems, and where anyone can explore, try out, purchase or sell DNAapps that solve these problems.  The DNAappstore completely erases the boundary between client and developer because it lets clients directly access a dynamic universe of developer solutions, or become providers of solutions.  DNAcreator and DNAappstore will also give community banks and credit unions working collaboratively the power of a single, much more influential player in the financial marketplace. You may have seen the recent coverage on the launch of DNAcreator and DNAappstore.Analysts and many of the trade publications have recognized that this is more than a new technology solution; this form of collaboration is absolutely vital to helping community based financial institutions stay flexible and competitive in a rapidly changing environment.Bringing these solutions to market was truly a collaborative effort. The support of the Open Solutions Client Association and many like-minded beta clients helped make this vision a reality.  We are very excited to team up with our client community to extend the DNA core system in limitless new ways.Clients are already working together to solve problems. For example, Redstone Federal Credit Union, a beta client, developed an Overdraft Research app that reduces the time a call center rep spends on researching member overdrafts from 20 minutes to 5 minutes. We are seeing many initiatives in development that will dramatically improve operational efficiency and enhance customer service. Most exciting is our clients’ willingness to work together … banks and credit unions collaborating with each other to solve common problems. When Open Solutions’ partners, clients and independent developers are all motivated to create unique solutions to business problems, barriers to traditional technology development are broken down and everyone benefits.We believe so strongly in this form of collaboration, we are inviting everyone to participate.
• #33: Embrace your opportunitySet Your StandardFind Your PassionFind the Best PeopleTrust Your TeamBecome the Ideal StudentNo Short CutsCollaborate