Innovation | Finance - 7 min

Why the UK financial industry needs to innovate to survive the economic crisis

Andries Smit explains the actions the UK financial industry should take to go through the economic crisis.

Andries Smit

Partner at Stryber

Vibrant, forward-thinking, Europe's leader, but also facing many new challenges: the UK's financial sector is one of the country's flagships and a major supporter of the British economy. 

The UK's history as a leading financial centre is mainly due to its international reach. It is the most connected banking centre in the world, which makes it the largest global hub for international debt issuance, commercial insurance and reinsurance, foreign exchange and one of the largest asset management centres in the world.

The finance and insurance sector is crucial to the UK economy. In the second quarter of 2022, it accounted for 8.36% of the creation of economic value in the country's economy. This makes it the second most important British sector after the manufacturing and construction industry and the fourth largest of the OECD countries in terms of its share of national economic output.

A worrying context

However, following a period of unprecedented growth, the world economy is about to enter a recession. With the ongoing war in Ukraine, the Eurozone and the UK are facing many challenges. Energy prices are soaring, and consumers are being hit hard. Inflation in the Eurozone and the UK is at record levels, with prices rising by up to 10%.

As far as the financial services sector is concerned, rising interest rates have come back. For the first time since September 2011, the European Central Bank's interest rates are above 1.00%, as the European institution raised them to 1.25% on September 8, 2022. The situation is even more worrying in the UK, where the Bank of England raised rates from 1.75% to 2.25% on September 22. Although the effects of these increases are not yet apparent to the growing number of "zombie companies" that populate many European economies, the result will likely be significant business failures in the region.

While the IMF predicts that the UK will experience almost no growth in 2023, and as the global economy is living in fear of recession, should this mean that the future of the UK financial industry is bleak? Not really. In fact, there are many opportunities for growth and innovation in the sector. Let’s take a look.

Sustainability as a promising opportunity

One of the main challenges companies face in the sector today is sustainability. With the world in the midst of a major economic crisis and climate change showing visible effects globally, consumers are becoming increasingly aware of sustainability issues and expect corporates to behave sustainably and responsibly. 

These factors have a significant influence on their consumption habits. According to a study by Eden McCallum, only 8% of Britons are not concerned about sustainability in their consumption habits, while 61% say they are concerned or very concerned about this issue. While this trend relates mainly to the retail industry, there is an opportunity for the financial sector to get in touch with the concerns of consumers increasingly ready to change their consumption patterns.

The companies that are able to help their customers through the cost of living crisis and still push hard on the ESG agenda, they have an opportunity to grab market share.

Not only consumers are concerned about sustainability, investors are also keeping a close look into this matter. According to a study published by PwC, ESG is becoming a critical component of investment decision making in the UK. Nearly three-quarters of those surveyed consider how a company manages ESG risks and opportunities to be an essential factor in their investment decisions. 

It comes as no surprise that several startups and companies in the UK financial sector have already ventured into the sustainability market. One of their focuses is to propose and rank so-called sustainable investments for their clients.

However, a growing number of investors are concerned about sustainability standards, many are not convinced that companies are currently pushing hard enough on this issue. In a global poll commissioned by Workiva, amongst senior business leaders, nearly two-thirds of the UK participants said they feel their organisations are ill-prepared to meet their ESG goals.

According to these respondents, the two biggest reporting challenges they face are finding ways to calculate greenhouse gas protocols when measuring carbon emissions and achieving investor-grade carbon disclosures.

There is a clear consensus: sustainability issues are a vital part of the UK financial sector’s future. Nonetheless, it is not the only growth opportunity for the industry. 

Going beyond simple digitalisation is another great opportunity

Do you remember this quote by Dyson’s founder, James Dyson: “I think the winners in a recession are those who produce new technology that does things better”? Well, this does not only apply to vacuum cleaners and hair dryers. It’s the same for the financial industry: there are not only significant growth opportunities in sustainability but also in digitalisation.

Since the onset of the pandemic, consumer behaviour and expectations of digital experiences have changed significantly across many sectors, including banking. New regulatory initiatives, changing customer preferences and technological innovation have transformed how they choose to bank.

Online or mobile platforms are now the norm in the banking sector. A study by Monstarlab shows that most UK consumers (80%) use some form of online banking, and over a quarter (14 million people) have a digital-only bank account, which is triple the number in 2019. 

We need leadership that does not use the recession as an excuse, but rather as a catalyst to raise the bar and do better. Today, customers expect more from their banking experience and no longer want a paper-only relationship with their bank - they want it to be digital, mobile and available anytime.

Consumers are used to the algorithms of Netflix, Spotify and TikTok and expect companies to know them inside out and offer them personalised products and services. Furthermore, companies such as Klarna provide financial solutions to customers when needed, so they no longer need to spend time finding the right financial product. 

Indeed, the new era of Fintech focuses on signals about user behaviour captured by sophisticated software, such as AI and blockchain, capable of analysing thousands of data on online and offline life. 

Technology plays a major role in the evolution of the banking industry today. Nevertheless, modernising the infrastructure backbone  – the core banking systems that manage the heart of a bank's data activities – is perhaps the most crucial step that banks have yet to take.

Investments in cloud computing, blockchain, DeFi and robotic process automation (RPA) are also becoming a priority in this new world. These identified investments offer opportunities to reduce costs in the back office while putting traditional banks in a better position to compete with Fintechs.

Banks must be aware of these challenges, innovate, and embark on a true digital transformation, which means more than just digitising existing products and customer journeys. If they follow this path, they will be able to meet new consumer needs and unlock new value propositions.

CVB as an innovation tool

More companies are now turning to Corporate Venture Building (CVB) as the latest method of innovation to capture these opportunities. The old dominant model of trying to innovate in-house is no longer adequate for the pace of change. CVB is now the fastest way for companies to stay at the forefront of innovation, create value from previously unexplored places, and generate returns for shareholders.

According to a GSSN study, startups founded through CVB take half the time to go from their foundation to their Series A than other startups (25.2 months vs 56 months). They also obtain their seed funding 3.5 times faster than the average for other startups (10.7 months vs 36 months). Finally, their Average Internal Rate of Return is 2.5 times higher than other startups (53% vs 21.3%).

The new CVB frameworks are designed to manage the systemic risk of today's markets. When conducted properly, a CVB process begins by defining the innovation gap that can support the parent company economically. Prototypes are then built based on the most promising ideas and are immediately tested in the market to ensure that only the most viable ones are implemented. The whole process must be data-driven, fast and strategic. With suitable governance structures, entrepreneurial minds are harnessed in a stable business structure to make the parent company's new start-up successful.

Ultimately, the CVB model allows large companies to build an innovation engine with all the speed, flexibility and agility of a start-up, backed with the resources and support that only a large company can offer.

Photo by Essow