Center for Financial Innovation and Stability

Notes from the Vault
Larry D. Wall
June 2017

One of the trendy concepts in the 1980s and 1990s was that of "supermarkets" for retail and wholesale financial services. The idea in retail financial services was a customer could obtain a full range of services under one roof, such as banking, brokerage, and insurance. Various legal barriers inhibited some combinations, but the last barrier fell with the passage of the Gramm-Leach-Bliley Act in 1999. However, although many financial firms have had some success with providing a broader range of services, financial supermarkets have not dominated the retail financial landscape.¹ Yet the continuing evolution of Internet-based financial services raises the possibility that this concept can be resurrected by relying on virtual connections rather than physical presence.

This Notes from the Vault post considers the past and possible future evolution of the financial supermarket. I first consider why the Financial Supermarket 1.0 assembled in one physical location did not live up to its promise. Next, I consider how technological change and developments in financial technology, or fintech, create the possibility of several business models, including a new Financial Supermarket 2.0 assembled from virtual pieces. Finally, I look ahead to consider how the concept could evolve further into a virtual Financial Supermarket 3.0, in which financial services are just one of many products and services being offered.

Financial Supermarket 1.0
Financial supermarkets became a popular idea in the 1980s as financial firms sought to exploit economies of scope across financial services. Consumers could potentially benefit from the supermarket concept in a variety of ways, including the increased convenience associated with one-stop shopping. Financial services providers could benefit from the ability to expand profitably by marketing an increasing array of services to their existing customer base and others familiar with the reputation of their brand name.

The financial supermarket has had some success, as many consumers buy more than one type of product from their banks (or other providers), while some consumers are one-stop shoppers. However, most consumers have not bought into the concept that they should rely on a single institution for all of their financial services. Indeed, the recent scandals associated with banks signing up consumers for services they did not agree to buy, most notably at Wells Fargo, arose precisely because many consumers did not attach great value to one-stop shopping.² Instead, most consumers prefer to have the option of buying from different institutions.

Perhaps part of the problem with the original financial supermarket concept is that it really is not comparable to a supermarket! Such stores are not restricted to selling only self-produced goods, they carry a mix of products based on consumer demand. These goods include ones produced in-house (such as cakes in the bakery) as well as those produced by someone else—both store brands and name brands. Consumers buying groceries are free to choose the supermarket that best meets their overall needs, and within the supermarket the particular goods they prefer. The provision of an assortment of goods allows many consumers to have convenience of one-stop shopping while still obtaining something close to their optimal mix of brands. In contrast, the prototypical Financial Supermarket 1.0 offered primarily in-house services. This approach may have been more profitable to the financial institution, but it often failed to provide consumers with the services that best matched their needs.

Evolving models for financial supermarkets
The development of Internet, web, and mobile applications provides financial and technology firms with the ability to sell financial services online virtually anywhere. Many technology firms have taken took a view similar to that of Microsoft founder Bill Gates who famously said in 1994 that banks were "dinosaurs." In this view, banks were ripe for disruption by the superior online experience provided by technology firms. In practice, this approach has proven (at best) a mixed success—only a few financial technology firms (or fintech) have achieved material scale and then only in underbanked or otherwise niche markets.³

One major problem for fintech firms is that consumer financial services are highly regulated and these regulations are not as easily disregarded as those imposed on other industries (as I discussed in an earlier post). However, regulatory issues by themselves would likely only be a costly speed bump to the rapid advance of fintech. More fundamental problems facing these firms have been the need to obtain consumers' trust and, for many services, the ability to access consumers' data and transfer their funds.⁴ The data and funds transfer barriers are particularly difficult since the incumbent "dinosaurs" control them, and many of the incumbents see little benefit in sharing with their competitors. Part of this opposition undoubtedly arises because the incumbent wants to maintain its competitive advantage. However, the opposition also arises from legitimate concerns about the security of consumers' information and funds.⁵ One way of trying to resolve this problem is to use legal and regulatory tools to force sharing. Europe is moving in that direction by way of its revised Directive on Payment Services (often called PSD2), as discussed in the Atlanta Fed's Take On Payments.⁶

The difficulties of overcoming trust and data barriers has led many fintech firms to seek to collaborate with banks rather than replace them. This collaboration takes the form of either fintech firms working with banks or a bank buying the fintech firm to incorporate its technology into the bank's own services.

The emerging marketplace for financial services offers at least three different approaches for incumbents and fintech firms.

• Enhanced Financial Supermarket 1.0: In this case, the financial services provider would provide one-stop shopping for a set of financial services where most are produced in-house, but some may be the equivalent of supermarket store brands (produced elsewhere but sold under the supermarket's brand name). This scenario represents an enhanced version of the original financial supermarket idea insofar as there are a number of fintech firms that could be acquired and merged into the supermarket. This strategy is most likely to be pursued by incumbents, but it could also be followed by fintech firms. For example, the fintech firm SoFi started by offering consumer loans but has expanded into wealth management, and it recently announced plans to apply for an industrial bank charter.⁷
• Financial Supermarket 2.0: In this case, the financial services firm would act more like a true supermarket, offering its own services but also offering those provided by other firms. Along with this selection of financial services, the supermarket would also allow data sharing to the various services providers on its platform.
• Banking as a service where consumers buy services à la carte: This case is similar to the current arrangement for most consumers, but with two important differences. First, information about the customer could be shared by service providers, allowing virtual integration and management of services across different service providers. Second, given such data sharing, it may be possible to unbundle individual services further, for example, with the provision of wealth management (holding the funds in the checking account) separated from the provision of payments services (the transfer of money to third parties).⁸ To the extent any firm could be considered a supermarket that "owns" the customer relationship, it would be the firm providing whatever the consumer regards as the "core service(s)" and/or the firm that aggregates information across the different relationships to provide a consolidated picture to the consumer.

The most obvious difference between these three business models is the extent to which the consumer can chose their service provider(s). Experience suggests most consumers prefer to have some choice, which limits the potential for an enhanced Financial Supermarket 1.0. Nevertheless, such an approach is likely to prove attractive to some market niches. The opposite extreme is banking as a service (model 3), in which consumers continue to pick different suppliers to meet their various financial needs.

Financial Supermarket 2.0 (model 2) would operate somewhere in between the other two models depending upon how the supermarket chooses the other service providers and how the providers work together in servicing customers. This model is often promoted under the title of "banking as a platform." However, there are at least two different versions of how this platform would operate in terms of working with other service providers on the platform. David N. Brear, chief thinker at Think Different Group and Pascal Bouvier, venture partner at Santader InnoVentures (see here and here) discuss banks (or possibly a fintech firm) providing a platform on which they sell services with selected partners. Ron Shevlin, director of research at Cornerstone Advisors, suggests a more open view, with the platform being open to a greater range of providers that generally do not view one another as "partners."

In principle, the more open the Financial Supermarket 2.0 platform, the greater the selection of services and the lower the costs of coordinating with other firms. In practice, regardless of how open they are, platforms seem likely to conduct at least some due diligence about the other suppliers on their platform, given consumers' concern about theft of their valuable information and money.⁹ Moreover, even with due diligence, suppliers on a more open platform would not benefit from the reputational spillovers that could result from a financial supermarket offering a curated selection of services. As a result, the smaller fintech firms on a more open platform would likely start at a significant disadvantage relative to firms with established reputations.

Financial Supermarket 3.0?
In theory, the financial supermarket of the future need not be limited to providing financial services. The retail chain Sears tried to build a Financial Supermarket 1.0 in the 1980s, leading some to joke that at Sears one could "buy your stocks where you buy your socks." Unfortunately, for Sears the concept failed, as retail customers did not see sufficient benefits to obtaining a variety of consumer products and financial services in one physical location. However, as we move from the age of meeting in physical locations to meeting through electronic connections, the potential sources of value from a financial supermarket are also changing. Increasingly, the gains from one-stop shopping show up in the form of more and better information about consumers that firms can use to serve them better. This suggests that firms with a large presence in online shopping, search, and/or social media might benefit from becoming a financial supermarket. These firms already have large databases built on deep relationships with large numbers of consumers and the analytical ability to extract insights from these data. These firms would be able to combine their existing data with financial data to predict more accurately each individual's demand for different products and services.¹⁰

The one potential problem with a large technology firm becoming a Financial Supermarket 3.0 is that providers of many types of financial services are subject to a large number and variety of regulations, including regulations related to both consumer protection and financial stability.¹¹ Moreover, in some cases, the parent of a financial services firm could become subject to intrusive supervision from financial supervisors.¹² Technology firms seeking to become a sort of financial supermarket may, in a narrow legal sense, be able to avoid many of these restrictions by outsourcing the production of sensitive activities to independently owned firms. However, to the extent that Harvard Professor Lawrence Summers is correct about "the traditional American aversion to combinations of banking and commerce," merely finding ways to get around existing regulations may not be sufficient, as these laws and regulations can be changed to expand the set of firms subject to regulation.

Conclusion
Financial supermarkets have the potential to provide consumers with increased convenience and these supermarkets with reduced costs and increased profits. The overwhelming majority of consumers failed to see net benefits of shopping exclusively at a Financial Supermarket 1.0 where the increased convenience took the form of buying multiple services from the same firm in one location. The increase in convenience did not offset the loss of choice. However, the development of services provided through the Internet creates new opportunities for individuals to manage their financial activities on a common platform. One way in which this may happen is the development of a Financial Supermarket 2.0 in which the supermarket melds its services with those provided by a selected group of fintech partners. Additionally, other consumers may also continue to select service providers on their own, relying on online data sharing among these firms to allow individuals to manage their finances in a more integrated manner. Looking into the future, one might easily imagine a Financial Supermarket 3.0 that combines not only financial services but also other services. Such a Financial Supermarket 3.0 could arise because of the potential benefits of combining financial and nonfinancial data.

Larry D. Wall is executive director of the Center for Financial Innovation and Stability at the Atlanta Fed. The author thanks Scott Frame for helpful comments. The view expressed here are the author's and not necessarily those of the Federal Reserve Bank of Atlanta or the Federal Reserve System. If you wish to comment on this post, please email atl.nftv.mailbox@atl.frb.org.

References

Ensign, Rachel Louise (2016). "What the Wells Fargo Cross-Selling Mess Means for Banks." Wall Street Journal (September 15). Available behind a paywall at https://www.wsj.com/articles/what-the-wells-fargo-cross-selling-mess-means-for-banks-1473965166.

_______________________________________

¹ For example, the department store Sears acquired many of the pieces to build such a supermarket in the 1980s but abandoned its efforts in the early 1990s (see Feder).

² See Wall Street Journal reporter Rachel Louise Ensign, 2016.

³ See the Accenture report, "Fintech—Did Someone Cancel the Revolution?"

⁴ For a discussion of the cost of acquiring customers, see a blog on the topic by Huy Nguyen Trieu, fintech resident expert at Oxford Said Business School.

⁵ The American Bankers Association discussed many of these concerns in a comment letter to the Consumer Protection Financial Bureau.

⁶ A Fact Sheet from the European Commission discusses the intended benefits purposes of PSD2. Accenture and Evry also provide some discussion of what PSD2 may mean for financial firms. However, some European fintech firms have recently expressed concern that PSD2 will be implemented in a way that inhibits their ability to provide services.

⁷ Industrial banks are a special type of state chartered bank that can offer many commercial banking products, including insured deposits. The advantage of an industrial bank charter over a commercial bank charter is the corporate parent of a commercial bank is subject to consolidated prudential supervision by the Federal Reserve, whereas the parent of an industrial bank is not automatically subject to Federal Reserve supervision.

⁸ Chris Skinner, independent commentator, provides an early description of how banking as a service could work analogously to software as a service.

⁹ CGI conducted a survey of consumers across a variety of markets and found, "Protection is by far the most valued across demographics and geography."

¹⁰ Accenture refers to this as "banking as a living business" and briefly discusses how banks could function in this environment.

¹¹ Financial stability considerations may not be important for most types of services, especially if the firm is small. However, if the services provided by a fintech firm were to become important for the functioning of the financial system, such as the provision of payments services, it seems likely that the firm would eventually be subject to prudential regulation.

¹² As noted above, the parent of a federally insured commercial bank is subject to consolidated prudential supervision by the Federal Reserve. Further, any firm designated by the Financial Stability Oversight Council as being systemically important to the financial system is also subject to consolidated prudential by the Federal Reserve.