The UK banking and financial service sector is currently undergoing a period of reinvention (whether it realises it or not). 

There are several reasons for this:

Firstly, the rise of social media has provided customers with a means by which they can voice their needs and also connect with their fellow customers, for example, online communities such as The Consumer Action Group and MoneySavingExpert in the UK are now very powerful and have a strong influence on consumer behaviour.  This peer-to-peer communication means that the influence banks have over their customers is now reduced.

Secondly, banks are under pressure to provide additional value to their customers in response to the damage done to their reputation by the banking crisis.

According to recent (March 2011) research from Ernst & Young, the UK has seen the largest drop in consumer trust [in banks] (63%) within Europe and more than three quarters of UK respondents (80%) identified the banks’ bonus culture as the source of their dissatisfaction.

There is clearly a job to do here to improve public perception of banks.

Additionally, there is a range of new disruptive technologies being introduced in financial services.  These include; alternative payment provision from big guns such as Paypal, Google and Facebook, the development of mobile payments services and the rise of micro-finance initiatives and peer-to-peer lending operations.

These indicate that a paradigm shift in service provision is occurring and traditional banking models will need to change radically to reflect these developments.

How are traditional banks meant to respond to these threats and what should they focus on?

The majority of industry commentary I am tracking seems to suggest that improving customer experience is key.

For example, at the recent Finovate Europe conference, personal finance management (PFM systems) dominated, with 8 different companies presenting variations on this theme.

Why? Well, PFM systems (especially those that aggregate a customer’s financial data) are a key means by which banks can use the information that they hold to offer real value back to the customer, by providing them with offers, advice and services that are relevant to their actual spending behaviour.

The recent Engagement Banking white paper co-authored by SapientNitro , Geezeo and Brett King takes this a step further and suggests that the entire banking infrastructure needs to be remodelled.

They say that banks need to close “the “client experience gap” between where customers’ needs and expectations are and where technology and multi-channel experiences are headed versus your average retail banking client engagement model”

They say that the new customer experience is headed “Towards rich and personal online experiences, a mobile wallet, social media, “branches of the future,” touch-screen ATMs, personalized digital marketing, and more.”

Now, this is pretty interesting, as this suggest that banking innovation actually boils down to improving customer service.

In fact, at the SXSW session ‘Banks: Innovate or Die!’ session last month, blogger Oscar LLarena described how “we never got to that conversation. It quickly detoured to be about customer service and how good or bad corporations and/or start-ups do in that space”.

Oscar cites that at one point, the ex-VP of Citibank declared that the number one question directed at their call centre is ‘What’s my balance?’.

Given this disconnect, it is not hard to see why this drive towards innovation hinges on changing banks’ relationships with their customers.

What this means

Innovation in banking is not about technology. It is about the application of technology.

Technology is wonderful and exciting but it is only when we apply to real world needs that we offer real goodness.

When people talk about banking innovation, they are talking about:

• Technology solutions to improve customer service
• Data solutions to improve customer service
• Social Media solutions to improve customer service

Being able to speak to your bank on social media is great, PFM solutions are great, Mobile banking is going to be amazing but only if they are part of a wider initiative within the bank to improve the customer’s experience holistically.

Flip it like this and the actual technology looks pretty easy.  Making the customer the heart of your business is a damn sight harder.

This is why start-ups have the innovative edge.  Many are customer-centric and have social built into their business model.

Witness BankSimple, they claim that they will provide “a worry-free alternative to traditional personal banking” with, “no surprise fees plus the customer service you deserve”.  Their vision?  “Personal Banking from a company that respects you”.

It is much harder for large established banking institutions to offer this type of service.  Their legacy processes and enterprise systems are simply not currently set up to support this model of engagement.

Harder, but not impossible.  What banks must have is a desire to change and move towards a social ethos.  That is, to set-up the means to listen to their customers, to understand these needs and then to actually act on this understanding to develop their business strategy and products and services accordingly.

With this social ethos in place, legacy systems will, by necessity, change and develop over time in accordance with their customers’ needs.

Then they will be able to say that they have actually innovated and my guess is that their market share will reflect this!