In the immediate aftermath of the global financial crisis, a chorus of bankers reaffirmed their commitment to global universal banking because it helped smooth revenue volatility. Since then, a host of regulation, from structural reform to tougher capital and leverage ratios, has changed the game.
EY analysis shows that genuinely global banks reported average return on equity (ROEs) of around 7.5% in 2013, while large banks with a less diverse business and geographic footprint were able to achieve an average ROE of around 10.7%.
In Asia-Pacific in particular, the Basel III capital adequacy regime is changing the risk and capital dimensions of lending in emerging markets – a problem compounded by the fact that the local legal and regulatory frameworks do not suit large global banks.
As a result, across the region, some global banks are already retreating from activities with too high a capital consumption relative to return – a trend that we believe will only continue.
That said, before withdrawing from any market, banks need to first optimise strategy across three dimensions: capital, liquidity, and leverage. In our experience, banks can find substantial savings by changing processes, reviewing data issues and evaluating how models have been implemented.
This can invert the economics of some activities, making capital usage more effective with no change to the underlying business. Often, capital savings of 15% or more can be found across core business units – with the potential to make apparently uneconomic business activities viable.
Of course, capital optimisation will not save every area of the business. In some product lines or geographies, global banks will find that value creation is no longer possible. These institutions will have to either exit business lines altogether, leaving local and regional banks to pick up these customers, or opt for a partnering approach.
When exiting client relationships, we advise organisations to have a fully thought-through end-to-end execution plan, in particular the handling of client communications, which need to be proactive and consistent.
Many clients are likely to have existing relationships with the organisation outside of the country or business line in question and it is important that a communication strategy takes account of those broader corporate relationships so as not to cause unintended consequences to other parts of the business.
Thought should also be given to facilitating the transfer of these customers to other institutions in order to minimise client impact. If the exit involves an asset or client portfolio sale to another institution, transition would normally form a key part of any plan.
However, compelling demographics mean that many banks will be keen to retain at least a toehold in emerging economies. By 2025, the population of Africa and Asia will increase by about 350 million and 450 million respectively, accounting for about 55% of the world's disposable household income. This population will lead an increasingly urban lifestyle with growing financial and banking needs.
Banks that decide to completely exit these markets now will struggle to re-enter them in future. Instead, they may choose to form partnerships with local or regional banks to use their distribution channels – a strategy that would also enable global banks to continue to provide a full international service to multinational corporations.
The difficulty will be in negotiating terms that both parties can live with. Global banks must decide if they are exiting entire accounts, or just non-profitable products. And, if the latter, what is the incentive for local institutions to pick up the business?
Will the potential to increase market share and cross-subsidise with higher value products be sufficient? Can the local bank find value in using their global partner's network to support existing corporate clients as they expand overseas?
In terms of what this will mean for the macro landscape, we believe that truly global banks will become increasingly rare. But they could be replaced by global banking unions – the banking equivalent of the global airline alliances.
Many of the foundations to support such global banking alliances are already in place, with increasingly formalised economic unions in Asia and Latin America and the emergence of regional banks from Japan, Australia, and ASEAN.
These strong, well-capitalised local institutions have spent the last five years expanding their regional footprints, following intra-region trade flows and the geographic expansion of their customers. A number stand ready to partner with US and European banks to offer global coverage.
We may even see the breakup of a global bank into three regional institutions – each captured by a single regulator. Although the bank would lose scale on its balance sheet, it would gain from operating in a simplified regulatory context – enabling different business models that work effectively within the different regulatory environments.
What is certain is that, in the future, banks will increasingly focus on profitability rather than revenues. As a result, they will be defined by narrower scope and simpler structures, but greater reach. They will serve fewer customer segments, but some will operate across more markets – and the gaps will be filled by alliances.
All of the above points to a very different banking future, where the next decade could well mark the end of global universal banking.
The views reflected in this article are the views of the author and do not necessarily reflect the views of the global EY organisation or its member firms.
The views expressed in this column are the author's own and do not necessarily reflect this publication's view, and this article is not edited by Asian Banking & Finance. The author was not remunerated for this article.
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Jan is Global Banking & Capital Markets Emerging Markets and Asia-Pacific Leader at EY. He has two decades of top management consulting experience in global financial services. He contributes extensively to EY’s thought leadership for Emerging Markets and has worked with clients in all Asian markets, in particular in Greater China and the Asean countries.