No going back: New imperatives for European banking

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McKinsey & Company | By Matthieu L, Debasish P, Ildiko R, Hiro S, and Marcus S | May 18, 2020

New imperative for european banking - No going back: New imperatives for European banking

Now is the time for Europe’s banking leaders to reimagine how their institutions operate and their role in society.

COVID-19 remains an unresolved health challenge that has resulted in tragic loss of life. The economic contraction emerging in its wake will likely be the deepest since World War II and the road to recovery will be long and challenging.

Over the past few months, banking leaders have displayed resolve and resilience, moving swiftly to protect the health of employees and customers, ensure the continuity of basic banking services, and build up capital, liquidity, and cost buffers to strengthen their institutions. In the coming months, banks will start to return to something resembling normal service, reopening offices and branches. But so much has changed over the past few weeks: customers’ financial needs, the way they engage, how employees work, and even society’s expectations of banks.

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The industry will likely face a prolonged period of economic pressure and banks’ actions in the coming months will set their performance trajectory for the years ahead. Banks have shown during the lockdown what is possible in terms of speed and innovation. There is no going back. Now is the time for banking executives to reimagine how their institutions operate. Bold vision and disciplined execution on a set of key imperatives will ultimately differentiate the leaders from the laggards as this crisis abates.

The crisis will put banks under prolonged

It is too early to predict the full impact of the pandemic. The outcome will depend on the length of lockdowns, the drop in demand, and the shape of the recovery. The scale of government support will also be critical—in the last month, some European governments have rolled out packages worth up to 30 percent of GDP and this level of intervention might continue.

All companies must think through possible scenarios to plan their next steps. Based on a recent survey of nine scenarios developed by the McKinsey Global Institute, more than a third of European executives expect a muted recovery. This is the basis of the analysis that follows, but we must keep in mind that other scenarios, both more optimistic and pessimistic, are also plausible.

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The muted-recovery scenario translates into a drop in GDP of 11 percent across the Eurozone in 2020, and recovery in late 2023. 1 For banks, this would lead to sharp drops in revenue, a squeeze on capital and a hit on return on equity.

No going back - 6 imperatives to win

The crisis has upended the world in which banks operate in terms of customer behavior, ways of working, and government actions.

McKinsey’s European customer survey shows how customer behavior and needs have changed over the past month: digital engagement levels have climbed up to 20 percent, the use of cash has halved, 30 to 40 percent of customers have expressed a greater need for advice, while 20 to 40 percent want products to help them through the crisis. 4 Pension shortfalls are a particular challenge with those close to retirement facing a very immediate problem. Banks will need to reflect on the propositions and channels through which they can best meet these evolving needs.

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  1. Innovate new products and propositions. COVID-19 has triggered a range of new financial needs that are waiting to be addressed.
  2. Lock in the shift to digital sales and service, and reshape physical distribution. In just a couple of months, customers’ adoption of digital banking has leapt forward by a couple of years.
  3. Create a structurally leaner and scalable cost base. To offset the effect of spiking risk costs and sluggish income, and to free up resources for building digital capabilities, banks need to aim for a cost improvement of 25 to 35 percent (or 20 to 30 percent net increase after reinvestments) over the next two to three years.
  4. Reset the organization and technology for speed. During the lockdown, many bank teams turned agile overnight and delivered the impossible—such as enabling thousands of employees to work from home, or deploying new digital journeys in record time.
  5. Double down on risk and capital management. Credit losses will be the defining differentiator of performance over the next year. Early detection and proactive intervention are critical to manage non-performing loans.
  6. Rebalance the business mix and seek targeted M&A deals. Industry landscapes are often redrawn after crises.

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The role of banks in society: A time for purpose-driven choices

Crises often prompt self-reflection and change and this may be a perfect time to reset what has been, at times, a challenging relationship with society. Banks have already been involved in economic support measures, but some may want to be even more proactive, as in Switzerland for example, where banks supported the government-initiated COVID-19 small-business loan program.  This could also be a time for banks to rethink their culture. Moving from a control-based culture to one based on strong values supported by smart controls might prove far more effective in steering European banks towards recovery in the volatile future.

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