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CHAPTER 3

CHAPTER 3 TECHNOLOGY IN BANKING: E-MONEY, E-BANKING, AND E-COMMERCE LEARNING OBJECTIVES To understand … Bank technology in term of e-money, e-banking, and e-commerce How e-commerce affects the set-of-contracts theory of the firm and the similarities between banks and communications firms

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CHAPTER 3

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  1. CHAPTER 3 TECHNOLOGY IN BANKING: E-MONEY, E-BANKING, AND E-COMMERCE

  2. LEARNING OBJECTIVES • To understand … • Bank technology in term of e-money, e-banking, and e-commerce • How e-commerce affects the set-of-contracts theory of the firm and the similarities between banks and communications firms • E-banking as the delivery system based on electronic funds transfer (EFT)

  3. LEARNING OBJECTIVES (continued) • To understand … • The components of EFT as ACHs, ATMs, and POSs • Home banking was a bust in the late 20th century but that Internet banking and e-commerce will take off in the early 21st century

  4. CHAPTER THEME • This chapter focuses on the information-processing and e-delivery aspects of banking from a technological perspective. • Innovations related to information technology (the I in TRICK) have paved the way for e-money, e-banking, and e-commerce. • EFTS and Internet banking are the delivery vehicles of the 21st century.

  5. ARE BANKS DINOSARUS? Yes No Maybe

  6. Banks Are Dinosaurs “Technology in the Workplace” Study Criteria • Has the industry made use of technological advances in a timely manner? • Did it participate in or encourage the development of new technologies? • Has the industry improved its competitive standing, efficiency, or profitability? Banking’s Grade = C-

  7. BANKS ARE NOT DINOSAURS Technological Innovations: • E-Money • E-Banking • E-Commerce • Electronic Funds Transfer Systems

  8. E-COMMERCE AND THE SET OF CONTRACTS THEORY OF THE FIRM • Figure 3-1 (p. 67)

  9. THE SET OF CONTRACTS THEORY OF THE FIRM • Theory from Jensen and Meckling (1976) • Basic idea is to think about the various groups that have claims on the firm’s assets/cash flow • Narrow view suggests only two claimants: Owners and creditors

  10. SET-OF-CONTRACTS THEORY(continued) • Broader view has many claimants including employees, tax collectors, society, suppliers, customers, and regulators. • Advances in technology permit information flows between and among these parties/claimants to be more timely and efficient

  11. THREE IMPORTANT WEB CONCEPTS • Business-to-Customers (B2C) • Business-to-Business (B2B) • Business-to-Employees (B2E) • To which we can add, • Banks-to-Regulators (B2R)

  12. INFORMATION TECHNOLOGY AND TRICK • Transparency -- permits debt and equity holders to receive information on a more timely basis • Risk Exposure - eases managers ability to sell and buy risk management • Customers -- enhances banks’ abilities to communicate, inform, and attract • Kapital Adequacy -- reduces agency costs associated with bank and securities regulations

  13. ClaimantExample Shareholders E-voting Creditors E-reports Supplier/distributor E-orders Customers E-orders Employees E-mail Regulators/IRS E-filings Society E-info E-commerce uses IT to enhance communications and transactions among mangers and stakeholders

  14. THE EVOLUTION OF MONEY CONCRETE (animals, hides, trinkets, gold) to ETHEREAL (electronic impulses)

  15. CHECKS • Check Volume • Check Imaging • Electronic-Check Presentment • Electronic-Check Conversion

  16. CARDS TYPES • Credit Cards • Debit Cards • Smart Cards or Chip Cards WAYS TO BE USED • Face-to-Face or card present • Mail order / telephone order (MOTO) • Internet

  17. E-BANKING: PAYMENTS SYSTEMS • Automated Clearinghouses (ACHs, see Figure 3-2, p. 73) • Automated Teller Machines (ATMs, see Figure 3-4, p. 80) • Point-of-Sale Terminals • Internet Banking

  18. PAY CARDS AND THE UNDERBANKED • A pay card • looks like a credit card, • acts like a debit card, and • permits customers to receive electronic payments, • but it is not tied to a conventional bank account • Pay cards are marketed through • employers that offer direct deposit and to • parents for teens

  19. WIRE-TRANSFER SYSTEMS CHARACTERISTICS: • High-dollar value of average transfers • Real-time settlement • A widely distributed network of users SYSTEMS: • Fedwire (see Figure 3-3, p. 77) • CHIPS (Clearing House Interbank Payment System) • SWIFT (Society of World Interbank Financial Telecommunications)

  20. Funds Transfer Service Real-time gross settlement system Custodial and Transfer Services 1. Safekeeping Function 2. Transfer-and-Settlement Function FEDWIRE

  21. CHIPS and SWIFT CHIPS Clearing House Interbank Payment System • 95% of money moving internationally SWIFT Society of World Interbank Financial Telecommunications • Primarily Messaging

  22. MONEY LAUNDERERS AND TERRORIST FINANCING • Box 3-3 (p. 79) describes how money launderers use wire transfers • Aggregate funds in bank account of legitimate • Following 11 September 2001 great attention has been drawn to how terrorists use financial systems and underground (cash) transactions to circumvent detection • When a paper trail exists, authorities “freeze assets” to impede funding

  23. E-BANKING: ATMs • ATM or • Pay $3 to deal with a Teller • The Numbers Game • 1980 < 20,000 ATMs • 2000 >200,000 ATMs • During the 1990s, ATMs grew at a rate of 10% per year • ATM Networks: • HONOR, PLUS, MAC, STAR, NYCE, MOST, & CIRRUS

  24. POINT OF SALE SYSTEMS • 53,000 in the early 1990s versus 2,000,000 in 2000 • Why were they so slow to grow? • Payment habits are slow to change and customers prefer credit cards with a “grace period” or checks with “float” to debit cards • Merchants have gone with technologies more focused on electronic cash registers and inventory control rather that EFT

  25. INTERNET BANKING --Andy Grove, CEO of Intel (1996) • The Internet is like a 20-foot tidal wave coming, and we are in kayaks. • It’s been coming across the Pacific for thousands of miles and gaining momentum, and it’s going to lift you and drop you. • We’re just a step away from the point when every computer is connected to every other computer, at least, in the U.S., Japan, and Europe. • It affects everybody -- the computer industry, telecommunications, the media, chipmakers, and the software world. • Some are more aware of this than others.

  26. ELECTRONIC DATA INTERCHANGE (EDI) • EDI refers to the process of exchanging information electronically (e.g., invoices, purchase orders, and remittances) • Why? • Speed the flow of dollars and data • Omnibus Consolidated Rescission and Appropriations Act of 1996 (requires federal agencies to convert to EFT)

  27. OUTSOURCING Do We Perform Computer Operations In House or Contract with a Third Party? Outsourcing varies inversely with bank size as only 21% of banks with assets over $10 billion prefer to outsource compared to 40% for banks with total assets under $500 million

  28. TECHNOLOGY AND THE FUTURE OF COMMUNITY BANKS Factors Contributing to the Decline of Community Banks • Failure to address the financial needs of baby boomers • Burdensome regulations that create an “unlevel playing field” favoring nonbank competitors • Inability to afford the high cost technology necessary to compete • Financial innovations such as securitization and the development of secondary markets that are transforming banking into a “pure commodity business”

  29. PRODUCT AND SERVICE TRENDS IN BANKING • Internet banking and bill-paying services • Cash-management services • Debit and chip (smart) cards • Upgraded branch-delivery and loan systems • Imaging technology • More efficient data storage (and greater concern about security (backup systems) in the aftermath of 11 September 2001)

  30. TECHNOLOGY AND THE FUTURE OF COMMUNITY BANKS How can Community Banks Compete? • Invest in Niches • Leverage Their Core-Systems Vendors • Make Small Size an Advantage • Utilize Application Service Providers • Build Internal Integration Skills • Don’t be Penny Wise but Pound Foolish

  31. FINANCIAL-MANAGEMENT IMPLICATIONS OF E-BANKING View in terms of the ROE model: • ROE = PM x AU x EM = ROA x EM • Greater efficiency => higher PM and higher ROA and ROE, ceteris paribus (other things being equal) • Revenue (sales) enhancement (e.g., through cross-selling) => higher AU and higher ROA and ROE, ceteris paribus • Affect EM through more efficient use of equity capital => higher ROE

  32. BANKS AS COMMUNICATIONS FIRMS • They are similar in that they both: • Establish networking relationships through which they • Collect, store, process and transmit information for themselves and the customers’ accounts • Not a two-way street: • It is easier for communications firms to enter financial-services businesses than the other way around

  33. CHAPTER SUMMARY • Bill Gates predicts that online banking (“virtual branches”) will become the primary vehicle for delivering financial products and services • E-money, e-banking, and e-commerce provide the platforms for Gates’ prediction to come true

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