Financial Services Practice

The changing
landscape for banks
There have been challenges, sure, but the past 18 months have
actually been relatively positive for global banks. What can they
do to build on this momentum?

January 2024
The past year and a half has been profitable for Roberta Fusaro: What’s clear is that financial
the global banking industry. But even though the institutions are in a reckoning. They are having
industry has had its best period since 2007, banks to reinvent themselves in the face of some major
still need to acknowledge recent structural and structural and macroeconomic shifts.
macroeconomic shifts and look for ways to evolve
with markets. On this episode of The McKinsey This is The McKinsey Podcast, where we help you
Podcast, McKinsey senior partner Alex Edlich and make sense of the world’s toughest business
partner Reinhard Höll join editorial director Roberta challenges. I’m your host for today, Roberta Fusaro.
Fusaro to discuss the findings of McKinsey’s
Global Banking Annual Review. They outline the
new challenges banks are facing and suggest how Banks in transition
leaders can address those challenges. Roberta Fusaro: If I’m a leader in a traditional
bank right now, what are some of the challenges
This transcript has been edited for clarity and length. I’m facing?

The McKinsey Podcast is hosted by Roberta Fusaro Alex Edlich: Here are a couple of examples.
and Lucia Rahilly. Consumer digital-payments processing conducted
by payment specialists grew more than 50 percent
in the past few years. In payments, the shift to
A time of reckoning contactless digital payments is accelerating.
Roberta Fusaro: Take a look at the balance sheet
in any global bank today, and it will probably look In addition, the demand for embedded finance,
different—lighter—than it did ten years ago. Here’s offered through checkouts on websites or apps, is
McKinsey senior partner Alex Edlich on one of the also growing. Capital markets, investment banks,
biggest takeaways from McKinsey’s annual banking and broker-dealers are gaining market share from
report, The Great Banking Transition. traditional banks in various products, whether that’s
in equity or capital markets.
Alex Edlich: There are $402 trillion in assets
that exist in the global financial system. More Distribution is also increasingly moving from
than half of that is not on bank balance sheets. omnichannel to fully mobile channels. Banks need
Over the past decade, 75 percent of the net to operate differently in those environments. Their
increases have gone into mutual funds, insurance clients want different services. Their lenders want
balance sheets, pension funds, sovereign wealth different loan durations, and sometimes insurance
funds, and private capital. companies are better able to match the durations.

Roberta Fusaro: Partner Reinhard Höll agrees It is critical to think about, “How are we selling
and says that while the balance sheet has eroded, directly to customers or indirectly to customers?
interest rates have risen over the past 15 years. What are the technology platforms that we need
Those rising interest rates boosted net interest to have to make our products and services more
margins, which in turn boosted the sector’s seamless?” In many countries, apps, mobile phones,
profits by about $280 billion in 2022. Another big and the web have fundamentally changed how
change? Technology. consumers interact with their financial institutions.

Reinhard Höll: In the past, whenever we talked They are searching, shopping, and sometimes even
about technological change, it was always about transacting on their apps. This creates a different
big programs, about cloud, about core banking role for a financial-services institution. How do
migration systems. Now we’re talking about banks respond to that? How do they move further
gen AI [generative AI] and stuff you can implement upstream? How do they meet the clients where they
pretty quickly. need to be met?

The changing landscape for banks 2

Roberta Fusaro: Reinhard, can you build on customers, which introduced potential additional
that? What kinds of changes are we seeing in risks. Sometimes the risk may not actually come
banking distribution? out of your organization, but it may actually be
coming from partners.
Reinhard Höll: We’ve seen two things. The first is
that a lot of the distribution is not advisory driven, Look at retail distribution, for instance, which is
but it can be digitized quickly and done at scale. done with partners and through partners. The
This means banks should always try to get the financial institution only provides the underlying
advisory angle in there or be really, really good in service, but you need to make sure the partners still
nonadvisory-driven distribution. comply with regulations, so they won’t shine a bad
light on you as a banking institution.
Second, some of our estimates indicate that we will
see up to 30 percent of distribution in retail banking Roberta Fusaro: What can banks do differently to
going via third parties. This could be an online mitigate the risk?
comparison platform. This could be embedded
finance. This could be all kinds of things. This can Reinhard Höll: Three things spring to mind. The first
happen with the banks, or against the banks where is technology—for example, instant payments. Any
you still only provide the service, but someone else payment can happen within a couple of seconds. If
effectively has customer access. Banks need to you want to look out for fraud risk, you’ll want to look
think very clearly about how they want to position out for KYC [know your customer] risk.
themselves. For that, some of the answer may be,
“Well, we provide the service at scale, and we’re still The second is making sure that risk is not thought
going to have a healthy economic return.” about in silos but rather across the different
environments. Also, making sure we think not just
about compliance but how it fits together with the
The risk factors underlying factors that drive fraud. This can make
Roberta Fusaro: What kinds of risks are banks a huge difference. Last but not least is making
facing now in the midst of this “great transition”? sure that you have the proper risk culture and risk
compliance culture in the background. We have
Alex Edlich: The changes in interest rates and in consistently seen that risk culture is one of the
the wide dispersion of economic outcomes and strongest determinants of how well an institution—
forecasts are extremely large. Financial institutions whether it’s a traditional bank, a payment company,
and banks need to up their game to the next level or a stock exchange—can steer through all the
in order to meet these changing risks, such as new difficulties. The reality is that banking institutions
regulatory requirements, the macro context, and are ultimately in the business of taking risks. That
risks associated with technology and cyber. will hopefully never change. To manage them
correctly, it’s a combination of technology, culture,
Reinhard Höll: It’s probably one of the toughest and everything in between.
questions we’re asking in the report. If we look
forward, you have the traditional banking risk, Roberta Fusaro: Reinhard, what do you mean by
like credit risk, market risk, and liquidity risk. risk culture?
And it’s still at the forefront of everyone’s
mind, given the macroeconomic outlook, given Reinhard Höll: Risk culture is really a combination
geopolitical instability. of the underlying mindset and the risk practices. We
often think about it as something that cuts across a
But you actually have to go further. On the number of dimensions: How well do you understand
one hand, you see under the great header of risk? What’s your transparency on risk? How much
technology risk, cyber risk, and fraud risk. We are do you acknowledge those risks? And there’s a third
seeing broader APIs, and APIs in a sense that we element, which is responsiveness: What level of
have broader connectivity to other players, your

The changing landscape for banks 3

care and what speed should I apply, particularly to seen the improvements that financial institutions
some of the faster-moving kinds of risk? have made over the past decade, particularly banks,
in improving their cost-income ratios, improving
their cost per asset to serve.
Banking across geographies
Roberta Fusaro: This was a global study. Alex, what Financial institutions should ask themselves, “How
differences did you see across geographies? can we continue to exploit technology, advanced
analytics, and AI to leverage our talent better, to
Alex Edlich: Between 2015 and 2022, the changes improve the quality and delivery of our products and
in total assets that went off the banking balance services, to better meet clients where they want to
sheet in North America was 79 percent. It was be met and how they want to be serviced?”
77 percent in Europe. But for China, it was only
34 percent. In the rest of Asia–Pacific, except for We believe it’s not only an opportunity to improve
China, it was 51 percent. In Latin America, it was client service and customer experience, but it’s also
40 percent. a way for them to continue to innovate the products
and services that lenders and other banks and
This is a global phenomenon: in every geography, financial-services customers can get from them.
except for Latin America and China, the share that’s
going off the banking balance sheet is more than Roberta Fusaro: What do banks have to do to
50 percent. One of the really important things is compete on technology? What’s changed there?
what we see in the Indo-Crescent region.
Reinhard Höll: A couple of things have changed.
Reinhard Höll: This region, which starts in East We should not forget that banks were one of the
Africa and stretches to the Middle East, India, earliest adopters of technology back in the 1980s.
ASEAN [Association of Southeast Asian Nations] That said, a lot of them are still stuck in the ’80s.
countries, and Australia, had the majority of the
best-performing banks on the planet. This is the The report highlights that of the best-performing
first time in history we’re seeing this for this region. banks in Europe, the top ten invest, on average,
two and a half times more into technology than the
If we cut up the top financial institutions by market bottom ten. So there’s a big difference in terms of
cap, 28 percent of those institutions are in the investment. At the moment, profits are up, meaning
Indo-Crescent region. There is a huge middle class investment possibilities are up.
rising in India, and the country is opening up to
cross-border payments. You have ASEAN, where There has also been a step change in technology.
we see a big, broad-based SME [small and medium- It’s not just about your core banking system but
size enterprise] industry base accessing more generative AI in particular. Gen AI allows better and
finance. You see wealth management taking off in simpler customer interactions. It allows banks to
the Middle East, and you’re seeing an increasingly use all the soft information/data they have, be it in
interconnected East Africa. So a lot is happening. operations, be it because of customer interviews,
or be it in terms of monitoring software. They can
leverage that data, which at the moment requires
Embracing technology lots and lots of manual intervention, and use it to
their advantage.
Roberta Fusaro: Lots of opportunities are emerging
in ASEAN countries and elsewhere in the world. But
The third element is really about how the barriers to
you know technology is another big opportunity—it’s
entry have gone down, especially with gen AI. For
actually a key area of focus in the report. Alex, what
instance, digitally interacting with your customers
should banks be doing with their technology?
and not having just a chatbot, which can drive you
insane when you interact with it. It’s really more
Alex Edlich: From a technology and AI standpoint, it
about providing the right tonality, providing services,
is so critical to continue to boost productivity. We’ve

The changing landscape for banks 4

and helping your call-center agents. Often, the cross-border and international part of it. When we
banks that implement technological improvements talk about scaling or exiting, it means a few things.
have a quick turnaround. By exploiting new One, it means thinking clearly about where you are
technology, banks will boost productivity within and if you are big enough to provide transactions
six, eight, 12 weeks. This is a massive change from locally. If you are you too small to provide those
what we have seen in the past. transactions at scale and find a partner, then exiting
might be the answer.
Roberta Fusaro: For the banks that are further
along on this technology journey, what are Or is it a mixture that is in-between, which then
they doing differently? How are they making means partnering? So the answer to a given
decisions differently? illustration could be if you’re a medium-size
institution in the US and you still do everything
Reinhard Höll: A multitude of answers springs to about security services and capital markets
mind, but I would probably highlight three things. yourself. If this is a scale-driven business, we
One is having a very clear strategy about where would have to ask the question, “Is this something
technology is a distinctive advantage for banks and someone else could do better for you?”
where it’s maybe more of a hygiene factor. They
need to tack along and have a clear idea of where If you ask that same question to a bank in Slovenia,
to invest. the answer might be that that bank is the only one
that’s offering transactions locally. So the question
Second is making sure to take the organization of scale affects this bank differently, and the bank
along. An example of this, which we have seen when may need to invest and scale up further to get the
we implemented gen AI at one particular client of best products and services for its customers.
ours, is an increase in coders’ productivity. For the
top 25 percent of banks, the increase was massive. Also, there’s another interesting element. Banks do
For the bottom 25 percent of banks, we actually acquire and divest assets. Historically, they have
saw an initial decrease because they didn’t take the done so. But in the past 15 years after the financial
people along. crisis, we’ve seen much less of that. And what we
suspect in many respects is that we’re going to see
Third is aligning the technology with the local somewhat of a pickup in activity.
regulatory regime, with what their customers
actually need, and making sure that it’s a fitting end- The record profits also need to go somewhere.
to-end package. It’s not just about fixing something You can invest them into your franchise. You
for the short-term results. It’s about taking a little can give them back to shareholders or other
bit of a longer view on technology and implementing stakeholders. Or you can think more about M&A.
all the necessary things. Be it agile, be it cloud, be it And sometimes the answer is, particularly in the
gen AI, or be it the analytics behind it. richer ecosystem of fintechs, that you may acquire
smaller stakes in quite a few of the fintechs and
build a partnership network around you without
Why it isn’t business as usual necessarily owning all of them.
Roberta Fusaro: In the report, we talk about the
need for banks to scale or exit existing businesses
as part of this transition. Does this present new A new approach to the balance sheet
challenges for banks? Because it feels like banks Roberta Fusaro: This talk about acquisitions is
typically do acquire and divest assets fairly normally. making me think about the balance sheet, Alex.
What’s different here? How should traditional players think about these
recent changes to the balance sheet?
Reinhard Höll: So we highlight this particularly for
transactions because that tends to be the most

The changing landscape for banks 5

Alex Edlich: From a balance sheet standpoint, actually set it up. Many institutions at the moment
we do think that there is an ability to flex and to don’t do it as much as they probably would want to
sometimes even unbundle their balance sheet. do, and they can do even more of it.
Whether that means figuring out which are the
assets that need to remain on their bank balance The second thing is that, in terms of managing your
sheet, or actually better syndicated to others, or own balance sheet, it allows you to back out some
originate to distribute to other institutions that are stuff and say, “Well, we can actually do additional
better able to hold, who have better cost to funding, business and get some risk diversification into
or better duration, or better liabilities to match those the whole thing.” That means a bank, which may
assets—that would be one thing that they could do. be heavily focused on mortgages, finds a partner
institution or fund or whatever to take on some
They should think exceptionally hard about which of the risk, which allows the institution to take on
are the products, clients, geographies, services additional risk, maybe even of the same kind.
that do require a balance sheet and that the banks
are best off serving. Not everybody can be served There is a third element for traditional banks, and
by a bank when you have a constrained balance everyone else as well, which is they could go to
sheet. But in this environment, which does have other institutions and actually onboard some
great tailwinds for banks with higher interest rates of someone else’s credit exposure. They would
and greater spreads, there’s a question of what do generate returns.
you do with your balance sheet now that it’s earning
more money than it was in a very low interest Last, what do we mean by a traditional bank? A
rate environment? traditional bank for us is a bank that holds deposits
and actually gives out credit facilities. But in theory,
Roberta Fusaro: Reinhard, anything to add here? it’s always worth remembering that many people
can directly hold assets themselves, and any of us
Reinhard Höll: So the background to this is that who invest in stocks or ETFs [exchange-traded
70 percent of the net increase of financial stock funds] are ultimately doing exactly that.
happens off balance sheet. What does it mean?
Overall, we see that the global source of financial
funds in 2022 was $326 trillion—a huge number. Making change happen
Roberta Fusaro: For any bank, whether it’s a
Of that, about 37 percent or $120 trillion were traditional bank or not so traditional, how hard or
funded off the bank’s balance sheet, meaning there how easy is it to change course, and what kinds
were deposits in the background of banks’ liability. of conversations do you need to have inside the
Everything else ultimately got funded either by retail organization to make things happen?
investors, for instance, through the stock market,
through institutional investors, pension funds, private Reinhard Höll: It’s a very complex issue for some
equity, private debt, or sovereign wealth funds. of the institutions. It often starts with the way you
think about risk. Just because you may be able to
If you look at the relative change from 2015 and use other partners for handling risk doesn’t mean
2022, the numbers are even starker. Seventy-three you’d lose all the responsibility for it. The traditional
percent got funded off balance sheet. For banks, example is the financial crisis. Part of the reason for
this has three opportunities. It means you can do the financial crisis was that we just offloaded risks
business that you ordinarily couldn’t do. My normal to someone else and then it was kind of forgotten
example is, if you were to build an offshore wind and we ran into trouble later on.
farm and finance it, be it in the North Sea on the
Eastern seaboard or somewhere off Japan, it’s very Also, the way you interact with partners, particularly
difficult to finance via the bank’s balance sheet. You the financing partners, needs to be much more up
could find a third-party provider, let’s say a pension to scale.
fund, and the bank could help syndicate it and

The changing landscape for banks 6

 We have always seen syndications within the next five or maybe 15 years are going to look very
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industry. So for very large loans, a bank would different than the last 15 years of very low interest
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syndicate something to do to bigger institutional rates. And that means that your strategy, your
investors, which is a relatively manual process. The operation, your culture, and everything around them
process has become more digital over the past need to acknowledge that and everyone needs to
couple of years. But as we move to a more broad think differently about how to deal with this future.
basis, in order to become effective, banks need to
become more automated and digital. Roberta Fusaro: OK, first step: acknowledge a new
era. How about you, Alex?
The most extreme example is when we say there’s a
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supply chain financing where you have lots of letters Alex Edlich: Institutions are not doomed by their
of credit going through with a very short duration, and own business model. They’re not doomed from birth.
that it just needs to run automatically. So your risk For some, their reactions will be defensive; for some,
assessment tools need to be up to scratch. Your APIs it’s about going on the offense; for some, it’s about
to communicate with partners need to be up to scratch. changing the business model a little bit.
But you also need to have very strong SLAs [service-
level agreements] with your partners to do that. If you can’t take these assets onto your balance
sheet, then ask, who is the natural owner of
The third thing is to really make sure you approach them? And can you originate to distribute? So
both your partners and your risk protocols not just those are the types of changes that we see by
from a culture angle but also from a commercial different subsectors in this vast and growing
go-to-market strategy. That you recognize that it’s a global ecosystem.
very different thing if you go out with the mindset of,
“I’m doing mortgages, I’m doing corporate loans from Despite all the uncertainty that exists—
my own balance sheet” versus “I’m doing something macroeconomic, geopolitical, technological—and
where I can actually also pass it on to partners.” despite all of the turmoil that happened last year
and this year, banking saw its highest profits in more
The final point is for the investors to make sure they than a decade. They earned, in 2022, a 12 percent
have risk capabilities up to scratch. They are often return on equity and so far in 2023, 13 percent.
differently regulated, and they have a fiduciary duty, And that compares with a 9 percent average since
be it a private equity fund or a pension fund. Make 2010. So despite all of the turmoil, despite all that’s
sure that this aligns with what they are looking after. happened, they’ve actually done very well.

Roberta Fusaro: Alex and Reinhard, thank you so

Next, first steps much for taking the time today and talking through
Roberta Fusaro: So as we wrap up, what’s the first the findings.
thing financial executives should prioritize?
Alex Edlich: Great to see you.
Reinhard Höll: First and foremost, everyone
should recognize that we’re entering a new era. The Reinhard Höll: It’s a pleasure to be here. Thank you.

Alex Edlich is a senior partner in McKinsey’s New York office, and Reinhard Höll is a partner in the Dusseldorf office. Roberta
Fusaro is an editorial director in the Waltham, Massachusetts, office. Lucia Rahilly is the global editorial director and deputy
publisher of McKinsey Global Publishing and is based in the New York office.

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The changing landscape for banks 7