Seizing the Future: The Role of Embedded Finance in Modern Banking

By Alex Mifsud, CEO, and co-founder of Weavr

Historically, banks stood as towering structures in our communities, places we went to for our financial needs. However, the way we interact with banks and how we buy and use financial services are undergoing significant transformation. At the heart of this transformation is “embedded finance”.

What exactly does embedded finance mean? At its core, it refers to the integration of financial services within non-financial settings, places where people wouldn’t traditionally expect banking functions. A simple analogy would be observing how banks evolved over time: from having physical branches to offering services over the phone, then moving to the internet, and finally to mobile apps. Today’s evolution is about seamlessly integrating these banking services into other digital applications, a step beyond banking apps. If you’re using an app to buy a car, shouldn’t that app provide you with car finance as well? No need to send you to a lender – it should all be there nicely joined up and super convenient.  It turns out that this idea of weaving financial services into digital applications is relevant to all kinds of financial services and all kinds of services.  It’s a big idea, and also emerging as a major new and powerful distribution channel for financial services.

Banks have demonstrated adaptability throughout history. They’ve shifted gears, changed tactics, and adopted new technologies, always keeping their customers’ needs in mind. The move towards embedded finance is just another chapter in this story of evolution. However, every shift brings its own set of challenges.

In many places, a lot if not most of the established banks have invested in building their digital capabilities, aiming to provide more and better services to their customers. In some regions, like the UK and Europe, regulators have spurred them on with legislation like open banking forcing banks to become easier for digital applications to interact with.  Yet, despite pouring resources and funds into improving their digital enablement and offering APIs (application programming interfaces) to provide open access, many banks struggle to see a good return on their investment. Many now think that they have not gone far enough.

Opening up some services hasn’t led to greater revenue generation, perhaps because a critical mass of accessible services need to be reached before digital businesses are able to create the kind of revenue-generating synergies that the banks hoped for.  In response, one avenue many are exploring to potentially overcome this hurdle is “Banking-as-a-Service”, commonly known as BaaS.

BaaS represents an exciting frontier in the banking world. It holds the potential to revolutionise several aspects of banking: imagine creating bank accounts when they are needed in a digital application for, say, invoicing, so that the customer being invoiced can transfer funds to settle. Or, imagine accounting software not just telling a business owner the bills they’re due to pay, but actually providing them with a loan in mere seconds to cover the amount. These capabilities touch upon key revenue-generating areas for banks, such as lending, foreign exchange and international transfers.

BaaS, however, is not the panacea for truly monetisable embedded finance that several banks hoped it might be.  As Churchill and Peter Parker are thought to have said, “with great power comes great responsibility.” The more capabilities banks offer to digital businesses, the more responsibilities they expect them to take, simply because the risks to the bank get higher.

The most significant concern, then, is the loss of control. When banks extend access to their digital capabilities, allowing third-party developers to use them to build new products and experiences, the potential for the bank to lose effective oversight and control emerges. With the digital world moving at lightning speed, ensuring stringent quality and security measures is an ever-present challenge.

A possible solution lies in the bank being more proactivly involved in how financial services are embedded, and how they are managed once they are delivered in embedded form. Rather than making their digital capabilities available via BaaS or via direct APIs, banks should actively create financial products that are intended to be embeddable by design.   By developing products tailored for integration into third-party platforms, they can deliver the required functionality, but also introduce logic that ensures compliance and security. Consider a scenario where a bank crafts a financial tool. This tool is designed to fit snugly into another platform and working seamlessly. Yet, any use of it by customers remains always under the bank’s watchful eye, ensuring everything runs smoothly, and in line with an ever increasing set of financial regulations and securely.

Looking forward, I envision the development of operating systems and platforms similar to “Embedded Finance Cloud.” Such platforms would provide banks with a comprehensive set of tools  to design, distribute, oversee, and manage these next generation financial services that are designed to be integrated into software applications. This would allow for a marriage of innovation and responsibility, ensuring banks remain at the forefront of change, all the while upholding their duty to protect themselves and their customers.

In conclusion, the world of banking is changing, Ushering in a future where finance is more integrated, more accessible, more convenient, and more user-friendly. However, as banks navigate these new waters, they must do so with caution, ensuring that they balance innovation with responsibility.