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Tuesday, July 16, 2019, 00:16
Opening of virtual banks may benefit HK consumers
By Peter Liang
Tuesday, July 16, 2019, 00:16 By Peter Liang

Virtual banking is finally coming to Hong Kong as the government has granted eight licenses as part of its smart banking initiatives aimed at facilitating financial innovation and enhancing customer experience and, most importantly, financial inclusion.

The first batch of virtual banks is expected to open for business later this year. But even before they begin to canvass for business, their potential for disruption is already being felt by the staid and rigidly structured banking system in Hong Kong.

Worried that Hong Kong is falling behind its regional competitors in innovation, the government is keen to promote fintech, and the licensing of virtual banks is seen as a major step toward that direction

The banking system, as we know it, took shape in the late 1970s and early 1980s when Hong Kong was trying to establish itself as an international financial center in the region in competition with Singapore. Central to the restructuring of the banking business was the institutionalization of the Hong Kong Association of Banks. It was, among other things, an interest rate-setting cartel to which all banks had to join and observe its rules.

As it was, the cartel, on whose board the government was represented, naturally came under the dominance of HSBC, which was known then as Hongkong and Shanghai Banking Corp, which, together with its subsidiary, Hang Seng, controlled more than 50 percent of all local currency deposits, giving them undisputed power to set interest rates and dictate rules.

This was the only option to rein in the financial marketplace at a time when Hong Kong didn’t even have a central bank and the supervision of banks was elementary. The HSBC was, at that time, the de facto central bank as well as the primary banker for the government.

Despite complaints from some foreign banks that the arrangement had effectively shut out competition, consumers weren’t all that concerned, especially after a run on a number of smaller banks that rocked the financial system. Depositors, naturally, cared more about security than returns from their deposits at banks.

The arrangement saw its biggest change in the early 1980s when the government had no choice but to peg the exchange rate of the Hong Kong dollar against the US dollar to stem the massive outflow of capital arising from a crisis of confidence. In doing so, Hong Kong has given up much of the control of its monetary policy, including the setting of interest rates, to Washington.

But the dominant players, with the addition of Bank of China (Hong Kong), have continued to exert great influence on the banking sector by controlling the cost of funds through their stranglehold on the supply side of the interbank market in which banks lend to each other. They have also been criticized for holding back new innovations, or the development of the so-called fintech (financial technology), which is taking some neighboring markets by storm.

As it turns out, being late is not necessarily a bad thing. The collapse of the P2P (peer-to-peer) lending market on the Chinese mainland has shown that disruptive forces, represented by the likes of Amazon and Tencent, which have fascinated so many tech-savvy people, can be devastatingly destructive.

Indeed, Hong Kong consumers have been slow to embrace fintech because they find that their basic banking needs are largely met by the ATM machines that are everywhere and advances in internet banking provided by nearly all banks. But the convenience offered by the Fast Payment System introduced last year has helped boost consumers’ interest in innovations that can change the way they interact with banks.

Worried that Hong Kong is falling behind its regional competitors in innovation, the government is keen to promote fintech, and the licensing of virtual banks is seen as a major step toward that direction. Major tech companies, including Amazon, Google and Apple, have harbored ambitions to branch into the personal banking business. They found that it’s much more cost-effective to partner with existing banks because compliance with the banking regulations can be prohibitively expensive and time-consuming.

It is understood that some Hong Kong banks are interested in starting their own virtual banks either on their own or in partnership with established technology companies. Above all, they are obviously keen on protecting their customer bases which are the major source of cheap funds.

Preparing to face the challenge from virtual banks, the major commercial banks were moved to give the army of small depositors a break by scrapping the minimum-balance fee. This had long been considered by social activists as unfair and discriminatory. A few smaller banks have also abolished the fee; more are expected to follow suit.

Some financial analysts believe virtual banking will upend the local banking system that has been dominated by a few large banks for many years. Such dominance is seen to have thwarted competition making it impossible for smaller, or foreign, banks which are disadvantaged by limited infrastructure, including branches and ATM locations.

Facing no such constraints, virtual banks in the city can give the big players a run for their money, and, hopefully, consumers a better deal.

The author is a current affairs commentator.

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