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Tech Disruption In Retail Banking: CEE Banks Are On The Digital Fast Lane


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Tech Disruption In Retail Banking: CEE Banks Are On The Digital Fast Lane

S&P Global Ratings believes that Central and Eastern European (CEE) banks have progressed well in adapting their business models to the digital landscape, and the speed of digitalization in some of these markets outpaces that in many European peer countries. The majority of banks adapted early thanks to a digital-affine workforce, readily available technology, and sound income buffers in recent years, which enabled them to upscale investments into product innovations and to strengthen internal IT processes. Now, many banks in CEE are well positioned to meet client preferences through their already-largely digitized back-end infrastructure and state-of-the-art products. This put them in good spots when the COVID-19 outbreak accelerated the switch to online or, in many cases, directly to mobile banking, making it abundantly clear that recent years' tech spending was worth it.

Applying our four-factor TRIP analysis (technology, regulation, industry, and preferences; see chart 1) relative to international peers, we assess the disruption risk from each of the factors on the banking sector in the respective country. Specifically, we look at the Czech Republic, Hungary, Poland, and Slovenia, the markets in CEE that we follow most closely and that we review under our Banking Industry Country Risk Assessments (BICRAs; see Related Research). Overall, we see the banking industry in Poland and the Czech Republic as more resilient to tech disruption risks, while others, particularly Hungary, have to catch up.

Regulators in Hungary are giving banks incentives to progress with digitizing their business models and foster fintechs to enter the market. Hungarian clients, however, are used to traditional offline banking, so the pressure on banks to deliver innovative solutions is not high. Discrepancies are larger when comparing individual banks within a country, particularly in Hungary and Slovenia, where the market leaders have made big technological leaps. We believe the largest banks are generally better-equipped to master disruptions risks than smaller ones because of their dominance in the market and larger investment capacity. Nevertheless, all banks will need more digital investment over the next few years to keep up with rapidly rising customer expectations, in our view. For digital frontrunner banks, this means safeguarding their competitive edge, while for laggards, the viability of their business models is at stake.

Chart 1


Industry: Disruption Risk | Low (Czech Republic, Poland); Moderate (Slovenia); High (Hungary)

Sound cost efficiency and earnings create capacity for digital investments, but at varying degrees

The banking sector in CEE experienced a strong turnaround in the past decade. Banks have recovered client trust since the financial crisis and steadily increased their market penetration. While some markets are very concentrated with the leading banks having large market shares (such as the Czech Republic), others look somewhat more fragmented (see charts 2 and 3). The build-up of solid earnings in the past decade enabled the banks to gradually switch from post-crisis restructuring to business model digitalization. Slovenia started somewhat later because of its deep banking crisis in 2012 and 2013, but banks are catching up fast, in our view. We think that Czech and Polish banks are proving highly successful in digitizing their businesses, as their innovative product offerings and up-to-date internal IT systems illustrate. Recently increasing state ownership in Poland to above 40% of the banking sector has not resulted, at least not yet, in a slowdown in operational efficiency.

Banking markets in the four covered CEE countries have a high share of foreign banks, ranging from roughly 80% of total assets in Czech Republic to 40% in Hungary. Most of the foreign groups' CEE subsidiaries have developed their own digital strategies, but we did not identify a clear pattern on whether these entities perform better or worse than domestic incumbents. Although they typically benefit from the larger groups' economies of scale, they could simultaneously lose the agility and speed to effectively implement solutions ahead of the parents. That said, we also see cases where subsidiaries compare digitally better than their parents, such as mBank in Poland, which we consider to be currently digitally more advanced than its German parent.

In Hungary, policymakers have strived to gradually reduce the ownership of foreign banks in the past decade. Apart from OTP Bank--the largest financial institution in the country--the banking sector is somewhat behind that of other CEE countries when it comes to digitalization. We think that the government agenda has created some uncertainty for foreign owners and investors to invest more in digitalization as they did for other CEE subsidiaries.

Chart 2


Chart 3


Cost efficiency of banks in most of the CEE economies is sound and remains slightly below the average of the European banking market (with an estimated cost-to-income [CIR] ratio of 65% at year-end 2020). One key factor for the strong CIRs is the product portfolios' higher interest rate margins. Higher interest rates in most of these economies in recent years and the market power of the largest banks enabled them to push for higher yielding loans. Despite a decline in interest rates because of the pandemic, we expect banks will continue to have higher yielding products than banks in Western Europe. However, this also obscures otherwise weak operational efficiency particularly for Hungarian banks. A significant share of these profits have been used for IT investments and consumed much of the savings from branch closures and other efficiency initiatives. Indeed, cost-to-income ratios for banks in these countries were roughly stable over the past five years, on average, despite the closing of 12%-30% of total branches (per 100,000 inhabitants; see chart 4). We expect that banks will continue to reduce their branch network in light of continued investment in digital solutions, especially because COVID-19 has accelerated the switch from offline to online and mobile banking. We estimate that the usage and transactions on the mobile apps have increased 30%-50% for almost all banks in 2020.

Chart 4


Digitization has not only led to increased cost efficiency, but also significantly higher revenue. New product solutions and faster processes have made banking more attractive for clients. An important contributor to new products in CEE were the accelerating development of domestic challenger banks (such as MONETA in Czech Republic), which raised the bar for incumbents. Challenger banks were fast in offering innovative products because they usually had no legacy IT systems and could swiftly implement projects. For example, MONETA launched a fully online mortgage refinancing solution in 2020 that enables a faster and cost-efficient distribution of new housing loans. While we do not think incumbents and foreign subsidiaries significantly lag challenger banks when it comes to the speed of digitalization, evidence shows that challenger banks are progressing somewhat better with their online and mobile banking performance.

The role of fintechs and bigtechs in most CEE markets are immaterial when looking at market shares within their type of business. Poland ranks first by number of active fintechs and cumulative volume of funding (€150 million) (see chart 5). The country has evolved into an important European fintech hub in recent years--although it still only represents a minor fraction of the funding level seen in the U.K., which leads Europe with around €4.4 billion of investments just in 2019, according to Innovate Finance. While more and more fintechs are emerging in CEE, for now, we see no disruptive threat for banks' lending market shares yet. Still, these services raise the bar for user convenience, which banks strive to match. This is one of the reasons why we expect more cooperation and strategic partnerships with fintechs to enrich the product offering. Bigtechs are not a threat for banks' revenue bases as is the case of many Western European markets, where we have not seen a major disruption from these players so far.

Chart 5


The cooperation of banks within the country is also an important factor that strengthens the digital experience for clients. Poland illustrates how banks in CEE are cooperating in the same manner, and Slovenian banks launched similar services recently. Through a joint venture of the seven top Polish banks, BLIK, a mobile payment solution, is a success story that could reduce the reliance on credit card networks. Banks' investment in modern payment solutions in some CEE countries is comparing well with the success of Nordic countries, where banks have historically created a strong partnership to improve the payment system (for instance, Swish in Sweden, Vipps in Norway, and MobilePay in Denmark).

We consider larger Polish and Czech banks among the most digitally advanced in Europe, and ahead of peers in Hungary and Slovenia. While we also observe digital success stories in these markets, for example OTP in Hungary or NLB in Slovenia, we don't consider those as uniform in a market-wide perspective.

Technology: Disruption Risk | Moderate

CEE banks' tech capabilities could outpace Western peers'

New technology is at the root of financial innovation and CEE countries are evolving rapidly. This is supported by solid network infrastructure in these countries, which lays the foundation for technological innovation. Indeed, with close to 100% 4G coverage and solid coverage by fast broadband, all four CEE markets are more than sufficiently equipped to facilitate standard banking services. In particular, Slovenia and Poland outperform the EU average where more than 60% of households are connected to fixed very high capacity networks. Still, the four countries rank below the EU average on the European Commission's Digital Economy and Society Index, which measures the digital competitiveness of EU members. The index ranking--led by Nordic countries--reveals lower integration of digital technologies in businesses as a key constraint to CEE's progress in digitalization. However, we consider many banks perform better when it comes to integration of technologies in their operations than the index suggests for the overall economy.

We think that CEE banks' management teams have played a pivotal role in digitizing the business models and banks' managerial setup often corresponds with their digital success. Therefore, banks with dedicated leadership roles for digitalization (such as a chief digitalization officer) have progressed well in recent years--especially those with leaders who have a rich experience with respect to digitalization and a diverse background in different sectors (such as IT). Also, ample availability of IT-talent in CEE countries, as demonstrated by the number of IT graduates in the economies (see chart 5), supports banks digital progress. Although much talent is still emigrating to Western European countries, this trend has somewhat fallen in recent years, which is positive for banks aiming to hire digitally savvy talents.

Chart 6


COVID-19 made it abundantly clear that banks' recent tech investment was worth it. CEE banks offer most core banking services online, which put them in a solid position to face contact restrictions amid the pandemic. Next to bank accounts and payments, these services typically include online consumer loans and insurance products. Only a few banks offer digital mortgages, because the legislative hurdles--such as physical land register requirements--still prevent banks from introducing and fully exploiting digital end-to-end processes. We consider many CEE banks well advanced in their IT front-end solutions, outperforming many Western European peers. Nevertheless, we see a large digital discrepancy between banks, which also shows in the functionality and user perceptions of banks' mobile applications (see chart 7).

Chart 7


Customer-facing technologies are just part of the game. Many banks are quick in duplicating other banks' features, which means the digital advantage of new features typically does not last long because basic technologies are available to all players, including incumbents and new entrants. For this reason, the speed of implementation matters for client acquisition and maintenance. This will widen the digital divide between early adopters and laggards, in our view. A well-set-up back-end infrastructure and organizational agility are prerequisites to shorten the life cycle on the deployment of new solutions. Although CEE banks also typically require middleware to build digital platforms on top of core banking, we believe these banks are less affected by legacy IT infrastructure than their Western European peers. This is supported by the relatively newer banking sector, which developed mainly after the breakdown of the Soviet Union, and particularly applies to domestic challenger banks.

These steps are supported by an increasing adoption of cloud-based services. In CEE, we estimate the proportion of banks that employ cloud services is approaching 50%. The use of a third-party cloud enables banks to scale back on tech hardware and concentrate instead on building software to better service customers. This gives banks the flexibility to respond quickly to changing market, customer, and technological needs. Many banks are moving into a "hybrid cloud," in which the banks maintain access to proprietary data but combine this with a public cloud. This assures the banks that their own data is still protected (for more information, see "The Future Of Banking: Bank Cloud Adoption Goes From Blue Sky Thinking To Economic Necessity," published Feb. 8, 2021, on RatingsDirect). A notable example is Polish-bank PKO's joint effort with the Polish Development Fund (state-owned) to set up a national cloud operator in 2018, which now cooperates with Google and Microsoft, among others. While we view this as a favorable development, it is also representative for national concerns over cyber security, data privacy, and (in the case of banks) regulation, which still prevents banks from fully exploiting the potential of cloud solutions.

Updated back-end and cloud-based infrastructure also enables more advanced technologies, such as artificial intelligence (AI) or big data. Although actual use cases are still rare in CEE countries, banks recognize the potential of these technologies. Indeed, only 6% of Slovenian banks indicated they have launched AI or big data solutions, but another around 65% are actively discussing or developing these technologies, according to a Bank of Slovenia survey. We estimate these numbers are similar in Czech Republic, Hungary, and Poland. Distributed ledger technologies, such as blockchain, are still in earlier phases of their life cycle and relevant for the corporate banking business lines. Although banks are differently successful in employing new technologies for customers, we believe those are equally available to the banks as they are to nonbank competitors such as fintechs or bigtechs. This drives our assessment of moderate risk for all countries.

Preferences: Disruption Risk | Low (Hungary); Moderate (Czech Republic, Poland, Slovenia)

Mobile banking stamps down online banking

Customer preferences are changing rapidly across CEE markets. On average, online banking penetration across the Czech Republic, Hungary, Poland, and Slovenia improved to 63% of the population in 2019 compared with 48% in 2015 (see charts 8 and 9). The pandemic is further driving digital product demand, particularly via the mobile channel. Banks reported mobile banking growth rates of up to 50% in 2020 as measured by the number of active users, resulting in mobile banking surpassing online at some banks. This is the case, for example, at Slovenian market-leader NLB, which reported a mobile banking penetration of 42% as of December 2020, compared with 38% for online. We have seen this phenomenon in other markets, mostly emerging ones, where clients skip online and go directly from branch to mobile banking. We expect this trend will continue, highlighting the need for banks to build feature-rich and customer-friendly mobile applications. On total mobile banking adoption, however, Poland seems to be in the race with PKO and mBank reporting mobile banking penetrations of around 50% of their client base, reflecting the population's high demand for mobile banking services. Interestingly, online banking penetration is well below EU-average, which suggests a significant digital divide in the population within the country. As a result, we consider disruption risk arising from the customer base in Poland and the Czech Republic as lower than, for example, in the Nordics, where the digital adoption is much more uniform.

Chart 8


Chart 9


Digital adoption and proficiency of the CEE's population still lags that of its Western peers, although the gap has narrowed. In 2019, the average online penetration of the four countries was around 4 percentage points below the EU average, while this gap has been at 10 percentage points five years ago. However, we believe many clients prefer visiting a branch and have face-to-face meetings when undertaking long-term financial decisions. This is not necessarily bad news because it buys CEE banks some time to upgrade their IT solutions. Over the medium term, we expect the emergence of mobile banking, the temporarily lower availability of physical banking, and converging internet usage toward the EU average will drive online banking penetration closer to most EU peers--opening up possibilities for banks to expand their online presence.

Payment behavior shows a similar trend, although some of the CEE countries remain among Europe's top cash-using nations. Poland and the Czech Republic are notable exceptions. The average number of CEE customer card payments in 2019 was only around one-third of the yearly card payments in the U.K., Denmark, or Sweden, the European leaders. That said, we estimate cash usage in banking activities dropped substantially as demand for contactless payments grew amid social distancing and as branches close to shift to an online-only presence. Although we expect cash usage will increase relative to the troughs in parts of 2020, we believe customers are likely to maintain a meaningfully higher reliance on digital payments than they did before COVID-19. In our view, this development is supported by industry-wide solutions, such as BLIK in Poland or Flik in Slovenia.

We also believe the level at which customers assert pressure on banks for digital products differs significantly within our four-country peer group. As indicated by the uptake of digital banking services, we consider Czech and Polish retail clients more digitally demanding than particularly those in Hungary, giving Hungarian banks more time to adapt their solutions. We also believe the level of digital conservatism results from the population's geographic spread. Urbanization has been less pronounced in these four countries, ranging from 55%-74%, compared with an average of 75% for the EU. The countries' rural characters is reflected in high customer loyalty to traditional bank advisory and branches, in our opinion, and the personal interaction bolsters customer relationships. This compares well with Germany, where we observe a similar development with the savings and cooperative banks in rural areas. We believe this also explains the extensive branch networks of banks like MTB Magyar Takarekszovetkezeti Bank, which targets particularly the more rural regions of Hungary. At the same time, the populations' demographics don't seem to be a material factor, as opposed to, for example, Turkey, which exhibits one of the lowest median ages in Europe of just 32 years.

Regulation: Disruption Risk | Moderate (Czech Republic, Poland, Slovakia); High (Hungary)

Most regulators follow a hands-off approach, but Hungary plays a different game

We consider the regulatory framework in most CEE countries a neutral or slightly positive factor in terms of promoting innovation or disrupting retail banking. Regulators in CEE neither push for digitalization nor try to protect banks from the emergence of fintechs and bigtechs that could offer competition. Similar to many other countries in and outside of Europe, regulators in CEE are taking a hands-off approach. Regulation and policymaking in the financial industry has been clearly tilted toward microprudential and macroprudential policies since the financial crisis, and central banks and financial supervision agencies have upscaled their capacities and knowledge to limit financial stability risks. This is not the case when it comes to tech disruption risks, in our view.

Hungary is the notable exception, in our view, because the central bank gives banks incentives to bolster digitalization and acts proactively compared with other countries globally. It is one of the few central banks that actively promotes the progress of the sector's digital transformation. The regulator has fostered fintech rules and implemented measures to attract emergence of new players (such as a regulatory sandbox, innovation hub, comprehensive digital surveys, and reports to increase transparency). While other countries have introduced similar measures, we consider the Hungarian regulator particularly willing to execute its recommendations and impose higher capital requirements if banks' digital progress is deemed insufficient. We think this poses higher regulatory risk of regulatory intervention and new competition from challenger banks and fintechs for Hungarian incumbent banks compared with their CEE peers if they do not catch up by digitizing their business models (see chart 10).

Chart 10


The different aspects of regulation are similar across the covered CEE countries (see chart 11) and other EU countries. This includes general licensing requirements for banks or other finance companies (such as e-money licenses), and harmonized data protection and anti-money-laundering rule books. In line, fintech licensing is the responsibility of central bank or the financial supervision agency, which do not restrict any fintech-related business across all four countries. All CEE countries have established "innovations hubs," which give fintechs and other new joiners to the financial industry a single point of contact for regulatory concerns. On top of that, Hungary and Poland have introduced regulatory sandboxes, which allow fintechs to test their business model before a full business launch. The legal frameworks are comparable with those in European countries with sandboxes (such as the U.K. and Switzerland) in that they do not allow participants to carry out regulated financial services without a license. Similar to most countries, regulators in CEE are rather slow to adapt to new (positive or negative) disruptions arising from cryptocurrencies or blockchain.

Nevertheless, subtle differences in national legislation can, at most, make or break certain digital products, and at least, make procedures more of less convenient and time efficient. A prime example includes the national implementation of know-your-customer requirements set forth by the EU's anti-money-laundering directives. Under the directive, member states and national regulators have discretion to specify exact rules for customer due diligence, which lead to vastly different technical requirements between countries. For example, purely digital onboarding of new clients for credit cards is not eligible in Slovenia, while this is possible in the other three countries. Additional considerations are more qualitative, and include the ease, speed and convenience of obtaining banking licenses. Although the four countries lowered the minimum capital requirements for new banks to €1 million from €5 million, existing processes are not as attractive for new disruptors such as, for example, in Lithuania.

Chart 11


In our view, policymakers in the Nordic and Baltic markets have a clearer and stronger digital agenda to improve the population's digital skills than those in the CEE countries. This is a clear win for the Nordic and Baltic banks because it has enabled an easier switch from offline to online banking. We understand that the governments of CEE countries have increasingly recognized the need to act in that direction, although there is so far a lack of progress, in our view. That said, in Poland, for example, the government has shown steady reform activities to bolster financial innovation in recent years, especially toward digital payments (for instance, the joint public-private Cashless Poland Foundation with their "Polska Bezgotowkowa" program).

Overall, regulation and policymaking could further improve in CEE in terms of digitalization, in our view. A clear guidance from the government and lawmakers, as in case of the U.K. or some countries in the Asian regions, could lead to more financial innovation and inclusion of the population. Banks have already recognized that digitalization is key and are advancing even without a clear framework.

Banks In CEE Are Well Prepared For The Digital Era

The ratings on banks in CEE have gradually strengthened during the past decade, supported by their wealth levels moving closer to those in Western Europe and the banking sector's solid performance. Our BICRA analyses demonstrate the improvement of operating conditions in CEE, and highlight differences among the four covered markets. Although most CEE banks face higher recovery risk than Western European peers, given governments' lower capacity to support the economy, we believe rated banks are well equipped to weather pandemic-related stress due to prudent risk and capital management in recent years and high margins and strong capitalization buffering losses.

Our assessment also incorporates banks' track record in managing the digital transformation. In our view, banks in CEE continue to digitize and transform their business models. That's because most management teams have fully recognized the importance of digital banking and invest heavily in it. We expect that demand for online products will significantly increase in the next years, and that banks are well-prepared to offer product innovations. Nevertheless, incumbent banks cannot rest on their progress, but must continue to invest in their digital capabilities to remain competitive within a fast-evolving environment. Failure to keep up with new technologies and changing client preferences could put significant pressure on profitability or even threaten the viability of some banks' business models.

Digital Disruption Snapshot
Czech Republic Moderate risk Banks have access to relevant technologies and use them to innovate. The access and availability of technological infrastructure does not deviate from other European countries, and compares well to the trend in Poland.
Poland Moderate risk Banks have access to relevant technologies, taking a proactive role in developing new digital solutions with testing and using them to innovate own business. The access and availability of technological infrastructure does not deviate from other European countries.
Slovenia Moderate risk Online offerings somewhat lags those of Czech and Polish banks on average, but banks have access to relevant technologies and the network infrastructure supports the efficient usage by the population--factors reflected by an equal score.
Hungary Moderate risk Banks use relevant technologies and the country’s digital infrastructure is capable of support change processes. Online offerings are increasing but somewhat lagging behind those in the Czech Republic and Poland.
Czech Republic Moderate risk Banking regulation focuses on traditional financial and nonfinancial risks. Regulators monitor banks' digital progress and react, if needed. There is no tendency to prevent or clearly foster digitalization.
Poland Moderate risk Banking regulation focuses on traditional financial and nonfinancial risks but increasingly tries to support innovation, especially for the Polish fintech startups. Otherwise, regulators rather monitor digital progress of banks and react, if needed.  
Slovenia Moderate risk The Bank of Slovenia takes a passive approach to digitalization and does not consider promoting digitalization at banks as its mandate. Regulation is in line with EU members, and we don’t observe significant differences in comparison to other countries.
Hungary High risk The Hungarian regulator takes a proactive approach in pushing banks towards more digitalized processes. Supportive stance towards new entrants and regulatory incentives for banks createa substantial disruption risk for digital latecomers, in our view.
Czech Republic Low risk The profitable banking sector has sufficient capacities to continue investments in digitalization. The majority of banks have already fully adapted to digital banking. Willingness and preparedness to innovate is given.
Poland Low risk Polish banks are quickly adapting to new solutions from the disruptors, defending their competitive position. The largest institutions also co-operate, co-invest and co-develop various systemic digital solutions, creating some barriers to entry for the newcomers.
Slovenia Moderate risk There are some discrepancies in the banking sector while domestic incumbents seem to lead in digitalization. Due to the small size and less-digitally advanced population, Slovenia has not been a prime target for disruptors so far.
Hungary High risk Differences between banks are wider than for other markets, which make disruption risks more imminent. Banks’ cost-income ratio is the worst compared with peers with major need for improvements in efficiency.
Czech Republic Moderate risk The move from offline to online banking is already prevalent within the population. Banks can meet client expectations and are offering new products and services frequently.
Poland Moderate risk The move from offline to mobile banking is already prevalent within the population, but there is still a large discrepancy between rural and lower-income urban customers with higher differentiation in the digital literacy. But banks can generally meet client expectations and are offering new products and services frequently.
Slovenia Moderate risk Mobile banking is increasing rapidly and already passed online banking for some banks, but we still see a preference for brick-and-mortar banking for long-term financial decisions, particularly for some parts of the population. This buys banks some time.
Hungary Low risk The pandemic acted as a material boost to previously lower usage of digital channels. However, a larger percentage of rural population does not inevitably support new product offerings by banks, which lowers pressure on some banks to innovate.
*Our view of digital disruption risk is the outcome of a point-in-time analysis of four factors of a country’s banking industry relative to peers. There is no explicit quantitative analysis behind the scoring; the assessment is the view of S&P Global Rating’s analysts that includes their discussions with market participants. 1--Bank’s technological capabilities. 2--Protectiveness of regulation for the banks’ market position. 3--Structure of the banking system and its ability to adapt and invest. 4--Customer’s preferences for emerging technologies and digital banking, and perceived likelihood to switch to nonbank competitors. Source: S&P Global Ratings.

Related Research

This report does not constitute a rating action.

Primary Credit Analysts:Cihan Duran, CFA, Frankfurt + 49 69 3399 9177;
Gabriel Zwicklhuber, Frankfurt + 49(0)6933999169;
Michal Selbka, Frankfurt + 49 693 399 9300;
Lukas Freund, Frankfurt + 49-69-3399-9139;
Secondary Contacts:Markus W Schmaus, Frankfurt + 49 693 399 9155;
Anna Lozmann, Frankfurt + 49 693 399 9166;

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