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Wondering what is open banking API? Here is a guide to open banking meaning, types, benefits, examples, regulation rules & more. Click to find out more!
Here’s a statement we’re sure you can get behind:
Organizations in all industries are battling each other to provide a superior customer experience. The finance and fintech industry is no different.
In fact, as banking applications have gained a greater share of customer transactions, the need to satisfy customer expectations has never been greater.
Which is exactly where open banking comes in.
Fintech firms and banks aim to do just that with easy-to-use and frictionless digital services across multiple touchpoints. Banks and players in the payments industry are collaborating to leverage the benefits they bring in creating customer-centric solutions.
This has led to the rise in the popularity of open banking APIs. Banks are using open banking APIs to retain and grow their customer base. Simultaneously, third-party institutions are using APIs to personalize their offerings, services and products.
What is Open Banking API in India?
Open Banking API (application program interface) allows third-party financial service providers access to financial data.
They are used by banks and financial institutions to improve consumer banking. Moreover, it helps create new streams of revenue with more contextual services and brings together the power of customer insights and fintech innovations.
Financial regulators and national authorities are acknowledging the need for the digital exchange of financial data. The data can be obtained through customer permission and used to remove system inefficiencies.
It has the potential to drive new service models and product possibilities. In fact, this data is being used to design and build digital applications for faster and easier payments.
Rise of Open Banking API
The rise of open banking and API is due to 3 major reasons:
Rising Customer Expectations
Rising customer expectations can be considered the biggest reason for innovations in the finance industry. Customers are looking for convenience and 24×7 customer support.
But it doesn’t just end there, does it?
True innovation is about providing solutions during each step of the user journey. Moreover, it is about making the transactional experience seamless.
Customers are ready to trade personal data in exchange for a customized experience. In fact, providing real value in exchange for customer data can increase loyalty and trust. Interestingly, 48% of customers expect banks to provide product information related to their actions on the app/website.
Furthermore, customers are looking for accessibility. Surveys by PwC found that 15% of banking customers1 preferred to do banking by mobile.
These customers expect a full range of banking and financial services on these apps. These services can range from fully automated dashboards to real-time transaction status updates.
Competitions from Fintech
It is understood that fintech providers cannot exist without banks. In fact, fintech players work as facilitators. They apply technology to improve financial services.
However, customer expectations are bound to increase as technology progresses. Let us take the example of corporate payouts.
Corporate banking solutions have systems in place for bulk payments However, they are outdated and not customer friendly. Corporate banking solutions may include bank visits and offline processes. Moreover, there are technical limitations as they might not be compatible with modern browsers or they only support Excel file uploads.
This competition between fintech players and banks has also led to the growth of open banking and API. Now, banks want to modernise their solutions as it might help them reach a wider customer base.
Rising Regulatory Environment
Evidently, government regulation defers greatly from one geography to another. In some countries, like the UK and China, governments are looking to increase competition and innovation. They are also looking to open customer personal data to third parties.
Some of the prime examples would be:
- Payment Services Directive (PSD2) is a European regulation on electronic payment. Regulations are enforced in the form of accords across the EU
- In the UK, the Competition and Markets Authority (CMA), is enforcing UK’s largest banks to adopt open banking API
What is API in Open Banking?
In simple terms, API allows two software to communicate with each other. It is a programming code that allows data transmission between two software.
3 Types of APIs in Banking
Essentially, there are 3 types of APIs. API in open banking is an evolution of a technology that has been around for a while now.
Private (Internal) APIs
Private/Internal APIs are used for information exchange within the enterprise. They reduce costs, enhance security, and improve operational efficiency. Banks use this kind of API to optimize their operations.
However, these are closed APIs used for a bank’s own personal use.
Partners APIs are used for better integration among business partners. Here, a bank may have bilateral agreements with a strategic partner. They connect to the partner’s systems and the deals are bilaterals. Most of the intricacies of these deals are discussed between developer teams.
It is important to understand that financial information is only disclosed to one strategic partner. Hence, the ecosystems are still closed.
Partner APIs help in reducing partner costs and implementing API monetization to the bank or financial institution.
Open (Public) APIs
Finally, the Open or Public APIs.
In Open APIs, banks share customer data and open the ecosystem. This is no longer a self-serve mechanism.
It is used for collaborating with third-party solution providers. These offer innovation opportunities and improve market research. Today, open banking APIs are fuelling unprecedented growth in the commodification of financial products and services.
However, some leaders contest this definition of open banking API. According to them, open banking does not stop at opening the ecosystem.
Open banking requires standardizing a set of APIs across the ecosystem that all the players can leverage and use. So, a single API call would allow access to all the players in that specific ecosystem.
However, this is easier said than done. Because this would require all the banks to publish API in a common (standard) way.
So, in different countries, there are different standardization procedures like The Berlin Group2 or the UK open banking association.
What Led To the Growth of Open Banking in API
Now, different people might have varied definitions of open banking API. However, to understand open banking API in its essence, we have to understand the reason behind its growth.
There are two major reasons for the growth of open banking and API.
Regulation-Driven Growth of Open Banking API
It is common knowledge that the finance and banking sector is one of the most heavily regulated industries.
However, most financial institutions believe that opening up banking data will fuel innovation in the finance sector. This will lead to a better customer experience and wider accessibility of financial services and products.
In some countries, financial institutions (like PSD2) have enforced regulations and banks have to be compliant with those regulations to carry out business. This is the major reason for the growth of open banking and API in Mexico, Australia, and the UK.
Market Forces Driven Growth of Open Banking API
In a lot of markets, competition is fuelling banks to hop on the open banking bandwagon. In a lot of areas, banks fail to provide the kind of customer experience that fintech players can.
Hence, banks have no choice but to collaborate with other finance players to reach a wider set of audience. Moreover, it is important if they want to provide satisfaction to existing customers.
Let us look at some use cases to understand this concept better.
A bank may decide to create an app for their customers’ ease of use. However, they can only reach a limited customer range by doing that. They cannot allow customers of other banks to use/access their app due to security reasons. Moreover, they cannot partner with other banks to create a unified solution due to industrial competition.
On the other hand, a fintech player is not bound by such liabilities. In fact, they can devise solutions that are accepted by different banks and get access to a much larger customer base.
What Can Banks Do?
Here, banks need to tap into the power of open banking API to collaborate with fintech players. In such a scenario, the customer can get access to a unified solution and the bank can provide customer satisfaction. Furthermore, banks can collaborate with fintech companies to further provide for a customer’s focused interest.
Sounds like a win-win.
This kind of competition can be termed a ‘market force’. A lot of banks in India, the US, China and Singapore are investing in open banking APIs because of such forces.
However, at the end of the day, it does not matter if the growth is driven by market forces or government regulations. After all, the end result for both kinds of economies is higher innovation and price transparency.
Now, open banking APIs are necessary for the functionalities of BaaS – Banking as a Service.
Let’s dive deeper to understand the concept of BaaS and how it is related to open banking APIs.
What is Banking as a Service (BaaS)?
Banking as a Service (BaaS) is a concept under open banking. It involves banks opening up their APIs to fintech players. However, it goes beyond data sharing.
BaaS allows third party players to offer banking offers embedded in their own financial offerings. It is not just about accessing financial data. It is about the functionality of core financial services.
Third-party players use the existing banking products or innovate on financial instruments as needed for business processes. They employ APIs to customize the banking information and infrastructure for specific purposes.
BaaS provides customers with a wider variety of financial services. Moreover, it ensures increased transparency. It also increases competition in the financial services domain. Both banks and third-party companies benefit from the augmentation to offer the best services to their customers.
For example, the Cashfree API banking platform allows you to send payouts in real-time to multiple accounts of different banks. It offers the feature to verify UPI IDs for bulk payments and send money directly to e-wallets or debit cards.
Open Banking API in India
API-based banking products and services are already gaining traction in the market.
As we mentioned above, a lot of countries have government regulations to enforce open banking. These regulatory frameworks allow third parties to access customer-permission data. These third parties are required to gain licences. The banks have to implement data privacy and consent agreements.
In India, the growth of open banking and API is largely due to market forces.
In India, Intermediaries licensed as Non-Banking Financial Companies (NBFC) are responsible for customer consent management. Moreover, an Account Aggregator (AA) is a licensed entity that connects a Financial Information Provider (FIP) (Eg. Banks) to Financial Information User (FIU). AA connects these two entities through APIs.
The transfer of any personal customer data is regulated strictly in India. There are appropriate agreements between the customer, the AA and the financial information providers. Moreover, data cannot be stored or used by aggregators for any other purpose. All AAs have to keep explicit data security policies and customer grievance redressal systems in place.
Now that we have covered the state of API banking platforms in India, let’s have a look at some of the examples.
Open Banking API Examples: Open Banking Platforms in India
Some open banking API examples include:
A lot of third party fintech players offer financial services to businesses and enterprises. Cashfree Payments uses APIs to provide enterprise-friendly solutions to businesses that are tailored to their industry needs. For instance, Cashfree offers bank transfer services and payouts as a service for business bank accounts.
In fact, these payout services are a strong alternative to Enet HDFC and other such corporate banking platforms. Cashfree offer 100% online onboarding with dedicated account managers. Moreover, this platform uses API for 100% automation and easy reconciliation. Cashfree’s instant payment feature and instant beneficiary addition feature are popular among businesses.
YAP is a next-generation open banking API platform. It offers debit and credit cards, prepaid accounts, UPI payments, and cross-border remittances through AI-driven APIs.
Banks integrating their APIs can develop and build their own branded financial instruments catering to specific customer needs.
Open Credit Enablement Network (OCEN) was launched on 22nd July 2020 to reimagine the digital lending flow in India. Loan Service Providers (LSPs) leverage standardized APIs to create new types of loan offerings.
The protocol will help bridge the credit gap present due to the traditional lending setup.
Other Open Banking APIs Initiatives in India
The YES Bank partnered with fintech startups with an accelerator program. Moreover, it has created a chat-based payment service.
Axis Bank has established an accelerator program, an in-house incubator program and even a social networking space for startups.
State Bank of India enables customers to make transactions through their fingerprints and Aadhar number. This is possible through Aadhaar Enabled Payment System (AEPS)
These examples make one thing clear.
Open banking APIs have a huge role in fueling fintech growth.
In fact, because of this, a lot of fintech players offering customer-friendly finance solutions have come up. Let’s have a look at some of them here.
Open Banking API Solutions
Here are a few examples/use cases –
Loans/ Investment Services
These fintech players allow merchants and users to invest in other companies. Moreover, they provide lending services.
Similarly, some investors or crowdfunding companies may invest in other businesses in return for shares.
The investment solution market companies may help clients with informed investment decisions and provide market data.
Some third-party players provide big data analytics services in financial services.
These companies provide payment and payout services to customers. This section is further divided into B2B and B2C companies.
Personal Finance Management
These companies help customers with managing personal finance like tax filing, financial advice etc.
Now that we’ve covered the concept of Open Banking and API, let’s understand how open banking API works.
How Open Banking API Works
Legacy banks allow secure and limited access to third-party platforms (like Cashfree). This allows fintech players to get secure access to their core banking systems.
This also allows them to carry out banking functions and access data. They can help customers make transactions, check account information or their balance.
Let us take an example here.
- ABC Bank opens its core banking system to a third party fintech player. For instance, Cashfree Payments
- Cashfree Payments integrates with ABC Bank’s API. This allows them to connect to the bank’s core banking system
- Cashfree Payments makes API calls (basically a request) to the ABC bank’s server to execute financial functions or fetch information
- Businesses use the single Cashfree Payments API to access multiple banking APIs
Now, this is a simple explanation of how third parties can access bank servers. But what is the open banking API architecture? What are the concerns that bank face while implementing open banking and publishing APIs?
Let’s find out.
Open API Banking Architecture
Remember, in the previous section, we discussed the reasons for the growth of API in different economies.
Well, it is a bit more interesting than that.
The growth of open banking API may be because of market-driven forces or regulations. However, the API architecture also depends on these circumstances.
Let us explain.
Regulation-driven APIs will be better at API Management. A market-driven API will focus on higher delivery speed and continuous improvement.
Now, the architectural concerns and features for regulation-driven API and market-driven API will be different. We have listed them below:
Features of Regulation-Driven API
- Managing the concerns related to Open API and open data. The focus will be on compliance rather than innovation
- Able to handle developer’s experience
- Ability to adhere to common standards. The entity might adopt an API management tool
Now, API management is important. However, it does not fuel banks to pursue innovation.
No regulation can enforce banks to modernise their backend system.
This is where the market-driven API comes in. Market-driven economies and their players are not focused on API management or compliance. They are focused on something else entirely. Let’s dive deeper to understand this.
Features of Market-Driven API
- Adept at consumer-driven contracts
- Precise scaling and enhancement
- Unstructured big data lakes
- Public cloud-native (containers)
- Automated DevOps deployment- shrinking DevOps times to seconds
To truly support open banking, banks have to bring both of these things together – API management and modernizing technology stack.
But how can banks become ready for publishing APIs? Let’s understand that process in detail.
There are two types of API gateways –
Banks that only focus on compliance may deploy a gateway. This acts as a ‘hub’ with adapters and plugins. Banks may want to go with this easy route. However, this offers them less transparency in its functioning and no opportunity to scale.
Distributed gateways focus on microservices. So, this distributed approach pushed all gateway functions down to each individual microservice. A microservice architecture puts each element of functionality into a separate service. Additionally, it scales by distributing these services across servers, replicating as needed.
For instance, let’s imagine a bank has a 40-year-old mainframe. Now technically, they could choose a centralized gateway and publish a developer-friendly API. This would even help them achieve compliance.
However, this would be running over a 40-year-old mainframe.
So, if the developer team requests changes or requires optimization, the entire mainframe application will have to be updated.
On the other hand, a distributed gateway splits that mainframe into 10 individual microservices. Hence, if a developer requests for changes on 1 microservice, they can achieve that without affecting the other nine.
Interestingly, the microservice architecture is evolving every day. New technologies like Istio and Kong are offering Service Mesh architecture. In this, each microservice has a dedicated proxy. This proxy acts as a contact service for that microservice to integrate with all the other microservices.
We hope that this section helped you understand all the technicalities of how open banking API works.
But now that we have covered it, let’s move on to its benefits.
Benefits of Open Banking
An open banking API model can facilitate numerous services of value for both consumers and providers.
For instance, banking organizations can gather actionable data from internal and external sources regarding buying habits, financial goals and risk tolerance. This data can be used to enable more accurate multichannel marketing and offer proactive solutions and advisory services.
Open banking APIs are instrumental to banking organizations for quicker product development processes and responding rapidly to changing digital technologies. It can help in introducing voice banking, P2P, risk management and loan processing services among many others.
The benefits of open banking APIs include:
Evolve with the Customer Base
Every industry has to evolve its offering with time. The new customer base is more tech-savvy and expects to have access to these financial products with their devices.
In fact, emerging economies like India and China have the highest numbers of fintech customers. Interestingly, more than 50% of banking customers3 avail of services of non-traditional firms.
42.6% of the younger and tech-savvy audience use services of non-traditional banks and expect to continue using them. Open banking APIs make it possible for this customer base to access financial offerings by fintech players.
Digital natives customers who are regular customers of companies like Amazon, Apple and Facebook have come to expect instant gratification. As older generations also become comfortable with technology, banks come under pressure to deliver experiences.
Positive Customer Experience
The main reason behind the growth of open banking APIs is increased innovation. These positive strides in the fintech industry lead to higher levels of positive customer experience than banks.
These fintech players can choose to focus on specific customer pain points. Consequently, they can provide more customized and frictionless solutions. In fact, one-third of all banking customers use services from at least one third-party provider.
Fintech firms have identified and created easy-to-use, relevant, and attractive, financial offerings. Moreover, features like high security and the ability to scale lead to a positive customer experience.
Fintech expertise can be leveraged by sharing financial data with third-party applications. Banking processes can improve at pace while internal teams ensure service continuity.
However, in the present scenario, fintech firms deliver a higher positive experience to customers (57.8%) as compared to banks (49.5%).
Fintechs use technology to revolutionalize financial processes. For instance, customers can use APIs to add multiple beneficiaries at once instead of manual inputs prone to human error.
In fact, the correlation between better customer experience and a higher number of fintech firms is evident. This trend is observable in fintech hotbeds countries like India, the US, UAE, Netherlands and China.
Furthermore, facial recognition, chatbots and artificial intelligence have led to higher customer engagement. It has led to the rise of conversational banking.
New Streams of Revenue
With the coming of open banking, banks will be able to monetize their APIs. This will lead to new revenue streams. In fact, 43% of banks prefer a model where they charge a fee on every API transaction.
Both banks and fintech players have their strong points.
Banks have enormous funding capabilities and experience with operating large processing networks. Moreover, they have huge customer bases and customer trust. On the other hand, fintech players have a culture that gives importance to innovation, speed and customer satisfaction.
Together, both entities have a higher chance of generating shared revenue by teaming up and using data effectively.
JP Morgan Chase provides an excellent example here. They teamed up with ‘On Deck’, a fintech firm to provide loans to small businesses in a matter of hours. They used On Deck’s proprietary credit score services.
Moreover, banks will benefit economically from third-party partnerships as they don’t have to invest internal resources in technological development. In fact, API can help banks save money as they have access to ready-made solutions. This can help banks in cost reduction and also allow investment and profitability forecasts.
Banks can gather customer insights on financial requirements, buying habits and risk appetite through collaboration. This will allow them to support multi-channel marketing and reduce dependency on above-the-line spending. Resultantly, they can deliver new financial products and increase revenues.
Banks can decouple architectural components into blocks and then rejoin them through APIs. This allows for greater resiliency and a highly independent yet scalable platform.
Moreover, this helps in reducing the cost of development as it helps switch to a federated model instead of a point-to-point infrastructure.
Fintech accesses customer financial data through open banking APIs to study trends and patterns that can then be used to generate personalized financial products. They process the information through artificial intelligence to improve customer engagement.
Open Banking API Challenges
Despite so many benefits, open banking presents a lot of challenges. With the convenience of APIs come a lot of risks and concerns.
Let’s have a look at some of them here.
Data Security and Financial Privacy
Large-scale adoption of open banking has to be preceded by strong privacy laws and data protection bills. These laws establish rules for third party use.
Why are they important?
Because there are a lot of risks ranging from money laundering and data theft to terrorist financing.
Some laws are already in place for the same. For instance, the Personal Data Protection Bill of 2019, aims to protect individuals’ data.
The absence of grievance redressal systems severely hampers customers’ rights. Moreover, they erase the bank or third party’s liability in case of fraudulent activity.
The RBI issued Customer Rights in December 2014 which lists laws for the protection of customer’s right to grievance redressal and compensation. Moreover, the right to privacy ensures that customers’ personal data remain private except in case of specific consent.
Open banking mandates high compliance with privacy laws and prudential regulations.
Compliance risk can arise due to penalties or damages due to supervisory actions. Moreover, they can also be caused due to an action/inaction of a third-party service provider.
With the expanse of open banking and data-sharing, comes increased cybersecurity risks.
Any loss to a customer due to a data breach would require the bank or financial institution to compensate for the same. Moreover, issues like misuse, falsification and malware are equally threatening to the institutions.
Open Banking API Regulation
As we have mentioned before, the open banking API guidelines defer greatly between geographies. Some countries like the EU and Australia have regulations that mandate open banking architecture.
Payment Service Providers Derivative (PSD2)
The Open Banking rules and regulations were passed by the European Union in 2018. Payment Service Providers Derivative (PSD2) allows consumers to decide if they wish to share their banking data with fintech players. These third-party financial service providers use this data to design innovative financial products and improve banking services.
Open Banking Working Group
Open Banking Working Group in the UK seeks to address issues like customer consent, authorization and rights to access. Moreover, they focus on infrastructure and technical issues.
Furthermore, the Competition and Markets Authority (CMA) in the UK enforce larger banks to adopt open banking.
Open Bank Project
Open Bank Project in Germany is a store for open-source API for banks. It aims to connect account holders, banks and software developers by exposing transaction data.
Various standardization procedures like The Berlin Group4 or the UK open banking association take the regulation one step further. They release guidelines on how the banks should publish their APIs and the standard they have to abide by.
Banking Industry Architecture Network
Banking Industry Architecture Network is a non-profit organization that aims to promote and establish a standard architectural framework for enabling banking interoperability.
On the other hand, India does not have a widely accepted uniform standard for the usage of APIs.
Now this proves to be an issue for banks and other financial institutions alike. The value of online banking grew to INR 21,317 billion in 2019-205. APIs and providing access to third-party platforms have been a huge part of that surge.
Not having sufficient data security infrastructure can result in data breaches. Especially in the case of Partner APIs. If a third party breaches its confidentiality agreements, it can lead to widespread dissemination of customer personal data. In fact, API breach incidents of McDonald’s6, Airtel7, and Indane8 showcase the vulnerability of API usage without proper regulation.
Experts (RBI9, ReBIT) cited the need for establishing security infrastructures. Moreover, they have recommended developing API standardization procedures.
Open Banking API Guidelines
In India, open banking API guidelines focus on the consumer’s consent for data sharing.
In fact, the tenets of open banking initiatives in India are:
- Financial data integrity
- IT Governance and controls
- Grievance redressal systems
- Customer Protection
Moreover, RBI frames regulations for all account aggregators and Financial Information Providers (FIP).
For more information on open banking API guidelines, have a look at this RBI notification10.
Conclusion: Future of Open Banking API
There is a lot of debate on the competition between banks and fintech firms.
After all, the threat to the traditional banking business model is proven to be right.
However, the advantages of banks and third party players collaborating are much higher. Legacy banks that embrace open banking and API have a chance to create new sources of income. At the same time, new fintech players will have to chance to access the bank’s customer pool and expertise.
As a result, banks will have the opportunity to ace in customer interface and customer relationship management.
It will be interesting to see the new technological evolutions in open banking APIs and how banks embrace this change.