Reflecting on the past year often occurs at the beginning of a new year, and 2005 is no exception as I contemplate financial services technical advances made in 2004. Hmmmm… oh, oh, oh the… uh… no, that idea didn’t really pan out. Oh wait, remember the… nah, that didn’t work out either.
Gee, I seem to have come up with the same observation last year: nada, zilch, bupkus, zero! Could this be just my jaded view of technology? Perhaps I am too close to see the obvious.
The November 15, 2004, issue of The Wall Street Journal contains a special Technology section in which the WSJ bestows its “2004 Technology Innovation Awards.” Aha, pay dirt, I thought. The answer to the financial services technical innovation question is at hand.
Recognition was given to many business sectors including biotech, transportation, material and security. Noticeably missing is any mention of the financial sector. Does this mean the financial sector is bereft of technical innovation? Can the lack of recent technical innovation in the banking business be an aberration or is it that the industry has not benefited from technology?
It is easy to list ideas that never gained traction and have now disappeared. Remember the self serve loan kiosk deployed at the mall? How about account aggregation? Harder to list are the innovations that have materially changed financial services.
Looking back in history I realized that there have actually been a relatively small number of technical innovations in the industry. Making my list was tough; the innovation had to meet these criteria:
Here is my list along with a bit of history for each innovation.
The Electronic Recording Method of Accounting was a research project conducted by the Stanford Research Institute (SRI) for the Bank of America in an effort to computerize the manual processing of checks. Research began in the early 1950s and a public demonstration occurred in 1955. Testing with actual bank accounts began in 1956. ERMA Mark II, a hardware/software product produced by General Electric, was delivered to the Bank of America in 1959. A few of the significant innovations included the first “core” system for DDA processing, checks with pre-printed MICR numbers and check reader/sorters (reading items at a blinding 10 checks per second). Incredibly, ERMA machines survived into the 1970s.
This technology continues on today with very little change from the original concepts. Remarkable for a 50 year old technology. Computers are faster, sorters can read thousands of items per second, but the concepts are essentially unchanged. Banks could now process thousands and even millions of accounts while significantly reducing the time and expense of processing checks.
Realistically this is an extension and improvement of the methods first implemented with ERMA, but I thought it deserved its own category. This innovation includes all of the paperless payment solutions including debit/credit cards, Automated Clearing House and other paperless payment facilities.
Diners Club issued the first credit card in 1950. The card was intended for traveling salesmen (remember them?) to use exclusively in restaurants. Use of the card was more of a convenience for the salesmen so they would not need to carry as much cash. A monthly bill was sent to the user, which of course was paid with a paper check. American Express followed in 1958 with a similar card. Bank of America issued the first bank credit card in 1958.
Debit cards came much later and initially were “interesting” but garnered very little penetration into bank customers. Growth of debit card usage began in the early 1990s and has continued to expand at exponential rates. Cards have generated huge revenues and have become a necessity for payments anywhere in the world.
ACH was first implemented in California as a way to effect paperless check transactions between the Federal Reserve Bank and their member banks. The idea caught on quickly and spread to other Fed districts. In 1974, the National Automated Clearing House (NACHA) was created to link the numerous regional networks into a national network. NACHA reached its goal in 1978 when all of the networks were linked together.
How could we live today without ACH? Direct deposit, direct debit by vendors, PayPal, bill pay and countless other facilities rely on the NACHA network to make and receive payments. Electronic payment facilities allowed banks to move money faster and more efficiently while bypassing the more costly paper check processes.
This innovation includes any technology that gave customers access to their accounts through electronic means. Included in this innovation are automated teller machines (ATM), automatic voice response (AVR or IVR) and Internet banking.
Don Wetzel is credited with creating the first successful ATM. Don, a Docutel employee, produced the first working prototype in 1969 and was issued a patent in 1973. (An earlier, but unsuccessful, version was created by Luther George Simjian in 1939.) Although there is some dispute over the first commercial use of an ATM, Chemical Bank in New York City is generally given this honor. The ATM was installed in the wall of a branch facing onto a street and was available 24 hours per day to bank customers. Cash dispensing was the only function available with this initial machine. Additional functionality such as transfer between accounts, deposits and cash advances first became available in 1971.
Voice response systems became available in the late 1960s and were initially used to respond to very simple requests such as “what is my account balance?” Remember Periphonics? This system was a predominant player in IVRs. This type device is still widely used today to respond to millions of telephone calls. According to our research as published in The Cornerstone Report: Benchmarks and Best Practices for Mid-Size Banks, the IVR is typically providing the requested information for 82% of the calls received. The impact of these devices has been reflected in significant staff efficiencies and improved customer service.
Retail Internet banking products, along with the first virtual bank became available in the early 1990s. I see these products as extensions of the ATM and IVR technologies; they do not themselves represent a new or different innovation. In fact, the initial Internet banking products utilized ATM networks and functionality.
Bill Fair and Earl Isaac created the first credit scoring system for American Investments in 1958. Connecticut Bank and Trust became the first bank to use the technology for scoring potential credit card customers. Credit scoring became the basis for building automated means to process, underwrite, approve and fund many loan types.
Today’s highly efficient banks have taken this early concept and, in some cases, completely automated the entire process requiring little if any human intervention. Results of this innovation include increased efficiency, consistent application of loan and credit policy, improved customer service and increased revenues. Credit scoring fundamentally reshaped the way most loans are processed in banks.
Here they are, the industry-reshaping technical innovations for financial institutions. Please note that virtually all of them date back to the 1950s and 1960s. The Wall Street Journal is correct, there isn’t a reason to give an award to the industry this year, and there has not been an award for many years.
As I see it, the billions spent annually by the industry are simply keeping the current technical processes running. Perhaps more of this investment should be directed to identifying, building and implementing new financial services innovations. Let’s set a goal to make The Wall Street Journal’s Technical Innovation Awards by the end of this decade.