Open Banking
What is Open Banking?
Open banking is an umbrella term for banks sharing financial data with third-party companies through APIs in exchange for new external financial services. It allows banks to offer customers more flexibility: customers can connect their accounts with external financial services—think budgeting apps, payment platforms, or lending services.
The open banking industry is quickly growing, with the global market expected to reach over $43 billion by 2026. Many of us regularly use open banking in our everyday lives. For example, personal finance management apps to connect to customers’ bank accounts to help them manage budgets, track spending, and set financial goals. PayPal and Venmo, two household names, also rely on open banking infrastructure for digital payments.
So, why is open banking becoming so popular right now? Two major forces are driving this movement. The first is regulatory pressure from frameworks like the CFPB’s Regulation 1033, which mandates that financial institutions make it easier for customers to share their data with third parties if they choose to do so. The second is customer demand for integrated financial services. Customers want to easily access and manage their finances across multiple platforms. Open banking provides a way for banks to meet that demand.
All About APIs
APIs (Application Programming Interfaces) are the technical foundation that makes open banking possible.
The Backbone of Open Banking
APIs (Application Programming Interfaces) are the technical foundation that makes open banking possible. An API is essentially a set of rules that allows different software systems to communicate with each other. APIs enable banks to securely share data with third-party providers, giving customers the flexibility to connect their accounts to external financial services, such as budgeting apps or payment platforms.
In open banking, APIs allow banks to open up specific parts of their systems—such as customer account information, transaction histories, or loan data—so third-party providers can use that data to offer their services. However, APIs must be carefully managed to protect sensitive data.
APIs have been around for decades, so why are they so tricky? One critical complexity: different vendors often have their own specific API requirements, which may not align neatly with the bank’s system architecture. A third-party provider may ask for more data access than necessary or request proprietary logic rather than just raw data. This opens up your bank to risk.
Smiley’s Approach to APIs
At Smiley, we stress the importance of opening APIs with care. The goal is to provide banks with the flexibility to enhance their services in ways that align with their strategic goals, keep the bank’s data secure, and keep the core stable. APIs should be opened based on what the third party truly needs to access rather than granting broad access that could introduce unnecessary risks. For example, if the third party needs access to account history, then you wouldn’t open up the API to order debit cards to reduce risk for the bank.
Each API integration should be addressed thoughtfully through conversations with the bank, the core, and the third party. Is the integration in alignment with the bank’s real needs? Is the vendor asking for appropriate levels of data access? Does this integration maintain the security of the bank’s core system? By asking these questions, you can make sure API use is strategic and secure.
Each API integration should be addressed thoughtfully through conversations with the bank, the core, and the third party.
Levels of API Complexity
Based on their popularity, it might seem like APIs are a simple, one-size-fits-all solution. In reality, API integrations are everything from simple setups to highly customized solutions. Here are several real-world examples of different types of API use cases:
Open Banking Challenges & Opportunities
At Smiley, we see the core banking system as the backbone of every community bank.
It’s not just software—it’s the lifeblood of the bank. That’s why our approach is straightforward: first, do no harm.
Before bringing in any new technology or entering a partnership, we focus on maintaining stability and security above all else. Every integration or partnership needs to align with the bank’s mission while ensuring that the core system remains reliable and uncompromised. Open banking should enhance, not disrupt, the core.
And with that note of caution–what are some of the reasons banks are excited about the prospect of open banking?
Opportunities
- Enhanced customer experiences: Open banking makes it easier for banks to offer personalized financial products and services, like budgeting tools, faster payment systems, or tailored lending options.
- New revenue streams: Banks can generate additional income by collaborating with fintechs and other third-party providers. These partnerships allow banks to offer new services, such as niche lending or investment platforms, without extensive internal development.
- Broader market reach: Through open banking partnerships, community banks can reach new customer segments that might otherwise be inaccessible, mainly through digital channels.
Challenges
- Security vulnerabilities: Despite rigorous efforts to secure systems, open banking introduces potential gaps in data protection. A security breach could mean significant financial loss, legal consequences, and reputational damage, undermining customer trust.
- Integration issues: Merging multiple third-party services and APIs can cause technical problems. These issues often require specialized expertise and additional time to troubleshoot, which can delay projects and increase operational costs.
- Accountability gaps: With multiple parties involved, determining who’s at fault when issues arise—whether a security breach or service failure—can become complicated. This lack of clarity can slow down resolution efforts, prolonging downtimes and negatively impacting customer service.
- Hidden costs: Beyond the obvious API fees, there can be additional costs tied to compliance, technical upgrades, or unexpected adjustments. These hidden costs can accumulate over time, potentially offsetting the financial benefits of open banking.
- Limited standardization: The lack of universal standards means that services may not always "talk" to each other smoothly. This inconsistency can lead to manual interventions to ensure compatibility, adding to the complexity and cost of implementation.
- Dependency risks: Relying on third-party services for core functions puts a bank’s operations, in part, under the control of external vendors. If these providers change their service offerings or terms, the bank may be forced to make costly and time-consuming shifts in its own operations.
Smiley's Take: Strategic, Not Frenetic
Open banking can be a significant opportunity for community banks, allowing them to compete with larger institutions by offering customers a more modern, connected experience. However, any open banking partnership should consider three important questions:
1
Does this partnership align with our bank’s strategic plan? (Does the service actually enhance customer relationships? Is it adding real value to the bank’s offerings?)
2
Could this partnership open us up to unnecessary risk? (What exactly is the third-party provider asking for? What does the process actually look like?)
3
Are you prepared to do a cost-benefit analysis once it’s launched to ensure it’s doing what you expected? Sometimes, you are better off pulling the plug to minimize long-term costs if you aren’t seeing benefits.
In short, open banking offers many possibilities, but it must be executed carefully. It’s not just about following the trend—it’s about making sure it fits within the bank’s mission and safeguards its core operations.
