Open Finance: what is it and how is it different from Open Banking?
Open Finance is becoming increasingly popular but, where does it come from, how is it different from Open Banking, and how does it really work?
Historically, traditional financial institutions have been the only ones responsible for storing and processing data about people’s financial lives. For this reason, our understanding of financial information –and what we can do with it– has been limited almost exclusively to the services offered by banks.
Or at least it was until the arrival of Open Banking. This movement established the rules that allow individuals to share their banking information with third parties through APIs (Application Programming Interfaces).
This means that people can have a safe channel to easily share their banking information with other companies. Thanks to it – always with each individual’s consent–, these companies can use banking data to build new financial products and services that are linked to users’ banking accounts and that are more tailored to their specific financial situation and needs.
1. How Open Banking started
One of the first examples of Open Banking implementation took place in the UK in 2016. Back then, the Competition and Markets Authority (CMA) issued a rule that required the nine-biggest banks in the country to allow licensed startups direct access to their data. They decided to do this following a report which found that older, larger banks didn’t “have to compete hard enough for customers’ business”.
Open Banking was then born as one of the remedies they came up with to foster more innovation and competition in the financial sector. Since then, a lot has changed: many other countries have embraced similar regulations and new digital players have flourished worldwide leveraging these new data-sharing models.
2. The next step: Open Finance
Yet, the transformation didn’t stop there. In regions where a big percentage of the population is still unbanked or underserved, such as Latin America, the potential impact of Open Banking was limited. Because, in absence of banking data to connect to, people would still not be eligible for the newly created products and services.
That’s why as Open Banking regulation evolved, a new concept emerged in some countries like Mexico, where authorities decided to extend the scope of this model to other financial information beyond banking.
“In Mexico, we decided to call it Open Finance because all financial entities will have to share data through standardized APIs, not only banks. This will cover over 2,000 financial providers,” explains Dorian Loyo, an expert at the National Banking and Securities Commission (CNBV) of Mexico.
3. How it has evolved: new sources of data
Thanks to this evolution towards Open Finance, data from multiple sources beyond banking can help build innovative and more inclusive financial services. This includes financial data from digital players like big tech companies, fintechs, or gig economy platforms, as well as traditional entities like fiscal institutions, insurance issuers, retailers, or even utility providers like electricity companies.
“Whether that’s someone paying a power bill monthly or phone or water, that’s a transaction being made. And that data can be leveraged in many ways to enhance people’s financial lives in terms of having access to new services,” explains Tory Jackson, Head of Business Development and Strategy, Latin America at Galileo.
4. The benefits: financial inclusion
These new alternative sources of non-bank financial information can help financial innovators get a wider view of the population’s real financial activity and needs. One that actually describes their daily transactions, even if they don’t take place in a bank. As a result, companies’ potential customer base increases, as it does their ability to develop more relevant and tailored services for them.
- It means that users can share their financial data –no matter where it comes from– with third parties through APIs to access new added-value products and services that are tailored to their specific needs.
- It gives users real ownership of their data, and freedom to decide how and when they want to access and manage their financial data, whether that’s inside their mobile banking app or any other tool they use in their daily lives.
Open Finance is also where the potential for building truly innovative financial services becomes a reality, as it offers the chance to create completely new business models that leverage previously unexplored sources of data.
A specific example of how this works is minu. This Mexican company is using data from gig economy platforms to build innovative financial services for their workers, thanks to Open Finance APIs.
5. 2021, the year for Open Finance
These characteristics make Open Finance a perfect fit for Latin America. A region where users’ financial lives don’t take place exclusively within the walls of banks. In part, because part of the population is still underserved by traditional financial institutions: only 51 percent of adults in the region are bank account owners. And, increasingly, because emerging fintech providers are targeting these customers with digital solutions.
According to our Open Finance Trends in 2021 report, where we analyze how these models are evolving in Latin America, 2021 will see a surge in the adoption of Open Finance models. Several factors are driving this growth, according to experts, such as a more favorable regulatory environment (particularly in Mexico and Brazil) and more visibility about its benefits among end-users and companies.
While 38.4 percent of fintech professionals consider that regulation remains the biggest challenge, 90.2 percent think that companies should get ahead of it and start making moves for its implementation, according to our survey. Technology providers, such as Open Finance API platforms, will help build the necessary infrastructures to make it a reality, facilitating a smooth transition to this new scenario.
If you want to learn more about Open Finance and its evolution in the Latin American ecosystem, download our report.