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European banks are at risk of losing a significant portion of their profits with digital disruption cutting their profits in half by 2020, according to a report from McKinsey.

The report, A Brave New World for Global Banking, states that major developed markets in Europe and the United Kingdom have $35 billion, or 31 percent, of profits at risk. It adds that more severe digital disruption could further cut banks’ profits from $110 billion today to $50 billion in the next three years and slice returns on equity (ROEs) in half from one to two percent in the same timeframe.

However, the study found that of the major markets, the United States banking industry appeared to be in the best position to face these issues with the recent presidential election playing a role in the hopes of a gentler regulatory environment.

Japanese and U.S. banks have between $1 billion and $45 billion in profits at risk by 2020 to digital disruption. Yet, after mitigation the profitability would only drop one point to eight percent for U.S. banks and five percent for Japanese banks.

The report says:

The pressures of digitization, which boosts competition and compresses margins, are growing.

And yet, while some emerging markets are managing quite well the report states that the largest emerging markets in China and India are losing ground to digital commerce firms that are moving rapidly into banking.

And yet, while regulators were conservative to begin with about the entry of non-banks into financial services, they are now gradually opening up.

Over time, huge tech companies may be able to insert themselves between banks and their customers, capturing the vital customer relationship and presenting an existential threat.

It adds that a number of banks are now teaming up with FinTech and digital firms, using big data and analytics to facilitate and sharpen risk assessment and drive revenue growth.

Adapt to Changing Times

One thing remains, though, banks need to adapt to the reality of a macroeconomic environment that presents a number of risks and limited upside potential.

As well as digital disruption, banks also face two other challenges along with digital disruption: a weak global economy and regulation.

Despite hopes for a benign regulatory environment in the U.S., banks need to take steps that will ensure that they can counter these challenges by focusing on transforming themselves through resilience, reorientation, and renewal.

This can be achieved through streamlining their operating models and IT structure and moving toward a proactive regulatory strategy, and linking up with FinTechs, platform providers, and other banks to share costs through industry utilities.

Featured image from Shutterstock.

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Posted by Rebecca Campbell