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    FED Paper Explores Fintech Partnership Dynamics in Community Banks

    September 09, 2021

    The Federal Reserve System (FED) published a paper describing the landscape of partnerships between community banks and fintech companies. The paper captures insights gathered from extensive outreach with community banks, fintech companies, and other stakeholders. It focuses on the benefits and risks of different partnership types and the key considerations for engaging in such partnerships, before moving on to discuss the key elements of success as stated by outreach participants. The paper highlights that the three key considerations in establishing effective partnerships are commitment to innovation, alignment in priorities and objectives, and the approach to connectivity.

    Community banks serve businesses and consumers throughout the country, in both rural and urban areas, and are leading providers of credit to small businesses. For this paper, community banks can be defined as those with less than USD 10 billion in assets. Fintech partnerships are broadly defined in this paper as partnerships undertaken to improve or expand an aspect of bank operations, technology infrastructure, or products and services. Fintech partnerships include a range of relationship structures, including traditional vendor partnerships where a bank receives a service from the third party and exclusive arrangements in which the community bank and fintech share objectives and outcomes. The three types of partnerships that emerged during the outreach discussions are operational technology partnerships, customer-oriented partnerships, and front-end financial technology partnerships. The outreach effort identified the following three key considerations in establishing such partnerships effectively:

    • Commitment to innovation. Community banks that have committed to innovation expressed that their senior management and boards of directors are prepared to make meaningful investments of time and resources in technology. Before making investments in technology, leadership identifies the problem to be solved and the gains they hope to realize from these investments, often using key performance indicators and concrete goals. 
    • Alignment in priorities and objectives. This alignment between the fintech and the community bank—which participants viewed as the foundation for building and maintaining effective partnerships—can include but is not limited to agreement on the appropriate use of customer data, the establishment of effective risk management standards, mutual emphasis on compliance with bank regulation, and a shared belief in the importance of frequent and direct communication. 
    • Thoughtful approach to connectivity. Community banks that have thoughtfully approached connectivity with fintech companies have considered trade-offs across flexibility, cost, breadth of partner selection, and convenience before establishing technical connections. Connections with fintech companies are considered part of an integrated process where information can flow across systems and siloed bank processes are eliminated, where possible. 

    The outreach effort suggests that application programming interfaces (APIs) are gaining popularity among community banks as a data transfer solution, though some community banks prefer solutions that are more easily integrated into their existing technical infrastructure. Several core providers have established, or are in the process of establishing, APIs with specific third parties and some bankers expressed that they feel most comfortable using APIs their core provider has developed. Bankers also noted that their core providers were able to build customized APIs for third parties upon request or provided open APIs to which third parties could build connections. While some bankers felt this option was most convenient, they noted that these arrangements could be costly and may be inflexible. Other bankers explored partnerships with fintech companies or developed technical infrastructure without significant input from their core providers, including through customized APIs. They expressed that these solutions could simplify and accelerate the process of partnering with multiple fintech companies and they found the relatively wide selection of potential partners appealing. Banks, however, vary in their approaches to these considerations. For example, one bank built an API between its third-party loan platform and its core provider, other banks bundled activity from an API architecture provider and posted those flows to their core at a regular frequency, and yet others invested in a central data repository that could combine data flows from distinct silos.


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    Keywords: Americas, US, Banking, Community Banks, Regtech, Operational Risk, Third Party Risk, Reputational Risk, API, Fintech Applications, FED

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