Will AI take over banking and displace humans?

October 9, 2023

Yes, artificial intelligence (AI) will take over banking and displace most mid-level human employees in the banking sector within the next 25 years. No worries, humans will adapt and overcome, finding other things to do. AI will solve many problems and create even more. 

Let's take a quick look at the history of banking, present day banking, and the most likely direction of banking in the future, which is mostly towards digital banking powered by AI.  

Banking

Before we look into the history of banking, let's try to figure out what is banking in the first place. A way to oversimplify what banking is all about is to think about payments. Money can be seen as a payment technology (i.e. a tool and method to facilitate payments). Banking, in turn, can be seen as a service to facilitate monetary payments. 

Another simplification of banking is to see it as a service about facilitating credit and payments (CAP). Credit refers to having banks pay you or paying on your behalf in return of your promise to pay them back. Yet another simplification is to think about savings, loans, interest, and payments (SLIP). Banks safeguard deposits, issue loans, charge interest, and facilitate payments. 

In sum, banks are enterprises (private or public) that provide monetary or "financial" services. The term "finance" relates to a Latin word for finnish and is finishing a transaction by making payment. Banks help humans in three main regards: (i) saving (safeguarding) money; (ii) lending money; and (ii) facilitating payments. 

Money

Money is intricately related to banking because banking is a monetary service. Money is a human invention to facilitate economic trade (exchange of goods and services). Money serves three basic roles: (i) means of economic valuation; (ii) representation of value; and (iii) payment method. Money can be seen as a token (seed, shell, coin, paper, digital entries) endorsed by governments as valid representations of value and enforceable legal tender for the satisfaction of debts (i.e. payment). 

Recently, money has been evolving into a mostly digital asset. That is, money is becoming a set of electronic debits and credits annotated on digital databases and servers controlled and validated by banks. Banking is quickly transitioning into a digital service. Since AI can handle digital information faster and more efficiently than humans, it is not surprising at all that AI is taking over banking as a storm. It is reasonably predictable that AI's takeover of the banking industry will not only continue, but also accelerate as AI technology keeps improving in the near future.  

Lending

Lending is a big component of banking. Lending between homos is probably as old as tool making. The homo habilis ("handyman"), who roamed Africa about 2.4 to 1.4 million years ago, made stone tools. It is not inconceivable that these handy homos lent each other tools when collaborating on certain projects or tasks. The same applies to other homos including modern-day humans or homo sapiens. Humans originated in Africa about 250,000 years ago, but it was not until about 12,000 years ago when the invented / discovered agriculture, and about 4,000 years ago when banking began. 

In the valleys of Mesopotamia along the so-called Fertile Crescent, humans invented / discovered large scale agriculture about 12,000 years ago. Agriculture was literally the seed for human civilization. Before agriculture, homo sapiens had been roaming Earth as hunter gatherers for almost 300,000 years. Agriculture finally settled down humans into villages, towns, and cities. In these agricultural-based settlements, what we call the "Problem Paradox" gradually generated human civilization. 

The "problem paradox" is that resolving a problem often leads to more problems to solve. The new or derivative problems can oftentimes be more complex than the original problem. This can cause frustration and many negative emotions in untrained humans. It can also be seen as a virtuous cycle of opportunity for creativity and innovation. The invention of money, as an example, solved many problems associated with barter (e.g. logistics and coincidence of needs requirements). Money then created its own problems including humans obsessing over it willing to do anything for it, thieves stealing it, the risky inconveniences of carrying money around, etc. Throughout its history, banking has been addressed and servicing some of these problems generate by money. 

But banking did not begin with money per se. Banking began with lending. Banking began specifically with agricultural lending. The seeds of banking can be traced back to temples in Mesopotamia about 4,000 years ago. These temples served as early financial institutions. Governments and wealthy oligarchs stored and safeguarded grains in the temples. Local farmers could apply for seed loans in return for a promise to pay them back in the form of a portion of the harvest proceeds. You can imagine that the underwriting (review process) entailed assessing the risks and rewards involved in loaning the seeds to the farmers. Those in charge probably assessed the credit worthiness of the farmers, repayment ability, and risks involved in the farming venture to estimate the chances of a successful harvest.  Factors evaluated could have included how much land the farmers had access to, how many work animals, how many slaves, etc. In consideration of the loan, lenders would require a promise to pay back with a cut or portion of the harvest. 

By lending resources to farmers in return for a portion future harvest proceeds, the lenders would be interested in the success of the harvest. The lenders would obtain an enforceable interest on part of the harvest. When the harvest succeeded, lenders would profit from their loans. Farmers would also profit from having obtained the loan. When the harvest failed, lenders would lose money unless they had acquired an interest over the land of the farmer (mortgage) or other enforceable mechanisms to be paid back (secured loans). In the event of a loss of the harvest, farmers would also stand to lose a lot. That gradually evolved into the development of insurance allowing debtors to pay a fixed fee or premium to be exonerated (or compensated) in the event of a casualty loss. Lenders eventually matured to the concept of obtaining an enforceable interest (i.e. mortgage) in other assets of the farmers. Back in the day bad debtors could also lose their liberty and even their lives. From financing agriculture, banking gradually evolved into financing other economic ventures. 

Banking innovations to facilitate trade and commerce were developed over time, and not exclusively in Mesopotamia. Ancient civilizations in Egypt, India, Greece, Rome, China, and Mexico had various forms of lending and deposit operations, often conducted by wealthy private individuals, mediated by religious leaders, and sanctioned by rulers. In ancient Egypt, grains were used as currency or money. In China around 900 BCE, the first metal coined money was invented to facilitate trade and payment. In India around 350 BCE merchants already used paper notes or bills of exchange cleared by local banks. Instead of taking the hassle and risk of carrying actual forms of payment around, merchants could carry special notes of payment that could be redeemed at temples operating as financial institutions. In China, the central bank invented paper money to facilitate trade and minimize the hassle and risk of carrying valuables around. The Aztecs in Mexico used seeds and cotton capes as money and monetary notes. 

Banking kept growing and adapting to changing cultures around the world and the obstacles of religion. In medieval Europe, the Christian colonization hampered banking when the Catholic adopted the Muslim tradition of banning interest as sinful usury. Christians and Muslims fell further behind in finance. Jews expanded their lead by allowing interest charges on loans to non-Jews. Notably, in many parts of Europe Jews specialized in finance services, but were not allowed to hold real property. Jews went to public squares to conduct their financial businesses from public benches (known as “bancas” or “banques”). The name "bank" derives from the Jew practice of lending money and conducting other financial transactions from public benches or "bancas" / "banques".

Besides loans, European medieval banks played other roles in safeguarding money (savings) and facilitating payments. For example, the Knights Templar (Catholic security "contractors" safeguarding pilgrims crusading into the lands of Jesus in the Near and Middle East) established a widespread banking system across Christendom in the 12th century, allowing pilgrims to deposit funds at one of their facilities and withdrawing them elsewhere. This minimized the risk of being a victim of thieves and hackers along the way. By the late Middle Ages, payment notes or bills of exchange were used in Europe to transfer money across large distances without physically moving it.

During the Renaissance, European culture began to flourish again after having delayed social and technological progress for roughly 1,000 years due to excessively rigid observance of Christian dogmatism. Florence became a major hub of banking activity. The Medici family for example became a prominent banking family in Europe. The "bankers" and accountants of this period invented clever banking practices such as double-entry bookkeeping (debits and credits), which became a cornerstone of modern accounting. By the way, accounting is another profession that will most likely be taken over by AI within the next 25 years.

The 17th century saw the emergence of national central banks. The Swedish Riksbank, established in 1668, and the Bank of England, established in 1694, are early examples. The 18th and 19th centuries saw the spread of banking throughout Europe and its colonies, with the establishment of private and public banks. The concept of fractional-reserve banking, where banks maintain only a fraction of their deposits and lend out the rest, became widespread. This system amplified the money supply but also made banking more complex and susceptible to runs.

The 20th century experienced several major banking crises. The Great Depression, for instance, saw a banking collapse in the U.S., leading to major reforms and regulations. The latter half of the century saw the rise of international banking, digital transactions, and the start of online banking.

The early 2000s in the 21st century were marked by the global financial crisis, stemming from the collapse of large financial institutions due to exposure to subprime mortgages, leading to tighter regulations worldwide. 

Banking Services

Banking has evolved alongside human civilizations, adapting to their economic needs and reflecting their values and technologies. Technological innovations, such as mobile banking, have revolutionized the way banking services are accessed and delivered. Banking remains a vital institution that facilitates economic growth, international trade, and everyday transactions. 

Banks provide a wide range of services to both individual consumers and businesses. For Individual Consumers some of the services provided by banks include the following:

    Banking accounts. Checking accounts allow customers to deposit money, withdraw funds, and make transactions, typically using checks, debit cards, or electronic transfers. Saving accounts allow for storing money while earning interest. Banks leverage depositors' savings to make loans. Certificates of Deposit (CDs): Time-specific deposits that typically offer higher interest rates than regular savings accounts. Funds are locked in for a predetermined period. The difference between what banks pay to depositors to what banks charge lenders is income for banks. 

    Loans. Banks provide different types of loans, advancing money to borrowers in return for a promise to pay (promissory note) obliging the borrowers to repay the principal amount borrowed plus an extra percentage called interest. Unsecured loans are given based on creditworthiness. Secured loans are provided in exchange for a promise to pay, interest, and a legal right for purchasing real property based on creditworthiness and the real estate as collateral. Home Equity Loans and Lines of Credit: Secured loans based on the equity value of a customer's home, secured by a mortgage on the property. Vehicle loans for purchasing cars, boats, planes, motorcycles, etc. Student loans to finance higher education. Credit cards allow customers to borrow money up to a certain limit for purchases, requiring a minimum payment each month, and charging usually high interest rates compounding the balance owed each month.

    Financial services. Banks can provide other services to facilitate the handling of money or valuable possessions such as renting safe deposit boxes within the bank's vault for safe storage of valuables or important documents. Some banks provide foreign exchange, international wire transfers, and other services to facilitate international trade, including letters of credit and export credit. Some banks offer wealth management and investment services including financial planning, retirement planning, investment advice, and brokerage services.

For Businesses, banks offer similar services specialized in commercial and trade operations including merchant services such as point-of-sale systems, credit card processing, payment gateways including wire transfers sending money domestically or internationally. Investment banks help private companies raise capital on public stock markets, and help companies engage in mergers and acquisitions. 

Central Banks

In addition to private banks, most countries have national central banks to set and implement a country's monetary policy. This involves managing interest rates and controlling the money supply to achieve macroeconomic objectives such as stable prices (moderate inflation), full employment, and economic growth. Central banks also have the exclusive right to issue ("print") the national currency, which takes the form of coins, paper, and mostly digits on computers.

Central banks serve as the government's bank, managing government accounts (debts and revenue), facilitating payments, and helping issue and manage national debt in the form of government bonds. Central banks hold and manage the country's reserves of foreign currencies and gold. Depending on the country's chosen exchange rate system (e.g., floating, fixed, or pegged), the central bank may intervene in the foreign exchange market to stabilize or increase the value of its national currency. Central banks conduct research on economic topics, helping inform national policies. 

Central banks also serve as a bank for commercial banks in their countries. Commercial banks are often required to hold reserves in central banks, and they can borrow from the central bank. Central banks often oversee and maintain key components of a country's financial infrastructure, such as payment, clearing, and settlement systems. Central banks play a role in ensuring the stability of the financial system in their countries. This often involves supervising and regulating financial institutions to prevent systemic risks. They may also act as a "lender of last resort" in a banking crisis.

The exact roles, powers, and priorities of central banks vary widely depending on the country's legal framework, economic conditions, and culture. Additionally, the effectiveness and independence of central banks can vary widely among countries some operating independently of democratically elected leaders and others controlled by autocratic rulers. 

Digital Banking

The banking sector, like many industries, is continuously evolving in response to technological advancements, changing consumer behaviors, regulatory environments, and broader economic and social trends. From the Babylonian temples in Mesopotamia from Jews negotiating loans on benches, banking has come a long way and at the same time remain the same. Savings, loans, interest, and payment (SLIP) services remain the essence of banking. 

Digital banking is the newest and biggest innovation in banking. It's a field prone for AI integration and proliferation. By now, online banking is already the most popular form of banking for most clients under the age of 50. Rather than stopping by the bank to conduct transactions, consumers prefer the convenience of online banking. By now, most of the "money" worldwide is a set of digital accounts on computer servers. Long gone are the days where money was a tangible valuable or backed up by it. Physical and tangible valuables still exist today, but their prominence in banking has diminished greatly in comparison to the rise of fiat and mostly digital representations of value. 

Banks will increasingly leverage AI for all digital banking functions. AI can perform better and faster risk assessments, fraud detection algorithms, stress test simulations, and all other operational tasks. As cyber threats become more sophisticated, banks will invest heavily in advanced AI cybersecurity measures, biometric verification, and multi-factor authentication. Some things never change. Thiefs will try to steal valuables, and the financial industry needs to adapt and overcome. Measures to counter theft and crime led to the creation of bank notes and paper money back in the day. To this day and in the future, financial institutions will focus on safeguarding valuables of clients, which is increasingly becoming information and intellectual property. Banks will focus on AI for better cyber security, seamless digital interfaces, and customer-centric service models.

Digital banking will continue rising in popularity, efficiency, and cost-effectiveness. Unlike humans, AI can work 24/7 without a need for potty breaks, football conversations in break rooms, facebook checking, sleeping hours, troubled marriages, pesky children, aging parents, and all other humanities. AI-powered banks will beat non-AI-powered banks hands down. Therefore, the whole industry will go AI. In the human world, convenience always prevails. Digital banking powered by AI is convenient. With digital and AI technologies, banks can reduce costs, increase services to wealthy populations in developed economies, and expand services to underserved populations in developing countries. In the coming decades, banks will continue partnering with financial technology (fintech) firms, technology companies, and even competitors to enhance their service offerings in the digital age. 

Digital Payments 

Besides storing / safeguarding money (i.e. savings) and lending in return for interest, the traditional role of banking includes facilitating payments. Banks in ancient and medieval civilizations facilitated payment with paper notes and paper bills of exchange. Those tools are still available today. However, payments are becoming increasingly digital and electronic. 

Digital payments refer to the use of electronic computers to transfer funds from one entity to another, as opposed to traditional methods like cash or checks. The rise of digital payments is one of the most significant shifts in the financial world in recent decades. This change is driven by technological innovation, the proliferation of the internet, changing consumer behavior, and evolving business needs. 

Using credit or debit cards, either physically at points of sale or online, was one of the early forms of digital payment. Later on, online banking and mobile apps were developed to transfer money between bank accounts. Digital wallets, like Apple Pay, Google Wallet, or Samsung Pay allow for quick payments via mobile devices. Peer-to-Peer (P2P) applications like Venmo, Cash App, and Zelle allow users to send money directly to others using just a phone number or email address. E-commerce payment services like PayPal, Stripe, or Square allow for easy payment processing on online platforms. Nowadays smartphone users scan scan QR codes with their cameras to access links and pay electronically for tansactions. Using NFC (Near Field Communication) technology, devices can communicate when in proximity to point of sale readers to facilitate cardless transactions. Cash is dying a slowly in the United States and Europe. Cash is mostly dead already in China and other countries.  Interestingly, cash is still relatively king and queen in Japan. 

Digital payments are convenient, and will thus will prevail in the long run. Buyers and sellers can enter into transactions anytime, anywhere, without the need to exchange physical cash or trust checks. Online transactions are processed (debited and credited) almost immediately. Banks and fintech intermediaries can process the obtain transaction fee revenue almost immediately. Digital payments reduce the risk of physical theft or loss that comes with carrying cash. Digital transactions provide a clear record, aiding in budgeting, accounting, and government oversight. Digital payments are accessible to anyone with access to a nearby smartphone, which soon will be essentially every single human on Earth.

As always, and as reflection of the Problem Paradox, there are challenges and concerns with digital payments including cyber security because digital payments can be vulnerable to thieves and hackers; privacy because digital transactions leave a data trail and financial data can be stolen and misused; regulatory and compliance issues because as digital payments evolve, so does the regulatory landscape.

There are many trends emerging in digital banking and digital payments. Some may obviate the need for traditional banking services, and some may further expand opportunities for the bank industry. If you have to bet, the latter (creating more opportunities for banks to make money) will prevail due to the special interests involved. Digital currencies may also be a new frontier within digital banking as many countries are exploring the idea of launching their official digital currencies. As devices become smarter, integrated payment options may arise allowing machines to transact with each other without need for human intervention. For example, your car may be able to pay for fuel at the gas or charging station without need for you to get involved. In instances where humans need to get involved to authorize transactions, a big trend is biometric verification allowing monetary transactions and payments to be authenticated using facial recognition, fingerprints, eye recognition, voice, etc. Another trend is globalization with increasing globalized payment systems that can seamlessly handle cross-border transactions in real-time.

Digital payments are at the intersection of technology, finance, and consumer behavior. Their continued growth and evolution will likely shape the broader landscape of global commerce, financial services, and monetary systems.

AI in Banking

Artificial Intelligence (AI) has been working in the banking sector for several years now. The trend will only continue and accelerate over the next 25 years. Digital money and digital banking will most likely be the bulk of money in the world. AI will displace most banking and financial analysts.  

   Virtual Assistants. Many banks have deployed AI-driven chatbots to handle customer inquiries, guide users through processes, and provide instant responses, leading to enhanced customer experience. Integration with devices like Amazon's Alexa or Google Assistant allows customers to check balances, schedule payments, or even get financial advice via voice commands.

   Risk Management. AI can analyze a customer's credit history, transaction records, and other related data more comprehensively and quickly than human-based systems, leading to more accurate credit scoring and lending recommendations. Banks are using AI to forecast market trends, loan defaults, or even liquidity needs based on historical data and complex algorithms.  Fraud Detection. AI systems analyze vast amounts of transaction data in real-time to identify unusual patterns or anomalies, helping in the early detection and prevention of fraud.

    Compliance. AI can read and interpret vast numbers of documents, ensuring that banks meet regulatory requirements and automatically flagging any non-compliance issues. Anti-Money Laundering (AML) & Know Your Customer (KYC). AI is assisting banks with AML analysis of transactions to identify suspicious activities that might indicate money laundering. For KYC processes, AI can quickly validate customer documents, ensuring compliance and reducing manual paperwork.

    Innovation. AI allows banks to innovate, offering new products like app-based recommendations, spending trackers, and more. AI can analyze customer behavior to segment the clientele effectively and tailor marketing strategies, improving conversion rates. Based on a customer's transaction history and behavior, AI can be trained to offer  financial advice, product recommendations, and investment strategies. AI can automate routine and repetitive tasks such as data extraction, document verification, and many other clerical tasks, leading to efficiency and cost savings. By automating many front and back-office processes, banks can significantly reduce operational costs. Investment banks and hedge funds use AI-driven algorithms to make trading decisions at speeds far beyond human capability, capitalizing on market opportunities in fractions of a second.

AI offers numerous benefits to the banking sector. AI integration comes with challenges like concerns over data privacy, job displacements, consumer sentiment, and upcoming AI regulations. However, with the continuous advancement in AI technology it's easy to forecast more AI in the future of banking.

The role of AI in banking can only be expected to continue increasing. Back in the day, Babylonian lenders assessed agricultural credit risk on their own, Jews handled their transactions from public benches, medieval knights protected savings and transactions, and so forth. Increasingly today, money is becoming a digital asset within the realm of computer hardware and software. AI is nothing other than computer hardware and software programmed to mimic human intelligence (i.e. problem solving ability). Intelligence entails processing information, identifying patterns, and making predictions based on imagination or simulation. The future of banking is digital and as such it is intricately entangled with the future of AI. 

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