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4.2 The Banks' Right to Exist: The “WHAT”

The purpose of companies—and thus also of banks—in a capitalistic economic system is to provide market-appropriate services—the “what”—in the chosen business fields. Services are market-appropriate when customer benefit is created by satisfying customer needs with products or services of an expected quality at competitive prices and at the desired time, to an extent that customers are willing to purchase those products and services. Market economy systems are controlled by prices, which in turn are determined by supply and demand. Companies that do not offer a marketable range of services have no right to exist. It has been proven empirically that the orientation of core competencies towards the changes of the digital age is the key factor for the competitiveness of companies and banks (Koye 2005).

4.3 Organisational and Coordination Forms of Service Provision: The “HOW”

As well as the “what”—the marketable provision of services—companies are also faced with the question of “how”—i.e., the execution of the individual activities required for bank services. Positioning the activities and the costs of each single activity also determines the price/performance ratio of the service being provided— an essential element of the competitiveness of banks in competitive markets.

In principle, the question is which configuration of individual steps in providing a service allows the optimum price/performance mix. The important factor is deciding which share of performance provision a company wishes to provide itself—because it attains a very good price/performance quality or the step is seen as strategically important—while others provide better quality and/or lower prices for these partial performances. As long as the provision of a partial performance can be done at a lower price or with better quality within the company, then it will be provided within the company—otherwise it can be outsourced.

In the information/network age, this relationship has shifted dramatically. Therefore it is worthwhile presenting the conceptual foundations of this development, in order then to be able to derive the right conclusions for one's own bank.

The optimum design of business models is a subject that has preoccupied the

field of organisational theory for a long time. Couse (1937) posed the question as to why companies exist at all, and why everything isn't always processed afresh via the market. He formulated his reply in terms of economic transaction costs theory, which is concerned with the regulation of the exchange of goods and services between suppliers and demanders. The use of resources must be coordinated in a collaborative economy, and this leads to transaction costs. Where there is equally large benefit from a variety of work stages, the cheaper version is chosen (Picot 1991).

The examination unit of transaction costs theory is the individual transaction or activity by a company to provide a service. In detail, transactions costs represent the costs of information and communication related to the initiation, agreement, processing, control and adjustment of an exchange of performances. They are the efficiency standard for evaluating and selecting different institutional agreements. Coase (1937) identified two coordination alternatives, market[1] and hierarchy.[2] Conducting a transaction within the company makes sense as long as its marginal costs correspond with the market price. The transaction price is the key criterion. Transaction costs are “the operational costs of an economic system” (Arrow 1969,

p. 48). They justify the existence of companies and the internal execution of all necessary partial steps to provide a service. Hierarchical organisational forms often have lower transaction costs than market organisational forms. Figure 4.5 shows both extreme coordination alternatives, market and hierarchy, as well as the transaction costs as a decision-making criterion.

Market Transaction Costs are the costs of using the market mechanism to conduct the economic exchange of services. Specifically, they refer to information and contract costs9:[3]

Fig. 4.5 Coordination forms of economic exchange relationships (Source Koye 2005, p. 121)

• Information costs arise in the context of seeking and selecting contractual partners, the communication and search costs of gaining information about available providers and price structures, and the expense of acquiring information about specific partners (Stigler 1961; Hirshleifer 1973; Hirshleifer and Riley 1979).[4]

• Contract costs comprise negotiation and decision costs. The influencing factors are the time until the decision is made, the preparation of information[5] and legal advice (Richter and Furubotn 1999)

Added to these are the possible costs of monitoring and asserting delivery deadlines, quantity and quality control, as well as collection, operational and bankruptcy costs. Theoretically, additional opportunity costs can arise from the difference between theoretically the best available offer on the market and the one that has been effectively chosen (Cocca et al. 2001).

Hierarchical Transaction Costs are generated by the fulfilment of longer-term contracts within existing organisations:

• Organisational structure costs are the costs of establishing, maintaining and adapting the organisational costs, and are thus usually fixed costs.

• Operating costs are the costs for decision-making processes, performance measurement, business management and instruction monitoring, as well as physical company services. These are usually variable costs (Williamson 1990; Richter and Furubotn 1999) (Fig. 4.5).[6]

The digital age is now transforming these transaction costs heavily in favour of the attractiveness and necessity of market forms of organisation, as search and information costs have decreased sustainably, the margins of existing business models are declining steadily, and the organisational structure costs of existing hierarchical systems are too high—this is the scientific basic of all business-related discussions relating to the industrialisation of the banking sector. It is no longer a question of whether, but rather of how the transformation of business models should be shaped in the digital age.

  • [1] “In the extreme manifestation of market coordination, all transactions in an economic system between individuals are processed on the basis of individual contractual rules; no multi-person economic units participate in the transaction process.” (Freese 1993, p. 203).
  • [2] “If companies are founded, then transactions are removed from the market and processed in companies. [.. .] Outside of companies, price movements control production; it is determined by a series of exchange transactions on the market. Within companies the market transactions are suspended and complicated market transactions with exchange transactions are replaced by coordination by the company owner, who controls production.” (Freese 1993, p. 204).
  • [3] Coase (1960, p. 15) describes market transaction costs as follows: “In order to conduct a market transaction, one must find out with whom one wishes to transact; inform people that one wishes to transact with them, and under which conditions; conduct negotiations that will lead to a conclusion; draw up the contract; install the requisite controls to ensure that the contractual conditions will be observed.” Somewhat deviating, but substantially similar categorisations can be found, for example, in Freixas and Rochet (1998), Fuchs (1994) and Picot (1991).
  • [4] In the service provision sector, the search for suitable employees, for example, is a complicated process (Richter and Furubotn 1999).
  • [5] Kreps (1999) notes that inefficient results can arise from information asymmetries (if one partner has more, perhaps private information)
  • [6] These costs will also be addressed in detail in the context of the process costs analysis.
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