Impact of customers' digital banking adoption on hidden defection: A combined analytical–empirical approach

• Author: Giri K. Tayi,Hyeokkoo Eric Kwon,Yoonseock Son,Wonseok Oh
• Published date: 01 June 2020
• DOI: http://doi.org/10.1002/joom.1066
• Date: 01 June 2020

RESEARCH ARTICLE

Impact of customers' digital banking adoption on hidden

defection: A combined analytical–empirical approach

Yoonseock Son

1

| Hyeokkoo Eric Kwon

2

| Giri K. Tayi

3

| Wonseok Oh

1

1

College of Business, Korea Advanced

Institute of Science and Technology

(KAIST), Seoul, South Korea

2

Department of Information Technology and

Operations Management, Nanyang Business

School, Nanyang Technological University,

Singapore

3

School of Business, State University of

New York at Albany, Albany, New York

Correspondence

Hyeokkoo Eric Kwon, Department of

Information Technology and Operations

Management, Nanyang Business School,

Nanyang Technological University,

Singapore 639798.

Email: eric.kwon@ntu.edu.sg

Handling Editor: Gregory Heim

Abstract

The implementation of digital channels as avenues for economic transactions

(e.g., online and mobile banking/FinTech) has shifted the paradigm of customer–

bank interactions, providing unprecedented opportunities for both parties. The

prevailing belief is that digital banking has several advantages, such as lower costs

and higher information transferability for customers. These benefits can also pro-

mote competition between banks given customers' predilection for “multi-homing,”

or engagement with multiple banks. This study investigated the impact of cus-

tomers' digital banking adoption on hidden defection, in which customers purchase

financial products from competing banks instead of their primary banks. To this end,

we developedan analytical model to provide insightsinto the effects of digital banking

adoption whiletaking customers' multi-homingbehaviors into consideration.We then

conducteda series of empirical analyses usingcomprehensive individual-leveltransac-

tion data to provideevidence of hidden defection.Our findings indicate that customers

with higher loyalty exhibit greater hidden defection after digital banking adoption.

Customerswho engage primarily with personal-service channels (e.g.,branches) show

stronger hidden defection than do self-service channel (e.g., ATMs) users, and this

effect is more prevalent among loyal customers. Our resultsprovide valuable implica-

tions for omni-channel services in a marketcharacterized by multi-homingbehavior of

customers.

KEYWORDS

analytical model, customer defection, difference-in-differences model, digital banking adoption,

econometric analysis, FinTech, information stickiness, multi-homing, omni-channel strategy, online

and mobile banking, panel data, transaction cost economics

1|INTRODUCTION

The rapid digitalization of business worldwide has challenged

conventional business models by breaking down industry

boundaries while engendering new opportunities. This digital

disruption (e.g., online and mobile banking/FinTech) is substan-

tially reshaping the financial service industry (Weill & Woerner,

2015). The disruption is forcing banks to refine their costs and

profit models by improving their control over operational and

administration costs and thereby enhancing profitability

(Yiu, Grant, & Edgar, 2007). This paradigm shift has led to

a predicament wherein traditional banks are called on

to satisfy the changing demands of clients while having to

cope with the effects of the technology infusion propelling

the changes (Deloitte, 2015).

The advent of digital technology has affected the core of

the banking business and has changed the conventional finan-

cial services operating system, which had been dominated by

Received: 17 May 2018 Revised: 25 August 2019 Accepted: 16 September 2019

DOI: 10.1002/joom.1066

418 © 2019 Association for Supply Chain Management, Inc. J Oper Manag. 2020;66:418–440.wileyonlinelibrary.com/journal/joom

offline employee-oriented services. The improved efficiency

and cost-effectiveness of technology-enabled service delivery

processes (e.g., the reduced need to incur physical costs of

branch operations; Boyer & Olson, 2002) have shifted the

managerial focus toward enhancing the efficiency of digital

channel operations to reduce operational costs. More impor-

tantly, as an increasing number of banks are providing digital

banking services, it is imperative that banks understand how

customers use the digital services and employ their benefits to

foster better customer relationships (Chan & Lu, 2004).

The digitalization of service channels has led to substan-

tial changes from the consumers' point of view. Information

technology (IT) advances have altered how customers inter-

face with service providers and have thus affected how cus-

tomers perceive the service experience (Boyer & Olson,

2002). Prior to the advent of digital banking, consumers

engaged primarily with a single bank. However, greater

information accessibility and reduced search and transaction

costs (Bakos, 1997; Brynjolfsson & Smith, 2000), as well as

the reduced setup costs (Sun, 2008) enabled by IT, have trig-

gered customers' multi-homing behaviors and have allowed

them to easily access multiple banks simultaneously. A

recent report revealed that roughly one in two Americans

has an account with more than two banks (Huddleston,

2018) and that customers are increasingly willing to switch

primary banks (i.e., the bank to which a customer is most

loyal among other banks s/he transacts with)

1

behaviors that

are detrimental to the value of long-term customer relation-

ships (Ernst & Young, 2010). This “hidden defection,”in

which customers purchase financial products from compet-

ing banks instead of from their principal financial institu-

tions, represents a total cost of $11.4 billion to traditional

banks (Bain & Company, 2016). This figure is alarming to

banks because it points to the potential hidden defection of

loyal customers, diverting their loyalty from the focal bank

to a rival institution. For instance, banks can lose the cus-

tomers who tend to become long-term customers, such as

those who purchase mortgages (Weill & Woerner, 2015).

More importantly, hidden defection accounts for 9–13% of

the annual 10–15% losses in gross revenues resulting from

customer attrition; this proportion is not detected by banks

immediately because these institutions track only the most

evident forms of attrition (e.g., client exits) while over-

looking less-apparent forms (BCG, 2017). As stated by

Gerard du Toit, head of Bain's Banking Practice, “customers

are going to go elsewhere for any new needs, and if someone

makes it easy to escape their bank for a better place, they're

going to run right out”(Bain & Company, 2016).

Changes in the financial services industry have raised

concerns among banking executives, stimulating serious

debate about whether and how customers' digital banking

usage will affect their loyalty levels. On the one hand,

customer loyalty may be enhanced because digital channels

allow more efficient and personalized banking service expe-

riences at lower costs (Xue, Hitt, & Harker, 2007). On the

other hand, digital channels can wear away the bond

between customers and banks by reducing barriers to entry,

thus promoting switching behaviors and diminishing human

connection with the banks (The Economist, 2015). Similarly,

a number of service operations management studies have

found that, although technology-based services may reduce

transaction costs, customer loyalty may also decline in the

long run due to the dissatisfaction of service providers

(Heim & Sinha, 2001; Thirumalai & Sinha, 2005).

Several studies have endeavored to identify the effects of

digital banking

2

from both the information systems and ser-

vice operations perspectives (e.g., Campbell & Frei, 2010;

Xue, Hitt, & Chen, 2011). For example, Campbell and Frei

(2010) examined the effects of digital banking channel adop-

tion on local branches, automated teller machines (ATMs),

and phone banking and found that adoption was associated

with the substitution of low-cost self-service channels

(e.g., ATM, phone banking), the augmentation of costly

personal-service channels (e.g., branch visits), and an

increase in total transaction volume. We extend this stream

of research by unraveling potential downsides of digital

banking from the bank's perspective. In reality, digital bank-

ing channels may not be wholly favorable to banks but

instead may leave them vulnerable to customer churn in a

highly competitive environment. This study explores that

possibility by illuminating the role played by customers' dig-

ital banking adoption in inducing hidden customer defection

(“hidden defection”hereafter).

To this end, we adopt the transaction cost economics and

information stickiness perspectives to theorize on how cus-

tomers' digital banking adoption may lead to hidden defec-

tion. In line with our theoretical reasoning, we construct an

analytical model under the assumption of customers' multi-

homing behaviors to formulate propositions on hidden

defection following customers' digital banking adoption. We

then empirically identify hidden defection using actual

customer-bank transaction data to provide a more compre-

hensive understanding of digital banking adoption.

On the basis of our analytical model, we anticipate an

increase in hiddendefection as digital channelusage intensifies

and increased effects of usage intensity on profits as the num-

ber of loyal customers (i.e., those whoperceive a focal bank as

their primary bank) increases. Motivated by the results of our

analytical model, we carry out a difference-in-differences

(DID) analysiswith unique individual-leveltransaction data on

7,102 customers' comprehensive banking transaction records

to identify the expected behaviors regarding hidden defection.

In line with the model results, the empirical findings showthat

the customers' digital banking adoption negatively influences

SON ET AL.419