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Contributors: Brian Clark and Paul Butler

Managing regulatory risk may be business as usual, but the stakes continue to rise.

Few things ramp up pressure on compliance officers more than industry “shocks” — high-volume, high-impact dislocations in the marketplace that render existing regulation inadequate (at best) and cause both regulators and businesses to scramble to put new controls in place.

In this article, we discuss two emerging shocks to the financial industry and how they impact compliance.

Shock #1: The Tech-Fueled Great Acceleration

Technology is at the root of virtually every recent shock to the financial industry affecting compliance.

For awhile, incumbents saw tech as a band-aid for legacy problems and inefficiencies. Now, however, technology is viewed as the necessary bedrock of the industry.

This mindset drives the financial industry toward a Great Acceleration: faster, more efficient interactions with clients and counterparties, faster flow of capital between institutions and across borders, and faster execution of trades and strategies.

Regulators and Firms Struggle to Keep Pace

For compliance departments, the Great Acceleration poses a huge risk.

The fact that regulators (and even many market participants) are still coming to grips with new technologies and products – e.g., AI, blockchain, cryptocurrencies, data privacy, and cybersecurity – will not slow the pace of innovation.

Existing regulations will increasingly fail to respond to market conditions, making compliance difficult by virtue of a frequent disconnect between market rules and practices.

What’s more, as markets continue to innovate much faster than regulators can respond, new regulations will grow obsolete faster and faster.

One area in which the Great Acceleration has caused particular pain for compliance officers is the realm of “know your customer” (KYC) and other anti-money laundering (AML) compliance obligations. Investigative and reporting obligations have turned compliance departments into what amount to private law enforcement operations.

Already, firms face substantial fines for working in embargoed or sanctioned jurisdictions. As the volume and speed of trades and capital flows increase, these compliance and investigative obligations will continue to trend toward greater complexity and risk.

RegTech Boosts Compliance Speed and Efficiency

RegTech solutions can help relieve the shock of the Great Acceleration by doing in minutes what would take humans hundreds of hours.

For example, AI-driven technology can help regulators understand their impact across regions more quickly, making rule-making potentially more efficient and effective.

Similarly, RegTech has a massive role to play in helping financial firms pick through  increasingly detailed and onerous regulations that often (albeit unintentionally) suppress value-creation to a far greater extent than they deter wrongdoing.

Emerging solutions will help firms automate KYC data collection, monitor capital flows and trading patterns, and report suspicious behavior to regulators and prosecutors.

Shock #2: The Shift to an All-Digital Environment

Another significant shock we’re experiencing in the financial world involves the tidal-wave shift in consumer demand toward a “digitally native” investing and financial management experience.

The FinTech boom has begun to transform entire business models by catering to that demand. Businesses have a choice to either stagnate or adapt to meet the needs and changing expectations of new customers.

No Market Niche Left Untouched

It’s difficult to overstate the breadth of change the demand for a fully-digital experience will continue to bring to the marketplace.

As it has in so many other industries affected by the digital revolution, the shift to an entirely digital mode of accessing and consuming financial products and services will require firms to innovate and re-create physical goods and services in the digital realm.

The shift has already spurred entirely new business sectors in banking (e.g., challenger “virtual” banks), money (crytpo, obviously), and payments (which grew so large, so fast, it already feels like a mature business model by today’s standards).

With the exception of the early “e-banks,” none of these businesses existed at the turn of the century, and many weren’t even around at the beginning of the 2010s.

RegTech Leverages AI to Reshape Compliance Roles

For every market sector and asset class affected, the rate and pace of regulatory changes and downstream compliance efforts will also increase, putting pressure on compliance departments to keep up.

That won’t be easy.

Firms will face difficulty following, tracking, and complying with all the new rules and regulations that emerge. The sort of over-regulation typical of an industry in transition seems inevitable, as does the risk of harsh penalties for non-compliance.

The only way to stay ahead of the frequency and growing complexity of regulatory change, and to protect firms from feeling the wrath of regulators, will be to shift much of the work traditionally done by humans onto machines.

The function of human compliance staff must change from rote collection and manual sifting of data to higher-level review and analysis of machine-generated reports.

AI and natural language processing will take over the heavy lifting of analyzing regulatory text, freeing up compliance officers to concentrate their efforts on relationship-building and overseeing the safety of the firm from the perspective of strategic decision-making.

 

About the Contributors

Paul Butler is a Managing Consultant at Sionic with over 25 years of experience in investment banking technology. He advises and leads delivery on individual and organisational change, especially in culture, career and behavioural development.

Brian Clark is the Founder and CEO of Ascent. He has a wide breadth of regulatory compliance experience including derivatives exchanges, market investigations, clearinghouse compliance, and registered brokerage businesses.

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