Although technology can sometimes feel like a threat, financial institutions that embrace it can slash costs, reduce cyber risks and better meet customer needs, says Timothy Adams of the Institute of International Finance.

In the nine years since the financial crisis, the industry has transformed itself. Banks have raised more than $3000bn in capital, increased overall liquidity by more than $1000bn and dramatically reduced leverage. Resolution regimes are also now in place in major financial centres, ensuring taxpayers will no longer be put at risk if an institution fails. The system is now safer, sounder and more robust than ever before.

But just as regulators are working to complete the final stages of the global regulatory agenda, the industry is facing new, dramatic changes from the impacts of technology, which will press financial institutions to develop new capabilities and reinvent their business models.  

New competition

Banking and insurance are 'knowledge' businesses and are engaged in the process of transferring property rights, which are, by nature, digitisable. New technologies are introducing competition from global digital platforms and challengers eyeing segments of the value chain. 

Established institutions face intense competition for technology talent and tremendous costs to update legacy systems. Growing digitisation will increase the need for firms to be hyper-vigilant against cyber threats. 

However, new technologies also bring tremendous opportunities. By embracing technology, financial institutions can slash costs, eliminate friction and better meet customer needs. Technology allows institutions to reach new customers and reduce transaction costs and clearing times.

Emerging fields of artificial intelligence, machine learning and other technologies – such as cloud computing and blockchain – could fundamentally change the financial services industry by automating more complex decision-making functions, changing market structures and disintermediating institutional roles and responsibilities.

For example, central banks in the UK, China, Singapore, Canada and other jurisdictions are exploring issuing their own crypto currencies. The technical features would likely enable more direct transactions without intermediaries. Five global financial institutions have an analogous effort to develop a ‘utility settlement coin’. This asset-backed digital cash instrument could alter settlement, removing different currencies and institutions from the chain of transactions. 

The rise of regtech

In a particularly important area, technology can allow firms to meet their compliance and regulatory obligations more effectively and efficiently, what is commonly referred to as ‘regtech’, a focus area at the Institute of International Finance (IIF) since 2015. 

An IIF survey among large and mid-sized member financial institutions shows that costs related to anti-money laundering (AML)/combating the financing of terrorism make up a significant portion of total compliance costs and staff, varying from roughly one-third to 80%. Overall, compliance costs have risen significantly in the past couple of years while at the same time, firms are required to hold more capital for operational risk. Regtech will be an innovative solution for banks to help reduce those costs and refocus staff and resources toward financing economic growth.

Firms are now using regtech solutions for aggregating data for risk assessment and modelling, automated reporting, machine readable regulation and pre-trade compliance.  

Regtech is also creating new solutions for financial crime prevention and compliance, which could be particularly transformative for the industry and society. The expense and risk of financial crime prevention has led firms to pull out of many markets and restricts their ability to expand access to underserved populations.

Meeting barriers

By deploying new tools such as machine learning models for AML prevention and financial market pre-trade compliance, firms can continue providing efficient trading and cross-border payment services that are low cost and real time, and expand access to financial services and products for new customer segments without financial histories.

At the same time, however, financial institutions face challenges in deploying regtech solutions. Many regtech solutions rely heavily on the ability to move and use data seamlessly. But barriers to use or process data and share information – due to privacy rules, data localisation rules, financial sector information sharing rules or limitations on use of the cloud – can prevent regtech from reaching its potential.

The IIF has put forward constructive proposals to the Financial Stability Board and the Financial Action Task Force so that policy-makers can address these barriers, allowing financial institutions to fully harness this technology.

At the end of the day, we all want a healthy, vibrant and profitable financial system that behaves in accordance with accepted norms, that meets customers’ and society’s needs and that supports economic growth, capital formation and job creation.

Working together, the industry and regulators can identify emerging trends and challenges and develop thoughtful policy responses to ensure the industry can adapt to technological innovations.  

Timothy Adams is president and chief executive at the Institute of International Finance in Washington, DC.

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