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In the past decade or so, one of the main topics in the industry has been the increased burden of regulation. There was a drive by regulators to increase both transparency and supervision as well as obtain a better insight into the risks the financial industry is exposed to.
One unanticipated consequence of increased regulation came in the form of data. New regulations, in many cases, required capturing, storing and reporting much larger quantities of data. And that came at a cost. There is a cost of people collating the required data from customers, transactions and systems. There is a cost of maintaining all of the said systems and databases. Then there is the cost of generating the reports and submitting it to the regulators. And the cost of answering queries from regulators or responding to regulatory audit requests.
While Corporate Service Providers and Trust Administrators have avoided the heaviest of regulatory burdens, especially compared to pooled fund managers and banks, there is still a significant weight of data that needs to be collated, safely stored and reported – accurately - on a regular basis.
One of the obvious solutions to stop regulation from consuming even more resources would be adoption of new technologies, which would enable more efficient collation of data, and related audit trails, for regulatory compliance purposes. This is where RegTech comes into play. If you haven’t come across the concept of RegTech yet, then you will very likely be hearing about it a lot in the coming years.
New kid on the block
If we were to define RegTech in simple terms – it is a cluster of technologies that support efficient compliance management from an IT perspective, basically using technology to solve compliance and regulatory issues. They are known as RegTechs.
RegTechs use a number of technologies to achieve efficiencies: cloud computing, blockchain, Application program interface (API), machine learning, predictive analysis and visualisation solutions. Use of these technologies is distributed between several areas – compliance, identity management, transaction monitoring and regulatory reporting being a few of them.
Technology offered by RegTechs is certainly appealing and is becoming essential in the world of the ever-spreading jungle of data. However, there are a few hurdles to be overcome before we can claim we have the silver bullet for all industry challenges.
The role of regulatory authorities
While many financial services firms show strong interest in adopting RegTech technologies as they offer a strong competitive advantage, the current adoption rate is slow. This is mainly due to the fact that the enforcement authorities must approve the adoption and use of such innovative products and services.
A progressive approach was first adopted by a number of regulators, such as the FCA in the UK and MAS in Singapore, where they offered a 'regulatory sandbox' to test innovative solutions in a safe environment while helping the tech firms align their solutions with the regulatory requirements. This was closely followed by the CSSF in Luxembourg who, back in 2018, issued a White Paper on use of Artificial Intelligence (including RegTech) in financial services and set up an Innovation Hub. This Hub provides a point of accessibility for technology innovators who wish to present a new project, or exchange views on major challenges faced in relation to financial innovation in Luxembourg.
CSSF demonstrates a deep understanding of challenges in the financial services sector and related technology-based innovation, and awareness that a proactive flexible regulatory approach is needed in order not to hinder new opportunities and benefits by creating excessive regulatory barriers for innovation. However, they also make it very clear that in their approach they will maintain their prudent risk-based approach to safeguard the role of prudential supervision and supervision of the financial markets in ensuring the safety and soundness of the financial sector with a special focus on consumer protection, market confidence and AML issues.
Such open and balanced approach is welcome, as regulators can help create common integrated standards, proactively drive efficiencies in the RegTech ecosystem and assist RegTech to develop a foundational base underpinning the financial services sector – Corporate Service Providers and Trust Administrators are no exception.
The question is – will CSSF and other Luxembourg regulatory authorities keep leading the way in the march of RegTech, and who will be next?