Future of Finance Series, episode 7: Embracing digital regulation
Regulators need data from the firms they regulate to monitor financial markets. But producing and analysing that data is labour-intensive and costly. According to the Future of Finance Report, investing in regtech to make the best use of this data is “no longer a choice” for the Bank of England.This is the seventh instalment in our Future of Finance Series, which looks at Huw van Steenis’ Future of Finance Report and the Bank’s response to it. All quotes in this post are from these sources.
The benefits of regtech
Finding efficiencies for firms and regulators
Financial services firms are increasingly relying on technology to help them comply with the regulations that apply to them. This technology, known as regtech, may be used for a variety of purposes such as flagging anomalous trading activity or performing more targeted anti-money laundering checks. Using regtech, firms can cut costs while also improving the quality of compliance. The FoF report argues that regulators should use technology to reap similar benefits.
The FoF report calls on the Bank to be a “technology-enabled and cost-effective regulator” which uses “advanced analytics for analysis of macroeconomic trends, financial surveillance and supervision”. The FoF report focuses on a specific use case for which regtech could benefit both firms and regulators: digitalising regulatory reporting.
A case study: digital regulatory reporting
Using data to monitor markets
Regulators collect a variety of data from regulated firms, on their products, customers and financial information, to help them supervise financial markets. But the UK financial system is constantly creating more data than ever before. Regulators are now “barraged” with an “enormous body of unstructured data”, presenting them with a real challenge for how they interrogate that data in a meaningful way to assist their supervisory activities.
The challenge of too much data
Every month, the Bank receives more than 1 billion rows of data from regulated firms. The Bank admits that the “explosion” in the volume of data it receives is more than it can handle using traditional methods.
Two thirds of supervisors’ time is spent manipulating (rather than analysing) data. As the FoF report notes, this is “a long way from real-time monitoring”.
The cost of reporting
Firms must have in place compliance processes to meet their reporting requirements, which can have serious cost implications when they rely on relatively manual solutions. At present, regulatory reporting is estimated to cost UK banks up to £4.5 billion every year.
Compounding the financial burden of reporting, there have been several significant changes to regulation since the global financial crisis. As a result, the current PRA rulebook is longer than War and Peace and compliance has become increasingly complicated. The FoF report uses the increase in regulation to argue for more efficient regulatory processes which would bring down the industry’s compliance costs.
Digitalising regulatory reporting
The FoF report suggests that a solution to this problem could be to digitalise regulatory reporting. This would involve transforming reporting requirements into machine-readable rules. These rules could then map more easily to the data in firms’ systems. See our short animation which introduces the work UK regulators have already done on digital regulatory reporting and highlights some of the important legal questions posed by the project.
Making rules machine-readable
To achieve more efficient processes, the FoF report emphasises the importance of investing in digital regulation and recommends a range of options for the Bank.
A central plank of all the proposals would be to develop a common understanding of what needs to be reported, i.e. a shared reporting taxonomy. Consistent data standards would reduce ambiguity, allow for better data analytics and enable rules to be read by a machine. Having machine-readable rules could ultimately lead to machine-executable requests for data, i.e. automated compliance.
Pooling data into shared repository
Under the most ambitious proposal, the Bank would be able to pull firms’ data from a shared repository on demand, enabling near real-time data extraction, analysis and intervention. This solution could be implemented via a blockchain network.
The Bank’s response
In its response to the FoF report, the Bank says that the “costs of redesign will not be small” but the vision of the proposals could benefit the industry for many years. The Bank says it will consult with the industry on how regulatory data should be hosted over the next decade. It also plans to make the PRA rulebook machine-readable within the next five years.
Next up in our Future of Finance Series
In the final instalment of our Future of Finance Series we will look at cyber resilience.
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