Using RegTech to Spur Proactive Regulation

By David McDonald

The 2008 crisis exposed critical regulatory and supervisory failures in the current financial system. This is not news, and, in fact, some would argue that oversights and loopholes are part and parcel to the system. After all, there is always a potential for mismanagement where regulation must be reactive to new disruptors in markets. However, developments since the ’08 crash have emerged that might have the power to encourage a new proactive stance. Enter the rise of “RegTech” or regulatory technology. As a subsector of financial technologies (“FinTech”), RegTech was initially created as a way for financial companies to reduce compliance costs by automating information gathering and reporting. Since then, however, the niche has exploded at an alarming rate. Technologies include everything from machine learning to cut down on time filling out forms to real-time authentication for digital transactions. Considering the World Bank estimates that eight percent of gross national product (GNP) is spent on regulatory compliance, any technologies that can streamline processes and reduce costs are certainly welcome.

However, this is where our issue arises. As more entrepreneurial companies enter the RegTech sector, financial institutions are receiving multitudes of disjointed possible answers rather than one uniform solution. To use a simplified example, consider software such as TurboTax. It’s an efficient way for households to fill out multitudes of tax forms in one convenient system. However, when the “household” is an international financial institution with countless regulatory agencies across the globe to report to, the household is going to need some crazy computing power to make sense of everything. RegTech is an opportunity to use technology in order to streamline the filling out of these regulatory forms and reduce the amount of manpower needed simply to disclose that information. But, the system only works if there is one comprehensive solution. To return to the TurboTax example, there needs to be one TurboTax rather than fifty different firms all trying to sell their niche version of the software.

There are two likely ways to achieve this goal: a RegTech innovator will come up with a solution that dominates the market and becomes the main supplier of regulatory technology or, ironically enough, through continued restrictive regulations. To expand on the second option, if regulators can detail exactly what standards a RegTech firm should be catering to, then the regulators have an opportunity to save these financial institutions billions in manpower that could be dedicated elsewhere. It would require a proactive approach by regulating this new sector in a way that ultimately benefits the financial institutions, rather than waiting for some failure in the market (a data breach caused by a cyber-attack, for example) to spur lawmakers into action. Taking such steps can be extremely beneficial as it sets a list of regulations for a still fledgling market that can then grow into what regulators want it to be, rather than letting the sector run rampant until regulators are forced to react to a catastrophe that they could have prevented.