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Jump to: Shifting legal environment  | A challenging environment for tech vendors | Some areas of continued growth | Recommendations for vendors 

Waking up to a deregulated world

Increasing regulation has been a recurring theme in most major economies for more than a decade. Until recently, there was an expectation among many market players that regulations in such key areas as artificial intelligence (AI), climate risk, environmental, social and governance (ESG) and energy would, if anything, become more stringent and more universal.

That’s not happening, however. With regulatory fatigue continuing to seep through financial markets and the re-election of Donald Trump, who has signaled his desire to ease the regulatory burden on US companies, the safe bet now is on widespread deregulation. This can be accomplished by action (actively canning or scaling back existing regulation) and inaction (not introducing expected legislation). Support for regulation in such areas as ESG and climate risk is waning, even among its most passionate advocates, and it is unlikely there will be any new major AI regulations during the current US administration (although we may see some tightening of semiconductor export loopholes).

Chartis believes that this will be a fundamental shift, with potential repercussions for up to a decade. And while the US is clearly the main force driving change, it’s not the only one – indeed, there are many other forces at work. Regulatory changes in the US will trigger furious lobbying in the European Union and elsewhere, as other countries simply won’t allow their banks (and other institutions) to be disadvantaged compared with those in the US. The result: comparable deregulation in these regions.

Many dynamics in Europe suggest that the impact of regulatory shifts could be even broader, deeper and sharper than anticipated. EU regulators have recognized that many aspects of MiFID II were problematic, such as the unbundling of research. Applying Solvency II across the board was perhaps a loss for UK insurers, due to their unique architecture. And while many European governments won’t immediately rescind on their promises and achievements around sustainable green markets, Chartis believes that we are seeing the beginning of a structured and systematic reorientation of that regulatory environment.

Change is evident elsewhere in the world, too. For most of its current term, the current Indian government has focused on efficiency in physical and digital infrastructure, with deregulation not being a centerpiece of its agenda. Now, however, that has shifted, with deregulation being seen as a geopolitical and structural necessity.

In many countries, power has moved or is moving away from ‘establishment’ parties for which the previous market and regulatory structure was the operating consensus. And in low-growth environments, especially developed markets, it is increasingly difficult to argue against deregulation. Indeed, for a variety of political, social and economic reasons, many legislators have realized that deregulation can even resonate with an anti-establishment populace – or is an issue that is simply so obscure that it doesn’t register with the voting public at all.

There is even evidence that those previously wedded to regulation, including ex-regulators, bureaucrats and politicians, are now making the case for deregulation. With that in mind, many governments could view financial deregulation as the most straightforward to achieve (something that many players in the finance sector are already anticipating). This suggests that the effects of these tectonic shifts could be as profound as those experienced in the 1970s and early 1980s.

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Shifting legal environment

These deregulatory forces have received a powerful boost from an unexpected, and so far somewhat underappreciated, quarter: the US Supreme Court. Following the take-down of the Chevron Doctrine, the power of administrative agencies to interpret law independently has been reduced. In many areas, this will move interpretive power away from administrative agencies and toward courts and legislative arms.

The upshot is that we could see a great deal of litigation from corporations against potentially everything. Depending upon the nature of a particular ‘violation’, much of the regulation around climate disclosures, ESG and many other compliance-related activities will be subject to legal risk.

The consequences of the repeal of the Chevron Doctrine are slow-moving, but by relying on congressional mandates and allowing widespread legal challenges, it is structural deregulation in all but name.

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A challenging environment for tech vendors

Until now, financial institutions have mapped directly from regulatory requirements to IT expenditures. Beset by regulatory fatigue, however, they will see an opportunity to reassess and question some fundamental aspects of their operations, particularly their compliance technology. They will inexorably shift their focus away from compliance-oriented spend – ‘compliance at any cost’ – toward business-oriented spend and a more acceptable cost of compliance.

Most RegTech projects will need justifiable ROI before they are actioned, and firms will scrutinize the elements of these projects to assess which ones work and which do not. They will become highly alert to expenditures on nonfinancial-risk IT projects, while many regulatory-focused projects will either be delayed or slimmed down.

All institutions, and all investment in regulatory-related systems and solutions, will be affected for the long term. This altered environment will present a host of new challenges, some of them existential, for RiskTech solution vendors that until now have relied on ongoing regulatory certainty. They will have to think more carefully about developing functionality to address regulations, particularly as EU laws, once a driving force in the market, begin to become outliers.

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Some areas of continued growth

The news is not all bad for RegTech vendors, however. As financial institutions move into new business lines or expand their platforms in areas that were previously considered risky, they will begin to shift their attention to more business-focused projects, tools and systems. This will provide significant opportunities for RegTech and RiskTech vendors in several areas:

• Core financial risks (such as ALM and market/credit risk). Market volatility is back, along with more global economic diversity and potential instability. Market risk, credit risk and all forms of business risk that a decade or so ago were less of an issue will become more prominent in firms’ systems and operations.
• Fraud analytics. Fraud is a business issue that affects the bottom line, and since fraudsters will always use the most sophisticated tools they can acquire, the need for anti-fraud capabilities will continue to rise as technological tools advance. Demand for anti-fraud technology, as well as third-party services and outsourcers, can only rise because it provides a direct benefit to the business.
• Technology-centric GRC (operational resilience, IT risk, supply chain risk, cyber risk management, cyber risk quantification, cyber security, MRM, ModelOps, SecurityOps, etc.). Again, these are business technology concerns that are largely independent of regulatory drivers, although regulatory drivers can provide the push and a trigger for initial focus and spend. The need for effective model validation/model control/ModelOps will be particularly vital in managing business risk.
• Alternative data, operational data and locational intelligence. Driven by the forces of supply (digitalization of everything) and demand (requirement for granular data in operational decision-making, credit analytics, anti-fraud and even simply intelligent automation), these types of data and their management tools will become more critical.

Recommendations for vendors

Chartis believes that many RiskTech vendors, still betting on increasing regulation and ongoing compliance-driven revenue, are sleepwalking into the new deregulated reality.

To avoid a nasty shock, Chartis believes that RiskTech vendors, in parallel with the institutions they serve, should refocus on business-oriented, rather than compliance-driven, projects. The following strategies are likely to be successful in the new deregulated environment:

• Align with the business. Funding will shift to business-oriented risk management and digital risk areas, such as operational resilience, anti-fraud and GRC.
• Think of model risk management and data management in the broadest context possible. As AI and new software development techniques rearrange the ways that institutions consume software, analytics and models (AI or otherwise), as well as data (and data frameworks), will need to be industrialized (ModelOps, SecOps, DevOps, DataOps, etc.).
• Help firms optimize their existing regulatory technology to cut costs. Compliance cost-cutting has been a huge issue for financial firms for many years. Firms will seek out companies that make compliance cheaper, easier and faster. Vendors could offer several alternatives: make data integration easier, be the platform of choice or make maintaining and enhancing systems easy as future developments to regulations and technology occur.

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