Blessed are the Law Makers

David Greenwood of PIPC says more regulation is a racing certainty – so prepare for it with a sensible programme.

Square Mile, April 2009

As the ancient saying goes, all roads lead to Rome. In 2009, however, it would seem pertinent to say that all financial roads lead to regulation. Given the scandals of 2008 and the greedy schemes of lone rangers such as Jerome Kerviel and Bernard Madoff, regulation would appear to be the culprit caught in the stocks, surrounded by the angry mob.

The taxpayer, for example, who has funded the bailout will want his pound of flesh; politicians, in turn, will feel the need to introduce more regulation and increase the pressure upon financial institutions to adhere to it; shareholders will want financial institutions to show they are compliant – they know it’s the way they can secure and recover their investment; senior executives and board members will be anxious to demonstrate that they are cleaner than clean to their stakeholders and the world at large; and the regulators themselves will be worried that they have been caught, effectively, sleeping on the job and will want to make sure that they prove their value.

Pressure may not only come from within the UK: in this global market, US and EU regulators’ views and wants will be important and also may conflict. Topics on the agenda already include Capital Adequacy and Basel II and the Payments Services Directive.

So it is clear that regulation is centre stage, but the question remains – how are we going to make it work?

The Challenge

To implement major regulatory change, most organisations set up project or programme to deliver it. These programmes consume significant amounts of investment and traditionally have a significant track record of failure in financial institutions. While they may seem to deliver or be completed, closer examination of regulatory change shows a track record of scope change and missed deadlines. Frequently, they deliver late and over-budget, failing to meet the objective of the regulations.

Since banking as a culture focuses on products and growth, regulatory projects are seen as those that consume resources and investment, which should be devoted to other projects. In short, regulatory projects are the Cinderella projects: they aren’t sexy, no one wants to do them and they are, at best, tolerated. Inevitably, they are often underfunded, with predictable results.

This lack of interest means a lack of focus and thus, accountability is blurred. The natural order of change in banks means that the people who instigate regulatory projects aren’t around in the next three years. So who gets held to account when things don’t work and who holds people to account?

And who’s going to make this change anyway? One of the first casualties of most banking downsizes are the project and programme managers in the change teams. Thus, the people who would have been able to fix the problem have been fired, so to speak.

So you have to make regulation work but there are many challenges, people are poor at doing it and it uses up too much money, - what, then, can be done?

Define the Opportunity

The first step is to define the business opportunity that exists in the project at hand. For example, could you do something more intelligent at a marginal increase in cost or use the opportunity to replace systems and improve processes and therefore reduce costs – a project that, perhaps, would not have been done otherwise? There may even be a commercial opportunity available: some regulations provide the opportunity to create new products or propositions that can be launched as a direct response to the regulations themselves.
At this initial stage, it is important to ensure that too much time (and of course, money) isn’t spent developing the solution too early. Projects that start early often get bogged down in the draft regulations. So holding your nerve and shooting late will reduce cost through reduced reworking or revising.
Furthermore, remember that ultimately both you and the regulators want the same thing – namely to mitigate risk, ensure that markets are efficient and fair and as a result maintain credibility. Many organisations challenge round the edges of regulation rather than build on the new spirit of openness between regulators and regulated and push back on whether it will deliver the required outcome, increase costs for customers or can be feasibly achieved in the time allocated
Opportunities to push back can sometimes be limited so once the regulations have been agreed, produce a joint project with the regulators to deliver the change so that you are working towards a common goal.

Accountability delivers Success

Almost everyone in any organisation pays lip service to accountability. The most successful regulatory programmes are those where the right owner is made to feel accountable. It might seem like a simple premise, but how do you define the right owner? In the eyes of the regulator, it is also a simple answer – the right owner is the person who will be responsible if there is a failure.

Successful regulatory change is not achieved by making someone in a regulatory function ‘accountable’. It is achieved by making people who run the day-to-day business (including delivering compliance) visibly accountable. This accountability needs cascading down throughout the organisation.

A clear solution is vital and involves not starting too early and being clear about what other business objectives must be fulfilled. The focus needs to be on whether the solution delivers the right outcomes, particularly in global organisations where multiple solutions may be required in different geographies with different systems and legal environments.

There is a tendency with regulatory projects to look to technology to provide the solution. Technology does play a key role and automation will reduce human error, but over emphasis on technology has risks associated, such as significant cost, time delays in buying a new system (which works against keeping regulatory costs down) and an over-reliance on systems to deliver compliance as against the use of people’s skills.

The overall solution is to focus on the outcome and identify the options for making the change. For example, different business units of the same organisation address the same regulatory issue in different ways: during a recent regulatory project, one business unit made a small system and manual process change that took two months to achieve, whilst the majority of parts elected to use the “group-wide” solution, adopting new technology that cost significantly more and took over a year to implement – and yet was no more effective than the scaled down version that the first unit devised.

In conclusion, there is no escaping the reality that regulatory focus in financial services is going to increase in 2009. The challenge will be to do this efficiently to minimise investment in non-profit making projects at the same time as actually delivering the compliance needed to allow the bank to operate and maintain stakeholder credibility.