RegTech is short for regulatory technology. It indicates using the technology for regulatory compliance. There is a certain buzz around the term and it is especially used with FinTech. First thing to mention is that RegTech is not limited to the financial industry. However, the rise of RegTech is inextricably intertwined with the 2008 Financial Crisis and the financial sector is currently the pioneer of the RegTech.
Regulatory compliance is the notion of being compliant to the rules put in place by governments or regulatory authorities. The methods of compliance and the problems associated with the process vary from one sector to other. However, in essence, compliance means filling and checking forms on continuous basis. In order to monitor the compliance and enforce rules, regulatory authorities need information from the actors. Under a strict regulation, a huge amount of transaction must be reported by the participants, e.g. banks and other financial institutions, then this information must be examined by the regulatory authorities.
There are two main risks associated with such a scenario. Market actors may not be able to provide all necessary information in timely manner due to overflow of information and, additionally, regulators might not be able to examine all the information provided by multiple actors. Last year Merrill Lynch was fined $45 Million by the UK Financial Conduct Authority over failing to report approximately 72 Million derivative transactions between February 2014-February 2016. This is basically what RegTech aims to prevent.
The Irony of RegTech
Tech world traditionally does not like regulation and it is understandable since the regulation mostly tries to restrict what could be done whereas tech world is more inclined to rigorously push their limits.
How does RegTech help compliance?
There are different stages where RegTech can improve regulatory compliance. I will briefly mention only three areas which are very broad and, to some extent, intertwined. You can increase the examples by examining different regulatory problems and easily come up with a RegTech solution that could be helpful for that specific problem. Creating the solution, however, is something completely different of course. Let’s start.
- Identity Verification
In traditional banking, verifying that someone is actually who he/she claims to be and that he/she tells the truth about his/her resources takes time and effort of staff. With RegTech this is done very quickly thanks to the systems using machine learning (ML) to conduct both identity verification and background checks. Identity verification systems are extremely helpful for businesses that are subject to Know-Your-Customer rules, which covers almost all financial sector.
Onfido is a London-based RegTech start-up working in this field. Another example in this field is Fenergo, who provides not only identity verification but also client lifecycle management (CLM) services as a whole.
2. Risk Management and Crime Prevention
New technologies, especially ML and artificial intelligence (AI), makes it possible to examine the risks more quickly and easily on both enterprise and customer level by analysing huge amount of data in a matter of minutes. This analysis, in addition to allowing quick background checks as mentioned before, helps us to make predictions about the future of a particular transaction or costumer.
Additionally, RegTech also allows us to identify potential frauds or other criminal activities beforehand by monitoring the transaction flow and patterns. For example, Swiss NetGuardians focuses on fraud prevention systems.
3. Continuous and Cross-Border Compliance
Regulation is alive and it is becoming more dynamic as a result of constant digitisation of our world. Especially after the 2008 Financial Crisis, stricter regulations have been put in place all around the world in order to prevent further crisis and we hear about introduction of new regulations more frequently than before. Additionally, businesses operating under different jurisdictions must comply with different regulations.
With RegTech applications, it is possible to simultaneously monitor and comply with different regulations. Filling compliance documents digitally helps here as well. When there is a change or a new regulation is introduced, the compliance monitoring application can be updated using the cloud and let the user know that there is something needs attention or, in some cases, it can be updated to automatically adopt itself to the new regulation. TrackBill, a US-based firm, works in this field.
For a second, it might seem like that all these firms in the field are doing the same thing. But it is not quite correct. Most of them address the regulatory filling and monitoring, that is right. However, the reason of this is not because it is incapable of doing anything else. The technology itself in its infancy, there is no denying that either. But the main reason why the focus is on the same thing is that the current filling and monitoring systems are extremely inefficient in the sense that they create procedural burdensome valued at millions of dollars. In other words, there is an opportunity here and we have not seen a solution that could solve the all problems so far, probably due to the fact that there are multiple sectors from multiple jurisdictions involved. In short, RegTech is here to stay and grow.
Disclaimer: I do not have any connection with any of the firms I mentioned above. Their names are used just for illustrative purposes.