Having worked at the Prudential Regulatory Authority (PRA) for a number of years, I have learnt that the world of regulatory reporting isn’t perhaps the most obvious candidate for disruption by new technology. Globally, businesses spend around £338 billion each year on compliance. With new regulatory and compliance rules, including KYC and AML seemingly being developed and updated all the time, it’s no surprise that companies are looking to innovative ways to get a ‘leg-up’ on the increasingly complex regulatory environment. In a sector where the cost of mistakes and inaccuracies is high, blockchain has the potential to transform the outdated way regulatory reporting currently operates.
Blockchain technology can have an impact at both ends of the regulatory spectrum; private regulatory compliance and regulators. Agencies can maintain near real time access to secure regulatory data held on the blockchain, allowing regulators to stay ahead of the game, as opposed to analysing data post facto. The transparency, immediacy, and immutability of information captured in a blockchain means that all necessary data can be recorded in shared ledgers and thus made available in near-real time. An ecosystem where both regulators and firms work together will see the greatest strides forward, where buy-in from multiple parties will allow blockchain to revolutionise the industry through reduction of time and costs associated with meeting reporting requirements.
Current Breakthroughs
So in which areas are we seeing the first breakthroughs? You may ask. A sector within Regulation, where blockchain can play a major role in is KYC (know-your-customer) and AML (anti-money laundering) processing. Traditional onboarding processes not only take a while but are cumbersome and tedious. Banks, companies and financial institutions have to complete a number of steps; data collection, storage of data, validation, verification and finally, confirmation. In some markets it can take several months for the end-to-end process to be completed. Blockchain-led initiatives such as NTT DATAs' internal asset KayTrust solve the issues that are currently present with client onboarding, by offering an end-to-end onboarding tool that allows companies to share customer information through blockchain and distributed ledger technology (DLT) in order to facilitate a smoother KYC process. Not only does the solution streamline the whole onboarding process but the hashing and tokenisation of data means that it can be shared with anyone on the network, negating the need for customers to go through multiple onboarding procedures for different vendors. Another novel feature of blockchain, from a compliance perspective, is immutability. As soon as data is stored on to the chain it cannot be altered or deleted. A practical use case of this feature is apparent in something known as proof-of-process; blockchain could be used to keep track of the steps required by regulatory bodies, where actions and their outputs will be recorded immutably on the blockchain, creating an audit trail for regulators to verify compliance. Traditionally, regulators can be seen as ‘receivers’ of information, where companies compile regulatory reports and then submit to the relevant regulatory bodies for analysis and feedback. Whereas, blockchain allows them to become participants in – rather than receivers of – the process. They could have near real-time and read-only access into the private permissioned blockchain of financial institutions. Clear benefits can be seen with blockchain-led reporting, not only dramatically reducing the cost and effort for companies but also improving the accuracy, quality and confidence of the process.
Challenges
Blockchain, although a very compelling technological use case with potential to revolutionise the regulatory industry and beyond, is not yet mainstream. We must not forget we are currently at an early adoption stage. To encourage participation, greater progress is required on agreeing common standards and consensus mechanisms. Stakeholders relevant to implementing change such as an organisation’s board of directors, regulators, risk committees and other key decision makers may not be so keen to add blockchain to their technology suite for the fact that most IT departments simply do not have the technical expertise necessary to run these systems. Secondly, speed is often cited as a concern for the wider adoption of blockchain. Performance speed is currently significantly slower than traditional databases. For example, the throughput capacity of bitcoin is on average seven transactions per second, comparatively, the VISA payment system can process an average of 2,000 transactions per second. Is there a need for more industry led initiatives?At the end of the day, implementation of any new technology in an industry-wide initiative can be tricky, but global leaders in the financial marketplace together with regulators must think out-of-the –box in order to benefit from technological efficiencies. Groups on either side of the regulatory sphere are figuring out how to strategically leverage blockchain, sometimes requiring investment in updated business processes as well as developing collaborations with external partners and even competitors. One such initiative called the ‘Regulatory sandbox’ (started in 2016) led by the FCA ‘allows businesses to test innovative propositions in the market, with real consumers’, with the added benefit of no restrictive regulation. Essentially, firms within the UK who are aiming to deliver innovation in the financial services market apply to the sandbox. Although, open to any type of tech firm and not strictly limited to blockchain based firms, the cohort in 2019 saw 40% of the participants implementing blockchain technology. Since its inception in 2016, there have been numerous start-ups using the regulatory sandbox who have gone on to market.
In Summary, emerging technologies such as blockchain have the potential to revolutionise established ways of doing things for businesses in the financial and capital markets. One of the many processes that could be improved by the technology is regulatory reporting. Although, KYC and AML regulation may be the early converts in this environment, there seems to be a growing trend in industry where blockchain is being looked at with inquisitive eyes.