In a period of heightened competition, financial firms face greater pressure than ever to deliver innovative solutions that will differentiate them in the marketplace or drive down internal costs. At the same time, the swirl of geopolitical uncertainty, along with greater regulatory scrutiny, has increased the need for stability across the global marketplace. This had led to the inevitable question: can these two priorities peacefully coexist?
This topic has gained traction recently as industry experiments with distributed ledgers, robotics, cloud computing and artificial intelligence move closer to real-world applications. As the CEO of a critical market infrastructure that is actively testing these technologies, I strongly believe innovation and stability can be complementary so long as innovation is client-centered, focused on achieving business objectives and doesn’t add new risk to the system.
All too often, however, new technologies spark a rat race among firms competing to be crowned the most innovative company among their peers. In this environment, the technology becomes “the thing” – the end in itself rather than the means to it. But the reality is that when you strip away the overheated rhetoric and screaming headlines, innovation is beneficial only if it creates a stronger value proposition for clients – and in this environment, risk mitigation is a key factor.
Like many firms, my company has a track record of reducing costs and risks and enhancing efficiencies by using innovative technology. If you go back to DTCC’s founding in the 1970s, we used technology to replace the physical delivery of securities certificates and checks with a computerized system that allowed us to centralize and de-materialize these assets. That doesn’t seem so innovative today, but in the 1970s it had a dramatically positive impact on the US capital markets.
Have you read?
Since then, we’ve learned a thing or two that has shaped our thinking on the current fintech revolution. One of the most important is that new technology is not always the best option to make a process more efficient or less expensive. In some instances, it can lead to higher costs, increased complexity and even the creation of new risks.
If you think about the hottest, newest technologies in financial services today, such as distributed ledger technology (DLT), the initial predictions of immediate and revolutionary transformation have since been revised because business cases haven’t proved out or needed updating due to lower-than-expected returns. Despite this, I continue to be a strong proponent of DLT and believe it still has a very bright future, but as with any technology solution, the key to success lies in identifying challenges that align with the benefits it delivers.
While the financial markets have countless issues in need of attention, not all of them will be solved with new technologies. In fact, we are finding that certain post-trade processes can be improved using existing technology, thus avoiding the need for our clients to make significant system changes to incorporate new fintech solutions, which have the potential to increase costs and risks.
The building blocks of future solutions
At the same time, the industry continues to explore opportunities to meet evolving client needs by investing in R&D and evaluating new technologies. During these early days of experimentation, what’s most important is for the industry and the regulatory community to work collaboratively to create the building blocks of future solutions, particularly on critical matters such as standards and governance. In the case of DLT, standards are required to ensure that future ledgers will integrate with other ledgers as well as with legacy infrastructure. Without standards, we will likely find ourselves navigating a new disconnected maze of applications and systems in the future – essentially what we have today, only built on newer technology.
Similarly, governance is important from a risk perspective to set controls on things like permissioning into the network, allowing nodes onto the network, verifying the code of smart contracts and controlling the kill switch to stop the potentially disastrous results of an error in code. Can you imagine the potential chaos that would result without proper governance?
Have you read?
All of these issues are of interest to the regulatory community, which has taken an early and active interest in understanding how new technologies will fit into the existing regulatory framework and where it will need to evolve as new solutions are implemented. Regulators are excited by the potential of fintech because they recognize that future solutions can benefit them by enhancing their oversight of the markets and giving them a deeper understanding of market activity and financial risks.
However, we are also aware that supervisors face a delicate balancing act. On one hand, rules need to support technological advancement and innovation. At the same time, those goals cannot take precedence over the important policy objectives of risk mitigation, investor protection, market resiliency and transparency.
Working with our regulators as partners on this journey, collaborating with them and all of the various players in the industry, and grounding innovation in client value, will support positive transformation while protecting the safety and soundness of the marketplace. Innovation and market stability can peacefully coexist if we make these objectives our top priorities.