As the leaders and finance ministers of the most economically powerful nations in the world prepare to meet in London this week at the G20 Summit, many questions remain regarding the outcome of the high-level powwow. Member nations have repeatedly said the goal would be to come to some consensus on dealing with systemic risk on a global level. Whether that means the creation of a new super regulatory body remains to be seen, according to Accenture.
In a whitepaper called "The G-20 Summit and Beyond: How Governments Are Responding and How Financial Services Firms Should Address the Emerging Regulatory Climate to Achieve High Performance," the firm looks at what it feels are some of the most likely outcomes of the meeting—and a global regulator is probably not one of them.
Expect big talk on the matter of an international regulatory agency, but nations will ultimately act in their own interest, asserts Accenture. They may instead just agree upon some core regulatory principals, like regulating hedge funds, that each country would enforce on its own. In addition, there may be a wider ranging debate on such issues as managing the international economy is shifting from the G7 nations to the broader G20 nations. The emerging economies have their own interests to protect and see the G7, particularly the U.S., as the source of the current crisis. They will also want a say in the debate on global systemic risk issues.
With the meeting just around the corner, Accenture offers its views on possible outcomes, starting with the least likely outcome of the G20 summit:
- New global regulator (the least likely outcome): Too many differences remain between the G20 over what this would require. For instance, some nations fear that their domestic financial firms would be subject to foreign audits, supervision and public scrutiny.
- College of regulators (somewhat likely outcome): This would take the form of a forum of international banks that would share data and issue guidance on best practices among the G20. However, it would have no enforcement powers.
- Industry self-regulation (a likely outcome): This would involve establishing an independent third party to monitor financial services institutions. Using a principle-based framework, the monitoring body would set broad outlines for sovereign regulatory systems but have no enforcement powers. Accenture thinks a model to follow for this would be that of the Financial Accounting Standards Board (FASB), the private-sector organization that sets standards of financial accounting and reporting in the U.S.
- Continuation of status quo (the most likely outcome): The Summit might see broad declarations of cooperation among members, but fundamental change in the patchwork regulatory system that exists amongst nations will not come. Some marginal changes may appear instead, such as expanding the Financial Stability Forum to include emerging nations and increasing emerging nations' voting power on the International Monetary Fund.
Whatever the outcome, FIs will have to learn new strategies for managing their risk and rethinking how they look at risk within the context of the broader organization. This may include integrating risk with the finance function to a greater extent, aligning efforts across credit, market and liquidity risk; and viewing liquidity risk as the top priority. In fact, Accenture suggests that perhaps more countries will adopt the Canadian model where banks are required to keep high liquidity reserves. This helped insolate those banks from much of the credit crisis.
Accenture believes the following will emerge as trends in the coming months as the G20 and the rest of the world seeks to cope with the troubled global economy:
- Government involvement in financial firms will further push banks to a back-to-basics approach where money is made through deposit taking and lending, not by dealing in exotic, unregulated financial instruments.
- Automated stress testing from regulators will determine a bank's risk, not its own internal risk measures.
- More integration between the risk and finance functions.
- The emergence of more back-office banking utility companies similar to payments companies. Cost reduction through global outsourcing, either internally or to third parties.
- Expect more consolidation.
- New market entrants, like brokers transforming into bank holding companies, along with retailers and telecoms, will place greater pressure on banks' fee business.
- Customer focus and regaining their trust will be the No. 1 priority.
What banks must do to remain competitive and compliant in this market is to create an environment where risk becomes an intrinsic part of the corporate culture. The risk function should no longer be relegated to secondary status and risk managers cannot be ignored, says Accenture. CEOs must give the risk management function teeth to enforce policies as well. The paper says banks should really look at this as an opportunity to better manage and share data, something that will ultimately help with decision making by executives. This means taking an enterprise risk management approach where risk is viewed across the business and across product lines.
To help achieve such goals, banks should move the risk function to the front lines to create a more flexible risk reporting capability that isn't dependent on a data warehouse because it moves key calculations up front. One emerging trend is to consolidate these critical skills into networks or centers of expertise in order to leverage the analytic capabilities more effectively and elevate the risk function within the eyes of management.
Firms might also consider altering their compensation policies to account for risk and performance. Accenture notes action taken by UBS in which the firm said it would offer a variable compensation package based on risk-adjusted value creation. The measurement period will be lengthened to align the variable compensation with sustainable profitability.
Banks will also want to cut costs, but not arbitrarily. Instead, they must look at short-term tactical cost reductions within the context of longer-term strategic cost initiatives. This strategy aligns with banks' efforts to simplify their processes and systems, standardize products and facilitate market differentiation, says Accenture. They might also outsource more by building up their captive offshore operations, while increasing the use of shared services and expanding the scope of the back office functions they are outsourcing. New areas that may be outsourced could include loan fulfillment, "day 2" payments processing, risk analytics and securities processing functions. However, business process management may be slow to catch on at first if the bank is from a country where there is great government involvement in the financial system, claims the paper.
Banks may also need to think about what they plan to do with their core systems. Even though money is tight today, the case for upgrading the cores is still present, according to Accenture. What banks might do is take a bite-sized approach to refreshing their systems to remain compliant with the new regulatory regimen. For example, a bank may just upgrade a single system, like deposits.
Accenture takes an educated guess and says any forthcoming regulatory reforms may focus on product introduction, modeling, default prediction and management, and stronger customer-level credit analysis. According to the paper, "These types of changes will have implications for the integration architecture as well as longer-term impacts on core banking systems. Specifically, as the regulatory requirements drive more frequent reporting and analysis, additional integration will be required across disparate systems."