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Burden of Responsibility for New Era Reg Compliance Ultimately Will Fall on IT

President Obama's proposals for the reform of financial services regulation are wide-ranging. Even if only partially enacted, they will have far-reaching impacts to the way financial services organizations of all types conduct business in the long term. As expected, they have been instantly attacked from the right and the left, and we have already seen declarations of war from industry organizations.

President Obama's proposals for the reform of financial services regulation are wide-ranging. Even if only partially enacted, they will have far-reaching impacts to the way financial services organizations of all types conduct business in the long term. As expected, they have been instantly attacked from the right and the left, and we have already seen declarations of war from industry organizations.One of the most commonly voiced objections is that the proposals would add to the bureaucracy of federal government oversight, reduce profitability and even harm "international competitiveness." These are of course the standard objections that we always hear whenever regulatory reform (other than outright deregulation) is proposed. The fact that such objections have often prevailed is part of the reason why banking regulation in the U.S. is such a Byzantine maze-it is structured, in many respects, by the special interests of various sectors of the industry.

But the status quo is unacceptable. Further deregulation in pursuit of some "natural market equilibrium" is also politically unthinkable, whatever the philosophical merits. Regulation must be improved, regulators have to get a lot better at what they do, and the financial industry has to operate in a safer way. Those who externalize risk and cost onto society as a whole while reaping profits through their activities have to be curbed. Nevertheless, taking the long view of the likely impact of the reforms and their subsequent implementation by regulators, it seems clear that great stresses are going to be placed on financial services IT departments. Improving risk management and transparency systems is likely to be an extremely expensive proposition. Existing systems are often much more rickety than their IT guardians would have us believe, and executive management is unlikely to be willing to address the real cost of improvements in the present economic environment. Leaders are going to be particularly vulnerable to the siren call of "quick fixes" and ineffective, wasteful tinkering, while IT executives who understand the real cost of compliance are going to have a difficult time being heard. Sarbanes-Oxley and Basel II will be recalled with distaste by executives and they will associate the pain associated with projects to implement these regulatory requirements (muddled and misdirected by the regulators as they sometimes were) with general regulatory dysfunction and the perceived idiocy of government involvement with private business.

Yet we cannot seriously argue after Enron and AIG that business leaders should not be required to focus honest accounting and maintain a proper grasp of the real risk of their businesses. The biggest objection to such reforms is not the principles on which they are based but the real cost of complying with standards we all gladly profess to uphold yet will not honor in practice by paying for the ability to do so. SOX compliance was agonizing and the Basel II mandate was infuriatingly confused and constantly changing. Yet which executive, paid very highly because of "all the responsibility" he or she bears, can honestly say he or she really knew what was going on with their financial accounting before being required to sign off personally, under the SOX mandate? All of this places IT executives and their teams in a very difficult position because they will be exposed to the "blame the messenger" approach so many weak business executives adopt in order to mask or avoid the real charges against their revenue that they should, in fact, be bearing. Charging those costs is always unpalatable because revenues don't look nearly as good once the full costs are recognized.

IT executives have a special responsibility to understand the origins and purposes of the regulations that are likely to come down, to educate regulators on the most effective ways for achieving the regulatory goals, and to educate business executives on why cutting corners will be self-defeating in the end. At the same time, they have to get better themselves at more cost-efficient implementations: there are too many wasted IT investments littering our financial landscape, and pressured executives can sometimes be forgiven for being skeptical about yet another slew of major capital investments. All of which is, of course, a lot easier said than done!

Lawrence Baxter is a visiting professor of the practice of law at Duke University whose research focus is on the evolving regulatory environment for financial services and beyond. He has help positions with Wachovia Bank and has consulting with federal government agencies and developed processes relating to financial institution supervision, enforcement and seizure that were implemented at the congressional and regulatory level.

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