FinS 🍲 for the Soul (19 Sep 2021): BoE warns banks about regulatory reporting failures
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Latest headline:
BoE warns banks about regulatory reporting failures
Background:
The Bank of England (BoE) has chided some banks and building societies (financial institutions that are in turn owned by their members) for failing to supply accurate and reliable data to help regulators identify risks to the financial system.
The letter from BoE’s Prudential Reporting Authority identified a historic lack of focus, prioritisation, and investment in regulatory reporting, compared to financial reporting. The central bank cited that this has resulted in oversight remaining fragmented and a poor understanding of processes that remain largely manual.
The necessity of creating common data standards.
BoE published in February 2021 the paper “Transforming data collection from the UK financial sector: a plan for 2021 and beyond”. It sets out the bank’s vision and approach to delivering improvements in data collection over the next decade.
Amongst the bank’s priorities is a focus on establishing common data standards for describing operational data, modernising reporting instructions, and developing an integrated approach to data collection.
The bank highlights inconsistencies in how financial data are described and identified as issues that many financial institutions face. As a case in point, some banks were even cited to have over ten different definitions for a simple data point such as ‘total lending amount’. Such is the importance (and tediousness) of mapping data to a common input layer that it takes up to 50% of the cost of a technology solution from a provider.
International harmonisation efforts have spurred the creation of key financial identifiers such as Legal Entity Identifier (LEI), Unique Product Identifier (UPI), Unique Transaction Identifier (UTI), and Critical Data Elements (CDE) for derivatives reporting. Common definitions of data inputs would need to be further developed for other data domains, such as retail products.
Adding to the above harmonisation issues, legacy systems often contain inconsistent source data from dozens of legal entities, hundreds of business lines, and thousands of IT systems. The lack of resources for data collection creates difficulties with the strategic planning of banks.
Despite this deficiency, many financial institutions do not see the value of reporting without a clear understanding of why specific data is being collected and what it will be used for. As a result, the benefits of modern data architectures continue to be unrealised without the necessary investment. Data management remains largely manual and data quality stays poor.
The rise of the digital regulator?
Each day, the data that financial institutions store and process grows exponentially. The COO of HSBC once claimed in the 2019 Future of Finance report that the amount of data that the bank stores doubles every two to three years. Supervisory teams now receive the equivalent of twice the entire works of Shakespeare of readings each week. It is no wonder then that many within the regulatory community have advocated for modernising reporting instructions.
Some have suggested that this be accomplished through publishing ‘reporting instructions as data’, a practice of allowing reporting instructions to be consumed by third parties applications through Application Programming Interface (API). However, given the complexity of current reporting instructions, such an effort may produce little outcome.
Instead, what may reduce the burden of financial regulations in the short term is improving the usability of existing reporting instructions. This would involve reducing complexity through greater standardisation of instructions, specifically through methods such as reusing terms, reducing the size of the reporting dictionary, and making instructions more consistent.
This can additionally involve all financial regulators coming together to map out and identify critical junctures for ongoing and new regulatory projects and their implications on firms’ operational resilience and impact on innovation. Reducing the number of uncoordinated demands with tight deadlines could also decrease the need to patch existing systems at the expense of longer-term investments.
Green mandate features big in regulator’s widening scope.
An interesting development is the regulator’s role expanding beyond providing financial stability to promoting the smooth transition to a low-carbon economy. The scope of data reviewed by the bank has expanded beyond regulatory data to include statistical data and data collected for markets and banking operations.
The central bank plans to utilise its convening power to set expectations on embedding approaches to managing climate-related financial risks. It has also held itself to the same standard by publishing its climate disclosure, risk management, and internal targets.
The bank also launched its Climate Biennial Exploratory Scenario (BES), a stress-testing exercise on the financial risks from climate change, in June 2021. In addition to modelling financial risks, the BES looks to gain an understanding of firms’ governance and policy frameworks to test their resilience to potential challenges.
The BES asks participants to adopt three climate scenarios: Early Policy Action (where the transition begins in 2021), Late Policy Action (where the transition begins in 2031), and No Additional Policy Action. This would be done for a proposed 30-year time horizon to assess long-term climate change.
Conclusion:
The type of data that regulators will demand to orchestrate strategic national initiatives will be varied and expand beyond conventional parameters. Many financial institutions are already struggling to respond to current standards due to the absence of common data standards, limitations from legacy systems, and the lack of prioritisation of improved data management for reporting.
Regulators can modernise reporting instructions by making them more understandable and developing a concerted plan that requests information from firms in a structured and coordinated manner. On their part, financial firms should work towards understanding their end-to-end processes, and automating and integrating relevant workflows. This will put them in the driver’s seat of their organisation, in anticipation of sweeping regulatory changes.
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