Balancing Act: Regulatory Cost vs. Financial Stability

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Increasing regulatory cost has forced the banking industry to reevaluate its strategies. Regulation has aimed to reduce excessive risk-taking by banks and help make systems more resilient. The benefits can be multiple including protection of depositors, efficient and competitive systems, and financial and monetary stability. However, excessive regulations are negatively impacting the industry owing to compliance-related costs. There is a great need to maintain a balance between ensuring a safe environment for banking and providing enough growth opportunities.

Regulations have been in focus since the 2007-2009 financial crisis. Enhanced capital and liquidity requirements in Basel III, Dodd-Frank act, Volcker rule, etc. have impacted capital requirements and return on capital and increased the cost of borrowing for banks, which in turn has raised lending rates. In the current setting, regulatory reforms have created an uncertain industry environment for banks.

Lending rates have increased the most in markets most exposed to regulatory changes, driven by primarily availability of capital. The impact of higher cost of capital is varied for corporate and consumer borrowers. Lower income consumers and small businesses are impacted more by new regulations.

Moreover, owing to operational risks inherent in banking systems, banks are required to upgrade these systems to meet new regulatory standards. To comply with regulations, they have to manage multiple priorities and incur additional operating costs.

Therefore, it is imperative to establish a stable environment that prevents banks from taking excessive risks without impacting their ability to support credit growth.

The banking industry has responded to the tighter regulatory environment through measures including focus on core businesses and divestment of noncore assets, improvement in operational efficiency, and change in product mix and balance sheet mix. Banks are also moving toward more liquid and better quality assets.

Tough market conditions, increased regulations, and higher capital requirements have forced financial institutions to explore other options to stay competitive. There are divergent opinions on the perfect balance and a well-structured, robust bank. However, it is evident that managing these global operating models has become more expensive and banks are, more than ever, focusing on cost optimization.

Strategic partnerships with offshore vendors is one option being evaluated and employed by many banks. Although such partnerships are not a new phenomenon in the financial services industry, the trend has been gaining momentum more than ever. Acuity Knowledge Partners has been at the forefront in helping financial industry clients cut costs, avoid capital investments, manage ever-increasing reporting and compliance burdens, etc. Moreover, an increasing number of banks have been using our services for critical processes and support activities. Our capabilities enable us to provide a host of efficient, effective, and agile solutions to be a valuable partner for our clients. This not just helps lower operating costs, but also captures more value.

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