Change amidst uncertainty: how banks are adapting to the emerging regulatory landscape is a Capco report, written by the Economist Intelligence Unit.

It examines how, in light of continuing regulatory uncertainty, financial institutions are reshaping their capital markets businesses to operate effectively in the new environment, and focuses particularly on the  likely effect of regulation on overall structure as well as front, middle and back office operations.

As the scale and intensity of the financial crisis became clear, industry participants knew that a tough regulatory response would follow. Those expectations have now been met. While the final rules remain uncertain in many areas, a raft of regulatory change is in process.

The regulations create new capital requirements, address liquidity and counterparty risk, and push trading of more products onto exchange and into central clearing. They put in place new consumer protections and seek to reduce systemic risk in order to avoid the need for future government intervention. The cumulative effect is forcing the financial industry to fundamentally reassess business models and operating practices.

This assessment is driving significant change in financial institutions. Banks are already exiting some businesses and are likely to shrink or exit others as new capital rules make them less profitable. The location of new or expanding businesses will be rethought as firms assess the relative impact of each jurisdiction’s regulatory constraints. New systems and processes are being put in place to meet demanding data capture, data management and stress testing requirements. Communications with clients and counterparties are being revamped, and new reporting lines put in place. Connectivity will have to be developed and new processes established to connect to a swathe of new entities that will spring up in the clearing and settlement space.

In this changing environment, the Economist Intelligence Unit conducted research, on behalf of Capco, to find out where banks are in terms of preparation for new regulations and what impact these are having on operations. This research is based on a survey of senior executives at 60 banks, half based in the US and half in the UK, working in operations, risk, trading or regulation.

The survey results have been supplemented with in-depth interviews with industry participants and experts. Because of the sensitivity
 round this topic, interviewees preferred to speak off-the-record.

Key findings from the research include:

Banks see more opportunities than threats in the new regulatory environment.
Almost a third of respondents believe that new regulations will provide opportunities to take market share as other banks retrench or rethink their business models. Almost two-thirds see regulatory change as an opportunity to transform their business at a systems and process level. Some see this as a way to gain competitive edge. However, they are unsure whether the greater transparency required by regulation will have a positive or negative impact on competitiveness.

While preparations are well underway, the impact of regulations on bank structures is unclear.
More than half of respondents say they are at implementation stage. The US is further behind than the UK, however, as the industry waits for many elements of the Dodd-Frank Act to be translated into regulations. Almost three-quarters have identified where changes to systems need to be made in order to handle the new, higher levels of data required. A similar number say they have a strategy in place to communicate the impact of regulatory changes to clients and counterparties.

However, the industry remains uncertain about how to adapt business entities and operations to new regulations. More than half of respondents are keen to retain existing organizational structures and operating models. However, in 13 out of the 17 areas of operation covered by the survey, the majority of respondents do not know if their firms will relocate or outsource business functions, or create a shared utility.

Boards and senior management believe they have a good understanding of regulatory impact. The crisis has been a wake-up call for board members and senior management. With regulators and policy-makers taking an increasingly tough line, boards and executive management will be more accountable for a firm’s decisions. According to the majority of respondents, they have risen to this challenge and have a good understanding of the implications increased data transparency will have at their own businesses as well as across the industry. Once changes to data infrastructure are adopted, respondents are confident that management will be able to prove they have better control over information, as required by regulators.