Digitalization Can Become a Magic Wand for Banks in the Era of Strict Regulation

Over the past few years, many issues have surfaced in the banking and fintech sectors due to the growing complexity of financial crimes. This has resulted in fines for non-compliance, and AML violations doubled in value, reflecting the severity of the regulatory response. The main problems in 2023 were not reporting suspicious activity, lacking proper customer verification, and failing to align with sanctions. 

Additionally, against the rapid pace of digitalization processes, difficulties introducing technologies and the lack of up-to-date systems have made the aforementioned problems more severe. Why does the banking sector, typically seen as well-developed, face these issues, and how can they be solved? Let’s delve deeper into this.

Banking struggles to adapt to the era of digitalization

The rise of digitalization has rapidly transformed our world, impacting every facet of daily life. The global banking system is no exception, with the penetration rate of digital technologies in banks increasing every year. Moreover, the emergence and growing influence of neobanks intensify competition within the sector. 

As banks compete to capture market share, adopting digital technologies has become imperative for staying competitive and meeting evolving consumer expectations and needs. The integration of digital platforms allows banks to offer personalized and user-friendly services, streamline operations, and improve customer accessibility.

However, numerous banks, particularly in the European Union, continue to rely on outdated infrastructure and operational software, posing significant challenges to their digital transformation efforts. On the one hand, transitioning to modern digital systems is relatively expensive for some banks, especially smaller ones, due to the significant upfront investment required for new technology, infrastructure, and employee training.

Larger institutions, on the other hand, often find themselves deeply entrenched in their existing core systems and software, making migration a daunting prospect. The process is costly and time-consuming, potentially taking years to complete. 

Furthermore, a successful transition necessitates the full staff retraining to ensure they can utilize the new solutions effectively. This scenario highlights the complex barriers financial institutions encounter on their journey toward digital modernization.

Regulatory scrutiny adds another layer of complexity

It is important to note that staying compliant with regulatory standards is crucial as the financial industry evolves. The banking and fintech sectors are increasingly subject to continuous regulatory pressure, compelling banks to expand their compliance departments. 

Even larger entities find it challenging to meet regulatory requirements, let alone smaller ones. Smaller institutions, in particular, need help to embrace the evolving regulatory landscape. 

Due to ongoing regulatory pressure, financial institutions must expand their compliance departments continually to keep pace and avoid penalties from regulators. Nevertheless, resources are finite, and banks consistently have problems recruiting additional compliance officers who command high salaries. 

Moreover, regulators mandate that every final compliance decision must be overseen by a human employee, thereby preventing the complete automation of the compliance process and making the digital technologies adoption problem more severe. This requirement adds an extra layer of complexity to the operational capacity of banks.

How to overcome these problems?

To align with the digitalization processes, modern cloud solutions can significantly reduce the time and costs associated with digital transformation for banks. These innovative technologies offer scalability, flexibility, and enhanced security, helping financial institutions streamline their operations and improve efficiency at a reduced cost.

Furthermore, competitive pressure from neobanks is making traditional banks initiate upgrades and shift towards more efficient solutions. As neobanks offer cutting-edge technology, traditional institutions are finding it increasingly necessary to embrace digital transformation to remain competitive. 

Digital transformation within the banking industry is already well underway, and in just a few years, it will be difficult for institutions to survive without undergoing such critical transformations. Thus, it is important not to resist the flow of change but to harness it by implementing technology. 

Beyond maintaining competitiveness, digitalization can help advance compliance and meet regulatory requirements. For example, the integration of artificial intelligence (AI) and automation into compliance processes represents a pivotal advancement in solving AML compliance challenges. AI is faster than a human; it can check the rules and adapt the processes to them more precisely and effectively than a real person. 

AI is capable of completely transforming risk management practices with AI-powered risk intelligence centers. These centers could provide automated reporting, improved risk visibility, enhanced decision-making processes, etc, to align with changing regulatory requirements. Furthermore, AI is unbiased compared to humans and sticks only to hard facts. With this ability, it can simply highlight where processes meet requirements and where they need to be improved. 

These technological innovations are already available in the market and have the potential to substantially reduce the need for a large number of compliance officers by automating routine supervisory and control tasks. Though their number may be reduced, their importance is expected to evolve, shifting their focus from overseeing all procedures to moderating decisions made by AI systems.

  • Roman Eloshvili

    Roman Eloshvili, Founder and CEO of XData Group, a B2B software development company. Mr Eloshvili is a visionary serial entrepreneur with a keen eye for trends and opportunities in Internet banking. As the founder and CEO of XData Group, Europe’s leading B2B software development company, he’s deeply invested in the advancement of Internet banking across the region. In his capacity, Mr. Eloshvili directs the development of AI in banking in response to market demand while also overseeing all financial aspects of the Group.