Weighing the interconnected risks technology poses to financial systems
Other destabilizing factors introduced by technology
FINTECH AND FINANCIAL STABILITY:
Single point
of failure
Data owners dominate
Bank disintermediation
Excessive
risk-taking
'Black Swan'
events
systemic
Heightened cyber security risk due to financial institutions’ reliance on a few big cloud service providers to enable transactions and data sharing over the internet.
Big tech players become gatekeepers to specific financial operations/services reducing competition and choice — by leveraging their scale and data analysis strengths.
Resulting from digital currency transactions that could occur as retail CBDCs create direct relationships between consumers and central banks or private stablecoins.
By digital-only “neobanks” possibly resulting from underprovisioned, underpriced lending to lower income customers, and from weaknesses in liquidity management.
Unintended and unknown consequences of technological advancement, such as technology that allows bank depositors to move funds at the click of
a mouse.
For all the benefits that fintech has brought to consumers, businesses and societies, it has also introduced new sources of vulnerability to financial systems, raising questions about the latter’s fragility.
These systemic risks are interconnected but broadly fall into the following categories:
Innovation is outpacing regulators' efforts to adapt — the speed of financial transactions and the interconnection between markets and participants requires swifter regulatory responses to contain crises.
Continued lag in rulemaking — suggests regulators may lack the tools needed to respond and effectively manage technology-enabled crises.
Regulatory
Reintroducing risks —
new markets driven by tech, such as DeFi Defi and crypto re-introduce risks that are otherwise managed and mitigated in traditional regulated markets.
Regulatory
Regulatory
AI-enabled cybercrime —
if hackers and state-sponsored actors tap AI advances faster than cyber defenses are able to respond.
Cyber
Retrospective decryption — hackers engage in “store now, decrypt later” practices in the belief that quantum computing will help decrypt financial data in the future.
Cyber
Contagion risk from crypto assets — although much reduced since the turbulent market events of 2022 — remains with stable coins, which are often pegged to USD.
Liquidity
Banking crises exacerbated due to digital currencies — in the event of large outflows of CBDC deposits from retail banks to the central bank.
Liquidity
Excess volatility from collateralized P2P lending in DeFi (decentralized finance) — could result without a central circuit-breaker or visible counterparties.
Liquidity
Stabilizing factors
Competition
A competitive market is a healthy one — Fintech innovation and the threat of disintermediation is leading systemically important institutions to embrace digital change and bolster their market positions.
Compliance with regulatory rules is made easier — with financial institutions' widescale adoption of technologies that automate reporting and data sharing.
Regulators are also making use of Fintech and RegTech — improving the quality and speed of their supervisory work.
RegTech
Periods of volatility are more contained — lessons learned from the 2007-2008 financial crisis have put stronger rules and structures in place.
Regulators are not sitting idly by — they are putting considerable resources into developing new approaches to fintech challenges.
History
For all the benefits that fintech has brought to consumers, businesses and societies, it has also introduced new sources of vulnerability to financial systems, raising questions about the latter’s fragility. These systemic risks are interconnected but broadly fall into the following categories:
Resulting from digital currency transactions that could occur as retail CBDCs create direct relationships between consumers and central banks or private stablecoins.
systemic
Karen Man
Partner, Financial Services Regulatory, Baker McKenzie
The Next Decade in Fintech
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AI-enabled cybercrime —
if hackers and state-sponsored actors tap AI advances faster than cyber defenses are able
to respond.
Cyber
Retrospective decryption — hackers engage in “store now, decrypt later” practices in the belief that quantum computing will help decrypt financial data in the future.
Cyber
Innovation is outpacing regulators' efforts to adapt — the speed of financial transactions and the interconnection between markets and participants requires swifter regulatory responses to contain crises.
Regulatory
Reintroducing risks —
new markets driven by tech, such as DeFi Defi and crypto re-introduce risks that are otherwise managed and mitigated in traditional regulated markets.
Regulatory
Continued lag in rulemaking — suggests regulators may lack the tools needed to respond and effectively manage technology-enabled crises.
Regulatory
But there are grounds for optimism that fragility will be limited:
Stabilizing factors
But there are grounds for optimism that fragility will be limited: