Choose your language:

Hong Kong
New Zealand
United Kingdom
United States

Predicting Tomorrow Under No Uncertain Terms

Some say we should have seen the 2008-2009 recession coming from miles away. Multiple sources cite the events below as symptoms of what many consider to be the worst economy since the Great Depression:

  • According to the U.S. Government Accountability Office, there were 14.4 million subprime loans originated from 2000 through 2007. Over this period, the dollar volume of subprime mortgages originated annually climbed from approximately $125 billion to about $1.3 trillion. Of the 5.2 million loans that were still active at the end of March 2009, approximately 23 percent were seriously delinquent (90 or more days behind in payments). 
  • There were 2.3 million foreclosures in 2008. Foreclosures filed for 2009 hit 2.8 million, bringing the total number of foreclosures since the start of the recession to approximately 5.1 million. The U.S. Department of Housing and Urban Development estimates that one in 45 homes were sent a filing, which includes default notices, scheduled foreclosure auctions and bank repossessions. 
  • According to Moody’, homeowners have lost just over $5 trillion in home equity since March 2006. In fact, U.S. homeowners lost nearly $500 billion in home equity in 2009 alone. 
  • Approximately 2.6 million businesses and non-businesses have filed for bankruptcy since January 2008, according to Additionally, the Bureau of Labor Statistics noted that job loss totals have hit 8.2 million since January 2008.

Though the specific facets of recovery and reform remain unclear, IT leaders within the financial services industry are wise to predict and prepare for a time of healing and change.

Now that the nation is moving toward a new tomorrow, what can we expect the future to hold? While we lack a crystal ball to identify certain outcomes, several well-informed hypotheses exist about what tomorrow brings for the financial services industry. Congress will pass legislation. New mandates will address risk management policies and improve financial transparency. Compliance will be mandatory; reporting will be in real time; and regulatory oversight will be stringent. Though the specific facets of recovery and reform remain unclear, IT leaders within this vertical are wise to predict and prepare for a time of healing and change.

Looking at the Past to Understand the Present

Following the catastrophic decline of the U.S. housing market, the bankruptcy of several leading financial institutions, and the resulting economic recession, the nation contemplated two key questions to ensure we never again experience a crisis of this kind and magnitude: What happened? And how did we get here?

Experts attribute the economic recession to a variety of causes, ranging from weak government regulation to corporate greed and consumer exploitation.1 Some specific factors include but are not limited to:

  • Weak government regulation on lending / finance industry: Many believe the federal government failed to effectively develop, regulate and enforce standards for the commercial and investment banking industries. As a result, Wall Street and associated rating agencies remained largely self-regulated; and in an effort to garner high profits they focused efforts on subprime lending. The increasingly unstable economic climate that developed was further exacerbated as the federal government approved considerable tax breaks and buyouts for the lending industry without offering any significant relief to individuals who faced default on their loans and foreclosure.
  • Bad lending practices: In search of profits, government-sponsored lending intuitions like Fannie Mae and Freddie Mac targeted subprime, or high-risk borrowers for mortgage lending. These lenders offered borrowers incentives such as Optional Adjustment Rate Mortgages (ARMS) that significantly lowered the minimum monthly payments for the owner’s mortgage. Consequently, borrowers were encouraged to sign on to mortgage loans that they would eventually be unable to afford due to steadily increasing interest rates.
  • Questionable practices of credit rating agencies: Leading credit rating agencies such as Standard and Poor’s, Moody’s and Fitch continued to rate sub-prime loans highly despite the obvious possibility for loan default associated with these high-risk borrowers. Investment banking firms also contributed by neglecting to properly underwrite loans based on a thorough assessment of each borrower’s ability to repay the loan.
  • Poorly managed interest rates at the Federal Reserve: The inability of the Federal Reserve to control the sudden increase in interest rates provided to homeowners is often cited as a contributing factor to the burst of the U.S. housing market bubble. As the economy worsened, housing prices plummeted and homeowners were suddenly faced with significantly higher interest rates on mortgages than the initial rate offered under lending incentive plans like AMRs. Default on such loans was inevitable and resulted in the rampant spread of foreclosures nationwide.

A collective examination of these contributing factors not only provides insight to what went wrong but also serves as an impetus to change.

The Likely Tomorrow

On June 17, 2009 the Obama administration proposed a “sweeping overhaul of the financial regulatory system.” The specifics, timeline and extent of new legislation are still uncertain, though not entirely unforeseen. The White House communicated five specific goals for reform:

  • Promote robust supervision and regulation of financial firms
  • Establish comprehensive regulation of financial markets
  • Protect consumers and investors from financial abuse
  • Provide the government with the tools it needs to manage future financial crises
  • Raise international regulatory standards and improve international cooperation

As a result of these goals, financial organizations can expect some or all of the following changes to take place in the future:

Creation of Consumer Financial Protection Agency (CFPA): On June 7, 2009, the White House proposed this new regulatory agency to thoroughly vet financial products and regulate consumer risk. The CFPA is chartered with holding financial institutions accountable to being well-versed in the products they offer so consumers can make more informed decisions.

Increased Compliance and Risk Management: New regulations will heavily scrutinize all facets of financial services operations. As a result, financial service providers, specifically less-regulated providers such as hedge funds and private equity firms, will most likely need to invest more in their compliance and risk management efforts. In fact, in a Jan. 21, 2010 White House press release, the Obama administration called for a scope restriction on banks and financial institutions to “ensure that no bank or financial institution that contains a bank will own, invest in or sponsor a hedge fund or a private equity fund, or proprietary trading operations unrelated to serving customers for its own profit.” According to the release, “the proposals would help put an end to the risky practices that contributed significantly to the financial crisis.”

Increased Transparency: The Federal Reserve Board will likely require risk oversight of some financial institutions, especially those large institutions that are deemed “too big to fail.”2 These organizations will require real-time reporting capabilities to manage and report on risk.

Transition from GAAP to adoption of IFRS: Generally Accepted Accounting Principles (GAAP) refers to the standard guidelines for any financial accounting used in the U.S. The issue facing financial institutions and any other U.S. company is that the global financial crisis has put more pressure on them to adopt the International Financial Reporting Standards (IFRS). The increase in regulation and the globalization of the world economy is going to make it difficult, if not impossible, for U.S. companies to operate on only the GAAP standard. So, while the transition to IFRS would hopefully streamline some of the processes, there is still a debate regarding whether or not the U.S. should keep the GAAP standard or add the IFRS as another layer of reporting.

Recommendations for IT Leaders

To ensure proper preparation for the uncertain impact of revised regulations, experts recommend that IT leaders of financial institutions take the following steps:

  • "Inventory current governance, risk management and compliance (GRC) technologies and processes to identify capability gaps, and also redundancies that may prevent effective cross-enterprise integration of compliance and risk management efforts.”1
  • “Evaluate technology solutions that add speed, transparency, improved analytics and reporting, and worldwide compatibility to compliance efforts, such as enterprise GRC platforms, spreadsheet controls, continuous controls monitoring, incident management, and policy training and certification.”1
  •  “Consider the incorporation of Extensible Business Reporting Language for internal and external reporting, and the integration of corporate performance management with risk management to improve reporting against strategic business objectives.”1
  • Assess your need for highly skilled labor and begin to build your talent pipeline. The lay-offs within the financial services industry resulted in a loss of intellectual capital. The robust supervision and regulation proposed by the administration’s legislation is bound to increase demand for individuals with specialized technical skills.
  • Resist the temptation to make impulsive purchases based solely on the proposed legislation. While poise and preparation are wise, determining the appropriate and comprehensive response to new legislation first requires concrete details.

When evaluating technology solutions, make sure to consider compatibility of global compliance efforts.

Will 2010 Bring Fortune or Failure for Financial Services?

Only time will tell how revised federal regulations of financial services will impact the industry’s future. Despite the economic trauma of the past and looming uncertainties ahead, it is critical to properly prepare for the impact of revised government regulations. A strategic partnership with IT providers will allow your organization to leverage the technical support needed to secure your future bottom line.

1 “U.S. Regulatory Regime in Flux”, Gartner, Inc., June 19, 2009

2 “U.S. Financial System Regulatory Overhaul Brings More Scrutiny”, Gartner, Inc., June 19, 2009