Stop Treating Your Regulatory Problems with Band-Aids

The peak of the house-price boom that preceded the global financial crisis is now a decade in the rearview mirror. The darkest days of the crisis are about eight years past. The Dodd-Frank Act, the legislative response designed to prevent the next financial crisis, is six years old.

Executives at financial institutions by now have generally come to accept that how they comply with regulations and manage their relationships with regulators are crucial factors in determining whether they succeed or fail. Increasingly, however, I've noted an expectation — perhaps a hope — that the parade of initiatives in safety and soundness and compliance is over, or at least winding down.

That may be true in a narrow sense when considering the pipeline of new regulations, but it's not a reason to relax. That's because we are moving in a variety of ways towards an era characterized less by pressure from new regulatory rules and regimes, and more by pressure from supervisors in implementing what is already on the books — with the threat of enforcement action looming for failure to meet ever-tougher expectations.

The stack of post-crisis rules and regulatory demands is daunting: capital stress testing in both the U.S. and Europe, resolution and recovery requirements, intermediate holding company requirement for foreign banks and the global emphasis on ring-fencing, heightened standards for risk management, and tougher technology and data requirements are among the things that are challenging the shape and viability of banks and their businesses.

To date, the reaction to the storm by most financial institutions has been a series of Band-Aids, often applied in a disjointed way by discrete parts of the organization under scrutiny from the regulators, whether in the business lines or various risk management functions. This is not surprising given the firefighting nature of the response to new or more empowered regulators and the initial explosion of new rules, examinations, and enforcement initiatives.

This disjointed approach is bound to run into problems, irrespective of how talented a team the banking organization may have. The operations of the entire enterprise suffer if dealing with these issues looked at in a siloed fashion or if viewed in a legalistic manner. What is needed is a holistic approach to these issues, and one that is viewed through a broad regulatory compliance and operational lens.

What's more, a broad view of the regulatory and operational impact of new rules can help an institution assess which businesses it wants to pursue and which it does not.  In some cases, given scale, ring-fencing, liquidity and capital issues, a banking organization may want to get out of certain businesses or certain geographies to favor others.

A piecemeal approach is enormously costly and increasingly less effective, putting institutions in peril of being overshadowed by competitors or disappointing investors with lower returns on equity and assets — and all the organizational pressures that come from that. The typical response offered by investors, as well as some board directors and regulators, is to force changes in leadership. While that occasionally works, it also runs the risk of further weakening challenged organizations.

Firms that are committed to tackling regulatory challenges comprehensively and take a strategic look at their entire enterprise through a regulatory and operational lens are best positioned for success. Asking and answering some of the following questions may be helpful to that end.

• In which jurisdictions and in which legal entities should the enterprise commit capital and liquidity, from the perspective of resolution and recovery and local rules?
• What businesses are viable and desirable?
• Which units need to be governed under new local regulatory frameworks, and how should that be accomplished?
• Where are transactions best booked?
• Where are there legitimate cost savings and how can they be achieved without attracting regulatory concern?

Global banking companies that think carefully in answering these questions will make considerable progress in solving the biggest puzzle of all: How to operate a large organization that takes maximum advantage of savings from scale and the power of a large franchise, while integrating new technologies and business models, in a way that minimizes regulatory disruption.
Eugene Ludwig is the founder and chief executive of Promontory Financial Group. He was comptroller of the currency in the Clinton administration.