Compliance challenges in banking sector: Effectiveness of new measures

During the last three decades the financial and corporate world has come across many terminological juggleries and financial institutions and business houses have to cope with them. The practice of introducing new corporate terminologies and concepts, based on specific emerging situations, began around 1990s and it has been continuing ever since. Are these terminologies really helping the corporate and financial world? Or are these only serving a redundant purpose of increasing the hype around certain issues in this arena? To get to the bottom of this debate, we should analyse some of the key terms and concepts that the corporate and financial world has been concerned about since the 1990s.

THE Y2K COMPUTER BUG: Around the mid-1990s the 'Y2K computer bug' was undoubtedly the most talked-about terminology in the corporate world. The buzz around the term also spilled over into the social arena causing some unnecessary panic among some groups of people across the world. At the time, the dotcom bubble was about to burst in the US Stock market threatening to create massive financial recession. This is when the tech companies and experts linked in the related fields came up with the idea of Y2K which was portrayed as a big threat for all forms of computer technology. It was speculated all over the world that personal and office computers, linked to servers and networks, will malfunction or cease to function entirely as soon as the clock enters the new century. The logic behind this idea was that the date used in computer programmes till then included only last two digits of the year. So if July 09, 1995 were to be keyed in, the computer would store this as 09/07/95. So, at the dawn of the new century in 2000, the PC timers would have read 01/01/00. It was dreaded that this would lead to a malfunction in computer programmes as these would not be able to recognise the date anymore. This led to a number of problems. There was widespread panic among people who did not understand computers and how they worked at the time. A rumour spread that banks will not open so people will not get money; aircrafts will not fly; and retailers in the developed world would not be able to sell goods because computer-based sales programmes will not function and so on.  The panic led business houses, government organisations and other entities in the developed world spend millions of dollars to fix the Y2K bug in their organisations' systems.

At that time computers were not very popular in Bangladesh. Still some organisations spent a lot of money by hiring foreign consultants in order to avoid the consequence of Y2K bug. But as soon as the New Year rolled in on the first day of 2000, the whole world helplessly realised that Y2K did not have any impact at all.

CORPORATE GOVERNANCE & CSR: Soon after the Y2K problem, in 2001, a Texas-based energy giant named Enron was found to be embroiled in an unprecedented accounting scandal in the USA that seemingly shook the global business world. Because of that accounting fraud, Enron went bankrupt. The incident also invited severe criticism about the accounting standard and governance of companies and business enterprises. After this, extensive measures were ensured from regulators' perspective and through companies' own initiatives to improve accounting standard and governance. Among the many different terminologies and concepts introduced during this time, two terms: Corporate Governance and Corporate Social Responsibility, became most important. Extensive measures were taken to strengthen corporate governance of the business enterprises. Corporate social responsibility was also adopted by many companies and corporate bodies in the developed world. Many think-tanks, experts and consultants were given special assignments to strengthen corporate governance and improve corporate social responsibility. Even, independent board committees with specific purposes like audit committee, management compensation committee, risk committee etc. were constituted as a part of maintaining strong corporate governance within the company framework. Though these two concepts have been widely discussed around the first decade of this century, first decade, most of the professionals do not seem to have a clear idea about these two concepts. While attending some seminars and conferences focusing on this area, I wanted to specifically know what measures will determine a company's strong corporate governance. The speakers could not identify specific characteristics of good corporate governance still. The reality is that, in spite of practicing good corporate governance, accounting fraud, corporate failure and bankruptcy cannot be avoided. This became apparent through the collapse of numerous companies during the aftermath of the financial crisis in 2008 revealing the ramifications of large-scale corporate failures. 

KYC & DD: When corporate and financial world was struggling with ensuring good corporate governance, severe compliance issues threw new challenges to the financial industry all over the world. Increasing terrorist activity and movement of illegal money through banking channels became new threats for monetary businesses conducted by banks and financial institutions across the world. In order to prevent the movement of illegal money through banking channels, new terminologies were introduced in the banking operation. Among them, KYC (Know Your Customer), DD (Due Diligence) and on-boarding are very popular and widely accepted concept in the banking business. Prior to undertaking any sort of transaction, a banker needs to ensure the genuineness of their customer. This is why the customer's information goes through several screening processes. The bank first 'knows' its customer and then allows transaction. This is how KYC works.

Similarly, bankers need to 'apply due diligence' while carrying out any transaction. This due diligence is a relative term. When things go well, it is said that due diligence has been applied and conversely happens when opposite situation arises i.e. if anything goes wrong, it is said that due diligence has not been applied. In fact, the term due diligence always asserts extra burden on the bankers. On-boarding is another practice followed by banks and financial institution. On-boarding is completed through several stages of risk assessment and mitigating thereof.

KYC, DD and on-boarding are practiced in the banking business so that banks do not find themselves in any illegal monetary transaction. 

KYCC & EDD: Banks and financial institutions all over the world have been effectively and extensively practising KYC, DD and on-boarding approaches in carrying out any transaction. Yet the movement of illegal money through banking channels is still continuing. In the recent past, many internationally-reputed large banks and financial institutions have been found violating rules and regulations and thus involved with transactions of dirty money. Consequently, those banks and financial institutions had to pay billions of dollars in penalty. So, banks and financial institutions are now stepping up their efforts to further tighten their customer screening processes. As a part of their measures, new terminologies like KYCC (Know Your Customers' Customer) and EDD (Enhanced Due Diligence) are now being discussed in the banking sector.

KYCC provides the scope of knowing not only the bank's own client or customer but also its customer's customer. If KYCC is in place, ascertaining the identity of the borrower prior to sanctioning loan is not enough. The activities of customers that the bank's clients and borrowers will be dealing with are also looked into. Such measures are likely to complicate banking and affect the business of banks.

Similarly, EDD is another upper-hand measure that will delay the process of a bank getting a new customer.

Whatever the outcome, these two new concepts are soon going to be applied in the global banking sector. 

KNOW YOUR DATA: KYD is yet another recent terminology in the financial industry. Banks and financial institutions use data at every step. Most of their data is provided by the third party or their customers. Ensuring the authenticity of the data is very crucial. This is important because flawed data produces wrong results that eventually can lead to wrong decisions resulting in losses. So alongside knowing bank's customer, bank will have to know the data they are going to use.

Data verification is another tough and challenging task for each bank and financial institution. Innumerable data sources have developed over the years. In addition, the size of data is now so enormous that it becomes almost impossible to verify each and every data.

All these measures, terminologies and concepts are indeed making bank's business increasingly challenging. Although banks are busy adopting new measures one after another, the ultimate objective cannot be said to have been achieved as unscrupulous quarters are continuing their wrongdoings

Nironjan Roy, CPA, CMA is a Bbnker based in Toronto, Canada. 

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