Banks are regulated like utilities. We desperately need a new model.

Banks are treated more like utilities than innovators, and the industry desperately needs a makeover. But the situation banks face is not entirely their fault. The overburden of regulation has created an environment where they cannot adopt new technology like other industries. While it's true that banks need to get their house in order from a governance, risk and compliance oversight standpoint, they also need to have a better working relationship with regulators to improve customer experience and shareholder value. Here is the hard part: Regulators and regulation have historically trailed innovation.

Innovation, regulation and compliance are at a crossroads in today's banking ecosystem. Too many in the industry are focused on what happened in the past rather than paying attention to what's happening today and tomorrow. Take the situation happening with Citigroup for example. One of the largest financial institutions in the world was fined $136 million by regulators stemming from a 2020 consent order that was not properly rectified from a compliance standpoint.

On the other hand, look at the banking-as-a-service fintech Synapse that just went under. The lack of any regulatory oversight here has led to approximately $160 million in user assets frozen on the company's platform due to Synapse's troubles. The rules and regulations from 2020 weren't being adopted by Citigroup, and the Synapse issue was clearly not addressed by today's rules either. Both examples, one focused on a large legacy banking institution, and the other a new wave fintech banking-as-a-service company, show regulatory challenges in different ways.

For banks to thrive now, and in the future, they must prioritize innovation and technology while ensuring harmony with robust regulatory guidance and oversight. There is an ongoing shift in demographics, and providing millennials and Gen Z with a better customer experience is a major focus of financial institutions.

Technology is a powerful asset for banks aiming to draw customers into their ecosystem. Credit unions excel at this, but traditional banks face dwindling foot traffic, especially among millennials who rarely visit branches. To attract customers, banks must deliver exceptional products, competitive rates and superior customer service. Regional banks, the backbone of lending in the country, are exploring strategies to differentiate themselves. From banking-as-a-service models to innovative apps, banks are working hard to add value for their customers, but are navigating uncharted and sometimes unregulated waters.

Areas for technological advancements are rapidly growing in the banking ecosystem through channels like artificial intelligence, banking-as-a-service partnerships, SAFE banking for cannabis and digital assets in custody. However, regulation has not kept pace with these advancements. Banks face numerous internal issues that need addressing, and their success depends significantly on the direction they receive from regulators to implement successful strategies for internal compliance. The fact that banks want to embrace these technological advancements is a massive benefit, not only for the institutions themselves, but their customers and shareholders alike. However, regulation in banking has stifled some of this needed innovation and left banks in a precarious position.

FDIC

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By Ebrima Santos Sanneh

July 31

While banks are trying to advance, regulators are lagging, with outdated rules failing to address today's technological and digital asset realities. Consider the cannabis industry: Over 30 states have legalized it in some form, yet banking remains a gray area. This billion-dollar industry operates like the Wild West. Banks and regulators need a collaborative relationship that moves beyond consent and enforcement to genuine cooperation. Innovations like AI for customer service benefit banks, shareholders and customers but also introduce governance, risk and compliance challenges. Regulation isn't going away, so a proactive relationship between banks and regulators is essential for navigating these complexities and enhancing service offerings.

Innovation in risk management and governance practices is evolving rapidly as well. Technology solves many issues, increasing productivity and output, but human oversight remains crucial. Effective risk management relies on a balanced integration of technology and human expertise. For example, some banks have thousands of employees but only several compliance staff, illustrating underinvestment in this critical area. As regulators apply more pressure, banks are opening positions for chief compliance officers, compliance associates and anti-money-laundering specialists. Institutions need to anticipate regulatory demands instead of reacting to them.

Jerome Powell, the chairman of the Federal Reserve, has warned of more financial institutions likely to fail following the crisis seen with Silicon Valley Bank, Signature Bank and First Republic Bank. A healthy banking system is vital for a healthy economy. While giants like JPMorgan Chase, Wells Fargo and Bank of America are deemed too big to fail, smaller banks are in a precarious position. A part of the reason why fintech and banking as a service have become so important is because smaller banks don't have any other option. They lack the resources and capacity to be able to innovate on their own, so they need to lean on trusted partnerships. There's an ecosystem that's developing to help smaller banks and credit unions innovate to improve client experience and shareholder value, but guidance and regulation is just not there.

If banks want to thrive moving forward, they need to have more of a collaborative relationship with regulators. And these same regulators will need to work with financial institutions to adjust and adapt policy that governs over the current environment today. The Citigroup and Synapse examples highlight how outdated regulations, or a lack of regulation altogether, can hinder progress and lead to significant issues. By working hand-in-hand with regulators, banks can navigate these challenges and ensure compliance while fostering innovation. It's crucial for banks to shift from being treated as utilities to becoming innovation hubs. This transformation will enable them to meet the evolving needs of their customers and communities and ensure long-term success. As banks strive to offer superior services and products, they must also advocate for regulatory frameworks that support innovation and protect the interests of all stakeholders.