What will 2020 bring for the German financial regulator regarding digitalisation, innovation and more. A review of BaFin’s Key Areas of Supervision for the New Year already in full swing.
Last week, Germany’s financial regulator opened its doors to the annual BaFin New Year Press Conference. Everybody talks Beethoven these days in Germany as everybody seems to be celebrating the great composer 250th anniversary. BaFin’s President Felix Hufeld, too, felt the urge to draw comparisons between the regulator’s role and Beethoven’s probably most famous work, the ninth symphony. Perhaps a bit of a stretch.
At the centre of the event though was the presentation of BaFin’s report on the key areas of supervision for 2020. And here the role of the financial watchdog immediately becomes more prominent and palpable than in references to classical music.
„The primary goal of BaFin as an integrated supervisory authority for the German financial market is to ensure the functionality, stability and integrity of the German financial center and to guarantee collective consumer protection. Its structure as an integrated authority helps BaFin to identify new risks to financial stability and new interdependencies at an early stage and to assess their effects on the various sectors. United in one authority, the departments can inform each other without delay, coordinate their actions and act quickly.
At the national level, BaFin is responsible for the supervision of credit institutions, financial service providers, capital management companies, insurance companies and pension funds as well as securities trading.
As a risk-oriented supervisory body, BaFin bases its supervisory actions on the overall economic risk potential, the individual economic risk of the companies it supervises, and the collective consumer interests.“
– Introductory paragraphs from BaFin’s 36 page long report on key areas of supervision 2020
The report kicks off with an explanation of BaFin’s supervisory mission – and here it becomes apparent that the authority differs from other regulators. BaFin’s role is defined by supervision, to ensure the functionality, stability and integrity, and, possibly, most importantly consumer protection. That’s on the list of other regulatory bodies, too, but institutions like the British Financial Conduct Authority add other elements to that. The FCA, for example, focuses as well on improving how markets operate and as such seek to encourage innovation, something that has earned it heaps of praise in the industry.
Key areas of supervision
With this caveat in mind, let’s focus on what the German financial supervisor has in mind for 2020. Felix Hufeld summarized these in his speech into four areas:
1) the advancement of digitalisation;
2) IT and cyber risks;
3) the fight against financial crime; and
4) the sustainability of business models and sustainable finance
It was the latter that he emphasized when he introduced the report in Frankfurt though. With increasing concerns about the environment, Sustainable Finance has become an almost fashionable subject amongst regulators with the European Union taking the lead and after ESMA published its technical advice to the Commission on Sustainable Finance initiatives. These rules impact every last corner of the finance industry as far as alternative finance and FinTech in the form of Cryptocurrencies like Bitcoin.
BaFin would not be BaFin though if it had not a word of warning. Always seeming extremely cautious not to press ahead, the organization’s president pointed out that “as important as sustainability may be for us all in light of climate change alone, we must not forget: anyone who stirs up excessive enthusiasm for investment, and in doing so blinds investors to the risks, or privileges green investments and loans across the board without regard for their risks, by relaxing capital requirements, for instance, anyone who decides to follow that path, is choosing a path that will lead straight to the next crisis – and that would damage sustainability. Green does not automatically mean low risk!”. Thus, the message is that as important as the environment and the other objectives of sustainable finance may be, BaFin’s priority remains consumer protection.
Nonetheless, Hufeld sees the institution he leads as a pioneer when it comes to the financial supervision of sustainable investments. While that largely stems from BaFin’s publication of a Guidance Notice on Dealing with Sustainability Risks as some light reading over the Christmas holidays, but BaFin’s president stressed that a number of questions regarding sustainable finance from a regulatory perspective remain unanswered, throwing down the gauntlet to the EU.
To an extent, he also set a confrontation course with the European Union’s regulatory institutions in another area when he stressed that a transfer of anti-money laundering supervision to the EBA would something entirely unagreeable. The role of the EBA and its sister agencies, the European Supervisory Authorities, were above all that of regulatory harmoniser. While moving supervision in the area of AML and CFT to the European level would be unavoidable in order to combat it effectively, these words do not indicate an increase in a common approach.
Digitalisation and Innovation?
Diving deeper into the report and its four key areas, we get to BaFin’s Digitalisation Strategy. The key message is and has been since the first publication of the respective report that BaFin’s existing regulatory framework is competition and technology neutral, principle based and designed in such a way that is proportionate to relevant risks. In practical terms for the months to come this means that the German regulator appears to be set on two aspects: Big Data and Artificial Intelligence on one hand and Blockchain and Virtual Currencies on the other. For Big Data and AI, BaFin has specified a action framework for supervised companies based on five principles based on principles with the objective to create greater legal certainty when using such technologies, which isn’t such a bad idea. BaFin seems to be increasingly concerned with market analyzes of these technologies, the importance of data in competition, the limits of financial supervision in the face of new market participants and respective business models, and not without reason considering the development in these fields over the last couple of years.
With regard to distributed ledger technology, its focus looks entirely limited to cryptocurrencies and initial coin offerings and how these will be affected by the implementation of the Fifth Money Laundering Directive into national law. Unfortunately, this disregards the actual importance of ICOs, other trends, and more importantly the wider sphere of Blockchain, but then BaFin wouldn’t be BaFin if you expected more than a focus on current risks than on opportunities and the future.