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The future of digital currencies

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Kevin Braine, Global Head of Research and Operations for Kroll’s Compliance Risk & Diligence practice

 

Undoubtedly, the future for currencies is digital. As cash use falls year on year—accelerated by the pandemic and an ever-growing e-commerce sector—digital means of payment will continue to fill the void left by the traditional means of currency. The question remains: what shape will digital currencies take?

Cryptocurrencies have yet to demonstrate themselves as a viable and wide-reaching solution, still falling victim to the original uncertainties faced during the early years of inception. High fluctuations in worth and an unpredictability of regulation have meant that the bumps in the road for the wider use of crypto as a form of usable payment have yet to be ironed out.

 

Central Bank Digital Currencies

In response, central banks are considering the idea of adopting the principles of cryptocurrencies, but turning them into universal digital currencies. Known as a central bank digital currency (CBDC), if achieved, this will undercut existing private markets and introduce a new landscape form of national payment, incorporating the core concepts of existing cryptos but under a new banner.

China has been ahead of the curve in implementing CBDCs. The country recently announced that its centralised digital currency, the digital counterpart to the renminbi (CYN), could be used for payments starting in January 2022. The programme had been under testing since 2014, and at the end of 2021 had handled transactions worth $13.8 billion. With the recent incorporation of China’s two payment giants on the platform, there has been another leap forward in the development of CDBCs. China has also seen a string of other landmark achievements for adoption, including cross-border testing of the digital renminbi, as well as large-scale trial runs with 261 million participants across Shanghai, Beijing and Shenzhen, with more cities signing up to the so-called ‘e-CNY trial’ as of this month.

Other regions are following suit, too. The EU’s plans to introduce a bill for the establishment of a digital euro by 2023 demonstrate the growing commitment from European central banks to CBDCs by laying the legislative foundation for their implementation. Developments are ongoing, but current timelines place the earliest introduction of a digital euro in 2025.

In December 2021, the Banque de France completed its interbank settlements in CBDC experiments, examining the potential of introducing a digital euro. The latest test case consisted of the issuance of a digital bond on a blockchain and its subscription with a settlement in CBDC, designed to investigate whether interoperability – which is vital for the functioning of markets – would be possible with a proposed digital euro.

 

The drawbacks

Cyber security, for both individuals and states, is a primary factor against a guaranteed future for CBDCs. For the average user, credential theft through social engineering or advanced malware could be a fear. Causing further concern is that the technological structure of centralised currencies would be a target for terrorists looking to disrupt a nation’s economy. A CBDC would require heavy regulation to prevent such manipulation and operate on an extremely robust technological structure.

The primary argument is that the structure, widespread application, and risk of potential manipulation would outweigh the proposed benefits. The likelihood of many major currencies becoming digital and being globally recognised as a primary currency in the immediate future is slim, as central banks continue to wrestle with this fundamental practicality. Until strides in research are made to iron out concerns and practicality issues, cryptos look set to continue making ground, changing the payment landscape as they become more popular among the public.

 

The stable alternative

Estimates have placed the valuation of the global cryptocurrency market at nearly $5 billion by 2023, more than tripling its current value. Mainstream players in the payment sector are beginning to make the move into crypto, offering their customers the ability to buy, hold and sell various virtual currencies. However, success is countered with volatility.

Stablecoins are presenting themselves as a more viable option, offering an alternative to the wild peaks and troughs of crypto by providing a digital version backed and priced by the value of an existing currency or commodity, such as the U.S. dollar or gold. Proponents of stablecoins envision that users will enjoy the benefits of crypto, including cheaper international payments and fast settlement times, without the associated volatility.

While these ‘stable’ alternatives are still yet to be accepted as a formal payment method, they are gaining mainstream personal and business traction. Its unique selling proposition ((offering the benefits of crypto with less of the risks) will remain attractive, but its practicality as a product has yet to be proved.

While the future is digital, there are competing visions for the specific path currencies will take. If central banks around the world follow China’s lead and ramp up implementation initiatives for their respective CBDCs, then we could see cryptos and stablecoins made redundant by digital counterparts to the yuan, euro and U.S. dollar. However, a successful introduction of a CBDC has still yet to be seen and the practical infrastructural measures needed are still developing. Until then, stablecoins and less volatile cryptocurrencies will continue to make strides.

Kevin Braine is the Global Head of Research and Operations for Kroll’s Compliance Risk & Diligence practice. He is an expert in anti-bribery and anti-corruption, and works closely with Kroll’s investigation, regulatory consulting and transaction advisory practices.

Banking

Augmented automated underwriting and the evolution of the life insurance market

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By Alby van Wyk, Chief Commercial Officer at Munich Re Automation Solutions

 

It’s almost inevitable. Spend your working life identifying, analysing, quantifying and ascribing monetary value to risk, and you’re likely to have a fairly strong aversion to it. Or more accurately, an aversion to undertaking new endeavours with inadequately understood consequences. The insurance industry is, on any number of levels, the very definition of risk-averse.

And yet, for all the commentary suggesting otherwise, insurance still has an appetite for innovation. If the insurtech sector is any indication, then an interest in and requirement for new solutions is being recognised and slowly addressed.

Declan O’Neill

It may not employ the language of disruption that runs through the wider fintech market, it may be short a few unicorns and unable to boast some of the record-breaking funding rounds, but a quiet tech evolution has been building in insurance nonetheless. Hence the advent of automated underwriting facilitated by more advanced algorithms and data analysis.

Where insurtech does overlap with its more vocal fintech counterparts is in the greater use of artificial intelligence (AI) and machine learning to solve age-old problems around data analysis and interpretation.

It’s about five years or so since AI first became a topic of conversation in insurance. Since then, despite the intensity of the debate, it has often felt like a reality that is always just over the horizon – a destination that kept moving even as more and more efforts were directed towards it.

But recent research suggests that the journeys made so far have not been in vain. We are at a point where embracement of AI is about to step up a gear. The global value of insurance premiums underwritten by AI have reached an estimated $1.3 billion this year, as stated by Juniper Research; but they are expected to top $20 billion in the next five years. As a destination, it is closer and more attainable than ever before.

However, AI is not an island. Its promise of $2.3 billion in global cost savings to be achieved through greater efficiencies and automation of resource-intensive tasks will not be achieved in isolation.

AI remains part of a more complex ecosystem of data gathering and analysis. It can apply new technologies to get the best out of the already established and still-emerging data sources that feature in underwriting offices around the world. It emphatically does not require these existing investments to be ripped out, replaced or downgraded.

It is more helpful therefore to see AI as the differentiating factor in the latest generation of insurance IT: augmented automated underwriting, or AAU for short.

AAU gives underwriters the ability to spot patterns and connections that are, frankly, either invisible to the human eye or which take normal, human-assisted processes unfeasible amounts of time and resource to identify.

Whereas earlier generations of automation were able to pick up the low-hanging fruit of insurance markets – the individuals whose driving history fit into clearly delineated boxes, for example – AAU can take into account all of the rich complexity of the human experience. It can spot the nuances and individualities that populate the life market, for example, and translate those into accurate policies.

That’s good news for both underwriters and their customers. AAU can significantly reduce the need for separate medicals, repeated questions, lengthy decision-making processes, and drastically increase the speed at which a potential insurer can get a quote and cover – while continually improving the way risk is calculated and managed.

It can make sure the decision-making process remains in the hands of underwriters rather than IT departments, enabling them to set and update the rules and parameters as befits their preferred business model. It consequently makes advanced, complex and precise decision-making available to a broader range of underwriting businesses – which is good for those businesses, good for customers and ultimately good for the entire industry.

AAU – augmented automated underwriting – is an example of the realisation of AI’s promise. As such, it’s set to become one of the key talking points and disruptive technologies of the insurance industry. And this time, AAU is both a journey and destination that all progressive insurance organisations need to be considering for their future operations.

 

 

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Banking

ESG in the finance and banking industry – are you ready?

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By Julian Moffett, CTO BFSI, EDB

 

Environmental, Social and Governance (ESG) has soared towards the top of banking, financial services, and insurance (BFSI) and other boardroom interests. Organisations everywhere know they need to take ESG and greenhouse gas emissions (GHGs) seriously not only because it is the right thing to do for the future of the planet or because it can help attract and retain talent, but also, because failing to do so may pose a risk to the economic value of their businesses and encourage probes by governments, watchdogs and non-execs. However, complying with complex reporting and going the extra mile to actually deliver on the goals of the rules is a challenge in many ways, not the least of which is in achieving the required excellence in data management to underpin strong reporting on ESG.

 

What is ESG? 

Julian Moffett

ESG is an umbrella term that covers a broad gamut of activities. Gartner defines ESG as “…a collection of corporate performance evaluation criteria that assess the robustness of a company’s governance mechanisms and its ability to effectively manage its environmental and social impacts.”

The CFA Institute describes the environmental element as focusing on “the conservation of the natural world” and includes measuring “climate change and carbon emissions,” “air and water pollution” and “biodiversity” among many other measures. Social considers “people and relationships” looking at areas including “customer satisfaction,” and “gender and diversity.” Governance covers “standards for running a company” and analyses factors such as “board composition,” “audit committee structure” and “audit committee structure.”

 

Status of the current regulatory environment

There are many bodies proposing rules to formalise ESG monitoring and seeking to ensure corporate compliance. Some example groups, frameworks and bodies:

  • The Task Force on Climate-related Financial Disclosures (TCFD)
  • Streamlined Energy and Carbon Reporting (SECR)
  • The International Regulatory Strategy Group (ISRG)
  • The Sustainability Finance Disclosure Regulation (SFDR)
  • The International Sustainability Standards Board (ISSB)
  • The Sustainability Accounting Standards Board (SASB)
  • Sustainable Development Goals (SDGs), the Global Reporting Initiative (GRI) support efforts such as the US SEC’s Climate and ESG Task Force.

Financial services organisations are very aware that the current regulatory landscape is far from mature (and will continue changing) both in terms of alignment between bodies and also with regard to when the new rules will come into effect. At the of time of writing:

  • The requirement for Scope 2 disclosures (see below for description) for the Sustainable Finance Disclosure Regulation (SFDR) will likely come into effect in 2023
  • A proposed Corporate Sustainability Reporting Directive (CSRD) should be agreed by the European Parliament this year for implementation in 2024 to report on performance in 2023.
  • Meanwhile, the SEC has just released its proposed rules for climate-related disclosures, which,if passed in legislation, may come into effect as early as year end 2022.

 

Reporting Obligations 

Reporting can cover a wide range of areas covering energy consumption, GHG emissions, water consumption and waste management to health and safety, labour rights, diversity and inclusion to ethical conduct, and even areas such as appropriate executive compensation.

While the regulatory reporting obligations are not yet finalised, the expectation is that compliance may prove to be an onerous task. For example, organisations are under pressure to monitor carbon emissions but even so-called Scope 1 emissions (those that come from owned or controlled emissions) can be hard to track. Factor in Scope 2 (indirect emissions such as purchased power) as well as Scope 3 emissions from up and down value chains, and the reporting task at hand is difficult indeed.

To measure, monitor and manage in addition to staying on the right side of rules, organisations need to have excellent data management fundamentals, strong reporting tools and a new class of applications, which also have the agility to adapt to rapidly changing regulatory demands. Data will be used both to support decarbonisation measures but also to identify where there are disclosure gaps. It was telling that when the SEC issued a press release on its Enforcement Task Force, it specifically referred to data:

“The task force will also coordinate the effective use of Division resources, including through the use of sophisticated data analysis to mine and assess information across registrants, to identify potential violations.”

Having reliable data comply with emerging rules isn’t the only essential requirement for organisations. Institutions need such data to understand where they are in their journey to sustainability, so that they can set sensible targets and track progress against them. Organisations will have to cover the data trifecta of availability, management and transparency. Many organisations may be stuck in the early stages of managing ESG, overly relying on manual processes, spreadsheets and email. But their target should be to get to real-time data insights that are easily visualised, understood and shared. As a foundation, BFSIs need to capture, manage and securely share data reflecting consumption and safety to emissions, financials and data from surveys measuring results against ESG targets. Data emanating from ERP and other back-office systems, performance data from third-party associates, media and social network coverage, spatial/geolocation systems and beyond should also be factored in.

 

Actually reducing GHGs

Organisations are using a wide variety of ways to reduce emissions and improve their footprints from using renewable energy sources to making secondary use of energy; for example, in the case of one university, this is done through capturing data centre heat in hydroponics. For IT, making broader use of multitenancy in cloud computing and hosting services is a popular way to reduce emissions. Not only do these large data centres offer an economy of scale, they also tend to be state of the art in their use of renewables and highly efficient hardware and other infrastructure. Gartner, in an article titled The Data Centre Is Almost Dead, says it expects 80 percent of enterprises will close in-house datacenters by 2025. For me, the jury is out on this one but an interesting one to monitor going forward.

 

Conclusion

We are at the start of a very significant inflection point in regulatory and consumer expectations around ESG. BFSIs should be under no illusion that momentum is building rapidly in terms of having to address strict reporting requirements and implement strategies to reduce GHGs.

However, we also see this as a time of positive change. As the leading provider of Postgres, EDB is excited to help organisations further their ESG goals as the journey unfolds. We are closely monitoring the implications of ESG regulations as they will give rise to a new class of applications and drive adoption of green data centres. We see OSS, including Postgres, as playing a key role in this shift as often the movement to private and public cloud helps accelerate application modernisation and enables displacement of outdated incumbent technology (including database) platforms. As the leading provider of Postgres, EDB is excited to help organisations further their ESG goals as the journey unfolds.

 

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