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Banking Compliance | Pandemic Impact and Response Risk

Posted | Updated by Insights team:
Dr. Evangelo Damigos; PhD | Head of Digital Futures Research Desk
  • Finance
  • Economic Growth
  • Risk


Publication | Update: Sep 2020

The Office of the Comptroller of the Currency (OCC) has issued a Risk Perspective Report, where operational risks are identified as the result of the COVID-19 pandemic.

Although banks have successfully amended their business processes and engaged third parties to support widespread teleworking capabilities, increased technological capacity, and leveraged innovative solutions to maintain operational resiliency and technical capacity, the shift to a more "virtual banking" experience comes with risks. The OCC has identified the following examples of risks that have arisen as bank personnel adapt to working remotely:

  • Implementation of teleworking strategies using virtual private networks (VPNs), virtual conferencing services and other remote telecommunication technologies can increase cybersecurity vulnerabilities. These new or expanded connections and productivity tools need to be properly configured, secured and appropriately monitored. Additional steps maybe necessary to segment properly and secure bank networks if employees use personal devices to connect to bank systems.
  • Increased use of online and mobile systems by customers, bank staff and third-party service providers may stress or adversely affect banks' telecommunications capacity. Technology infrastructures should be effectively managed to provide for additional telecommunications bandwidth where needed to maintain appropriate service levels.
  • Sensitive processes performed outside of bank-owned or authorized properties and devices can increase the risk of fraud and potential for exposure of customer sensitive information. Appropriate monitoring and oversight can include the use of data loss prevention tools, callback procedures, and increased employee awareness of privacy and phishing mitigation procedures.
  • Rapid implementation of new systems, including automation or processes to address evolving operating environments and customer needs, may stress existing change management processes. Appropriate change management and third-party risk management should be applied based on risk.
  • Operational workloads, service levels and third-party service provider performance should be closely monitored so that potential reductions in their service delivery levels because of pandemic responses and other operational issues can be addressed in a timely manner while continuing to meet customer needs.

In identifying these risks, the OCC notes that banks' risk management and audit oversight functions need "to keep pace with the rapid implementation of pandemic-related business continuity plans and transitioning from traditional operations to a heightened risk level." The OCC calls independent oversight and validation of controls "essential to safeguard operational integrity in the current stressed environment," thereby suggesting that the OCC examiners will step up their review of banks' internal audit functions and management's ability to respond rapidly to identified deficiencies.

OCC, also advises that banks should consider measures to enhance the resilience of systems and operations against cyber threats.

Sound cybersecurity risk management controls include:

  • reviewing, updating and testing backup, incident response and business continuity plans to ensure data is sufficiently segregated
  • protecting against unauthorized access through use of strong authentication
  • securely configuring systems and services to protect against malware and malicious actors' access.

Overall, the Report indicates that banks should follow established change management and compliance risk management processes to identify, measure, monitor and control the emerging risks associated with the COVID-19.

The OCC also noted that the shift to teleworking may create consumer compliance issues. Specifically, the Report highlighted that branch closures, reduced operations and communication issues may result in increased customer complaints. In response, the OCC cautions that banks must "remain diligent" in their consumer protection role, ensuring that fair lending and other laws are observed, particularly when dealing with applications for new or modified loans and working with customers affected by the COVID-19 pandemic.

The OCC further notes that increased reliance on remote work environments may create challenges to maintaining safeguards for protecting the privacy of consumer information and for monitoring customer interactions for consistency with bank policies and procedures.

In order to mitigate the risk of a supervisory or enforcement action resulting from OCC scrutiny of COVID-19 related measures, banks should consider certain steps:

  • Ensure that policies and procedures in such key areas as credit risk, BSA/AML, cybersecurity and fair lending are being complied with, and where modifications have been made, ensure that such modifications do not create increased risk and are documented.
  • Compliance departments should coordinate with internal auditing departments to ensure that when the latter is reviewing the institution's operations and identifying gaps, audit does not cite as a problem a gap that is permissible by pandemic-related regulatory flexibility.
  • Proactively review customer complaint logs to identify high-volume substantive areas, as they may suggest key areas of customer confusion. This is a best practice that is advisable even absent a global health pandemic.
  • Review third-party service providers in critical infrastructure areas to ensure that benchmarks continue to be met. Particular scrutiny should be applied to the extent that third-party vendors are utilized to support activities that have been transited to remote working.
  • After the pandemic subsides, banks should review their business continuity plans to determine whether the implementation of the plan in response to the pandemic performed according to the bank's needs and supervisory expectations. If not, then the bank should review and revise the plan accordingly. In other words, this is a good opportunity to observe the sufficiency of the business continuity plan in action.

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Objectives and Study Scope

This study has assimilated knowledge and insight from business and subject-matter experts, and from a broad spectrum of market initiatives. Building on this research, the objectives of this market research report is to provide actionable intelligence on opportunities alongside the market size of various segments, as well as fact-based information on key factors influencing the market- growth drivers, industry-specific challenges and other critical issues in terms of detailed analysis and impact.

The report in its entirety provides a comprehensive overview of the current global condition, as well as notable opportunities and challenges. The analysis reflects market size, latest trends, growth drivers, threats, opportunities, as well as key market segments. The study addresses market dynamics in several geographic segments along with market analysis for the current market environment and future scenario over the forecast period. The report also segments the market into various categories based on the product, end user, application, type, and region.
The report also studies various growth drivers and restraints impacting the  market, plus a comprehensive market and vendor landscape in addition to a SWOT analysis of the key players.  This analysis also examines the competitive landscape within each market. Market factors are assessed by examining barriers to entry and market opportunities. Strategies adopted by key players including recent developments, new product launches, merger and acquisitions, and other insightful updates are provided.

Research Process & Methodology

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We leverage extensive primary research, our contact database, knowledge of companies and industry relationships, patent and academic journal searches, and Institutes and University associate links to frame a strong visibility in the markets and technologies we cover.

We draw on available data sources and methods to profile developments. We use computerised data mining methods and analytical techniques, including cluster and regression modelling, to identify patterns from publicly available online information on enterprise web sites.
Historical, qualitative and quantitative information is obtained principally from confidential and proprietary sources, professional network, annual reports, investor relationship presentations, and expert interviews, about key factors, such as recent trends in industry performance and identify factors underlying those trends - drivers, restraints, opportunities, and challenges influencing the growth of the market, for both, the supply and demand sides.
In addition to our own desk research, various secondary sources, such as Hoovers, Dun & Bradstreet, Bloomberg BusinessWeek, Statista, are referred to identify key players in the industry, supply chain and market size, percentage shares, splits, and breakdowns into segments and subsegments with respect to individual growth trends, prospects, and contribution to the total market.

Research Portfolio Sources:

  • BBC Monitoring

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  • CIMB: Company Reports, Daily Market News, Economic Reports, Industry Reports, Strategy Reports, and Yearbooks

  • Dun & Bradstreet: Country Reports, Country Riskline Reports, Economic Indicators 5yr Forecast, and Industry Reports

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  • Oxford Economics: Global Industry Forecasts, Country Economic Forecasts, Industry Forecast Data, and Monthly Industry Briefings

  • Progressive Digital Media: Industry Snapshots, News, Company Profiles, Energy Business Review

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  • Technavio: Global Market Assessment Reports, Regional Market Assessment Reports, and Market Assessment Country Reports

  • The Economist Intelligence Unit: Country Summaries, Industry Briefings, Industry Reports and Industry Statistics

Global Business Reviews, Research Papers, Commentary & Strategy Reports

  • World Bank

  • World Trade Organization

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  • Standard & Poor’s Industry Surveys

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M&A and Risk Management | Regulation

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  • CoreCompensation

  • CCH Research Network

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Forecast methodology

The future outlook “forecast” is based on a set of statistical methods such as regression analysis, industry specific drivers as well as analyst evaluations, as well as analysis of the trends that influence economic outcomes and business decision making.
The Global Economic Model is covering the political environment, the macroeconomic environment, market opportunities, policy towards free enterprise and competition, policy towards foreign investment, foreign trade and exchange controls, taxes, financing, the labour market and infrastructure. We aim update our market forecast to include the latest market developments and trends.

Forecasts, Data modelling and indicator normalisation

Review of independent forecasts for the main macroeconomic variables by the following organizations provide a holistic overview of the range of alternative opinions:

  • Cambridge Econometrics (CE)

  • The Centre for Economic and Business Research (CEBR)

  • Experian Economics (EE)

  • Oxford Economics (OE)

As a result, the reported forecasts derive from different forecasters and may not represent the view of any one forecaster over the whole of the forecast period. These projections provide an indication of what is, in our view most likely to happen, not what it will definitely happen.

Short- and medium-term forecasts are based on a “demand-side” forecasting framework, under the assumption that supply adjusts to meet demand either directly through changes in output or through the depletion of inventories.
Long-term projections rely on a supply-side framework, in which output is determined by the availability of labour and capital equipment and the growth in productivity.
Long-term growth prospects, are impacted by factors including the workforce capabilities, the openness of the economy to trade, the legal framework, fiscal policy, the degree of government regulation.

Direct contribution to GDP
The method for calculating the direct contribution of an industry to GDP, is to measure its ‘gross value added’ (GVA); that is, to calculate the difference between the industry’s total pre­tax revenue and its total bought­in costs (costs excluding wages and salaries).

Forecasts of GDP growth: GDP = CN+IN+GS+NEX

GDP growth estimates take into account:

  • Consumption, expressed as a function of income, wealth, prices and interest rates;

  • Investment as a function of the return on capital and changes in capacity utilization; Government spending as a function of intervention initiatives and state of the economy;

  • Net exports as a function of global economic conditions.

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Market Quantification
All relevant markets are quantified utilizing revenue figures for the forecast period. The Compound Annual Growth Rate (CAGR) within each segment is used to measure growth and to extrapolate data when figures are not publicly available.

Revenues

Our market segments reflect major categories and subcategories of the global market, followed by an analysis of statistical data covering national spending and international trade relations and patterns. Market values reflect revenues paid by the final customer / end user to vendors and service providers either directly or through distribution channels, excluding VAT. Local currencies are converted to USD using the yearly average exchange rates of local currencies to the USD for the respective year as provided by the IMF World Economic Outlook Database.

Industry Life Cycle Market Phase

Market phase is determined using factors in the Industry Life Cycle model. The adapted market phase definitions are as follows:

  • Nascent: New market need not yet determined; growth begins increasing toward end of cycle

  • Growth: Growth trajectory picks up; high growth rates

  • Mature: Typically fewer firms than growth phase, as dominant solutions continue to capture the majority of market share and market consolidation occurs, displaying lower growth rates that are typically on par with the general economy

  • Decline: Further market consolidation, rapidly declining growth rates

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The Global Economic Model
The Global Economic Model brings together macroeconomic and sectoral forecasts for quantifying the key relationships.

The model is a hybrid statistical model that uses macroeconomic variables and inter-industry linkages to forecast sectoral output. The model is used to forecast not just output, but prices, wages, employment and investment. The principal variables driving the industry model are the components of final demand, which directly or indirectly determine the demand facing each industry. However, other macroeconomic assumptions — in particular exchange rates, as well as world commodity prices — also enter into the equation, as well as other industry specific factors that have been or are expected to impact.

  • Vector Auto Regression (VAR) statistical models capturing the linear interdependencies among multiple time series, are best used for short-term forecasting, whereby shocks to demand will generate economic cycles that can be influenced by fiscal and monetary policy.

  • Dynamic-Stochastic Equilibrium (DSE) models replicate the behaviour of the economy by analyzing the interaction of economic variables, whereby output is determined by supply side factors, such as investment, demographics, labour participation and productivity.

  • Dynamic Econometric Error Correction (DEEC) modelling combines VAR and DSE models by estimating the speed at which a dependent variable returns to its equilibrium after a shock, as well as assessing the impact of a company, industry, new technology, regulation, or market change. DEEC modelling is best suited for forecasting.

Forecasts of GDP growth per capita based on these factors can then be combined with demographic projections to give forecasts for overall GDP growth.
Wherever possible, publicly available data from official sources are used for the latest available year. Qualitative indicators are normalised (on the basis of: Normalised x = (x - Min(x)) / (Max(x) - Min(x)) where Min(x) and Max(x) are, the lowest and highest values for any given indicator respectively) and then aggregated across categories to enable an overall comparison. The normalised value is then transformed into a positive number on a scale of 0 to 100. The weighting assigned to each indicator can be changed to reflect different assumptions about their relative importance.

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The principal explanatory variable in each industry’s output equation is the Total Demand variable, encompassing exogenous macroeconomic assumptions, consumer spending and investment, and intermediate demand for goods and services by sectors of the economy for use as inputs in the production of their own goods and services.

Elasticities
Elasticity measures the response of one economic variable to a change in another economic variable, whether the good or service is demanded as an input into a final product or whether it is the final product, and provides insight into the proportional impact of different economic actions and policy decisions.
Demand elasticities measure the change in the quantity demanded of a particular good or service as a result of changes to other economic variables, such as its own price, the price of competing or complementary goods and services, income levels, taxes.
Demand elasticities can be influenced by several factors. Each of these factors, along with the specific characteristics of the product, will interact to determine its overall responsiveness of demand to changes in prices and incomes.
The individual characteristics of a good or service will have an impact, but there are also a number of general factors that will typically affect the sensitivity of demand, such as the availability of substitutes, whereby the elasticity is typically higher the greater the number of available substitutes, as consumers can easily switch between different products.
The degree of necessity. Luxury products and habit forming ones, typically have a higher elasticity.
Proportion of the budget consumed by the item. Products that consume a large portion of the consumer’s budget tend to have greater elasticity.
Elasticities tend to be greater over the long run because consumers have more time to adjust their behaviour.
Finally, if the product or service is an input into a final product then the price elasticity will depend on the price elasticity of the final product, its cost share in the production costs, and the availability of substitutes for that good or service.

Prices
Prices are also forecast using an input-output framework. Input costs have two components; labour costs are driven by wages, while intermediate costs are computed as an input-output weighted aggregate of input sectors’ prices. Employment is a function of output and real sectoral wages, that are forecast as a function of whole economy growth in wages. Investment is forecast as a function of output and aggregate level business investment.

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