Distributed ledger technology (DLT) could bring both benefits and risk to the financial services space, but could ultimately “enhance operational soundness”, according to the UK’s Financial Conduct Authority (FCA).
The regulator has released its feedback statement on a discussion paper on DLT, which was released in April.
According to the FCA, respondents suggested that the risks emerging from DLT depend heavily on the specific application of the technology.
With regards to permissionless networks, respondents generally saw benefits in lower transaction fees, and better availability and standardisation. However, many also expressed concern around the lack of a governance, dispute and regulatory framework.
There was also concern that the use of DLT in financial services on a large scale could trigger new operational risks, depending on the specifics of the application of the technology. Risks cited included coding errors, stability and interoperability issues, as well as the well-trodden concerns around scalability, latency, data privacy and security.
Equally, some respondents questioned the compatibility of permissionless networks with the current regulatory regime.
It its response, the FCA said it is open to all forms of deployment of DLT, provided operational risks and properly identified and mitigated.
It said: “The use of DLT may affect firms’ exposure to operational risk through changes to, and potentially reduced control over, people, processes and systems.”
“Nevertheless, we think using permissioned and permissionless DLT networks has the potential to enhance operational soundness. We consider good operational risk management as key to the realisation of operational benefits.”
Respondents to the discussion paper also expressed support for the FCA maintaining a technology-neutral approach to regulation, through its Sandbox and regulatory technology initiatives. Responses suggested that this will support competition and generally improve outcomes of using DLT in financial services.
The feedback also suggested that the current rules may be flexible enough to accommodate use of DLT among regulated firms, and that there are no substantial barriers to adoption of DLT under current regulations. No respondents proposed any specific changes to any rules.
DLT solutions could deliver regulatory requirements more efficiently than current systems, and could reduce costs for both firms and regulators, the FCA said.
Respondents were particularly interested in the use of DLTs in the capital markets sector, for example, in underpinning market trading infrastructure. However, some added that there would have to be more clarity on some legal issues before such solutions could be used at scale.
The feedback statement also suggested that DLT could facilitate secure sharing of data between multiple participants, however many respondents noted that current provisions under anti-money laundering regulations do not incentivise sharing of KYC information, or any improved levels of cooperation.
Finally, respondents drew attention to the global nature of DLT, pointing out the need for more international cooperation.
According to the FCA, respondents urged the regulator to continue to collaborate with national and international regulatory bodies and industry associations to encourage a globally harmonised approach to DLT.
The discussion paper drew 47 responses from regulated firms, national and international trade associations, technology providers, law firms and consultancies.
Christopher Woolard, executive director of strategy and competition at the FCA, said: “The original paper opened a discussion about DLT and the volume and breadth of responses we received from the industry demonstrates the significance of this issue.”
“DLT has the potential to transform practices across a number of markets, sharpening competition and improving risk management. At the same time we have to be alive to the risks of certain applications of it. We will continue to work with a range of agencies and firms to ensure a coordinated approach to the use of DLT in financial services.”
The FCA is now going to monitor developments in the market related to DLT.
Image: Shutterstock 