Featured Product

    BIS Paper on Embedded Supervision of Blockchain-Based Financial Market

    September 16, 2019

    BIS published a working paper that investigates ways to regulate and supervise blockchain-based financial markets. The paper argues that asset tokenization and underlying distributed ledger technology (DLT) open up new ways of supervising financial risks. It makes the case for "embedded supervision"—that is, a framework that allows compliance with regulatory goals to be automatically monitored by reading the ledger of a market, thus reducing the need for firms to actively collect, verify, and deliver data. The paper concludes with a discussion of the legislative and operational requirements that would promote low-cost supervision and a level playing field for small and large firms.

    Embedded supervision is distinct from other forms of suptech or regtech, which aim to use machine learning or artificial intelligence to more efficiently monitor the financial industry. The key principle of embedded supervision is to rely on the trust-creating mechanism of decentralized markets for regulatory purposes too. If DLT-based markets were to develop, this would change the way assets are traded and how they are packaged into complex financial products. In DLT-based markets, data credibility is assured by economic incentives. This paper discusses the following four principles for deployment of embedded supervision:

    • Embedded supervision can only function as part of an overall regulatory framework that is backed up by an effective legal system and supporting institutions.
    • Embedded supervision can be applied to decentralized markets that achieve economic finality.
    • Embedded supervision needs to be designed in the context of economic market consensus, taking into account how the market will react to being automatically supervised.
    • Embedded supervision should promote low-cost compliance and a level playing field for small and large firms.

    In most jurisdictions, the legal setup is such that a single and regulated clearing and settlement provider is required to verify that an irreversible transfer of ownership has occurred. DLT, however, achieves such a transfer via the economic incentives of verifiers rather than by the authority of a central institution. Only if the principles of finality underlying the regulation and supervision of financial markets infrastructures are modified to recognize decentralized exchange could DLT ever gain traction in regulated finance. Along with this, regulators and supervisors would also have to design rules regarding the assignment of responsibility in decentralized markets in the case of illegal activity.

    To implement embedded supervision, regulators would also be required to acquire substantial technological know-how and the willingness to adjust their operational approach to the technology that is being developed by the financial sector. Many supervisors worldwide are open to this possibility and some are already developing the requisite sandboxes. One example is “LBchain,” a blockchain-based sandbox of the Bank of Lithuania, which seeks to embed regulatory infrastructure in a DLT-based market. The benefits might include lower costs for market participants and supervisors, real-time monitoring, deeper insights into the use of internal models, and improved detection of potential window-dressing and other abuses. 

     

    Related Link: Working Paper

     

    Keywords: International, Banking, Securities, Blockchain, Embedded Supervision, Regtech, Suptech, Research, Distributed Ledger Technology, Regulatory Sandbox, BIS

    Related Articles
    News

    EBA Analyzes Impact of Unwind Mechanism of Liquidity Coverage Ratio

    EBA published a report analyzing the impact of the unwind mechanism of the liquidity coverage ratio (LCR) for a sample of European banks over a three-year period, from the end of 2016 to the first quarter of 2020.

    November 19, 2020 WebPage Regulatory News
    News

    ECB Outlines Views on Possible Changes to AnaCredit Rule and TLTROs

    In response to questions from a member of the European Parliament, the ECB President Christine Lagarde issued a letter clarifying the possibility of amending the AnaCredit Regulation and making targeted longer-term refinancing operations (TLTROs) dependent on the climate-related impact of bank loans.

    November 19, 2020 WebPage Regulatory News
    News

    IASB Begins First Phase of Post-Implementation Review of IFRS 9

    IASB started the post-implementation review of the classification and measurement requirements in IFRS 9 on financial instruments and added the review as a project to its work plan.

    November 18, 2020 WebPage Regulatory News
    News

    FSB Report Examines Progress in Resolvability of Systemic Institutions

    FSB published a report that examines progress in implementing policy measures to enhance the resolvability of systemically important financial institutions.

    November 18, 2020 WebPage Regulatory News
    News

    EBA Benchmarks National Insolvency Frameworks Across EU

    EBA published a report on the benchmarking of national loan enforcement frameworks across 27 EU member states, in response to the call for advice from EC.

    November 18, 2020 WebPage Regulatory News
    News

    FSB Reports Assess Impact of Pandemic on Financial Stability

    FSB published a letter from its Chair Randal K. Quarles, along with two reports exploring various aspects of the market turmoil resulting from the COVID-19 event.

    November 17, 2020 WebPage Regulatory News
    News

    RBNZ Consults on Implementation of Capital Review Changes

    RBNZ launched a consultation on the details for implementing the final Capital Review decisions announced in December 2019.

    November 17, 2020 WebPage Regulatory News
    News

    IASB Announces Andreas Barckow as the New Chair from July 2021

    The Trustees of the IFRS Foundation, which are responsible for the governance and oversight of IASB, have announced the appointment of Dr. Andreas Barckow as the IASB Chair, effective July 2021.

    November 17, 2020 WebPage Regulatory News
    News

    HKMA Consults on Capital Rules for Bank Equity Investments in Funds

    HKMA issued a letter to consult the banking industry on a full set of proposed draft amendments to the Banking (Capital) Rules for implementing the Basel standard on capital requirements for banks’ equity investments in funds in Hong Kong.

    November 17, 2020 WebPage Regulatory News
    News

    ESRB Supports Extension of Macro-Prudential Measure by Swedish FSA

    ESRB published an opinion assessing the decision of Swedish Financial Supervisory Authority (FSA) to extend the application period of a stricter measure for residential mortgage lending, in accordance with Article 458 of the Capital Requirements Regulation (CRR).

    November 17, 2020 WebPage Regulatory News
    RESULTS 1 - 10 OF 6153