Top Trends in Europe’s Digital Finance Landscape


News / Switzerland 261 Views 0

In Europe, digital finance is being driven by the adoption of innovative technologies including artificial intelligence (AI), machine learning (ML), distributed ledger technology (DLT), big data and cloud computing.

These technological advancements are presenting both opportunities and challenges, forcing regulatory and supervisory authorities to adapt and introduce rules to address the risks associated with their use, a paper by the the EU Supervisory Digital Finance Academy (EU-SDFA) says.

The paper, titled “Digital finance in the EU: drivers, risks, opportunities”, presents the challenges and opportunities presented by the rapid digitalization of the financial sector. It provides an outline of some of the main initiatives taken at the European Union level in the field and explores the main technologies and drivers of digital finance.

According to the document, significant transformations have occurred over the past decades in the European financial system, driven by the adoption of innovative technologies. These technologies have led to the emergence of new financial products, services, applications, processes, and business models collectively known as digital finance.

Overall, digital finance is perceived as a positive force in Europe, the paper says, offering a range of benefits to industry stakeholders including improved access to financial services, a wider range of products, a more competitive market environment, and enhanced operational efficiency. Despite this, digital finance is also introducing new challenges and risks associated with the extensive use of technologies including big data, AI and DLT.

Blockchain, AI as key technologies driving innovation in finance

The EU-SDFA paper highlights AI and DLT among the main technologies shaping the transformation of the financial sector, promising increased innovation, improved efficiency, and heightened access to financial services.

Currently, AI technologies and ML algorithms are used across a wide range of applications, utilized to analyze large datasets, identify patterns, and make data-driven predictions in financial decision-making processes. These technologies are applied in functions and processes such as credit scoring models, algorithmic trading systems, and customer segmentation strategies.

Despite their potential, AI and ML also introduce a number of concerns, including issues regarding data privacy and security, algorithmic bias, explainability and transparency, and operational risks related to system failures and errors, the document says.

Europe’s financial services sector is embracing opportunities brought about AI adoption at a fast pace. A 2023 survey conducted by EY found that 60% of the senior business leaders polled actively invested in generative AI over the prior year. 75% of executives planned to increase capital allocation over the year ahead.

DLT and blockchain, meanwhile, are praised for their potential to transform the financial system by replacing intermediaries with direct interactions among financial market participants. These technologies allow for the creation of distributed ledgers that record transactions and which are shared across a network of nodes using a consensus mechanism, enabling secure, transparent, and decentralized transactions.

Compelling applications of blockchain and DLT in finance include cryptocurrency transactions, smart contracts, tokenization of assets, supply chain finance, and identity verification. These applications have the potential to streamline processes, reduce fraud, and enhance security in financial transactions, the paper says.

Though DLT and blockchain are poised to introduce a number of benefits, their adoption has regulatory implications and risks, the report says. The regulatory landscape surrounding DLT and blockchain technologies is still evolving, leading to uncertainty for market participants and regulators. Additionally, DLT and blockchain systems are not immune to cybersecurity threats, including hacking, data breaches, and malicious attacks.

The paper also notes scalability issues, such as network congestion and slow transaction processing times, which are hampering the widespread adoption of blockchain technology in high-volume financial transactions, in addition to data privacy and protection concerns.

Key EU regulatory initiatives

To address these risks and ensure fair and equitable outcomes for all participants in the financial ecosystem, the European Commission has introduced significant policy initiatives to govern digital finance.

The Digital Finance Strategy for the EU, adopted in September 2020, is the most prominent and comprehensive one, serving as a framework to regulate risks, support the ongoing digital transformation of finance, and enhance Europe’s competitiveness.

The Digital Finance Package includes a number of regulatory proposals covering cryptocurrencies, operational risks, and payment innovation.

The Markets in Crypto-Assets Regulation (MiCA), which officially entered into force in June 2023, establishes uniform EU market rules for crypto-assets. The regulation covers crypto-assets that are fungible and which had so far not been regulated by existing financial services legislation. Key provisions on regulated entities issuing and trading crypto-assets cover transparency, disclosure, authorization and supervision of transactions.

The framework aims to promote responsible innovation in crypto-asset markets while providing heightened market integrity, consumer and investor protection, and preserving financial stability.

The second main legislative proposal included in the 2020 Digital Finance Package focuses on addressing the risks associated with the financial sector’s growing dependence on software and digital processes.

The regulation, called the Digital Operational Resilience Act, entered into force on January 16, 2023 and aims to strengthen firms’ capacity to withstand technological disruptions and threats, mandating compliance with strict requirements to prevent and limit the impact of incidents. In addition, the framework outlines a mechanism to oversee service providers which provide cloud computing services to financial institutions. The regulation is to apply as of January 27, 2025.

Other initiatives included in the EU Digital Finance Package include the 2020 Retail Payments Strategy, which focuses on enhancing the European payments market through digitalization; the framework for Financial Data Access (FICA), which aims to promote data-driven finance and open finance; the Data Hub, which seeks to offer specific non-personal data sets to firms for product testing and AI model training; and the so-called “Single Currency Package”, which aims to safeguard the role of cash and proposes a framework for a digital euro.

Featured image credit: Edited from freepik