Compliance comes with a hefty price tag. Last year, JPMorgan Chase said it planned to spend $4bn and commit 5,000 extra employees to upgrading its compliance and risk management. London-based HSBC added 1,800 compliance staff in 2013.

A 2012 study by JWG, a regulatory think-tank, predicted that the industry was on track to spend €33bn up to 2015 to comply with new regulatory demands. Among the most burdensome changes, JWG calculated, is the requirement that banks report more frequently and in greater detail on areas of large exposure, on counterparty risk and on collateral.

Banks are also wrestling with stricter stress tests - that measure a bank's ability to withstand a crisis - and the requirement to compile 'living wills', which detail how institutions can be broken up easily if they become insolvent.
"Wealth managers have so far been able to trim other expenses to keep returns high""Regulators are asking for data in ways they want to look at it, not in the way banks are organised to provide it," PJ Di Giammarino, JWG's Chief Executive, told the Financial Times.

Regulators have, over recent years, also been insisting on far higher standards to prevent financial crime. "Additional requirements to know customers - with a view to avoiding money laundering - have become a significant burden," says Andrew Gray, Partner at PricewaterhouseCoopers. "There has to be a much more rigorous process in place before engaging with another business. It is not just applying the rules, but also demonstrating and recording that you have adhered to them."

Rigorous new deadlines for compliance and reporting are forcing companies to upgrade older IT systems. About half of the companies surveyed by JWG said their regulatory and reporting departments were understaffed.

€33bn
The amount JWG forecast the industry was on track to spend on compliance up to 2015

$4bn
The amount JPMorgan Chase said it planned to spend on compliance last year

$3bn
The amount the wealth management industry is spending on compliance technology, headcount and strategy

1,800
The number of employees HSBC added to its compliance staff in 2013
    
12%
The percentage the cost of employing compliance officers rose between 2007 and 2011Such pressures come at a time when other limitations on profits - including new capital and liquidity rules - have been putting profits under strain. In July, for example, Barclays reported that profit at its investment bank had fallen 50% - despite some 2,500 jobs being cut in that division.

Profits under pressure"For large banks, the extra regulation and reporting requirements are not going to make or break the business," says Petrou. "That said, the timing is bad since they are coming into force when other rules are curbing profits." 

A report published in July by Federal Financial Analytics calculated that extra capital requirements, higher deposit protection fees and supervisory assessments cost America's six largest banks $70bn in 2013 - twice as much as in 2007.

"These extra burdens are also apparent in the UK," she adds.

"Banks are hiring a lot of staff to deal with regulation and firing a lot of people who were dealing with customers and bringing in new money," says Alex Pollock, a researcher at the American Enterprise Institute and the former chief executive of a Chicago-based bank.

In terms of increased bureaucracy, Petrou believes that British banks have suffered a bigger shock than even American counterparts. "The UK has gone from a very light-touch system to a more hard-wired one," she observes. "Previously, auditors were responsible for ensuring compliance was up to scratch and now the supervisors enter the banks themselves," she observes. "That is far more demanding and time consuming."

Nor have the wealth managers been exempt from such pressures. A survey of 30 British wealth management firms by research agency ComPeer estimated that the cost of regulatory compliance was £420m in 2012, rising to £500m by 2015.

"There are far more requirements on how wealth managers communicate with clients, ensuring that they are totally transparent and upfront," says Nikolai Lysiuk, a senior research analyst who worked on the research at ComPeer. 

"So-called suitability requirements insist that firms make sure they give advice to clients that will match their risk appetite." That involves collecting a mountain of data. "Of course, for many wealth managers this was something that they were already doing," he points out. "For others, however, it involves beefing up back-office staff and building new IT systems."

Spreading the burdenThe cost of employing compliance officers rose by 12% between 2007 and 2011, the study showed. There are indirect costs, including the time that employees in other departments now have to spend focusing on compliance. Then there were additional fees levied by the new Financial Conduct Authority and the Prudential Regulation Authority, which replaced the unified Financial Services Authority.

Britain's National Audit Office estimated that the combined cost of the two new bodies - paid for by the financial services industry - would be 24% greater than that of its predecessor, at around £664m in its first fiscal year.

Of course, this burden is spread across the financial services sector. Lysiuk points out that the wealth management industry has largely been able to weather the extra costs of compliance. "While costs seem to be heading for around £500m over the coming years, in 2013 that was only about 5% of the total costs," he says. 

"The professionals who speak to clients and bring in new customers still account for about 44% of the budget." In addition, the industry brought in a record £5.4bn in revenue in 2013 and earned a healthy 26% profit margin. "Wealth managers have so far been able to trim other expenses to keep returns high," says Lysiuk.

Less expensiveThe hedge fund sector has also been affected, though once again the additional costs do not appear crippling, according to a 2013 study by KPMG. Since about 32% of the world's hedge funds are based in the UK - second only to the US - this is an important issue for London.

Traditionally, hedge funds have been among the least regulated part of the financial services industry, partly because their clients are wealthy and sophisticated individuals or financial institutions. "Many say that the ongoing cost of complying with new regulations will continue to require precious resources and time, making the industry less competitive and less appealing to investors," the KPMG report concluded. 

The industry, KPMG said, was now spending an average of 7% of its operating costs on compliance technology, headcount and strategy - a total of around $3bn. That can amount to about $14m for larger firms and $6m for a medium-sized fund. So far, the managers themselves are shouldering the bulk of these costs, rather than passing them on to clients in the form of extra fees.

Of course, focusing merely on the burden of regulation is unfair. "We need to keep in mind that there is a purpose to this red tape," says Petrou. "It is intended to make the system safer and fairer." But there is no denying that, especially for banks, it is an additional squeeze on profitability.

The original version of this article, written by Chris Alkan, was published in the September 2014 print edition of the Review.