Regvolution!

Legacy regulation is facing the bureaucratic singularity, but the digital age also offers an unprecedented opportunity. Regvolution is coming, and it’s going to be transformational, says K D Adamson.

In the aftermath of the financial crash one question has dominated the post mortem. How could we possibly have allowed this to happen?

In an attempt to answer that question regulators the world over have come up with long lists of factors which contributed to a situation where systemic risk led to certain institutions being deemed ‘too big to fail’. But the really fundamental one has been conspicuous by its absence.

Regulation sucks. No one likes being told what to do, but in this incredibly complex, globally interdependent world we now inhabit a lot of us have lost sight of what the purpose of regulation is. Regulation is about risk—something I’ve written about before—and it’s important to remember that risk isn’t just about the prevention of bad things. It’s also about the enabling of good things.

The genesis of the systemic risk exposed by the financial crash lies in the concept of limited liability. It’s at the core of why the global economic and financial system melted down in the way it did, and why governments and individual citizens ended up picking up the tab. And guess what? Limited liability is all the fault of shipping.

I have been told in the past that, for a futurist, I spend a lot of time giving history lessons. Well, buckle up, because things aren’t about to change any time soon. This time we’re heading back to medieval Italy where the emergence of maritime republics like Genoa and Venice from the 11th century onwards cemented the importance of sea trade to economic development and the accrual of wealth.

Regulation sucks. Because in this complex, globally interdependent world a lot of us have lost sight of its purpose.

Maritime trade offered high returns and high risks in roughly equal measure. Sea captains took large financial risks to procure ships and crews, and yet his ability to make port the other end with both cargo, crew and ship in good order was subject to a variety of factors beyond his control.

As the individual personally liable for repaying his investors and cargo owners should the worst happen, sea captains needed an unusually broad appetite for risk. Or bankruptcy. And frequently both, in that order. But it didn’t end there. The passive investor—safe and sound on dry land—could also become personally liable for all contractual obligations the captain may have made, without his implicit or explicit agreement.

The Italians came up with a solution. And, yes, I know there was no such thing as Italy before the 1870s. It came in the form of a new legal organisation for businesses which was called a commenda. The commenda enabled both the captain and the investors to limit their liability against each other, and third parties. The concept of limited liability first enshrined in the commenda not only allowed sea trade to grow, it created a company structure which could achieve hitherto unimaginable growth by mitigating its risk.

So we have shipping to thank for limited liability and the first de facto corporate regulations. Unsurprisingly the development of double entry book-keeping and corporate law went alongside the commenda, which means that this enabling regulation for sea trade is still a foundational tenet of the modern global economy.

That regulation wasn’t based on restricting what could be done, quite the reverse in fact. But what a dramatically different place we’re in now.

Shipping may have relied upon regulation to scale initially, but its position as an enabler of global trade made it an engine for national economic growth. As a result regulatory attempts to control it—particularly the safety of its operations—have come to be regarded as a hindrance to free trade and the economic viability not just of the ship operator, but the country in which he’s based.

It’s an attitude that’s wider than shipping though. Over the centuries the pendulum has swung to such an extent that for most people in most industries, and even for the man or woman in the street, regulation is pretty much a dirty word. “If you have ten thousand regulations,” Winston Churchill once said, “you destroy all respect for the law.” But in a world which is increasingly interdependent and incredibly complex, where breakthrough technologies moving exponentially are literally changing the goalposts by the day, isn’t what we really need more regulation to stop bad stuff happening?

Ironically enough, for shipping at least, the bad stuff has been the catalyst for most of the big, important regulations which have been internationally accepted. From Titanic to Torrey Canyon we can all list the disasters, tragedies and loss of life that have galvanised regulations in the maritime industry. Shipping regulation has historically been reactive, and focussed on prevention, so the tension between safe operation and economic viability has only intensified.

Having said that, IMO and the massive supranational bureaucracy that surrounds it has managed one impressive enabling feat. Providing an operator is compliant with IMO regulations he or she can trade globally with a reasonable degree of confidence. Kudos, IMO. Except of course that very shortly won’t be the case. And the reason why is important.

If you’ve seen me speak you’ll know that I talk about what I call the ‘bureaucratic singularity’. It’s not something that’s unique to shipping, it’s a problem for every regulator and every government. The exponential growth of technology is beginning to outpace the ability of traditional legacy regulation to effectively regulate it. That point at which the regulators lose control—the bureaucratic singularity—could have massive implications.

You can accuse the shipping industry of being reactionary, but the automotive industry recently demonstrated that it’s no different. The VW emissions scandal of the past few years was instructional, and not because it exposed what VW were up to.

But trying to increase the level or speed of regulation isn’t going to cut it. We have to go back to the basics. We have to focus again on what regulation is about. At the heart of that is risk, and one of the big issues is that risk itself—how we assess it and mitigate it—is being disrupted by the digital shift as much as everything else is.

You can accuse the shipping industry of being reactionary, but the automotive industry recently demonstrated that it’s no different. The VW emissions scandal of the past few years was instructional, and not because it exposed what VW were up to. What it really exposed was the extent to which legacy regulation was unfit for purpose. The regulatory regime for cars involves testing one vehicle, often under inauthentic use conditions like rolling roads, then allowing the manufacturer to extrapolate those results across hundreds of thousands of similar cars.

The actual performance of these cars meanwhile is only checked intermittently. In the UK for example, a new car is 3 years old before any official test is required and after that an MOT only has to be undertaken every 12 months. And although the regulator is ultimately responsible for the safety of the vehicles on the road, the onus for ensuring those tests are carried out lies with the individual owner of the car. If you aren’t compliant everyone knows that unless you’re unfortunate enough to be stopped and asked to produce your documents, it’s unlikely anyone will find out, so the bottom line is that if someone decides to drive a car without an MOT on British roads there’s no way to stop it. No matter how dangerous it might be.

Contrast that with the burgeoning automotive usage based insurance (UBI) market. Using telematics boxes insurers are able to monitor the driving habits of individuals in real-time and offer them reductions in their premiums for positive driving behaviours. Utilising connectivity, sensors, analytics and machine learning what these insurers are really doing is accurately assessing and instantly mitigating their risk in real time.

So, if they can do that, why can’t the regulators? “The industry acknowledges that the current test method is outdated and is seeking agreement from the European Commission for a new emissions test that embraces new testing technologies and is more representative of on-road conditions,” was the response from the Society of Motor Manufacturers and Traders in the UK to the VW scandal. But this emissions disaster should be a wake-up call for the EU and regulators everywhere that in order to beat the bureaucratic singularity they need to be looking well beyond the archaic idea of testing.

It’s worth thinking about why disasters prompt regulation. In most cases it’s because it forces questions to be asked, data to be revealed, knowledge to be gained and transparency around what’s really happening in an industry or company.

In the old days the only time you could justify the massive effort and expense of having people plough through that amount of data was when something went catastrophically wrong. Investing that effort and money was only acceptable when the insight you were likely to gain was a matter of life and death.

But that was the old days. In this new, hyperconnected society with the growing intelligent digital mesh collecting unthinkable amounts of unstructured data from an ever-expanding number of endpoints, and the costs of computing power, analytics, and data storage plummeting, you can do that all the time. In real time. With emojis.

That’s why the bureaucratic singularity isn’t really a challenge of technology, and it isn’t really a challenge of resources or implementation. It’s a challenge of vision and mindset. Because the paradigm shift that regulators have to make is that the technologies which are causing many of their problems, also offer them answers. In fact they offer them unprecedented opportunity.

I began making the case for smart regulation in shipping more than three years ago, pointing out just how big this opportunity was. The technologies required are the same ones driving digital transformation in every industry and though shipping is slightly later to the party, we’re finally beginning to see the ideas taking shape, and the implications for the regulatory regime could be transformational.

For evidence you just need to take a look at the GateHouse project being supported by the Danish Maritime Authority. The project is developing a system which will take real-time data from onboard sensors that will measure everything from the condition of ship’s equipment to its emissions, and provide it to a range of stakeholders ashore—including authorities, ship operators and marine equipment manufacturers.

“In the near future, many ships will be on-line all the time, exactly as is already the case on land. If we can simultaneously demonstrate that the technology makes it easier to continuously monitor ships’ emissions of, for example, sulphur, then it could be a big step towards more effective enforcement.” So said former Danish Maritime Authority deputy director general Troels Blicher Danielsen, who has now moved to become the Deputy Permanent Secretary in the Danish Ministry of Employment. And their gain, by the way, is undoubtedly maritime’s loss.
Troels is absolutely spot-on, and the GateHouse project is the first glimpse of how truly smart regulation could and should develop.

The first thing to realise is that regulation isn’t going to be the remit of regulators any longer. Digital products, services and assets are different. The legacy paradigm of one all-powerful regulator can’t cope. What are required are new ownership ecosystems. Around vessels these are going to include owners, third-party managers, lenders, insurers, BCOs or charterers, equipment manufacturers, connectivity suppliers, service providers, flag, class and port state control. In some cases those ecosystems will also include the end-consumer.

At the core of the new regulation paradigm is a recognition of the interdependencies amongst and between these stakeholders, and the extent to which transparency can create trust and efficient, safe operation. As the GateHouse project is beginning to demonstrate, if the real-time data about everything from preventative maintenance to safety, hull stresses, performance, optimisation, and emissions is available to everyone, we create trust. We can even create a situation where vessels earn their right to operate on a minute-to-minute basis.

What’s even more pertinent from a regulatory standpoint, is the evidence base that’s being created. Rather than decades of argument and counter-argument, shipping regulation could become truly evidence-based with individual vessels monitored and regulated in real-time feeding data and insight into that regulatory regime.

I know what you’re going to say, because I’ve had these conversations for years. You ship operators are going to tell me that you can’t be transparent. You’re going to say that the reality of the shipping industry is that there are plenty of charterers who will throw you off hire because you’re taking action to comply with MLC, for example. That there are still plenty of parts of the shipping world where no one cares about these regulations anyway. And if you can get away with stuff then, frankly, why wouldn’t you?

I’ll tell you what I tell them. The solution is not less transparency. It’s more transparency. And the reason why, when I outline it to you, will seem quite obvious.

Back in 2016 a research team from Cambridge University published the results of a study they’d undertaken with 2,000 police officers from the UK and 2 police departments in the US. The purpose of the study was to assess the impact of body-worn cameras by police officers. Body worn cameras have been introduced by police forces across the world to try and increase transparency in response to widespread concerns over police legitimacy and the disproportionate targeting of ethnic minorities.

The Cambridge study recorded officers working over 1.4 million beat hours on more than 4,000 shifts and the results showed that the introduction of the body worn cameras caused a reduction in complaints against police of an astonishing 93 per cent.

Dr Barak Ariel, from Cambridge University’s Institute of Criminology said no other intervention “in the history of policing” had seen such a profound effect. “There can be no doubt that body-worn cameras increase the transparency of frontline policing. Anything that has been recorded can be subsequently reviewed, scrutinised and submitted as evidence,” said Dr Barak. “Individual officers become more accountable, and modify their behaviour accordingly, while the more disingenuous complaints from the public fall by the wayside once footage is likely to reveal them as frivolous. The cameras create an equilibrium between the account of the officer and the account of the suspect about the same event – increasing accountability on both sides.”

I used the word astonishing, but once you think about it, it’s actually perfectly sensible. If you know full well that your actions will be transparent to other parties then the likelihood is that you’ll probably modify your behaviour. The Cambridge team called the effect ‘Contagious Accountability’, and it’s something that shipping and maritime needs to really take to heart.

But the opportunity isn’t just to deter negative behaviours. With the ownership ecosystem structured correctly we can finally see positive behaviours rewarded. I’ve lost count of the number of operators who remind me that there’s no benefit to them in operating their vessels beyond compliance. Being compliant at all makes them less competitive in comparison with the operators who decide to take their chances and have a lower cost base as a result.

Via end-to-end transparency the ownership ecosystem can leverage contagious accountability to expose negative behaviours to every stakeholder, and even the end consumer, but it can also reinforce and reward positive ones. With an insurer able to see the vessel’s operation in real time premiums can be varied in response. Lenders able to see a vessel being operated above compliance know that vessel has a better chance of employment and therefore that operator has a better chance of financing.

In fact this is happening today—we’ve already seen RightShip’s ratings beginning to make an impact. Reduced port fees and preferential financing for compliant vessels is just the beginning.

For groups like the Trident Alliance, lobbying to get a level playing field on emissions this is precisely the approach they need to be taking. Overall what we create is a race to the top instead of a race to the bottom. Because the inevitable result of all this is that the operators who cut corners, who refuse to be transparent, will find their access to finance, insurance, ports, equipment manufacturers and—more key than anything else—customers and cargoes, will diminish.

The idea that an industry needs a Trident Alliance at all is likely to become a curio in the future. The whole notion of a range of special interest groups lobbying regulators is already coming under intense pressure.

As industries merge and morph into new commercial arenas, coalescing around what will eventually become general purpose technology platforms supporting multiple ownership and stakeholder ecosystems, those stakeholders will have a direct impact on the way the regulatory regime develops.

The ownership ecosystems won’t wait for mandates from a central regulator like IMO, they will proactively regulate themselves, using analytics to create insights from the transparent data, and automating trust via a shared, inviolable, digital record. And that’s where the blockchain comes in.

Smart regulation isn’t about technology, but, as always, technology is the enabler. If you haven’t had a chance to really familiarise yourself with what the blockchain is and what it can do then may I suggest you head off to an article entitled, “Token Gesture” in this issue. I’ll hang on until you get back.

Okay. Now do you see what I mean? The bottom line is that blockchain is the foundational technology platform which could enable truly smart regulation not just for shipping but across the blue and wider logistics chain.

The ability to create a shared, trusted digital ledger which is globally available is one enabling factor. What Deanna MacDonald and her co-authors didn’t have room to go into though is the wider capabilities of the blockchain, for example to create autonomous decentralised organisational structures which can run smart contracts, which also allow individuals and companies to control the sharing of their data on their own terms.

Once again we’re seeing autonomy as a highly disruptive force. In shipping the autonomous or unmanned vessel has become a totemic issue that’s coming to define the digital transformation of the industry. But whilst autonomy and artificial intelligence in the context of intelligent transportation systems is a challenge for regulators across the board, it’s still one that’s in the near future.

In financial services however, there have been concerns for some time that the ability of regulators to adequately cope with the explosion in artificial intelligence in financial markets has already faltered. A brief look at the world of high-frequency trading is an object lesson in how the bureaucratic singularity could play out on a wider scale. The response by at least one regulator though has been very proactive.

With London acknowledged as the beating heart of the fintech scene at the moment it’s also becoming a fulcrum for what is increasingly being termed regtech. What’s underpinning that is the unusually progressive and supportive attitude of the regulator, the Financial Conduct Authority (FCA). In 2016 the FCA opened its regulatory ‘sandbox’—designed as a ‘safe place’ for fintech companies to test services and business models before going out with an offer to consumers.

What the FCA have recognised is that very often the fintech start-ups are trying to build things which just don’t fit within the existing rules. Those rules often pre-date even smartphones and are far behind emerging technologies like biometric authentication. By definition, if a startup is building something truly disruptive then the likelihood is that the current regulatory framework doesn’t cater for it.

What the FCA’s sandbox offers these startups is an opportunity to test those new ideas without worrying about the current regulations, and crucially, brings that innovation closer to the regulator. Essentially the FCA is creating an innovation ecosystem around fintech of which it is a part, and it’s done that by creating a technology platform—it’s sandbox—at the heart of it.

It’s a really clever piece of thinking, but the FCA aren’t doing this in a vacuum. Like everyone else it’s watched the trajectory of companies like AirBnB, Uber and YouTube and how they’ve dealt with inflexible regulation. The politest way to describe all those companies is that they chose to seek forgiveness rather than ask permission. Court documents relating to YouTube’s early days show that the company actively encouraged users to upload what they knew to be copyright material and were extremely slow to remove it, knowing that scaling quickly was dependent upon the content on the network.

Fast scaling technology companies which find the rules don’t work for them will just ignore them. And once they have tribes around them which love their platform the pressure on regulators will become such that the rules will often get changed in the company’s favour. But that’s only the case when the rules themselves are demonstrably no longer fit for purpose. Which takes us back to Winston Churchill’s assertion about too many regulations leading to loss of trust. What’s more apposite today is not the volume of regulations, but their applicability.

In an exponential age, regulation has to operate like a lean start-up too. Regulators like IMO have to work as part of the ecosystem, experimenting with new regulatory approaches, creating a maritime regulatory sandbox of its own where it can see and learn from the disruptors, failing fast and iterating its approach, using the vast streams of data to build a digital twin of the industry where new policies and mandates can be trialled and their effectiveness or negative consequences modelled. It needs to tap into the powerful artificial intelligence expertise of the companies around it—from IBM to ClearMetal—and move towards becoming not a regulator, but a platform to enable the ecosystems around it to manage risk across the industry in the most efficient way possible.

Reg_005

The pressure is on for legacy regulators from two directions and it means they have to define a new role. On the one hand technologies like blockchain by definition disintermediate regulators, and on the other people are losing faith in their abilities. We won’t need regulators in the way we did, but we absolutely need a next-generation platform which can help industry ecosystems manage risk, monitor, and enable growth in the new digital age we’re now inhabiting.

In a nutshell we need to realign regulation with economic and commercial benefit. We need to bring prevention and enabling back into balance. Far more emphasis has to go on how regulators can add value to the businesses being forced through painful digital transformations and support and enable them to do so, rather than just costing them money and sales. Cost of compliance will become a discount and even a dividend for compliance. That’s the fundamental opportunity we’re being offered.

Can IMO adopt the same kind of mindset as the British FCA? And more importantly can it do it fast enough? I’d like to be more optimistic, but on balance I don’t think it’s going to happen, for a couple of reasons.

The first comes down to the structure of IMO. In essence it’s a collection of national interests, and in terms of grasping the profound implications of digital transformation, governments around the globe have a pretty poor record, and even fewer ideas.

Add to that the prevailing geopolitical attitudes, particularly coming out of the USA and the UK and Europe at the moment, which are the opposite of collaborative. “Leadership is the art of getting someone else to do something you want done because he wants to do it,” said Dwight D. Eisenhower. That’s a good example of how collaborative business models and ecosystems are built, but not in politics. The self-described “bloody difficult woman” who is hoping to be the Prime Minister that gets a good deal out of Brexit for the UK being a prime example.

The second reason has to do with risk. Regulation is about risk and in order to remain relevant IMO has to adequately understand how that risk is changing and developing. And it simply doesn’t. Risk is all about dependence—dependence leads to risk and as an industry shipping is now as dependent upon digital infrastructure, regulation, agreements and technology, as it is ships. IMO has failed to understand that shift.

I said earlier that IMO’s great achievement, allowing compliant ships to trade globally, was already crumbling. In exactly a year’s time the EU’s General Data Protection Regulations (GDPR) come into force. Breaking those could cost EUR20m or a fine of up to 4 per cent of your turnover. The USA is working on its own cyber security regime that will apply to ships wanting to trade there. We’ve already seen Russia insisting that no information on Russian crew is held outside Russia. I know suppliers who have been told companies don’t want to use their solution because it’s hosted on Amazon Web Services (AWS) servers. And perhaps most significantly, at the present time the overwhelming majority of the industry’s vessels do not have any insurance coverage against a cyber attack.

I told an audience in Singapore recently that we would look back on IMO’s handling of cyber security as the inflection point for its bureaucratic singularity, and that’s because it is a symptom of a deeper malaise. IMO didn’t grasp the importance of cyber security because it didn’t grasp the importance of digital. It has spectacularly failed to realise that enabling a shipping company to trade globally doesn’t any longer depend on metal and cargoes. It depends on digital and data.

As Trump tears up data harmonisation treaties with the EU and giants like Maersk start to do deals with Chinese companies like Alibaba where attitudes to transparency, data protection, government oversight and accessibility to the web are very different, the risks are beginning to change fast.

Now you could argue that digital harmonisation simply isn’t IMO’s job. And you know what, I’d absolutely agree. Because that speaks to a deeper truth. The truth is that the days when shipping was something that could and should be regulated supranationally are probably numbered.

The fight between shipping and trucking and aviation, over emissions and subsidies and everything else is losing its relevance. They’re all fighting the wrong war.

The real battle isn’t between modes of transport, it’s to integrate them so intelligently that they are seamlessly linked in pursuit of the actual goal. That is moving stuff across the globe on behalf of the people on each end of that transaction.

What’s interesting is that when you speak to those customers—be they BCOs or dry bulk charterers or anyone in between—that’s exactly what they want. Just look at the comments from Anglo American and others that came of out of the SGX following Iron Ore week.

Sustainability is a buzz word in shipping, and it has to apply to regulation too. IMO is currently unsustainable and as we move from a linear form of regulation to a far more networked one, where regulation is smart and real time, based on evidence rather than who can shout the loudest or has the deepest pockets, that situation isn’t going to improve.

Shipping hasn’t had its digital Titanic. That’s why IMO has blithely allowed the industry to continue trading without cyber insurance cover, why there are absolutely no digital cyber hygiene standards for the maritime industry, it’s why we’re farting around failing to stop the spread of invasive species via ballast water whilst our ships, networks and seafarers are spreading malware and viruses around the word faster than a plague rat with its tail on fire.

Trust is what’s at stake here. It was essential to the commenda all those centuries ago, and it remains so today. Limited liability depends upon each party having access to accurate information about the company that they can trust, and upon which they can base informed decisions.

The real issue is that whatever trust IMO ever had is evaporating. And when that digital Titanic hits, when the world asks the big questions about how the maritime industry was allowed to get into this state, it will disappear altogether.

Let’s hope that digital Titanic doesn’t hit, but even if it doesn’t I can’t find a scenario in which IMO doesn’t lose its legitimacy. The only question is how long it will take.

Limited liability is giving way to collaborative responsibility in business, and even if the politics in some parts of the world appear to be going in the other direction, the interoperability that digital demands will continue that process.

It is now digital which breaks down borders and connects people, not shipping. It is digital which is destined to be the global engine of economic growth. Data, not crude, is the new oil.

Shipping’s real value in the future will be as part of a globally interoperative, intelligent transportation system which enables a much larger objective. And that is a whole new opportunity altogether.

I talk a lot about a digital vision for the industry. One which fundamentally redefines the terms of competition in a market. And I think this absolutely has the capacity to be it.

The top concerns of ship operators are regularly cited as compliance with regulation, access to finance, and competition, but what’s rarely cited is the absolutely eye-watering amounts of money that flag states spend on monitoring, investigating and forcing compliance with these regulations, to comparatively little effect. So the impetus for this smart shift should be from flag states looking to cut their costs too.

Smaller, more focussed regulatory ecosystems, possibly at flag state level, probably led by cutting-edge authorities like the DMA, pulling together that stakeholder ecosystem maybe together with Class, providing the blockchain, platform and sandbox for its national or industry segments is where it’s likely to start. They’ll develop alongside the first autonomous and unmanned vessels.

Reg_007Eventually we will probably again have supranational systems for shipping, but they won’t just be for shipping, they’ll be for intelligent transportation. And they’ll be built from the ground up, connecting via shared technology platforms rather than trying to impose a top-down legacy regulatory framework.

I’ve called this piece Regvolution. I did that for a reason. Revolutions threaten incumbent elites—sometimes they try to eliminate them altogether—because they democratise access and they devolve power. Until now the democracy that underpins much government and bureaucracy had gone as far as it could in its quest to be representative. Where digital is truly disruptive is in its ability to widen participation. That’s why this heralds a regulatory revolution.

Digital connects, it listens to data and it can analyse and deliver back solutions which are magnitudes more accurate and personalised, and it can do that on a vast scale. What I’m trying to say is, to paraphrase John F Kennedy, the industry needs to stop asking what regulation can or should be doing for it. You need to start asking what you can do for regulation. Because these new ownership ecosystems I’m talking about are made up of you. Every single one of you. The digital revolution is devolving the power to regulate your industry to you.

The writer Daniel Akst once wrote that, “Self-regulation will always be a challenge, but if somebody’s going to be in charge, it might as well be me.” What’s on offer here though is even more intriguing. Not the opportunity for you to be in charge, but the opportunity for everyone to be in charge.

So, there you go shipping. Now’s your chance. Because if you listen closely, you can already hear the distant sound of tumbrels.

 

Images courtesy © Getty Images

This article appeared in the Q2 2017 issue of Futurenautics.
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