The proliferation of Fintech comes at a time when international regulators are significantly increasing their oversight of the financial services sector. As such, the most appropriate way to approach Fintech continues to preoccupy international and regional standard setters. Whilst recent headlines over the past few months might suggest that regulators’ main focus is on virtual currencies, over the course of 2017 a number of key international standard setters released papers focussing more widely on Fintech – including the Financial Stability Board (“FSB“), the Basel Committee on Banking Supervision (“BCBS“) and the EU Commission. Typically, initiatives set out by the FSB and BCBS filter down to inform policies developed at the regional and national levels in due course.
The FSB publication, “Financial Stability Implications from Fintech“ from last year is, in some respects, the most comprehensive paper as it considered the implications of Fintech for financial stability across a broad spectrum of innovation.
In particular, the FSB helpfully categorised Fintech innovations by economic function. Overall, this report concluded that there were currently no compelling financial stability risks from emerging Fintech innovations, although it ascribed this to the currently small relative size of Fintech in the context of the wider financial system. The FSB report did, however, identify ten issues that merit closer consideration by authorities, with three of those issues prioritised for international collaboration, namely: (i) managing operational risk from third-party service providers; (ii) mitigating cyber risks; and (iii) monitoring macro financial risks that could emerge as Fintech activities increase. Addressing these priority areas is seen as important to promoting financial stability, fostering responsible innovation and preventing any derailment of authorities’ efforts to achieve a more inclusive financial system.
In November 2017, the FSB followed the above report with a report on the financial stability implications of AI and machine learning in financial institutions, setting out potential risks and benefits that should be monitored as the technology proliferates and more data about its use becomes accessible. While noting that AI and machine learning has the potential to contribute to a more efficient financial system and to improvements to supervisory approaches, the report notes that the use of these technologies “could result in new and unexpected forms of interconnectedness between financial markets and institutions”. The report also comments on the possibility that, if there is reliability on third parties, this could lead to a situation where systemically important players in the financial system are outside the regulatory perimeter.
In parallel, the BCBS also issued a consultation in last year: Sound practices: Implications of Fintech developments for banks and bank supervisors. The analysis in this paper considered several scenarios and, unlike the FSB reports, for each scenario it explored the potential future impact of Fintech specifically on the banking sector (particularly the business models of both supervisors and banks). The BCBS recognises that the emergence of Fintech is only the latest wave of innovation to affect the banking industry. However, the rapid adoption of new technologies along with their effect in lowering barriers to entry in the financial services market has fostered the emergence of new business models and many new Fintech entrants. The BCBS suggests that these factors may prove to be more disruptive than previous changes in the banking industry, although as with any forecast, this is in no way certain at this stage.
Changing customer behaviour and demand for digital financial services are thought to be key drivers for change. The faster pace of this change means that the effects of innovation and disruption are happening at a faster rate than before. A common theme across the various scenarios set out in the consultation suggests that incumbent banks are likely to find it increasingly difficult to maintain their current operating models, needing to become more agile to adjust more quickly to this change.
In August 2017 the World Economic Forum issued its most recent Fintech report – Beyond Fintech: A Pragmatic Assessment of the Disruptive Potential In Financial Services – which considers the evolution and impact of Fintech firms on financial services to date and presents a series of contrasting outlooks for the future of the industry. The findings suggest that Fintech companies have materially changed the basis of competition in financial services, but have not yet materially changed the competitive landscape. They play a critical role in defining the pace and direction of innovation across the sector, but have struggled to overcome the scale advantages of large financial institutions. Among other key findings, the report also acknowledges financial regionalisation – with differing priorities, technological capabilities and customer needs challenging the narrative of increasing financial globalisation and making way for regional models of financial services suited to local conditions.
Meanwhile in Europe, the EU Commission received some 226 responses to its March consultation: Fintech: a more competitive and innovative European financial sector, these fed into the development of the Commission’s own “Fintech Action Plan” (a policy approach towards technology innovation in financial services) which was released on 8 March 2018. The Fintech Action Plan is part of the Commission’s efforts to build a Capital Markets Union (“CMU“), a true single market for consumer financial services. It is also part of the Commission’s drive to create a Digital Single Market which aims to make EU rules more future oriented and aligned with the rapid advance of technological development. As a first major deliverable, the Commission is also putting forward new rules that will help crowdfunding platforms (Crowdfunding Regulation) to grow across the EU’s single market. The Fintech Action Plan also consists of 23 steps to enable innovative business models to scale up, support the uptake of new technologies, increase cybersecurity and the integrity of the financial system. Examples include an EU Fintech Laboratory where European and national authorities will engage with tech providers in a neutral, non-commercial space, and a blueprint with best practices on regulatory sandboxes, based on guidance from European Supervisory Authorities.
For further information also refer to the firm’s latest thinking article ‘Fintech to regulate or to partner that is the question’ and our Fintech blog.