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Though Trump has promised to lighten regulatory burdens across the economy, people in fintech will nonetheless face a contrary trend. This industry’s rapidly expanding reach has all but ensured increased regulatory scrutiny. With that attention, however, fintech also seems poised to assume a larger role in how regulators do their jobs and how firms of all sorts comply, in the United States and globally.
Fintech surely has made impressive strides. A recent study by Business Insider Intelligence reports that in 2015 alone, global venture capitalists increased their exposure to fintech more than a 100 percent to almost $19 billion. More recent data remain incomplete as yet, pegging the inflow till mid-August 2016 at $15 billion, but suggesting that the interest has continued. Aside from raising money, fintech during the last few years has made tremendous inroads into legacy financial activity.
According to Goldman Sachs, startups in the area are poised to siphon $4.7 trillion in annual revenue from more conventional banks. (See: 10 Fintech Companies to Watch.) That same research estimates that traditional financial services firms will ultimately lose 20 percent of their business to fintech, and that job losses in these firms will approach 30 percent. Meanwhile, traditional wealth mangers have already lost significant business to internet-based investment advice software, what the industry calls robo-advisors, which seem poised to become a dominant intermediary between many financial firms and their customers.
Regulators world over have taken note. In United Kingdom, the Financial Conduct Authority (FCA) has recently brought what it describes a special range of considerations for fintech and linked the effort to its counterpart in Australia. At recent meetings of the world’s leading economies, the so-called Group of 20 or G-20, the host nation, Germany, argued that global financial stability hinges in no small part on fintech regulation. Most G-20 participants agreed, though they also noted approvingly how fintech has the potential to bring financial services to the billions around the world presently without access, including some 40 percent of small- and medium-sized businesses. Accordingly, the G-20’s Financial Stability Board (FSB), presently headed by Mark Carney, has begun the process of devising rules that can at once encourage innovation while guarding against abuse, inequity, and risky behavior.
If the efforts of the G-20 and the FSB aim at a global framework for fintech regulation, each nation’s regulatory body is grappling with its own domestic issues. All aim to strike a balance between encouraging welcome innovation on the one hand and protecting consumers and the financial system on the other. The United States seems to face especially difficult problems, enough for fintech managers to identify frustration as their primary response to regulatory contact, at least according to a survey conducted by Silicon Valley Bank.
A big part of this frustration stems from the astounding number of regulatory agencies in this country. In addition to the Federal Reserve, there is the Consumer Financial Protection Bureau (CFPB), the Financial Industry Regulatory Authority (FINRA), the Securities and Exchange Commission (SEC), the Office of the Comptroller of the Currency (OCC), the Federal Deposit Insurance Corp (FDIC), the Federal Crimes Enforcement Network, and this is only a partial list. Currently these agencies themselves cannot agree which is responsible for the oversight of which sort of fintech firms or arrangements. And, of course, each of the 50 states has one or more regulatory agencies.
Further difficulties emerge because many of the regulations were written before there was an internet or e-commerce, and regulators remain reluctant to interpret rules for new business models. Take, for example, the fuss industry leaders made last November when the Illinois Department of Financial and Professional Regulation (IDFPR) joined the R3 blockchain consortium. Now there are only 49 other states and several federal agencies to go.
Facing such a frustrating picture, many no doubt have welcomed recent steps by the OCC. With an eye to cutting through the regulatory confusion, the agency last year invited a dialog among financial firms of all stripes and regulators from all agencies to find ways to foster “responsible innovation” among fintech providers in “a culture of compliance, an awareness of risk, and the fair treatment of consumers.” The goal is a national charter for fintech, much as regulators did with credit-card companies years ago when their activities disrupted older, established patterns. To further this goal, the OCC on March 15 published an updated supplement to its manual in order to make provision for fintech firms to acquire national bank charters.
Still, the American effort faces many hurdles, especially among state regulators. They have expressed concerns that a national charter will create what they call a “weak baseline” that encourages competition among states to use regulatory ease in order to attract fintech clusters. Still, it is encouraging that in addition to the OCC effort the CFPB has also taken steps to make regulatory applications more predictable, in this case by offering what it calls “No-Action Letters” that would allow innovative firms to try out products without fear of regulatory reprisals. While there is room in these early efforts for skepticism, it is nonetheless encouraging that a clarification and simplification process has at least begun.
Foreign competition should accelerate such efforts. It is certainly clear that other nations are using regulatory gestures to lure fintech. The UK certainly has positioned itself as an imposing competitor. Britain’s FCA has begun an effort to promote London as a fintech center through what it calls “Project Innovate.” Though it has insisted, as its charter demands, on risk control, compliance, and concern for consumers, the FCA has taken a step beyond anything yet discussed in the United States. It aims to develop cooperative procedures to road test new ideas in something of a controlled environment, what it refers to as a “regulatory sandbox.”
This novel arrangement surely could enhance London’s already prominent fintech position and threaten to draw business from the United States. Since at the same time Hong Kong has initiated similar efforts, as have Singapore, under its “Smart Nation” program, and Australia, under its Securities and Investments Commission’s (ASIC) “Innovation Hub” program, U.S. authorities no doubt feel intense needs to improve the regulatory climate here and remove ambiguities. And indeed, Congress has responded with several bills to help fintech gain ground. Prominent among these is one from Rep. Patrick McHenry (R-NC) that would mandate “innovation offices” dedicated to fintech in number of federal agencies.
Fintech has potential to complicate and ease this regulatory conundrum. Not only has its success invited regulation, but its remarkable flexibility has allowed it to provide answers for compliance problems throughout the financial industry. It seems a natural outgrowth of its ability to gather, sort, manipulate, and present data in myriad of forms. This part of the business has met with so much success that Kirk Wylie, founder of early fintech startups, has asserted: “The easiest way to start a [fintech] business […] is to look for regulation that is coming down the pipe and develop a solution for that thing.”
Other fintech efforts have offered ways for legacy financial firms to streamline the multiple overlapping and labor intensive solutions they have long used for compliance. At the same time as this so-called regtech has gained traction, regulators have begun to realize that fintech solutions may well also streamline their practices and procedures. The UK’s FCA in particular has started experimenting along these lines.
Though fintech seems well positioned to work all sides of these questions, the one thing it cannot do is tell where this revolution is going. Even if Donald Trump were not promising to upend the American regulatory climate, which he is, that would be impossible. But if specific directions remain obscure, it is nonetheless clear that fintech will have to deal with greater regulatory scrutiny even as it acquires opportunities to shape the nature of its own and others’ regulatory relationships.
Milton Ezrati is an economist and author who has worked in the financial services industry for decades and currently serves as chief economist of Vested.