For a long time, entrepreneurs faced competition and regulators sent them the rule book. Regulators were government employees who thought about competition only in the abstract.
Today, the environment is more fluid as governments recognize the economic return on innovation in terms of jobs and GDP growth. The regulators now face real competition because their political masters have to keep citizens happy and citizens care about jobs and GDP growth.
With both Fintechs and global banks being increasingly mobile, jobs can disappear fast if regulators get it wrong. Plus, innovation is the primary driver of productivity which drives GDP per capita.
Pity the poor regulator who must balance that with protecting citizens from fraud and abuse.
In this post we review the Fintech regulatory initiatives in these countries:
We end by looking at common themes across jurisdictions.
USA: Fintech Charter vs States Rights
America is the largest single market in the world, is home to the biggest banks and the biggest tech companies. So when the OCC (Office of the Comptroller of the Currency) issues a draft Fintech Charter, we pay attention.
The problem is that there is always a push & pull between central government initiatives such as this and States Rights.
In simple terms, more central power means less state power. One of the comments on the OCC Fintech Charter (which is still only a draft) is from the New York State Department of Financial Services and it is not positive.
A national Fintech charter would mean there will be no reason to have a state license. States do not have the authority to regulate national banks, even those located in the state. This will reduce fee income from granting charters and regulating banks. Looked at from the other side, this will reduce the cost of going national for Fintech ventures. Banks that are already national may lobby to keep it like it is.
Nor do States agree at the policy level. California, home of tech, tends to favor the Tech in FinTech and New York, home of Wall Street, tends to favor the Fin in FinTech.
The politics of this currently are really unclear. So this falls into the wait and see category.
UK: the Post Brexit Landscape
The UK pioneered using smart regulation to promote financial innovation. Initiatives by the FCA helped turn London into the Fintech Capital of Europe and that sparked Fintech growth that was giving credence to the idea of London as the Fintech Capital of the World. Financial Regulators around the world studied how the FCA did it and how Government, Banks and Fintechs worked together. The ability to have a conversation with regulators and have them listen was pioneered by the FCA and was a major breakthrough.
Then Brexit happened.
There are two scenarios:
- Scenario 1: UK is too small a market to matter on the global stage, business will flow to other centres in Europe (Dublin, Frankfurt, Berlin, Luxembourg etc) and globally to New York and Singapore.
- Scenario 2: Freed from the bureaucratic constraints of Brussels, London can innovate away on the global stage and become the Fintech Capital of the World (and thus of Europe by default).
This is another fluid, wait and see situation where politics will be key.
Switzerland: This is mission critical for this tiny rich country
Financial Services accounts for 10% of GDP and 5% of employment in Switzerland and the country is a global leader in Wealth Management. So, what happens here really matters.
In November 2016, Switzerland announced a Fintech License. Like the US Fintech Charter, this is not yet law. These are the key features:
– No “maturity transformation” allowed. This is mandated Asset Liability Management and that eradicates systemic risk (no more bailouts) and favors Market Place Lending without any lending from their own balance sheet.
– Deposit Only License. You can provide deposit services, but not lend. You can accept up to SF100m once licensed. Separating Deposits from Lending is a bold and radical move in a world of ZIRP. Deposits is a nascent area of Fintech innovation.
– Up to CHF 1 million via sandbox innovation area. This allows a startup to build an MVP and get to PMF before investing in being regulated
– minimum of SFr300,000 in capital (vs SF10m for banks). If a startup has got to PMF that is a very manageable hurdle.
– not covered by deposit protection (read, no risk to taxpayers). It is a buyer beware free market.
– crowdfunding grace period in settlement account. This defines when donors can withdraw the money. Today it is 7 days. The proposal is to raise it to a 60 days. which would give the company greater security.
– No limit to how many lenders or investors for crowdfunding services.
– You must abide by money laundering rules applied to banks.
Bitcoin is also legal currency in Switzerland and is home to some major crypto ventures. The Swiss Fintech License is a bold move, but it is not yet law. With so much employment at risk in traditional banks, the politics are still uncertain..
Singapore: Hub for the fastest growing region
Asia is where the growth is and Singapore is the hub for that growth, with people who are equally comfortable doing business in India and China and all other parts of Asia. The Singapore Monetary Authority is very open to innovation and the most proactive regulator at reaching out to the Fintech community. They have a Fintech Festival and a very approachable online presence and people who mingle with ease at tech oriented conferences.
Singapore itself is a small market and each country in Asia makes their own rules. There is no United States of Asia or Asian Union as yet, but we can be confident that Singapore will be central to any harmonization initiatives.
Shanghai: The Wild West gets a Sheriff
This data from KPMG shows the return on innovation. The line that matters is the P2P Composite Interest Rate that is falling like a stone in that chart. For China to transform from export led to a consumer economy, it must have low interest rates. If Fintechs and BAT can deliver that better than Banks, the regulation will deliver what is needed. This is the context for the news and plans we see in the Five Year Plan for 2016-2020.
As always, the regulator must balance the risk from fraud as Market Place Lending (MPL) moves from the Wild West phase (with hundreds of marketplaces and lots of scams and very crude, violent debt collection practices) to the Settler phase, when the Sheriff rounds up the bad guys and the settlers move in and we get towns and cities and the big money is made.
These are the 12 commandments laid down in December 2015 by the China Banking Regulatory Commission (“CBRC”). Thou shalt not (my comments in italics):
1. Use the platform for self-financing or for financing of related parties. (This stops the most egregious scams).
2. Directly or indirectly accept and manage lender funds. (This is interesting. It prevents what in the West has become called Balance Sheet Alt Fi Lenders and it is unclear if that is a bad thing).
3. Provide guarantees to lenders or promise guaranteed returns on principal and interest.
4. Market or recommend loan investments to users that have not completed identification verification after registering on the platform
5. Directly make loans to borrowers, unless stated otherwise by applicable laws and regulations
6. Structure loans into investment products with liquidity timing that differs from the original loan term (“thou shalt not have have Asset Liability Mismatch” is another way of saying “thou shalt not have systemic risk”).
7. Sell bank wealth management products, mutual funds, insurance annuities and other financial products (Hmm, so MPL can only be an exchange, China is banning the 20th century strategy of vertical integration).
8. Unless stated otherwise by applicable laws and regulations, collaborate with other investment or brokerage businesses to bundle, sell or broker investment products (sounds like the sort of grey area that would make fortunes for lawyers and/or those with good connections).
9. Provide false loan information or create unrealistic return expectations.
10. Facilitate loans for the purpose of making investments in the stock market. (No borrower would offer this as a reason to get a loan, so this sounds like the Casablanca scene “I am shocked. Shocked!! to find that there is gambling going on”).
11. Provide equity crowdfunding or project crowdfunding platform services. (Separation of asset classes by statute sounds like a hindrance to innovation).
12. Other activities forbidden by applicable laws and regulations (legal catch all phrase).
In a single party system there is no political risk; what the Government says is law is the law.
Hong Kong: Competing with Singapore and Shanghai
This headline says it all about regulators facing competition
Outdated fintech regulations hurting Hong Kong, Jack Ma says
Ant Financial to pick Hong Kong for IPO only if city is ready for innovation, Alibaba’s founder says
Hong Kong now faces competition on the Mainland from Shanghai and as a regional hub from Singapore. In the latter case, most commentary (such as this one on Bloomberg) puts Singapore in the lead.
India: The Dark Elephant
Often overlooked with all the attention on the China dragon, the Indian elephant is making some smart moves in Fintech and like China benefits from a growing economy and lack of legacy processes. India has pioneered with the Payment License and may be the first major economy to move to a cashless society. For more about India, go to our India Week.
Eurozone: Pencil Pushers or Tech Smart Regulators
Despite Brexit, this 28-country marketplace is still very big and the regulators seem to understand the Fintech innovation imperative pretty well. We see 8 regulatory initiatives;
Why: make sure banks have adequate capital so that there is not a “run on the bank” during any future financial crisis.
What: Tier One Capital is increased from 4% to 6%. Plus, banks must maintain enough “Liquidity Coverage Ratio” (a new concept in Basel 3) for 30 days.
When: Gradual rollout from 2014 to 2019. Banks need time to adjust and their strategies are already aligned to this rollout.
Where: Basel 3 is global, but voluntary. It is a “good housekeeping seal of approval” that gives confidence to the Bank’s investors. The US version of Liquidity Coverage Ratio is a bit tougher.
Elevator: Banks will be lending less. Plus Banks will be cross selling more (to show they have an operational relationship as it relates to Liquidity Coverage Ratio). US banks generally have stronger balance sheets than European ones.
Why: reduce the cost of payments within Europe.
What: Single Euro Payment Area. Making bank-to-bank transfers cheap and quick within the Eurozone.
When: Completed by 2010. These are the IBAN numbers that still baffle some paying into Europe.
Where: Specific to Europe, which was playing catch up with America on this front (now caught up).
Elevator: payments within the Eurozone are quick and cheap (cross border to and from Eurozone is still a pain point)
Why: protect investors from misselling and fraud.
What: Markets in Financial Instruments Directive. There is a lot in MiFID 2 and this FT Video is a good 6 min explainer. In short, MiFID 2 will a) reduce use of dark pools in equities, b) push derivatives and fixed income trading away from Over The Counter (OTC) to centralized clearing and c) curb abuse of High Frequency Trading.
When: From summer 2015 to early 2016.
Where: This is a European initiative, but as it is a big market and big global Fund operations are in Europe (Luxembourg, Dublin, London), this could set the benchmark globally
Elevator: Trading will become cheaper and more transparent. Wealth/asset managers will have to follow more rules in how they report to investors.
Why: Protect consumers from insolvency of an Insurance company (ie they cannot pay on an insurance claim because they went bankrupt).
What: Specific to Insurance. Defines how much capital they need. Like Basel 3 but specific to Insurance rather than Banks.
When: Jan 2016 was final deadline.
Where: Specific to Europe.
Elevator: European insurers will be more conservative which may make premiums go up but will lessen chances of them not being able to payout due to insolvency.
Why: A global standard for accounting.
What: International Financial Reporting Standards.
Where: The de facto standard is GAAP (Generally Accepted Accounting Principles) although this tends to be viewed as an American standard.
Elevator: Use both GAAP and IFRS (using automated translation tools) until it is clear which has become the global standard.
Why: Reduce Money Laundering.
What: The European standard for Anti Money Laundering (AML).
When: Still being defined.
Where: America led the way on this, rules are already clear.
Elevator: Follow American rules but have some flexibility in case European rules end up being tougher.
PSD2. This is a game-changer that we have written about many times before. It is an example of tech smart regulation and key to creating a level playing field between Banks and Fintechs.
Directive on electronic invoicing in public procurement. This will cover all B2G e-invoices by November 2018. If this moves Europe’s current e-invoicing adoption rate of 24% closer to 95%, which is the tipping point for AP and AR to go fully digital, then this will be a very big deal. When AP and AR go fully digital, two big things happen. First, companies take a lot of cost out of AP and AR processes. Second, even more significant, working capital finance will scale beyond its niche today into a mainstream asset class and financing tool. The theory is that mandating it when Government is the buyer will set the ball rolling for adoption by corporates.
Three other countries making smart moves in Fintech regulation are Japan, Australia and Canada.
- To be regulated or not to be regulated, that is the question. It is easier to get a Bank License and Charter these days. The question for many Fintechs is do they provide a tech service to regulated entities or become regulated entities? There is no simple answer, but we can see that the number of banks is declining.
- Unbundling. Startups focus in one service and usually don’t try to offer an all-encompassing service that compete directly with Banks. So we see the trend to unbundled regs (eg a Payment License and a Deposit License and a Current Account License).
- More tech savvy regulators. PSD2 and Payment Bank Licenses in India are examples of regulation that moves from “throwing the paper rule book at your compliance team” to sending “standards docs to your tech team”.
- Immigration and Talent question. No matter how smart your regulation, if the best talent is denied immigration, the innovation hub cannot thrive. This is clearly a political hot potato at the moment.
There is a great conversation happening on this subject over on Fintech Genome
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