Fintech vs regulator

Global financial services regulators face unique challenges in regulating fintech. On the one hand, the sheer pace and scale of change makes it incredibly difficult for regulators to keep up, opening the potential for all manner of regulatory arbitrage by opportunistic fintech start-ups. On the other, they acknowledge the pro-consumer outcomes that well-regulated fintech innovations have the potential to deliver.

Addressing inefficiencies at lower cost

“Fintech identifies inefficiencies in the financial market and finds ways to address those inefficiencies, and in doing that it leads to customised products and services for financial customers, invariably bringing down the cost to financial institutions and their clients,” said Lyle Horsley, Policy Specialist at the Prudential Authority (PA), and head of the Fintech Unit at the South African Reserve Bank (SARB). She was commenting during a presentation to the Money Summit 2022, held at the Sandton Convention Centre recently. 

The PA and SARB align to the Financial Stability Board’s definition of fintech as ‘technologically enabled financial innovation that can result in new business models, applications, processes, products or services, with an associated material effect on financial markets; on financial institutions; and in how financial services are provided’. “Essentially, fintech identifies inefficiencies in the market and finds ways to address those inefficiencies, and in doing that leads to customised products and services for financial customers, invariably reducing the cost of financial institutions,” Horsley said. Much of the efficiency gains derive from the transition from physical interactions between clients and institutions to tech-enabled digital platforms. 

Exploring a fintech future

Horsley identified four aspects of fintech that financial services stakeholders should pay close attention to over the next few years. The first is distributed ledger technology (DLT) which is the underpin for the decentralised, disintermediated financial solutions that are emerging today. “You no longer need to rely on a central intermediary like a bank or an insurer to offer financial services, it can be done in a very distributed way that facilitates peer to peer transactions,” she said. The second is around tokenization, which is a development enabled by DLT: “You can now have a digital representation of an asset, whether it is a real-world asset like a share or a bond [or a cryptocurrency], you can digitise it and then allow that asset to move through a blockchain or DLT to facilitate peer to peer transactions”. 

The third aspect to take note of, is the concept of open finance and the need for financial institutions to start sharing customer information without compromising its integrity. “Customers leave a digital footprint whenever they go online, meaning that customer data becomes like the oil of the financial system going forward; you need data to be able to provide better financial services to your financial customers,” Horsley explained. Digital platforms were the fourth aspect shortlisted during the presentation. “Technology enables us to access digital marketplaces; whereas before we would walk into a mall and buy a range of different things from different service providers, we can now access a range of services in a digital way, from the comfort of our homes,” she said. 

Standards take time to develop

Fintech is here to stay but will demand new approaches to regulatory oversight. Horsley dedicated the second part of her address to the risks that the emerging technologies introduced to financial market stability. And no surprise, the lack of a legal framework topped the list. “Our team at the SARB is focussed around creating a legal framework within which these new technologies and financial products and services can be located,” commented Horsley. A second major concern stemed from the potential incompatibility between different systems, illustrated by the complexities arising from moving tokenised assets from one digital platform to the next. 

Regulators are also worried about the lack of standardisation around rapidly emerging technologies. “If you want to move money within the traditional financial system, you face a standardised way in terms of messaging and protocols and how the transaction happens; when you have new technology, you do not necessarily have that level of standardisation [due to the technology not being] at that level of maturity,” Horsley said. Regulators have flagged aspects around transparency too. It can be good for transactions to be visible; but on the flipside personal information could be visible to many stakeholders who have access to the network… 

Are cryptocurrencies fit for purpose?

Tokenisation was lauded for its benefits including the digitised representation of real-world assets; real-time trading; automation; transparency; and the ability to fractionalise asset ownership, to name a few. These pros are offset by concerns around establishing legal ownership and volatility. “Some tokenised assets, like bitcoin, are perhaps not suitable as payment instruments because they are so volatile,” opined Horsley. “Crypto assets make these very big swings in terms of value, and so it does become difficult to use them as payment instruments”. Finally, there are questions around whether certain tokens will be able to scale to accommodate the number of transactions taking place in traditional financial systems. 

The challenge facing central banks is to modernise the regulatory infrastructure to be ready for the future world. “From the SARB perspective, we need to be thinking about how we move to a world of digital currencies and stable coins within the existing infrastructure that we have,” said Horsley. “Our challenge is to modernise in a way that is flexible when we do not know exactly what the future holds”. The bottom line is that similar activities be regulated similarly: if you lend using bitcoin, dollar or rand you are still lending, and the transactions [and parties to them] need to be regulated in the same way. “We will have to create appropriate legal frameworks to allow for these emerging technologies to be enabled, while mitigating the risks that arise,” she concluded. 

Writer’s thoughts:
Love or hate them, it appears the local financial services regulators are up to speed with recent tech-enabled financial sector developments; and are taking a measured response to same. Are you confident in the approach being taken by the PA and SARB to emerging fintech product and service solutions regulation? Please comment below, interact with us on Twitter at @fanews_online or email us your thoughts editor@fanews.co.za.

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