Regulatory Guidance - the Differences in Approach to FinTech Regulation in the United States, the United Kingdom, and the European Union

posted by Collin Canright on December 13, 2016 - 12:51pm

Financial technology evolves into its next stage of maturity in 2017. Where venture investments going to FinTech firms marked progress to date, in the coming year regulatory interest will come to the fore.

Business awareness and consumer adoption will remain will pick up in FinTech as well, but after a year of study and interest, regulators are starting to make their rules. This became particularly important in the United States during the first days of December 2016 when both the Office of the Comptroller of the Currency and the Federal Reserve Board of Governors  weighed in on FinTech.

Meanwhile, regulations in the United Kingdom and Europe are moving apace as well, with support for competition in the U.K. and for consumer choice in the Eurozone. These and a number of other initiatives fall under the my tagline “The Empire Strikes,” one of my FinTech trends to watch in 2016. Given the recent activity as 2016 draws to a close, the development of FinTech regulatory regimes will become the most critical trend in 2017.

Regulatory approaches to innovation

Regulators rightly walk a fine line between supporting innovation and protecting consumers. Several sessions at the Money20/20 FinTech conference held Oct. 23 – 26 highlighted the different approaches regulators can take to keeping a regulatory balance. The regulators have the hardest job, to help innovation happen and block harm,” said Jo Ann Barefoot, a former regulator who heads the Barefoot Innovation Group. She held a fireside chat with CFPB director Richard Cordray at Money20/20.

Three different approaches to regulation emerged:
1. A paternalistic approach to consumer protection first and foremost exemplified by the U.S. CFPB and OCC.
2. An entrepreneurial approach to increasing competition in financial services taken by the United Kingdom’s Financial Conduct Authority (FCA).
3. A public-interest approach concerned about making financial institutions into utilities characteristic of some regulation from the European Union.

The U.K.’s Financial Conduct Authority (FCA) started Project Innovate to make the regulatory system more innovation friendly. The FCA provides unofficial advice to FinTech startups and runs Project Innovate to provide a “regulatory sandbox” in which FinTech firms can test their products within a regulatory framework. Interest was so high in the initial FCA class that it had to expand the number of companies supported and accepted 24 in its first class.

“The bottom line here is not innovation,” said Bob Ferguson, who heads Project Innovate for the FCA, speaking at Money20/20. “The bottom line here is competition with innovation as a means to that end.” The approach appears to work, given that London remains the world center of FinTech innovation, even with some slowdown in the wake of the Brexit vote.

In contrast, the CFBP and other U.S. agencies clearly put priority on innovations that expand financial inclusion, whether that means providing services to people without bank accounts, expanding their access to reasonably priced credit, or reducing the costs of financial services to consumers. The CFBP runs Project Catalyst to encourage innovations that are “safe and beneficial for consumers.”

Open data

In the European Union, the move for banks to connect using APIs in order to give consumers the ability to grant other parties to access their accounts is causing a great deal of anxiety. The Directive on Payment Services (PSD2) requires banks to enable merchants and other third parties that obtain permission from consumers to access funds in their bank accounts.

A merchant, for instance, will be able to make a realtime debit of a consumers account. This effectively eliminates banks as intermediaries and turns them into public utilities, complete with regulated fees.

But PSD2 goes beyond payments to bring  dramatic changes to banking. The underlying premise endorsed in the U.K. and under study by the CFPB is that the account data do not belong to the bank; they belong to the consumer.

Technically this translates in the U.K. into a proposal to require banks to adopt an “open API” technology stance. Whether that encourages or stifles innovation remains to be seen and depends on your point of view. The products of many FinTech firms either rely on or would benefit from bank account and data access.

APIs or application programming interfaces are software connection for passing data from one program or service to another and are critical to the future of FinTech and financial services, and investors are taking note. Open API and other connectivity technologies will play increasingly important roles as FinTech develops in the year to come.