Four reg policy changes to advance financial innovation
In the coming years, technology will play an increasingly important role in financial services transactions. Fintech firms continue to rapidly change the face of banking through new online lending, money transmission and payments platforms.
Morgan Stanley has estimated that digital lending will total $290 billion by 2020, and Juniper Research expects global payments using mobile or wearable devices to grow to $95 billion in 2018 from $35 billion in 2015. But an open policy question remains: How do we create stable, coherent and rationalized regulatory frameworks that foster responsible fintech innovation when the core of our existing approaches were not designed for an internet- or mobile-based economy?
The problem is twofold. First, traditional approaches to regulating financial services are bank-centric and the approaches fail to readily accommodate nonbank technology companies that can, in cases, better serve customer needs or demands.
Second, nonbank technology companies are faced with piecemeal application of distinct and inconsistent state laws in addition to having to comply with myriad federal laws — which causes uncertainty and inefficiencies with respect to operations and compliance.
This also undermines the benefits that standardized, national and efficient internet-based platforms can provide.
Fortunately, there are various regulatory options to address these problems head on and they can work together in parallel to provide a comprehensive 21st-century policy framework.
A first solution, which does not require material regulatory change, is based on recognition that partnerships between technology platforms and traditional banks enhance the services offered to customers. Policymakers can encourage such partnerships that drive activity into existing bank regulatory structures and advance beneficial innovations. Clear guidance — that is principles-based and flexible enough for continued innovation — from banking regulators will help foster such partnerships without creating new regulatory infrastructures that would squelch progress.
Critically, the states and courts (which have, in instances, challenged the regulatory framework applied to these partnerships) must recognize that these partnerships are subject to rigorous federal bank regulatory oversight. In turn, these partnership programs receive the same federal preemption banks are afforded in order to ensure uniform national banking activity.
The Office of the Comptroller of the Currency is currently exploring another solution to accommodate modern banking: granting a national banking charter to fintech firms. The OCC has recognized that many activities that traditionally reside within banks are now conducted by nonbank technology-powered firms, with the important caveat that these new providers are typically not taking customer deposits to fund their activity. Accordingly, a rationalized fintech charter should rightsize supervision based on the more limited risks posed by the involved activities. In turn, the chartered entity, while still subject to certain state consumer protection laws, will gain clarity at the federal level and gain operational efficiencies resulting from preemption of varied state licensing laws and requirements.
Drawing from recent precedent, another option would be for Congress to create federal rules of the road that can streamline regulation of fintech platforms, much as the 2012 bipartisan JOBS Act did for certain online equity-raising platforms.
Indeed, both the equity crowdfunding and mini-IPO (Regulation A+) provisions were early recognition of the power of the internet in financial services. Both were attempts to create a right-sized federal framework that would enable platforms to help businesses access capital online without being subject to a patchwork of state law requirements.
Finally, a bold but comprehensive option, which is currently being explored by forward-looking states, is to harmonize state laws and permit “passporting” of one state license to all other states — an approach that would eschew unilateral, unnecessarily prescriptive and conflicting state requirements. There is precedent for this in the U.S. and other countries. The European Union’s Payment Services Directive, for instance, lets a company passport its license to other EU countries — an initiative that has fostered healthy competition between banks and nonbanks, while harmonizing consumer protections, compliance and prudential requirements. We have seen other efforts somewhat akin to PSD attempted in the U.S., such as multiple state acceptance of the Nationwide Multistate Licensing System & Registry.
However, do not underestimate the change in traditional thinking and committed effort that would be required to accomplish this option as a harmonized solution — all of which will require bold leadership at the state level.
Nonetheless, regulators could develop all of these options to afford fintech companies the ability to work within a regulatory framework that best suits varied business models and strategies, while simultaneously protecting customers and the financial system, and leveling the playing field.
The U.S. financial regulatory system has always been one that permits multiple regulatory frameworks to run in parallel. Developing these options will further healthy competition and innovation all while providing customers with product choices subject to clear and rationalized guardrails.